Chapter 10:

BUDGETING:
THE PLANNING &
CONTROLLING TOOL
Outline

The concept of budgeting

The benefits of budgeting
Preparingmaster budget for
merchandising firm:
◦ Operational budget
◦ Financial budget
 Budgeting
A budget is a formal written statement of
management’s plans for a specified future time
period, expressed in financial terms.

The role of accounting during the budgeting

process is to:

(a) provide historical data on revenues, costs,

and expenses,
(b) express management’s plans in financial
terms, and
(c) prepare periodic budget reports.
 Benefits of Budgeting

All levels of management to plan ahead.

Provides definite objectives for evaluating performance

Creates an early warning system

Facilitates coordination of activities

Greater management awareness of overall operations

Motivates personnel to meet planned objectives.

Types of annual budget….

 Fiscal budget
- originates from government’s expectation of
revenues from taxes (& its expenditures)

 Continuous budget
- maintains a twelve-month projection
into the future
Budget preparation….

Zero-based budgeting – as if being started

for the first time; all expenses are budgeted as
fixed costs. Not affected by changes in revenues
or expenses

A static budget - shows the expected results of a

responsibility center for only one activity level.
The budget does not change even if the activity
changes.

Flexible budgets show the expected results of a

responsibility center for several activity levels and
changes accordingly with volume variations
Human behavior problems can arise if the
budget goal….

1. is too tight and very hard for the employee

to achieve.

2. is too loose and very easy for the

employee to achieve.

3. of a business conflict with the objectives of

the employees.
 Preparing Budget for Merchandising
Firm

Master Budget

Operating Budgets Financial Budgets

 Master Budget

 The master budget is a set of interrelated

budgets that constitutes a plan of action for a
specified time period.

 It is developed within the framework of a

sales forecast which shows potential sales for the
industry and the company’s expected share of
such sales.
 Operating Budgets

Operating budgets show the individual

budgets that result in the preparation of the
budgeted income statement.

Sales Budget

Purchase Budget, Finished Goods Inventory Budget,

Cost of Goods Sold Budget.

Selling and Administrative Expenses Budget

Income Statement Budget

 Sales Budget

 The sales budget is the first budget prepared.

 Each of the other budgets depends on the sales

budget.

 It is derived from the sales forecast.It

represents management’s best estimate of sales
revenue for the budget period.
 Sales Budget

Expected Sales = Estimated x Estimated

Quantity Selling Price

Shoes4U is a shoes merchandiser.

Illustration 1:
It sells 'Slypurz' model at a price of RM40.00
per pair. Its estimated sales quantity for next
three months are as follows:
October 2,000 pairs
November 2,500 “
December 3,800 “
 Shoes4U
Sales Budget for the month of October, November
And December 2014

October November December Total

Quantity 2,000 2,500 3,800 8,300

Selling Price 40.00 40.00 40.00 40.00

(RM)

Sales Revenue 80,000 100,000 152,000 332,000

(RM)
 Schedule of Cash Collection

Preparing a schedule of cash collections

from customers is useful in preparing a cash
budget.

Illustration 2: Assuming that credit sales per the Sales Budget

are collected as follows:
60% in the month sold
40% in the following month.

Accounts Receivable of RM30,000 at September

30, 2014 are expected to be collected in full in
October 2014.
 Shoes4U
Schedule of Cash Collection for the month of
October, November and December 2014

October November December Total

Sales 80,000 100,000 152,000 332,000
Current Month
48,000 60,000 91,200 199,200
Sales (60%)

Next Month 30,000 32,000 40,000

Sales (40%) (September’s) (October’s) (November’s) 102,000

Total 301,200
Collection 78,000 92,000 131,200
 Purchases Budget

It is prepared based on sales budget.

It estimates the quantity of merchandises needed

in order to fulfill the estimated sales.

It also depends on the estimated beginning

inventory and the desired ending inventory as a
preparation for the following sales.
 Purchases Budget

Purchases Cost of Goods Ending Beginning

Needed
= Sold
+ Inventory
- Inventory

Illustration 3:
The company’s policy regarding inventories
and cost of goods sold:
1. Cost of goods sold is 45% of the sales.

2. The company decided to keep an inventory of at least 30% of the

expected cost of goods sold of the following month.

Opening inventory for Oct 2014 = RM9,800.

