Budgeting
Have you done a personal budget?
Plan of action for a
specified period
An aid to coordinating
what needs to be
done to implement
that plan
Common Problems
• Too draconian
• Lack of reality
• Not based on historical costs
• Not taking into account costing trends
• Non compliance once completed
The Ongoing Budget Process:
1. Managers and accountants plan the
performance of the company, taking into
account past performance and anticipated
future changes.
2. Senior managers distribute a set of goals
against which actual results will be
compared.
The Ongoing Budget Process:
3. Accountants help managers investigate
deviations from budget. Corrective action
occurs at this point.
4. Managers and accountants assess market
feedback, changed conditions, and their own
experiences as plans are laid for the next
budget period.
Strategy, Planning, and Budgets,
Illustrated
Budgeting
DM Inv WIP Inv FG Inv COGS
Budgeting is a walk backwards thru the costing system
Advantages of Budgets
• Provides a framework for judging performance
• Motivates managers and other employees
• Promotes coordination and communication
among subunits within the company
Components of Master Budgets
• Operating budget building blocks leading to
the creation of the budgeted income
statement
• Financial budget building blocks based on
the operating budget that lead to the creation
of the budgeted balance sheet and the
budgeted statement of cash flows
Basic Operating Budget Steps
1. Prepare the revenues budget.
2. Prepare the production budget (in units).
3. Prepare the direct materials usage budget
and direct materials purchases budget.
4. Prepare the direct manufacturing labor
budget.
Basic Operating Budget Steps
5. Prepare the manufacturing overhead costs
budget.
6. Prepare the ending inventories budget.
7. Prepare the cost of goods sold budget.
8. Prepare the operating expense (period cost)
budget.
9. Prepare the budgeted income statement.
Basic Financial Budget Steps
Based on the operating budgets:
1. Prepare the capital expenditures budget.
2. Prepare the cash budget.
3. Prepare the budgeted balance sheet.
4. Prepare the budgeted statement of cash
flows.
Sample
Master
Budget,
Illustrated
Other Budgeting Issues
• Financial-planning software may be employed to
cond c en i i i ha -if anal i o a i in
the budgetary process.
Citizen Watch
• Kaizen budgeting
incorporating
continuous
improvement factors
in the budgeting
process.
Swatch
AB Budgeting
• Activity-based budgeting incorporating
activity-based costing in the budgetary
process.
Ritz-Carlton
• Participatory Budgeting
• managemen com an does not own the
underlying hotel only promises a rate of
return
• High service, but must watch expenditures
Sensitivity Analysis
Sensitivity analysis is used to assist managers in planning
and budgeting.
Sen i i i anal i i a ha if echniq e ha ill ae
the impact of changes from the predicted data.
S li ic F ni e b dge fo
Types of Responsibility Centers
1. Cost accountable for costs only
2. Revenue accountable for revenues only
3. Profit accountable for revenues and costs
4. Investment accountable for investments,
revenues, and costs
Budgets and Feedback
• Budgets offer feedback in the form of
variances: actual results deviate from
budgeted targets.
• Variances provide managers with:
– Early warning of problems
– A basis for performance evaluation
– A basis for strategy evaluation
Controllability
• Controllability is the degree of influence that a
manager has over costs, revenues, or related
items for which he is being held responsible.
• Responsibility accounting focuses on
information sharing, not in laying blame on a
particular manager.
Budgeting and Human Behavior
• The budgeting process may be abused both by
superiors and subordinates, leading to
negative outcomes.
• Superiors may dominate the budget process
or hold subordinates accountable for events
they have no control over.
• S bo dina e ma b ild b dge a lack in o
their budgets.
Budgetary Slack
• The practice of underestimating budgeted
revenues, or overestimating budgeted
expenses, in an effort to make the resulting
budgeted goals (profits) more easily
attainable.
Question
• What type of business is most dependent on
budget success for profitability?
• Ie. When is budgeting a critical factor?
Answer:
• The movie industry
• Budgeting is important when the revenue is
not tied to the expenses.
Case Study One: Waterworld
• http://en.wikipedia.org/wiki
/Waterworld
• TRx-VCx-TRC = profit
$100M budgeted cost
$175M spent on production
$60M on marketing
Case Study Two: Titanic
• $100 M initial budget
• $200M spent
• Over $2 billion earned
Case Study: Paranormal Activity
• Budget $15,000
• Gross $195 M
