1. Operational Budgeting and Profit Planning
Module 21
Operational Budgeting and Profit Planning

2. Budget Financial plan for an organization
Operating plans: sales, purchasing, production, selling, general, and administrative expenses
Cash inflows/outflows
Ends with complete financial reports: income statement & balance sheet, cash flow statement, stockholders equity.

3. Typical Process for a Merchandiser
Selling Expense Budget
Pro Forma Statements
Income Statement & Balance Sheet
Sales Budget
Purchases Budget
Special Budgets
General and Administrative Expense Budget
Cash Budget

4. Sales Budget
Sales plan is the starting point for the budgeting process
Includes a forecast of sales revenue
Normally includes a forecast of unit sales
The best available information is used to forecast sales:
Market conditions in sales territories by period
Merchandise lines available
Promotion and advertising plans
Expected pricing policies (markups)

5. Sales Budget Example
BC Carts sells children’s carts to retailers. For June, estimated sales are 9,000 carts at a selling price of $10 each with an estimated cost of $4 per cart.
BC Carts
Sales Budget
For Month of June 2012
Sales in units
9,000
Selling price per unit $
Sales revenue
$90,000
Budgeted revenue for June is $90,000.

6. Purchases Budget
Indicates the merchandise to be purchased to meet sales needs and ending inventory requirements
Considers
Budgeted sales
Desired ending inventory
Planned beginning inventory

7. Purchases Budget Example
BC Carts desires to have 20% of the carts needed for the next month’s sales in stock at the end of each month. At the beginning of June, 1,800 carts are on hand. Each cart costs $4. Sales are planned to increase 10% per month.
BC Carts
Purchases Budget
For Month of June 2012
Units
Dollars
Sales needs
9,000.
$36,000.
Desired ending inventory
1,980.
7,920.
Total
10,980.
43,920.
Less beginning inventory
(1,800)
(7,200)
Purchases
9,180.
$36,720.
Sales for July: 9,000 + (9,000 × 0.10) = 9,900 carts
Ending inventory = 9,900 × 0.20 = 1,980 carts
Number of units times the cost per unit of $4

8. Selling Expense
Presents the expenses the organization plans to incur in connection with sales and distribution
Costs are broken into variable and fixed costs
Variable selling costs
Developed as a percent of sales or an amount per unit sold
Fixed selling costs
Often based on an estimate obtained from the sales manager

9. Selling Expense Budget Example
BC Carts estimates commissions at 4% of sales and miscellaneous variable costs at 1.5%. Estimated fixed selling costs are $3,500 for depreciation, $2,000 for advertising, and $1,200 for miscellaneous costs.
BC Carts
Selling Expense Budget
For Month of June 2012
Budgeted sales
$90,000
Variable selling expenses
Commissions (4%)
$3,600
Miscellaneous (1.5%)
1,350
Total variable expenses
4,950
Fixed selling expenses
Depreciation
3,500
Advertising
2,000
Miscellaneous
1,200
Total fixed expenses
6,700
Total selling expenses
$11,650
Commissions: $90,000 × 0.04 = $3,600
Miscellaneous: $90,000 × = $1,350

10. General and Administrative Expense Budget
Presents the expenses planned in connection with the general administration of the organization
Example expenses:
Compensation
Insurance
Depreciation
Utilities
Miscellaneous

11. General and Administrative Expense Budget Example
BC Carts estimates the following monthly general and administrative costs: $5,000 for salaries, $800 for insurance, $1,100 for depreciation, $600 for utilities, and $900 for miscellaneous.
BC Carts
General and Administrative Expense Budget
For Month of June 2012
Salaries
$5,000
Insurance
800
Depreciation
1,100
Utilities
600
Miscellaneous
900
Total general and administrative expenses
$8,400

12. Cash Budget
Summarizes all cash receipts and disbursements expected to occur during the budget period
Because of issues related to the timing of sales and collections on account
Collections on sales do not equal sales revenue
Because of issues related to the timing of payments for purchases and other expense items
Disbursements do not equal expenses

13. Cash Receipts Budget Example
BC Carts budgeted its June sales at $90,000. It estimates that 40% of sales are cash and 60% are on credit. 30% of credit sales are collected in the month of sale and 70% are collected in the following month. Beginning cash balance is $15,000 and sales during May were $86,000.
40% Cash Sales
30% Collected current month
Sales
60% Credit Sales
70% Collected following month
CASH RECEIPTS BUDGET FOR JUNE, 2012
Collections on sales
Cash sales
$36,000
Credit sales
Current month (30% of credit sales)
16,200
Prior month (70% of credit sales)
36,120
Total
$88,320
$90,000 × 0.40
$90,000 × 0.60 × 0.30 = $16,200
$86,000 × 0.60 × 0.70 = $36,120