The expected sales for January 2015 = RM160,000.

 Shoes4U
Finished Goods Purchase Budget for the month of
October, November and December 2014

October November December Total

Sales 80,000 100,000 152,000 332,000

COGS 45% 36,000 45,000 68,400 149,400

(+) End. Inv. 30% 13,500 20,520 21,600 55,620

F. G. needed 49,500 65,520 90,000 205,020
(-) Beginning Inv. (9,800) (13,500) (20,520) (43,820)

F. G. Purchases 39,700 52,020 69,480 161,200

 Schedule of Purchase Payments

 Preparing a schedule of cash payments to

suppliers is useful in preparing a cash budget.

Assuming that the company pays 65% of the

Illustration 4:
purchases in the month of purchase, and the
balance will be settled in the following
month.

The amount outstanding for September

purchase was RM10,500.
 Shoes4U
Schedule of Purchase Payments for the month of
October, November and December 2014

October November December Total

Purchases 39,700 51,750 69,750 161,200

Current month 45,338

25,805 33,638 104,781
Purchase 65%

Previous month 10,500 18,112

13,895 42,507
Purchase 35%

Total payment 36,305 47,533 63,450 147,288

 Selling and Administrative Expenses
Budget

 The selling and administrative expense budget is a

projection of anticipated operating expenses.

 It distinguishes between fixed and variable costs.

 Selling and Administrative Expenses
Budget

Illustration 5:

The company pays sales commission at the rate of

15% of the current month sales.

Advertising expense is expected to be 5% from the

following month sales. Expected sales for January
2010 is RM160,000

Other expenses : Admin salary RM18,000;

Depreciation RM10,000.
 Shoes4U
Selling and Administrative Budget for the month of
October, November and December 2014

October November December Total

Sales Comm. 12,000 15,000 22,800 49,800

Advertising 5,000 7,600 8,000 20,600

Admin Salary 18,000 18,000 18,000 54,000

Depreciation 10,000 10,000 10,000 36,000

Total Expenses 45,000 50,600 58,800 154,400
 Income Statement Budget

 The budgeted income statement is the important end-

product of the operating budgets.
 This budget indicates the expected profitability of
operations and it provides a basis for evaluating company
performance.
 The budget is prepared from the:
 Sales budget
 Purchases budget
 Selling and administrative expenses budget
 Shoes4U
Budgeted Income Statement for the three months
ended 31 December 2014

Sales revenue 332,000

(-) Cost of goods sold 149,400

Gross profit 182,600

(-) Operating expenses:
Selling and administrative expenses 154,400
Interest expense 180

Net income 28,020

 Financial Budgets

 Financial budgets focus primarily on the

cash resources needed to fund expected
operations and planned capital expenditures.

 Cash Budget

 Balance Sheet Budget

 Cash Budget

 The cash budget shows anticipated cash flows.

 Because cash is so vital, this budget is often

considered to be the most important output in
preparing financial budgets.

 The cash budget contains three sections:

(1) Cash receipts.
(2) Cash disbursements.
(3) Financing.
 Cash Budget
Illustration 6: 1. The company requires a minimum
of RM70,000 cash at the end of each
month.
2. The company plans to purchase fixed assets in
November 2014 amounting to RM50,000.
3. In the case of cash deficit, the company can obtain
bank loan in multiples of RM1,000 with expected
interest rate of 8% p.a. It is assumed that the loan
can be obtained at the end of the month and
payment of the loan will be paid in full at the end of
the following month whenever possible.
4. Cash in hand as at 1 October 2014 RM83,000.
 Shoes4U
Cash Budget for the month of
October, November and December 2014
October November December
Opening balance 83,000 89,695 70,562
Cash collection 78,000 92,000 131,200
Sales of assets - - -
161,00 181,695 201,762
0 63,450
Purchase payment 36,305 47,533
45,000 50,600 58,800
Operating expenses
Purchase of assets - 50,000 -
71,305 138,133 112,250
Excess / deficit 89,695 43,562 89,512
Financing - 27,000 -
Loan repayment - - -
Interest - - (180)

Closing balance 89,695 70,562 89,332

 Budgeted Balance Sheet

 The budgeted balance sheet is a projection of

financial position at the end of the budget
period.

 It is developed from the budgeted balance

sheet for the preceding year and the budgets for
the current year.