ACCT2121 Introductory Management Accounting

Chapter 6

Master Budget and

Responsibility Accounting

Bella Ya KANG
 Learning Objectives

1 Describe the budget and explain its benefits

2 Describe the two components of master budget
Operating budget and financial budget
3 Prepare the operating budgets
Pay attention to the sequence of each budget and the association between them
From revenues budget to budgeted income statement
4 Prepare cash budget (part of financial budget)

2
 Budget

• Budget is the quantitative expression of a proposed plan of action by management for a specified period
• It is also called targeting or profit plan
• At the beginning of the period, we have a budgeted production and performance (profit)
• At the end of the period, we see the actual production and performance
• By comparing the difference between budgeted performance and actual performance (which is called
variance analyses in Ch7 & Ch8), we know whether we meet our expectation, and more importantly, what
we can do to improve in the future

3
Pros and Cons of Budgets

Advantages of budgets
• Promote coordination and communication among departments/units within a company
• Provide a framework for judging performance and facilitating learning
• Motivate managers and other employees
Challenges of managing budgets
• Top managers want lower-level managers to participate in the budgeting process because they have
more specialized knowledge of day-to-day management
• The budgeting process is time-consuming, so upper-level management’s support is crucial

4
Time coverage of budgets

• Before the start of a fiscal year, managers at all levels begin the budgeting process
• Timeline for a budget depends on the motive for creating the budget
• Most frequently used budget period is 1 year

• AI and budgets

5
Components of Master Budget

The master budget is at the core of the budgeting process.

It expresses management’s operating and financial plans for a specified period.
• Operating Budget—Operating decisions on how to best use the limited resources
of an organization.
• Financial Budget—Financial decisions on how to obtain the funds to acquire those
resources.

 Budgeted financial statements are called pro forma statements

6
Operating Budget Steps

1. Prepare revenues budget

2. Prepare production budget (in units)
3. Prepare direct materials usage budget and direct materials purchases budget
4. Prepare direct manufacturing labor budget
5. Prepare manufacturing overhead costs budget
6. Prepare ending inventories budget (in units, in dollars)
7. Prepare cost of goods sold budget
8. Prepare operating expense (period cost) budget
9. Prepare budgeted income statement

7
Financial Budget Steps

Based on operating budgets:

1. Prepare capital expenditures budget (not covered)
2. Prepare cash budget
3. Prepare budgeted balance sheet (not covered)
4. Prepare budgeted statement of cash flows (not covered)

8
Components of Master Budget

9
sample
master
budget

10
Review of Manufacturing Cost vs. COGM vs. COGS

What is the manufacturing cost of one Iphone (manufacturing cost per unit of output products)?
What is the cost of one Iphone (cost per unit of output products)? --> manu cost per unit + nonmanu cost per
unit

 Manufacturing cost vs. COGM vs. COGS

 Manu cost = DM (used) + DL + MOH (eq. 2 in Ch2)

o Manu cost per unit = DM per unit + DL per unit + MOH per unit --> manu cost per unit of output
products
 COGM = manu costs + BI of WIP - EI of WIP. COGM = manu costs if WIP =0 (eq. 3 in Ch2)
o COGM = COGM (Qp) * manu cost per unit = units produced * manu cost per unit
 COGS = COGM + BI of FG - EI of FG (eq. 4 in Ch2)
o COGS (Qs) = COGM (Qp) + BI of FG (Q) - EI of FG (Q)
o COGS = COGS (Qs) * manu cost per unit = units sold * manu cost per unit

11
Review of Manufacturing Cost vs. COGM vs. COGS
--> Example below:
Suppose no WIP --> COGM = manu costs
Suppose DM = $X, DL = $Y, MOH allocated = $Z
Total manu cost = $ (X+Y+Z)
COGM = $ (X+Y+Z)

Suppose Apple produces Qp units of Iphones. Units produced = COGM(Q) = Qp

 What is the unit manu cost of one Iphone?

Unit manu cost = $(X+Y+Z)/Qp = DM per unit + DL per unit + MOH per unit

 What is the COGM?

