For obvious reasons, we shall concentrate on budgets preparation of firms - one of the three components of the economy. Their functional and master budgets preparation would be illustrated and this should serve as guide to budgets preparation at the governmental and individual levels - the other two components of the economy.
Functional Budgets
These are the subsidiary budgets that would combine to make up the master budgets. Sales budgets, purchase budget, production budget, operating expenses budget, etc, are to be prepared before preparing the master budgets.
(i) Sales Budget Preparation
Sales budget is the foundation of all budgets. Production or Purchase budgets are to be prepared on the basis of the sales budgeted. Where a company is selling only one product, the budgeted sales revenue would be given by:
Units to be sold X selling price (SP) per unit = Nx
But where two or more products are in the sales mix of a business, its sales budget should be as follows:
Product Qty. to be sold SP/unit Sales value
A xx xx xx
B xx xx xx
C xx xx xx
xx (b) Purchase and Production Budget Preparation
In preparing purchase or production budget, the knowledge of trading account preparation is to be employed. Trading account arrangement is to be taken upside down so that purchase value (for a distributive business) or production cost (for a manufacturing business) could be determined as follows:
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Debit side of Trading Account Purchase or Production Budget Opening stock xx Unit or stock sold xx Add: Purchase xx Add: closing stock xx COG avail. for sales xx Stock available for sales xx Less Closing stock xx Less: Opening stock xx Cost of Units sold xx Purchase or Production xx Note:
The purchase budget could be on finished goods purchases or raw materials purchases.
(c) Operating Expenses Budget
These budgets are for all business running expenses expected to be incurred in the budget period. The budget may be prepared on monthly, quarterly or annual basis. All cash and non-cash expenses as well as accrued expenses are to be reflected. If disbursements budget is to be prepared, it is only the cash expenses and payments expected to be made within the budget period that are to be reflected.
(d) Total Cost per Unit Budget
Here, the estimated direct material cost, direct labour cost and overhead cost per unit must be determined. It is the total of the per unit cost of these cost elements that would give the budgeted total cost per unit of a product.
(e) Beginning and Ending Inventory Budgets
These budgets are to be prepared on all the types of materials that the business is dealing with - raw materials, finished goods, work-in-progress, etc. The estimated opening or closing units of each type of materials are to be multiplied by budgeted total cost per unit of each material type. On raw materials, for example, Budgeted Value of Closing Stock would be arrived at as follows:
Type Quantity Cost/Unit Total Value
N N
X xx xx xx
Y xx xx xx
Z xx xx xx
Total estimated value of closing stock of raw materials xx
(f) Direct Labour Budget
A manufacturing business may have to prepare direct labour cost budget in the process of determining its budgeted total cost of production. This is more so when there are different types of direct labour, paid at different rates. The budget is prepared as follows:
Types DL hours needed Rate/hour DL Cost
N N
A xx xx xx
B xx xx xx
xx
OR
Product Units to be DLHs/unit Total Rate/Hr DL Cost
produced DL Hrs N
A xx xx xx xx xx
B xx xx xx xx xx
C xx xx xx xx xx
D xx xx xx xx xx
xx
8.11.1 Master Budgets
These are the budgeted cashflow statement (cash budget), budgeted income statement (or profit and loss account) and budgeted balance sheet. They are made up of one combination of functional budgets or the other.
(a) Cash Budget
This budget takes account of all projected receipts and disbursements during a future period and shows the estimated closing cash balance at the end of a budget period. It can be prepared on weekly, monthly, quarterly or annual basis. It is very helpful in cash management and in making estimate as to how much to be borrowed from outside sources in order to meet various demands.
The budget can be prepared as follows:
189 Specimen Cash Budget
Jan Feb Mar Apr
A. Receipts N N N N
Sales Income xx xx xx xx
Other incomes xx xx xx xx
Loan xx - - -
Total Estimated Cash Receipt xx xx xx xx B. Disbursements
Raw materials purchases xx xx xx xx Operating expenses xx xx xx xx Machinery purchases xx - - - Loan Repayment & Interest - - xx - Total Estimated Cash payments xx xx xx xx C. Net Cash Flow (A - B) xx xx xx xx Add Opening balance xx xx xx xx Closing Balance xx xx xx xx The Net cashflow can be positive, negative or zero.
