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Planning
Tata McGraw-Hill Publishing Company Limited, Management Accounting
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Planning Process
Budget-Definition, Meaning
and Purpose
Preparation/Types of Budgets
Tata McGraw-Hill Publishing Company Limited, Management
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Planning Process
Budgeting is a tool of planning. Planning involves specification of
the basic objectives that the organisation will pursue and the
fundamental policies that will guide it. In operational terms,
it involves four steps:
(1) Objectives
Objectives are broad and long-range desired state or position in future.
(2) Goals
Goals are quantitative targets to be achieved in specified period.
(3) Strategies
Strategies represent specific course of action to achieve goals.
(4) Plans
The final step is the preparation of budgets/profit plans. It converts goals
and strategies into annual operating plans.
Tata McGraw-Hill Publishing Company Limited, Management
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Budget
A budget is defined as a comprehensive and coordinated plan,
expressed in financial terms, for the operations and resources
of an enterprise for some specified period in the future.
The essential elements of a budget are:
(1) Plan
(2) Financial terms
(3) Operations and resources
(4) Specific future period
(5) Comprehensive coverage
(6) Coordination
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1. Plan
The first ingredient of a budget is its plan. It includes two aspects which
have a bearing on the operations of an enterprise. One set of factors, which
determine a firms future operations are wholly external and beyond its
control. The second set of factors affecting future activities are within the
firms control and discretion, that is, they are internal.
3. Financial Terms
Budgets are prepared in financial terms, that is, in terms of monetary value
such as the rupee, dollar, and so on. The reason is that the monetary unit is
a common denominator.
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Budget Purpose
The main objectives of budgeting are:
1. Explicit statement of expectations
2. Communication
3. Coordination,
4. Expectations as a framework for judging performance
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2. Communication
Another purpose of budgeting is to communicate or inform others of the
goals and methods selected by top management. Since budgeting
deals with fundamental policies and objectives, it is
prepared by top management.
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3. Coordination
Yet another purpose of budgeting is coordination. The term coordination
refers to the operation of all departments of an organisation in
such a way that there is no bottleneck or imbalance.
In view of the above, coordination is a major function of budgeting.
Budgets should be drafted in such a way that the operations
of the various departments are related to each other for
the achievement of the overall goal.
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TYPES OF BUDGETS
The overall budget is known as the master budge. A
master budget normally consists of three
types of budgets:
(i) Operating
Operating Budgets
Budgets
(i)
(ii) Financial
Financial Budgets
Budgets
(ii)
(iii) Special
Special Decision
Decision Budgets
Budgets
(iii)
Tata McGraw-Hill Publishing Company Limited, Management
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1. Operating Budget
Operating budgets relate to physical activities/
operations such as sales, production,
and so on.
Operating budget has the following components
1)
2)
3)
4)
5)
6)
Sales budget,
Production budget,
Purchase budget,
Direct labour budget,
Manufacturing expenses budget, and
Administrative and selling expenses budget, and
so on.
Tata McGraw-Hill Publishing Company Limited, Management
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2. Financial Budget
Financial budgets are concerned with expected
cash flows, financial position and
result of operations.
Financial budget has the following components
1)
2)
3)
4)
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Cash Budget
Cash budget is a device to help a firm to plan for and control the use of
cash. It is a statement showing the estimated cash inflows and cash
outflows over the planning period. The principal aim of the cash
budget, as a tool to predict cash flows over a period of time,
is to ascertain whether there is likely to be excess/shortage of cash at any
time.
(ii) Financial
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Cash outflows/Disbursements
1.Cash sales
2.Collection of accounts
receivable
3.Disposal of fixed assets
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Cash outflows/Payments
1. Loans/borrowings
2. Sale of securities
3. Interest received
4. Dividend received
5. Rent received
6. Refund of tax
7. Issues of new shares and
securities
1.
2.
3.
4.
5.