COGM =Qp X unit manu cost = Qp X ($(X+Y+Z)/Qp)
COGM per unit = unit manu cost

 What is the COGS?

COGS = units sold (Qs) X unit manu cost = Qs X ($(X+Y+Z)/Qp) = Qs X (DM per unit + DL per unit + MOH per unit)
COGS per unit = unit manu cost

12
 Operating Budget: Intuition

• Ch2 cost flows in five equations: we convert resources (manu cost) into FG (COGM) and then sell (COGS)

COGM: COGS:
Manu cost=DM+DL+MOH Produce Qp units of FG Sell Qs units of FG

• In Ch6 budgeting, we do the opposite: we start from number of products we expect to sell (Qs);
• Then based on Qs (or dollar amount of COGS), we determine how many units of FG we need to produce, i.e., Qp
(or dollar amount of COGM)
• Then based on Qp, we determine our investment in DM/DL/MOH in quantity (e.g., how many units of DM we
need to use) and dollar amount (e.g., the total cost of DM)

COGS: COGM:
Sell Qs units of FG Produce Qp units of FG Manu cost=DM+DL+MOH

13
Stylistic Furniture’s Operating Budget
• Stylistic sells two models of granite-top coffee tables: Casual and Deluxe. Revenue unrelated to sales,
such as interest income, is zero.
• Work-in-process inventory is negligible and is ignored
• There are two types of direct materials: red oak (RO) and granite slabs (GS). The direct material costs
are variable with respect to units of output—coffee tables.
• Direct manufacturing labor workers are hired on an hourly basis; no overtime is worked.

red oak (RO) granite slabs (GS)

14
 Stylistic Furniture’s Operating Budget for Year 2017
• Two types of products: Casual and Deluxe
• Two types of materials to produce two products: Granite and Red Oak

Inputs Casual Table (output 1) Deluxe Table (output 2)

DM1: Red Oak

DM2: Granite

DL
15
Stylistic Furniture’s Operating Budget for Year 2017
More budget information…

• What is the unit cost of finished goods inventory for Casual vs. Deluxe?

• Unit cost of finished goods inventory vs. unit manufacturing cost? The same or different?
16
Step 1: Prepare Revenues Budget

• Revenues budget determines the expected sales quantity (budgeted sales Q) of the two products
Budgeted Revenue = P * Budgeted sales Q = P * Qs
• Revenues budget is the starting point and determines production budget
• Top managers decide on the budgeted sales quantities and prices
 Based on the sales volume in recent periods, general economic and industry conditions, market research studies,
pricing policies, advertising and sales promotions, competition, and regulatory policies

Budgeted Revenue for two products

= P * Budgeted sales Q
= 600 * 50,000 (Casual) + 800 * 10,000 (Deluxe)
= $38,000,000

17
Step 2: Prepare Production Budget

• Depending on budgeted sales Q, the firm determines the budgeted production quantity (budgeted production Q) of
the two products, Casual and Deluxe

• Budgeted production Q = Budgeted sales Q + Target EI of FG (Q) – BI of FG (Q)

– Budgeted sales Q from Step 1 (Revenues Budget), BI of FG is given
– New information needed is the target EI of FG

1. BI of FG is 1,000 units for Casual, 500 units for Deluxe

2. Target EI of FG is 11,000 units for Casual, 500 for Deluxe

 Budgeted Production Q for Casual:

= Budgeted sales Q + Target EI of FG (Q) – BI of FG (Q)
= 50,000 + 11,000 – 1,000
= 60,000 units
 Budgeted Production Q for Deluxe:
= 10,000 + 500 – 500
= 10,000 units

18
 In-class Exercise #1

1. Superior Industries sales budget shows quarterly sales for the next year as follows: Quarter 1–10,000;
Quarter 2–8,000; Quarter 3–12,000; Quarter 4–14,000. Company policy is to have a target finished-goods
inventory at the end of each quarter equal to 20% of the next quarter’s sales. Budgeted production for the
second quarter of next year would be:
1. 7,200 units;
2. 8,800 units;
3. 12,000 units;
4. 10,400 units