Sometimes, a minimum cash balance might be targeted, and the cash budget might be for the determination of estimated loan requirements, and, if so, it should be prepared as follows:
Jan Feb Mar Apr
A. Receipts: N N N N
Opening balance xx xx xx xx
Sales Revenue xx xx xx xx
Other incomes xx xx xx xx
Total Receipt xx xx xx xx
B. Disbursements:
Raw materials purchases xx xx xx xx Operating expenses xx xx xx xx Machinery purchases xx xx xx xx Other expenses xx xx xx xx Total xx xx xx xx C. Surplus / Deficit: xx xx xx xx Loan Requirements xx xx xx xx Closing cash balance xx xx xx xx
The closing cash balance must not be less than the minimum required and it is to be the opening balance for the next budget period. The monthly loan requirements are to be aggregated to arrive at the total amount to be sought as loan from a bank or any other financial institution.
(b) Budgeted Income Statement
This budget is to follow the format for trading and profit and loss accounts preparation for either internal use or external use. The budgeted trading account is to disclose the budgeted gross profit, while the budgeted profit and loss account is to disclose the budgeted net profit before tax. Budgeted profit and loss appropriation account for a partnership or a company can also be prepared, if given the relevant data for that purpose.
(c) Budgeted Balance Sheet
This, also, is to be prepared in the format of a balance sheet, using the available data. Budgeted balance sheet is to be prepared using the format approved for internal use or the format approved for external use, depending on the availability of relevant data.
ILLUSTRATION 8-1
Zango Stores plans the following inventory levels (at cost) on one of the items sold in the stores. The inventory at the end of May should be N1,700,000; June N1,500,000; July N1,900,000 and August N1,600,000. Sales on the item are expected to be:
June N3,500,000; July N2,500,000 and August N3,300,000. Cost of goods sold is 60% of sales value. The business estimated purchases in April is expected to be N1,900,000 and in May N1,600,000. A given month‟s purchases are to be paid as follows: 10% during the month; 80% the next month and the final 10% two months after.
Required:
Prepare purchases budget for the months of June, July and August. Prepare also disbursements budget on Purchases for the three-month period.
191 SUGGESTED SOLUTION 8-1 Purchases Budget
June July Aug N N N Cost of goods (units) sold 2,100,000 1,500,000 1,980,000 Add: cost of closing units 1,500,000 1,900,000 1,600,000 cost of units available for sales 3,600,000 3,400,000 3,580,000 Less: Cost of opening units 1,700,000 1,500,000 1,900,000 Purchases 1,900,000 1,900,000 1,680,000 Disbursement on Purchases Budget
June July Aug N N N 10% During the Month 190,000 190,000 168,000 80% (May - July purchases) 1,280,000 1,520,000 1,520,000 10% (April - June purchases) 90,000 160,000 190,000
1,660,000 1,870,000 1,878,000
ILLUSTRATION 8-2
Alaka Showboy Stores has the following budgeted sales, which are uniform throughout the period: May N3,000,000; June N2,500,000; July N2,200,000 and August N2,800,000. The Store‟s employees earn fixed salaries of N120,000 monthly and commissions of 10% of the current month‟s sales. Disbursements are made semi-monthly - that is half to be paid a month after salaries and commissions are earned. Other expenses are rent, N30,000, paid on the first of each month for that month‟s occupancy; miscellaneous expenses, 6% of sales, paid as incurred; insurance, N3,000 per month, related to a one-year policy that was paid for on 2nd January; and depreciation, N19,000 per month.
Required:
(i) Prepare an operating expenses budget for the months of June, July and August.
(ii) Prepare a disbursement budget on the operating expenses for the period.
SUGGESTED SOLUTION 8-2
(i) Operating Expenses Budget
June July Aug N N N Salaries and commission 370,000 340,000 400,000 Rent 30,000 30,000 30,000 Miscellaneous expenses 150,000 132,000 168,000 Insurance 3,000 3,000 3,000 Depreciation 19,000 19,000 19,000 572,000 524,000 620,000 Note: Salaries and commission for May
= 120,000 + 300,000
= N420,000 (ii) Disbursement Budget
June July Aug N N N Salaries and Commission 395,000 355,000 370,000 Rent 30,000 30,000 30,000 Miscellaneous expenses 150,000 132,000 168,000 575,000 517,0000 568,000 Note: Salaries and commission paid in June, for example, was arrived at as follows:
Half of May‟s = 210,000 Half of June‟s= 185,000 395,000 ILLUSTRATION 8-3
The month by month forecasts of profitability of Raphael Company Limited for the five months, July to November, 2008, are given below:
N‟000
July Aug Sept Oct Nov N N N N N Material consumed 600 700 800 1020 900 Wages 320 320 320 400 320 Depreciation 70 70 70 70 70 Factory expenses 50 50 50 50 50 Rent 30 30 30 30 30 Salaries and office expenses 320 320 320 320 320
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Advertisement and publicity 120 140 100 160 200 Sales commission 80 90 100 130 110 1,590 1,720 1,790 2,180 2,000 Credit sales 1,600 1,800 2,000 2,600 2,200 Profit 10 80 210 420 200 Closing stock of raw materials 700 800 900 700 600 The following additional information are given:
1. On average, payment is made to suppliers one month after delivery.
2. The lag in payment of wages is one-eight of a month.
3. Factory expenses are paid during the month incurred.
4. Rent is paid during the month incurred
5. Salaries and office expenses are paid in the month in which they arise.
6. Advertisement and publicity expenditure is paid one month in advance. December‟s expenditure is N220,000.
7. Sales Commission is paid one month in arrears.
8. On average, debtors take two month‟s credit.
9. Cash balance at September is N520,000
10. In November, N300,000 will be paid for machinery. A dividend and tax thereon amounting to N60,000 will be paid in October.
Investment grants of N 200,000 will be received in November.
Required:
(a) Prepare raw material purchases budget for each of the four months to November 30, 2008.
(b) Prepare a cash budget for each of the three months to November 30. (Adapted from ICAN)
SUGGESTED SOLUTION 8-3
(a) Raw Materials Purchases Budget
N‟000
Aug. Sept. Oct. Nov.
N N N N Cost of Material consumed (used) 700 800 1,020 900 Add: cost of closing stock of raw
materials 800 900 700 600 Total value of raw materials to be
available in store 1,500 1,700 1,720 1,500 Less: Cost of opening stock of raw
materials 700 800 900 700 Cost of raw materials to be purchased 800 900 820 800
(b) Cash Budget
Sept Oct Nov N‟000 N‟000 N‟000 (i) Receipts
Sales incomes 1,600 1,800 2,000 Investment grants - - 200 Total estimated cash receipts 1,600 1,800 2,200 (ii) Disbursements
Raw materials purchases 800 900 820 Wages (7/8 + 1/8 of previous month) 320 390 330 Factory expenses 50 50 50
Rent 30 30 30
Salaries and office expenses 320 320 320 Advert and Publicity 160 200 220 Sales Commission 90 100 130 Machinery Purchase - - 300 Dividend and tax thereon - 60 - Total estimated cash disbursements 1,770 2,050 2,200 (iii) Net Cashflow ((i) - (ii)) (170) (250) 0 Add: Opening cash balance 520 350 100 Closing cash balance 350 100 100 ILLUSTRATION 8-4
This question illustrates the preparation of all budgets, from functional budgets to master budgets.
Hindu K. Textile Company Limited produces and sells textile materials. The company has the budget discipline of budgeting for everything right from inputs needed for production up to the balance sheet.
You are given the following information for budget purposes:
Materials
No.111 = N12/unit
No.112 = N26/unit
Direct labour = N20.50/direct labour hour Overhead is applied on the basis of direct labour hours.
195 Input/Output Relationship:
Cost Elements
Contents per unit Product F Product G
Mat. 111 12 units 12 units
Mat. 112 6 units 8 units
Direct labour 14 hours 20 hours
About the finished products:
Product F Product G Expected sales in unit 5,000 units 1,000 units
Selling price per unit N1,054 N1,640
Desired ending inventory 1,100 units 50 units Beginning inventory 100 units 50 units Direct Materials:
Mat. 111 Mat. 112 Beginning inventory 5,000 units 5,000 units Desired ending inventory 6,000 units 1,000 units The balance sheet for the year just ended is given below:
Current Assets Current Liabilities
N N
Cash 100,000 Account payable 82,000 A/c Receivables 250,000 Income tax payable 50,000
Materials 190,000
Finished goods 144,800 _______
684,800 132,000
Fixed Assets Capital
Land 500,000 Ordinary shares 3,500,000 Build. & Equip. 3,800,000 Profit & Loss A/c 602,800 Acc. Depr. (750,000) __________
N4,234,800 N4,234,800 At anticipated volume levels, the following cost would be incurred:
Factory Overhead N
Supplies 300,000
Indirect labour 700,000
Payroll costs 250,000
Power (variable portion) 200,000
Maintenance (variable) 80,000
Depreciation 250,000
Property taxes 40,000
Property insurance 5,000
Supervision 200,000
Power (fixed portion) 10,000
Maintenance (fixed portion) 45,000 N2,080,000 Selling and Administrative Expenses:
N
Sales Commission 200,000
Adverts 30,000
Sales salaries 100,000
Traveling expenses 50,000
Clerical wages 100,000
Supply 10,000
Aggregated salaries 10,000
Miscellaneous expenses 50,000
550,000 The expected cashflow for the next year are:
Qtr. 1 Qtr. 2 Qtr. 3 Qtr. 4 N‟000 N‟000 N‟000 N‟000 Collection from customers 1,250 1,500 1,600 2,210 Disbursements:
For materials 200 350 350 542 For other costs 250 200 200 170 For payroll 900 950 950 1,092 For income tax 50 - - - For Machine purchase - - - 200 The company decides to maintain N150,000 as the minimum cash balance at the end of each quarter. Money can be borrowed or repaid in multiples of N5,000 at 10% per annum. Management does not want to borrow any more cash than necessary and wants to repay as promptly as possible. Interest is computed and paid on the part of the principal that is paid. Assume that borrowing takes place at the beginning and repayment at the end of the quarter in question. Income tax payable next year is N200,000.