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Example 1
The following data relate to Hypothetical Limited:
Balance Sheet as at March 31, Current Year
Liabilities
Amount Assets
Accounts payable
(all for March purchases)
Taxes payable
(all for March income)
Share capital
Retained earnings
Rs 40,000
25,000
11,00,000
10,26,800
_______
21,91,800
Cash
Accounts receivable
(all from March sales)
Inventories:
Raw materials (9,600 kgs Rs 3)
Finished goods
(1,800 units Rs 35)
Fixed assets:
Cost
Rs 20,00,000
Less: Accumulated
depreciation
(4,50,000)
Amount
Rs 3,00,000
2,50,000
28,800
63,000
15,50,000
21,91,800
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Units sales
April
May
June
9,000
12,000
16,000
Rs 15
5
9
7,20,000
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Solution
1.Production Budget
Particulars
Sales (units)
Add: Desired closing inventory (0.20 next months sales)
Total finished goods requirement
Less: Opening inventory
Required production (units)
April
May
9,000
2,400
11,400
(1,800)
9,600
12,000
3,200
15,200
(2,400)
12,800
April
9,600
Rs 15
Rs 1,44,000
48,000
86,400
2,78,400
60,000
3,38,400
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April
May
12,800
_____
64,000
April
9,000
Rs 45,000
20,000
65,000
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April
Units sold
Cost per unit
Variable
Fixed (Rs 60,000 10,000 units)
Total cost
9,000
Rs 29
6
Rs 35
3,15,000
Rs 4,50,000
2,700
4,47,300
3,15,000
1,32,300
2,400
1,29,900
65,000
64,900
22,715
42,185
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Rs 10,26,800
42,185
10,68,985
Rs 3,00,000
Rs 2,50,000
Rs 2,70,000
2,700
2,67,300
5,17,300
Rs 8,17,300
40,000
1,02,400
60,000
(20,000)
1,42,400
48,000
86,400
40,000
45,000
20,000
25,000
4,06,800
4,10,500
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Amount Assets
Accounts payable
(Rs 40,000 +
Rs 1,53,600
Rs 1,42,400)
Taxes payable
(Rs 25,000 + Rs 22,715
Rs 25,000)
Share capital
Retained earnings
Rs 51,200
22,715
11,00,000
10,68,985
________
22,42,900
Cash
Accounts receivable
(Rs 4,50,000 0.40)
Inventories:
Raw material
(12,800 Rs 3)
Finished goods
(2,400 Rs 35)
Fixed assets:
Cost
Less: Accumulated
depreciation
Amount
Rs 4,10,500
1,80,000
Rs 38,400
84,000
1,22,400
20,00,000
(4,70,000)
15,30,000
22,42,900
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Flexible Budgets
The term flexible is an apt description of the essential
features of these budgets. A flexible budget estimates costs
at several levels of activity.
Its merit is that instead of one estimate, it contains several
estimates/plans in different assumed circumstances. It
is a useful tool in real world situations, that is, unpredictable
environment.
A flexible budget, in a sense, is a series of fixed budgets and
any increase/decrease in the level/volume of activity must be
reflected in it.
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4,000
4,500
5,000
5,500
6,000
Rs 6,000
2,400
800
Rs 6,750
2,700
900
Rs 7,500
3,000
1,000
Rs 8,250
3,300
1,100
Rs 9,000
3,600
1,200
2,300
1,400
2,500
2,400
1,450
2,750
2,500
1,500
3,000
2,600
1,550
3,250
2,700
1,600
3,500
1,500
3,500
2,000
4,000
2,000
4,000
2,000
4,000
2,500
4,500
5,000
3,500
28,900
5,000
3,500
31,450
5,000
3,500
33,000
5,000
3,500
34,550
5,000
3,500
37,100
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50
60
70
80
90
Variable costs:
Power
Rs 500
Rs 600
Rs 700
Rs 800
Rs 900
250
300
350
400
450
Training
800
900
900
900
1,000
Tools
200
200
200
300
300
Depreciation
1,200
1,200
1,200
1,200
1,200
Rent
1,000
1,000
1,000
1,000
1,000
3,950
4,200
4,350
4,600
4,850
Helpers
Discretionary fixed costs:
Total
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Table 3: Hypothetical
Department)
LtdModified
Flexible
Budget
(Manufacturing
Optimistic
4,250
5,000
5,850
Rs 6,375
2,650
850
Rs 7,500
3,000
1,000
Rs 8,775
3,510
1,170
2,350
1,425
2,625
2,500
1,500
3,000
3,425
1,585
2,670
1,750
3,750
2,000
4,000
2,250
4,250
5,000
3,500
30,275
5,000
3,500
33,000
5,000
3,500
36,135
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