19
Input Quantity vs. Output Quantity: How many units of inputs you need to produce one unit (or more units) of output?

 Input quantity vs. output quantity

 Input quantity = output quantity * input quantity per output unit
 Example #1 DM. A car manufacturer produces 10 cars, each with 4 tires.
Total number of tires (input quantity) = 10 (cars) * 4 (tires per car)
 Example #2 DL. A car manufacturer produces 10 cars, each with 5 labor hours.
Total number of labor hours (input quantity) = 10 (cars) * 5 (labor hours per car)
 Example #3 MOH. Firm manager decides the machine-hour is the ACB , each with 5 machine hours.
Total ACB of MOH (input quantity) = 10 (cars) * 5 (machine hours per car)

20
Input vs. Output: How much input costs you need to pay?

 Input cost vs. output cost

 Input cost = input quantity * unit input cost
= (output quantity * input quantity per output) * unit input cost
= output quantity * unit output cost
= output quantity * (input quantity per output * unit input cost)
 Example #1 DM. A car manufacturer produces 10 cars, each with 4 tires. The acquisition cost of each tire is
$500.
Total cost of tires (input cost) = 10 (cars) * 4 (tires per car) * 500 ($ per tire)
 Example #2 DL. A car manufacturer produces 10 cars, each with 5 labor hours. Hourly wage rate is $40
Total labor cost (input cost) = 10 (cars) * 5 (labor hours per car) * 40 ($ per labor hour)
 Example #3 MOH. Firm manager decides the machine-hour is the ACB , each with 5 machine hours. MOH
per machine-hour = $10
MOH (input cost) = 10 (cars) * 5 (machine hours per car) * 10 ($ per machine hour)

21
 Step 3A: Prepare DM Usage Budget (1/2)
• Depending on budgeted production Q (units to be produced), the firm determines the budgeted direct materials to be used (budgeted DM
usage units and dollar amount) <two types of materials>
• Budgeted DM usage Q = Budgeted production Q * DM usage per output unit
• Budgeted DM cost = Budgeted DM usage Q * unit cost of DM <used for production>
•  Budgeted DM cost = Budgeted production Q * DM usage per output unit * unit cost of DM
– Budgeted production Q from Step 2 (Production Budget); DM usage per output unit and unit cost of DM are known

Both Casual and Deluxe require the two DM: Red oak and Granite
– For each Casual table: 12 board foot (bf) of Red Oak and 6 square foot (sq ft) of Granite
– For each Deluxe table: 12 board foot (bf) of Red Oak and 8 square foot (sq ft) of Granite

 Budgeted DM usage Q of Red Oak for two products:

= Budgeted production Q * DM usage per output unit
= 60,000 * 12 (Casual) + 10,000 * 12 (Deluxe)
= 840,000 b.f.

 Budgeted DM usage Q of Granite for two products:

= 60,000 * 6 (Casual) + 10,000 * 8 (Deluxe)
= 440,000 sq.ft.
22
 Step 3A: Prepare DM Usage Budget (2/2)

• Depending on budgeted production Q (units to be produced), the firm determines the budgeted direct materials to be used (budgeted DM
usage units and dollar amount) <two types of materials>
• Budgeted DM usage Q = Budgeted production Q * DM usage per output unit
• Budgeted DM usage cost = Budgeted DM usage Q * unit cost of DM <used for production>
•  Budgeted DM cost = Budgeted production Q * DM usage per output unit * unit cost of DM
– Budgeted production Q from Step 2 (Production Budget); DM usage per output unit and unit cost of DM are known

Both Casual and Deluxe require the two DM: Red oak and Granite
– Road Oak per bf = $7
– Granite per sq ft = $10

 Budgeted DM usage cost of Red Oak for two products:

= Budgeted DM usage Q * unit cost of DM
= 840,000 b.f. * 7 per bf
= $5,880,000

 Budgeted DM usage cost of Granite for two products :

= 440,000 sq.ft * 10 per sq.ft
= $4,400,000

23
 Step 3B: Prepare DM Purchase Budget (1/2)

• Depending on budgeted production Q (Step 2) and DM usage Q, the firm determines the budgeted DM to be purchased (budgeted DM
purchase in units and dollar amount) for two types of materials used to produce two products