14. Cash Disbursements Budget Example
BC Carts estimates that 25% of its current month inventory purchases will be paid during the month incurred and 75% are paid in the following month. During May, purchases were $32,000. Budgeted purchases for June are $36,720 (from the purchases budget.)
Inventory purchases section of the cash disbursements section of the cash budget:
CASH DISBURSEMENTS BUDGET FOR JUNE, 2012
Disbursements
Purchases
Current month (25% of purchases)
$ 9,180
Prior month (75% of purchases)
24,000
Total
$33,180
$36,720 × 0.25 = $9,180
$32,000 × 0.75 = $24,000
Continued

15. Cash Disbursements Budget Example continued
BC Carts’ general and administrative costs were $8,200 during May, and $8,400 during June, $1,100 of each which is depreciation. Income taxes were $15,500 during May. The company pays for selling costs in the month incurred, and 60% of the general and administrative costs in the month incurred with the remaining 40% the following month. Income taxes are taxed at 30% of income before taxes and are paid the month following accrual.
CASH DISBURSEMENTS BUDGET FOR JUNE, 2012
Selling expenses
$ 8,150
General and administrative expenses
Current month (60%)
$4,380
Prior month (40%)
2,840
Income taxes
15,500
22,720
0.60 × ($8,400 – $1,100) = $4,380
0.40 × ($8,200 – $1,100) = $2,840

16. Financing Section of Cash Budget
BC Carts’ repays $5,000 of the principal on its bank loan on June 30 and December 31, and any accrued interest.
CASH DISBURSEMENTS BUDGET FOR JUNE, 2012
Short-term financing
Loan repayments
$5,000
Interest
750
Net cash used for financing
$5,750
$25,000 × 0.06 × 1/2

17. Budgeted Financial Statements
Pro forma income statement and balance sheet that reflect the “as-if” effects of the budgeted activities on the actual financial position of organization
Reflect the results if all budgetary projections are correct
If income not good enough for top management, then start process again

18. Production Budget
Additional steps are required to develop master budgets for manufacturing organizations
Due to conversion of raw materials into finished goods
Must determine production volume
To support sales
To meet finished goods inventory

19. Production Budget Example
BC Carts produces plastic carts and has estimated sales of 9,000 carts for June and 9,900 for July. BC wants to have 10% of the materials needed for the next month’s production and 20% of the carts needed for the next month’s sales in stock at the end of each month.
BC Carts
Production Budget
For Month of June 2012
Sales in units
9,000.
Desired ending inventory of carts
1,980.
Total cart requirements
10,980.
Less beginning inventory of carts
(1,800)
Budgeted production
9,180.
0.20 × 9,900 (July sales)
0.20 × 9,000 (June sales)

20. Purchases Budget Example
Assume BC Carts plans to produce 10,098 carts in July. It wants to have 10% of the materials needed for the next month’s production in stock at the end of each month. Each cart requires 6 pounds of plastic resin and two wheels. At June 1, BC had 5,508 pounds of resin and 1,836 wheels on hand. Wheels cost $0.30 each and resin costs $0.21 per pound.
BC Carts
Purchases Budget
For Month of June 2012
Resin:
Pounds of resin needs (6 lbs. x 9,180 carts)
55,080.
Desired ending resin inventory
6,059.
Total resin requirements in pounds
61,139.
Less beginning resin inventory
(5,508)
Resin purchases in pounds
55,631.
6 × 10,098 × 0.10
given
Continued

21. Manufacturing Cost Budget Example
BC Carts have the following costs per unit:
Direct materials
Resin:
6 $0.21 a pound
Wheels:
$0.30 each
Direct labor
0.075 $10 per hour
Variable overhead
$0.43 per unit
Fixed overhead
$8,262
BC Carts
Manufacturing Cost Budget
For Month of June 2009
Direct materials
Resin used in production (9,180 × 6 lbs. × $0.21)
$11,567
Wheels used in production (9,180 × 2 × $0.30)
5,508
Total direct materials
17,075
Direct labor (9,180 × × $10)
6,885
Manufacturing overhead
Variable ($0.43 per unit)
3,947
Fixed
8,262
Total manufacturing costs
$36,169

22. Approaches to Budgeting
Input-output: Planned sales volumes and required inputs
Incremental: Add an increment to past year
Example: Increase budgets by 3%.
Zero-based: Every $ justified starting at 0 for everything.
Activity-based: Project sales volume to activity and budget the $ based on activity cost
Rolling (continuous) example: each month, redo each of the next 12 monthly budgets

23. Participation
Extent to which lower level personnel involved with the budget process: participative or bottom up approach
Alternative is top-down or imposed budgets
Both approaches require top management involvement
Since budgets used in performance measures, participation often results in budgetary slack: padding built in to expense or revenue estimates.
Slack can provide needed flexibility when situation has high uncertainty.