You are required to prepare:
(a) Sales budget (b) Production budget
197
(c) Direct material purchases budget (d) Direct labour cost budget
(e) Factory variable and fixed overhead cost budget (f) Total cost per unit budget
(g) Cost of ending inventory budget (h) Cost of beginning inventory budget (i) Cost of Goods sold budget
(j) Selling and administrative expenses budget (k) Cashflow statement (cash budget)
(l) Budgeted income statement (m) Budgeted balance sheet.
SUGGESTED SOLUTION 8-4 (a) Sales Budget
Product Units to be sold SP/unit Total
Sales N N
F 5,000 1,054 5,270,000
G 1,000 1,640 1,640,000
6,910,000 (b) Production Budget
F G
Planned sales 5,000 1,000
Add: Closing units 1,100 50
Total needed 6,100 1,050
Less: Opening stock 100 50 Units to be produced 6,000 1,000 (c) Direct Material Purchases Budget (in units)
111 112 Units needed for production 84,000 44,000 Add: Desired ending inventory 6,000 1,000 90,000 45,000 Less: Opening inventory 5,000 5,000 Units to be purchased 85,000 40,000 Note:
(i) Units needed for production were arrived at as follows:
For 111:
F = 12 x 6,000 = 72,000 G = 12 x 1,000 = 12,000
84,000
For 112:
F = 6 x 6,000 = 36,000 G = 8 x 1,000 = 8,000
44,000
(ii) Total cost of materials to be purchased:
111 = 85,000 x N12 = N1,020,000 112 = 40,000 x N26 = N1,040,000 N2,060,000
(iii) Total cost of materials to be used in production:
111 = 84,000 x N12 = N1,008,000 112 = 44,000 x N26 = N1,144,000
N2,152,000
(iv) Direct Labour Cost Budget
Product To be DL Hrs/ Total Rate Total produced Unit DL Hrs cost Unit N N F 6,000 14 84,000 20.50 1,722,000 G 1,000 20 20,000 20.50 410,000 104,000 2,132,000 Note: In the alternative, 104,000 x N20.50 = N2,132,000
(e) Factory Overhead Cost Budget
(i) Variable Factory Overhead Cost
N
Supplies 300,000
Indirect labour 700,000
Payroll cost 250,000
Maintenance (variable) 200,000
Power (variable) 80,000 Total Variable overhead cost 1,530,000 (ii) Fixed Factory Overhead Cost
N
Depreciation 250,000
Property taxes 40,000
Property Insurance 5,000
Supervision 200,000
Power (fixed portion) 10,000
Maintenance (fixed) 45,000
Total fixed overhead cost 550,000
199
As overhead is applied on the basis of direct labour hours, overhead per Direct Labour Hrs (DHL) = N2,080,000 / 104,000 = N20/DL Hr.