• Budgeted DM purchase Q = Budgeted DM usage Q + Target EI of DM (Q) – BI of DM (Q)

• Budgeted DM purchase cost = Budgeted DM purchase Q * unit cost of DM
– Budgeted DM usage Q is known; BI of DM (Q) is known
– New information needed is the target EI of DM (Q)

1. Target EI of DM is 80,000 units for Red oak, 20,000 units for Granite
2. BI of DM is 70,000 units for Red oak, 60,000 for Granite

 Budgeted DM purchase Q of Red Oak for two products:

= Budgeted DM usage Q + Target EI of DM (Q) – BI of DM (Q)
= 840,000 + 80,000 – 70,000
= 850,000 b.f.

 Budgeted DM purchase Q of Granite for two products:

= 440,000 + 20,000 – 60,000
= 400,000 sq.ft.
24
 Step 3B: Prepare DM Purchase Budget (2/2)

• Depending on budgeted production Q (Step 2) and DM usage Q, the firm determines the budgeted DM to be purchased (budgeted DM
purchase in units and dollar amount) for two types of materials used to produce two products

• Budgeted DM purchase Q = Budgeted DM usage Q + Target EI of DM (Q) – BI of DM (Q)

• Budgeted DM purchase cost = Budgeted DM purchase Q * unit cost of DM
– Budgeted DM usage Q is known; BI of DM (Q) is known
– New information needed is the target EI of DM (Q)

1. Target EI of DM is 80,000 units for Red oak, 20,000 units for Granite
2. BI of DM is 70,000 units for Red oak, 60,000 for Granite

 Budgeted DM purchase cost of Red Oak for two products:

= Budgeted DM usage Q * unit cost of DM
= 850,000 b.f. * 7 per bf
= $5,950,000
 Budgeted DM purchase cost of Granite for two products :
= 400,000 sq.ft * 10 per sq.ft
= $4,000,000

25
 Step 4: Prepare DL Costs Budget

• Depending on budgeted production Q (Step 2), the firm determines the budgeted DL hours as well as DL cost to produce two products
• Budgeted DL hours = Budgeted production Q * DL hour per output unit
• Budgeted DL cost= Budgeted DL hours * unit cost of DL (hourly wage rate)
•  Budgeted DL cost= Budgeted production Q * DL hour per output unit * unit cost of DL
– Budgeted Production Q is from Production Budget (Step2); DL hour per output unit and unit cost of DL are known.

1. DL hours per unit of product Casual are 4 hours; DL hours of Deluxe are 6 hours
2. Hourly wage rate is $20

 Budgeted DL cost of two products:

= Budgeted DL hours * unit cost of DL (hourly wage rate)
= Budgeted production Q * DL hour per output unit * unit cost of DL
= 60,000 * 4 * 20 (Casual) + 10,000 * 6 * 20 (Deluxe)
= $6,000,000
26
 Step 5: Prepare MOH Costs Budget (1/3)

• Depending on Production Budget, the firm determines the budgeted MOH costs to produce two products
– Suppose the firm is adopting ABC in budgeting (ABB) and identifies two activity cost pools: manufacturing
operations overhead costs (both variable and fixed) and machine setup overhead costs (both variable and fixed)
– The firm identifies cost drivers for the two activities
– Budgeted MOH= Budgeted VMOH + Budgeted FMOH
= (Budgeted variable MOH rate * Budgeted quantity of allocation base) + Budgeted FMOH
• The firm is scheduled to operate at capacity (meaning no idle capacity; affecting only fixed MOH)

27
 Step 5: Prepare MOH Costs Budget (2/3)
• Depending on how Production Budget, the firm determines the budgeted MOH costs (from two MOH cost pools) to produce two products
• First MOH cost pool: Manufacturing operation overhead cost

 Budgeted MOH for manu operations OH costs

= Budgeted VMOH + Budgeted FMOH
= (Budgeted variable MOH rate * Budgeted quantity of allocation base) + Budgeted FMOH
= (5+5.6+7+4)*300,000 + (1,020,000 +390,000+630,000+480,000)
= $9,000,000
• Manufacturing operation overhead cost per labor hour = $9,000,000/300,000lh = $30/lh  Budgeted rate per allocation base for the first MOH
cost pool 28
 Step 5: Prepare MOH Costs Budget (3/3)

