1. Planning for the future Chapter 15
Additional material taken from
“Cost Management”, by Hilton,
Maher & Selto (McGraw-Hill),
Indicated as “HM&S”
Planning for the future Chapter 15
ME 2027 Performance and Cost Analysis
ME 2605 Cost Management and Control (for IMIM)
Håkan Kullvén, KTH, 2007
When we plan for the future, we primarily use budgetary control

2. The budgeting process Tactic
Identify the objectives of the organization
Identify potential strategies
Evaluate alternative strategic options
Select course of action
Implement the long-term plan in the form of the annual budget
Monitor actual results
Respond to divergences
Strategic
Tactic
Steps 1-4 are parts of the long-term planning process, steps 5-7 of the annual budgeting process.
Operative

3. Stages in the process Figures 15.2 page 599
Communicate details of budget policy and guidelines to those people responsible for preparing the budget
Determine the factor that restricts output
Preparation of the sales budget
Initial preparation of budgets
Negotiation of budgets with higher management (see the picture)
Co-ordination and review of the budgets
Final acceptance of budgets
Ongoing review of the budgets; also revised budgets, flexed budgets (based on e.g. changes in number of orders)

4. Focusing on participation
Purpose
1. Aid for planning
3. Communicate
Forcing managers
2. Co-ordinate
4. Motivate
Encouraging managers
Focusing on participation
Planning and motivating are conflicting roles!
5. Control
Cybernetic control
Providing a challenge
6. Evaluate

5. Operational budgets Budgeted financial statements Master budget
HM&S page 599
Sales budget
Production budget
Direct-
material
budget
Direct-
labour
budget
Manufacturing
overhead
budget
Selling, general,
and administrative
expense budget
Operational
budgets
Research and
development
budget
Budgeted schedule of
cost of products
produced and sold
Cash
budget
Marketing
budget
Capital
budget
Customer
service
budget
Budgeted
income
statement
The master budget is the main output of a budget system. It is comprised of many separate budgets that are interdependent.
The sales budget is the first budget to be completed in the master budget. A set of operational budgets is developed next, based on the sales budget. The components of this set of budgets vary, depending on whether the company is a manufacturer (the picture + examples to follow), a merchandiser, or a service provider.
A merchandising company uses purchases budget. Then, a budget for personnel, overhead, and selling and administrative expenses is prepared.
A service provider must prepare a set of budgets showing how those services will be provided.
A cash budget shows the amount and timing of expected cash receipts and cash disbursements.
A capital budget details plans for major acquisitions and disposals of assets.
Budgeted financial statements are the final piece of the master budget to be completed. The financial statements include budgeted (pro forma) balance sheet, income statement, and statement of cash flows.
Non-profit organizations also use master budgets with the notable omission of the sales budget, since they do not obtain their financial resources from selling products or services. They usually begin with information showing planned services that will be provided and the expected funding.
NOTE: Cost of goods manufactured and sold, and the statements following that (income & balance sheet) needs the calculation of Absorption unit cost on next page
Budgeted
financial
statements
Budgeted
balance
sheet
Budgeted
cash flows
statement 13

6. Activity-Based Budgeting
costing (ABC)
Resources
Resources
Activities
Activities
Products sold and customers served
Estimated demand on the market
Activity-based
budgeting (ABB)

7. Example on page 612ff
Steps in ABB
Estimate the production and sales volume by individual products and customers
Estimate the demand for organizational activities
Determine the resources that are required to perform organizational activities
Estimate for each resource the quantity that must be supplied to meet the demand
Take action to adjust the capacity of resources to match the projected supply
2. Process 5000 customers orders for the customer order processing activity
hours per order = 5000x0,5 hours = 2500 labour hours for the customer processing activity must be supplied
4. Assume a step cost function with each person employed contracted to work 1500 hours per year so that quantity of resources required = 2500/1500 = 1.67 persons, meaning that 2 persons must be employed
5. If 3 persons are presently employed on the activity, resources must be reduced, or redeployed, by one person

8. Zero-Based Budgeting Decision packet 3:n N Cost in € Decision area 1
4. Available money
Is distributed
1. Areas of decisions are defined
Decision packet 3:n N
Cost in €
Decision area 1
e.g. Turning
Decision area 2,
e.g. Painting
Decision packet 3:3
Repair garage
€5.000
Decision packet 3:2
Truck maintenance
€43.000
Decision area 3,
e.g. Garage
Decision area 4,
e.g. Invoicing
Also known as priority-based budgeting, as opposed to incremental budgeting
Decision packet 3:1
Garage maintenance
€52.000
2. Decision packets defined & 3. ranked

9. Next, we…
will look at variance analysis, when the difference between the expected value, which often is named as the standard, and the actual outcome is analyzed in different ways
Chapter 18