(f) Total Cost per Unit Budget
Cost Elements Rate/Unit Product F Product G N Units Total Units Total
Needed Value Needed Value N N Material 111 12.00 12 144 12 144 Material 112 26.00 6 156 8 208 Direct labour 20.50 14 287 20 410 Overhead 20.00 14 280 20 400 867 1,162 (g) Cost of Ending Inventory Budget
(i) Raw materials Inventory:
Type Units Cost/unit Total Value
N N
111 6,000 12 72,000
112 1,000 26 26,000
98,000 (ii) Finished goods inventory:
Type Units Cost/unit Total Value N N F 1100 867 953,700
G 50 1,162 58,100 1,011,800 (h) Cost of Beginning Inventory Budget
(i) Raw materials Inventory:
Type Units Cost/unit Total Value N N
111 5,000 12 60,000
112 5,000 26 130,000 190,000 (ii) Finished goods inventory:
Product Units Cost/unit Total Value N N
F 100 867 86,700
G 50 1,162 58,100
144,800
(i) Cost of Goods Sold Budget
Product Units to Cost/unit Total Value be sold N N
F 5,000 867 4,335,000
G 1,000 1,162 1,162,000
5,497,000
Another way of preparing this budget is to sum up the total cost of production, taking into account all the three cost elements and then follow the trading account format, as follows:
Total Cost of Production:
N Direct materials to be used 2,152,000
Direct labour costs 2,132,000
Factory overhead cost 2,080,000
Total production (manufacturing) cost 6,364,000 Trading Account Format:
Cost of opening stock 144,800
Add: Cost of manufacture 6,364,000
6,508,800 Less: Cost of closing stock 1,011,800
Cost of Goods sold 5,497,000
(j) Selling and Administrative Cost Budget (i) Selling Cost Budget:
N
Sales commission 200,000
Advertisement 30,000
Sales salaries 100,000
Traveling expenses 50,000
380,000 (ii) Administrative Cost Budget:
Wages 100,000
Supplies 10,000
Salaries 210,000
Miscellaneous 50,000
370,000
201 (k) Budgeted Cashflow Statement
Qtr 1 Qtr 2 Qtr 3 Qtr 4 N N N N Beginning cash 100,000 150,000 150,000 153,250 balance
Add: Collection from 1,250,000 1,500,000 1,600,000 2,210,000 customers 1,350,000 1,650,000 1,750,000 2,363,250 Less:
Disbursements
For materials 200,000 350,000 350,000 542,000 For other costs 250,000 200,000 200,000 170,000 For payroll 900,000 950,000 950,000 1,092,000 For income tax 50,000 - - - For machinery - - - 200,000
1,400,000 1,500,000 1,500,000 2,004,000 Add: Desired ending 150,000 150,000 150,000 - balance
Total estimated cash 1,550,000 1,650,000 1,650,000 - demand
Excess/Deficit (200,000) 0 100,000 359,250 Borrowing 200,000 - - - Repayment - - 90,000 110,000 Interest (10%) - - 6,750 11,000 Notes
1. Closing cash balance
= 359,250 - (110,000 + 11,000) = N238,250
2. The income tax payable of last year is to be paid in the first quarter of the year and that of this year is a current liability to be settled next year.
3. Interest payments are determined as follows:
Quarter 3 = 10% of 90,000 x 3/4 = 6,750 Quarter 4 = 10% of 110,000 x 4/4 = 11,000 Total interest payment = 17,750 (l) Budgeted Income Statement
N N
Sales 6,910,000
Less: Cost of goods sold 5,497,000
Gross Profit 1,413,000
Less: Selling expenses 380,000
Admin. expenses 370,000
Int. on borrowing 17,750 767,750
Net Profit Before tax 645,250
Less: Income tax 200,000
Net Profit after tax 445,250
(m) Budgeted Balance Sheet
Current Assets: N N N
Cash 238,250
Account receivable 600,000
Materials 98,000
Finished goods 1,011,800 1,948,050 Fixed Assets:
Land 500,000
Building & Equip. 4,000,000
Less: Acc. Depr. 1,000,000 3,000,000 3,500,000 N5,448,050 Current Liabilities:
Accounts Payable (on Rm) 700,000
Income tax payable 200,000 900,000
Capital:
Ordinary share capital 3,500,000
Retained earnings 1,048,050 4,548,050 5,448,050 Notes:
1. Account Receivable was computed as follows:
N
Opening balance (sundry debtors) 250,000
Add: credit sales 6,910,000
7,160,000
Less: Total cash collection
from customers 6,560,000
600,000
2. Another way of finding the closing raw materials stock is:
N
Opening stock 190,000
Add: purchases 2,060,000
2,250,000
Less: raw materials used 2,152,000
98,000
203
3. Another way of finding the closing finished goods is:
N
Cost of opening stock 144,800
Add: cost of production 6,364,000
Cost of stock to be available 6,508,800
Less: cost of goods sold 5,497,000
1,011,800
4. Fixed Assets figure was arrived at as follows:
N
Building and Equipment 3,800,000
New machine 200,000
4,000,000
5. Depreciation figure was arrived at as follows:
N
Accumulated Depreciation 750,000
Depreciation for the year 250,000
1,000,000
6. Accounts Payable was arrived at as follows:
N
Opening Stock of Raw materials 82,000 Add: Purchases of Raw materials 2,060,000
2,142,000
Less: Payment for raw materials 1,442,000
700,000
7. Retained earnings figure was arrived at as follows:
N
Retained earnings carried forward 602,800 Profit after tax for the year 445,250
1,048,050