• Depending on how Production Budget, the firm determines the budgeted MOH costs (from two MOH cost pools) to produce two products
• Second MOH cost pool: Machine setup overhead cost

 Budgeted MOH for machine setup OH costs

= Budgeted VMOH + Budgeted FMOH
= (Budgeted variable MOH rate X Budgeted quantity of allocation base) + Budgeted FMOH
= (26+56+6)X15,000 + (603,000 +1,050,000+27,000)
= $3,000,000
• Machine setup overhead cost per labor hour = $3,000,000/15,000 setup labor hour = $200/setup labor hour  Budgeted rate per
allocation base for the second MOH cost pool
29
Manufacturing Cost Per Unit (= Unit Cost of FG Inv)

• Manufacturing cost = DM used + DL + MOH

• Manufacturing cost per output unit= DM used per output unit + DL per output unit + MOH per output unit
– Manufacturing operations overhead per output unit for Casual= overhead cost per labor hour
X Q of labor hours to each output unit = $30/lh X 4 lh =$120
– Manufacturing operations overhead per output unit for Deluxe= overhead cost per labor hour
X Q of labor hours to each output unit = $30/lh X 6 lh =$180
– Machine setup overhead per output unit for Casual= overhead cost per setup labor hour X Q of setup labor hours to each output unit = $200/lh X
0.2 lh =$40
– Machine setup overhead per output unit for Deluxe= overhead cost per setup labor hour X Q of setup labor hours to each output unit = $200/lh X
0.3 lh =$60
• Manufacturing cost per unit is used to calculate total cost of EI of FG as well as COGS

 Budgeted Manufacturing cost per unit of Casual:

= DM used per unit + DL per unit + MOH per unit
= (84+60)+80+(120+40)
= $384

 Budgeted Manufacturing cost per unit of Deluxe:

= (84+80)+120+(180+60)
= $524
30
 Step 6: Prepare Ending Inventory Budgets

• We have only two inventory accounts in this example

– Remember we don’t have EI of WIP (assumption); if we do, we also take WIP EI into account
• Budgeted EI of DM ($) = Target EI of DM (Q) * unit cost of DM
– Target EI of DM (Q) and unit cost of DM are known
• Budgeted EI of FG ($) = Target EI of FG (Q) * manufacturing cost per unit of product
– Target EI of FG (Q) is known; manufacturing cost per unit is from DM Budget, DL Budget and MOH
Budget

 Budgeted EI of FG for two products:

= Target EI of FG (Q) X manufacturing cost per unit of product
= 11,000 X 384 (Casual) + 500 X 524 (Deluxe)
= $4,486,000

 Budgeted EI of DM for two materials:

= Target EI of DM (Q) X unit cost of DM
= 80,000 X 7 (Red oak) + 20,000 X 10 (Granite)
= $760,000

31
 Step 7: Prepare COGS Budgets: Two Approaches

• Budgeted COGS ($) = Budgeted sales Q X manufacturing cost per unit of product
– Budgeted sales Q is from Revenues Budget; manufacturing cost per unit is from DM Budget, DL Budget and MOH Budget
– Budgeted COGS ($) = 50,000 X 384 (Casual) + 10,000 X 524 (Deluxe) = $24,440,000

• Or, Budgeted COGS ($) = Budgeted COGM ($) + BI of FG ($) – EI of FG ($) (see the table below)
– Note that Budgeted COGS (Q) = Budgeted COGM (Q) + BI of FG (Q) – EI of FG (Q)
– Budgeted COGM ($) = Budgeted COGM (Q) X manufacturing cost per unit of product
– Budgeted COGM (Q) is actually the budgeted production Q (units to be produced)
– Budgeted COGM ($) = 60,000 X 384 (Casual) + 10,000 X 524 (Deluxe) = $ 28,280,000
– When there is no WIP Inv, COGM = manufacturing cost = DM + DL + MOH allocated
–  Budgeted COGS ($) = $28,280,000 + $646,000 – $4,486,000 = $24,440,000

32
 Step 8: Prepare the Nonmanufacturing Costs Budgets

• Depending on Revenues Budget, the firm determines the budgeted nonmanufacturing cost
– Stylistic also incurs nonmanufacturing costs in other parts of the value chain—product design, marketing, and
distribution
– Total revenue is the cost driver for the variable portion of marketing (and sales) costs
– Cubic feet of tables sold and shipped is the cost driver of the variable component of budgeted distribution costs

33
 Step 9: Prepare the Budgeted Income Statement

• We take the budgeted sales from Revenues Budget, budgeted COGS from COGS Budget, budgeted
nonmanufacturing cost (period cost) from Nonmanufacturing Cost Budget.
• Operating income = Sales – COGS – operating costs
• Gross Margin = Sales – COGS

• Budgeted Revenue = Price * Budgeted Sales Q

• Budgeted COGS = Budgeted Unit Cost of FG Inventory * Budgeted Sales Q
• Budgeted GM = (Price – Budgeted Unit Cost of FG Inventory) * Budgeted Sales Q
• Remember that Budgeted Unit Cost of FG Inventory = Manu Cost per Unit
34
Appendix: Prepare the Cash Budget

• A firm is involved in operation activities, investment activities and financing activities

• Cash Budget deals with cash collection from sales and cash disbursement to obtain resources
– Cash collection: sales (revenues budget)
– Cash disbursement: DM; DL; MOH; and capital expenditure (not required)
• When there is cash deficiency, a firm needs to raise funds through financing activities
• The firm also aims to maintain an optimal level of ending balance of cash

35
 Appendix: Prepare the Cash Budget

• Balance sheet from last year to get the cash balance

• Ending balance (EB) of cash in 2016 = Beginning balance (BB) of cash in 2017 = $300,000

We need the BB of Cash

for 2017 budget, which is
the EB of Cash in 2016

36
Appendix: Prepare the Cash Budget
• Cash budget

• Suppose annual borrowing

interest rate is 12%
• Principal of borrowing =
1,941,000
These info is
• By the end of Q2, pay back
given principal of 846,000 and the
related interest payment =
846,000 X 12% X (6/12) =
50,760
• By the end of Q3, pay back the
rest of principal of 1,095,000
and the interest payment =
1095000 X 12% X (9/12)

37
 Appendix: Prepare the Cash Budget

Explanations of the cash budget table

• EB of cash in the last period = BB of cash in this period
– The BB of cash in Qtr1 of 2017 = EB of cash in Qtr4 of 2016 = 300,000
– The BB of cash in Qtr2 of 2017 = EB of cash in Qtr1 of 2017 = 320,154
• Total cash available for use = Total cash collection + BB of cash
– For instance, total cash available for use for Qtr 1 = 9,136,600 + 300,000 = 9,436,600
• Total cash needed = Total cash disbursement + desired EB of cash
– For instance, total cash needed for Qtr 1 = 11,057,446 + 320,000 = 11,377,446
• Cash excess (deficiency) = Total cash available for use – Total cash needed
– For Qtr1, total cash available for use < total cash needed  we have cash deficiency  we need to raise funds
– Suppose we borrow 1,941,000 (as principal) from banks at the beginning of Qtr1 at the annual interest rate of 12%, we pay
back 846,000 of the loan at the end of Qtr2 and repay the rest of the principal of 1,095,000 at the end of Qtr3.
 By the end of Qtr2, we repay 846,000 of principal as well as the interest on this amount which is 846,000 X 12% X (6/12) =
50,760  This is because we use the 846,000 for two quarters (6 months from the beginning of Qtr1 to the end of Qtr2).
 By the end of Qtr3, we repay 1,095,000 of principal as well as the interest on this amount which is 1,095,000 X 12% X (9/12)
= 98,550  This is because we use the 1,095,000 for three quarters (9 months).

Also note that numbers in brackets refer to negative numbers, meaning cash outflow

38
 Budgeting & Responsibility Accounting

Background: Achieving the goals requires top management coordinate efforts of

all employees
•Organization structure shows lines of responsibility
•Responsibility center — part of an organization whose manager is accountable
for a specified set of activities
•Responsibility accounting — a system that measures the plans, budgets, actions,
and actual results of each responsibility center

39
 4 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

40
 Budgeting and Human Behavior

• A budget is more effective when lower-level managers actively engage in process  add
credibility, commitment, accountability
• Not to lay blames on employees
• Reward any behavior that management trying to encourage
• The budgeting process may be abused by superiors and/or subordinates, leading to negative
outcomes
• Superiors may dominate the budget process or hold subordinates accountable for events
they have no control over
• Subordinates may build “budgetary slack” into their budgets (try to make the budgeted
goals more easily attainable by underestimating revenues, or overestimating costs,
overestimating time)

41
 Think further: Why cash budgets are important?

• Cash budgets are significantly important for cash planning and control, especially
to avoid having idle cash and unexpected cash deficiencies.
• The cash budget can help managers to not only identify the periods of idle cash
and periods of cash shortage but also to determine necessary cash balances in line
with their needs in any given period during the budget year.
• It allows managers to make appropriate decisions in terms of either using excess
cash or financing from outside to achieve the company’s goals.

42
Think further: Continuous improvement in the budgeting process

Direct materials
-­‐ If feasible, budget improvement in usage or price
-­‐ minimize the budgeted usage amounts for the output of all products
-­‐ decrease the price paid, particularly with quantity discounts, or early payment discounts
Direct manufacturing labor
-­‐ If feasible, budget improvement in usage or price
-­‐ continuously revise down the budgeted usage of hours
-­‐ revising down the manufacturing labor cost per hour may affect employee morale adversely
-­‐ The former appears more feasible than the latter.
Variable manufacturing overhead
-­‐ budget more efficient use of the allocation base, and budget continuous improvement
in the budgeted variable overhead cost per unit of the allocation base
Fixed manufacturing overhead
-­‐ budget for reductions in the year-­‐to-­‐year amounts of fixed overhead, especially before these costs are
committed for a long term

43
 In-class Exercise #2 & #3

(#2) Which of the following statements is correct regarding the components of the master budget?
a. The cash budget is used to create the capital budget.
b. Operating budgets are used to create cash budgets.
c. The manufacturing overhead budget is used to create the production budget.
d. The cost of goods sold budget is used to create the selling and administrative expense
budget.

(#3 ） Which of the following statements is correct regarding the drivers of operating and financial
budgets?
a. The sales budget will drive the cost of goods sold budget.
b. The cost of goods sold budget will drive the units of production budget.
c. The production budget will drive the selling and administrative
expense budget.
d. The cash budget will drive the production and selling and administrative expense budgets.

44
In-class Exercise #4

(#4) You are working on the company’s cash budget for year 2. You have information on each of the
following items:
I. Wages due to workers accrued as of December 31, year 1.
II. Limits on a line of credit that may be used to fund the company’s operations in year 2.
III. The balance in accounts payable as of December 31, year 1, from credit purchases made in year
1.
Which of the items above should you take into account when building the cash budget for year 2?

45
 In-class Exercise #5

The Deluxe Motorcar in northern California manufactures motor cars of all categories. Its budgeted sales for the most popular sedan model
XE8 in 2018 is 4,000 units. Deluxe Motorcar has a beginning finished inventory of 600 units. Its ending inventory is 450 units. The present
selling price of model XE8 to the distributors and dealers is $35,200. The company does not want to increase its selling price in 2018.
Deluxe Motorcar does not produce tyres. It buys the tyres from an outside supplier. One complete car requires five tyres including the tyre
for the extra wheel. The company’s target ending inventory is 400 tyres, and its beginning inventory is 350 tyres. The budgeted purchase
price is $45 per tyre.

Required:
1. Compute the budgeted revenues in dollars.
2. Compute the number of cars that Deluxe Motorcar should produce.
3. Compute the budgeted purchases of tyres in units and in dollars.

46
 Homework: 6-35
Deadline: 20 March 2023

47