BUDGETING

Dr. Anis Suriati binti Ahmad

Department of Accounting & Finance
Faculty of Management & Economics

Learning Outcomes:

Define budget and purpose of budget.

Describe budgeting process and key budget factor.
Explain differences between budgeting and forecasting.
Prepare budgets.
Explain techniques of budgeting.
Explain budgeting problems and issues.
Human aspects of budgeting.

Budgeting and Purpose of Budget

Budget is defined as;
the quantitative expression of a proposed plan of action by
management for a specified period and an aid to coordinate
what needs to be done to implement that plan.
(Horngren et al., 2012: 206)
A budget is prepared to have effective
utilisation of resources and for the realisation
of objectives, as efficiently as possible.

Budgeting is a process of preparing budget.

Budgeting and Purpose of Budget

Budgets serve a number of purpose which are central to an organisations success.
1.Planning
2.Co-ordination
3.Communication
4.Motivation
5.Control
6.Evaluation

Types of Budget
Budgets can be classified on the
basis of time, function and flexibility.
Classification on the basis of time:
Prepared to coincide with the financial year compare actual performance with
budgeted estimates to facilitate better interpretation and understanding.
1.Long-Term Budgets

2. Short-Term Budgets

Types of Budget
Budgets can be classified on the
basis of time, function and flexibility.
Classification on the basis of function:
1.Functional budget prepared on the basis of different functions
performed in the organisation.
2.Master budget a summary budget, which incorporates all
functional budgets, in a summarised form.

Types of Budget
Budgets can be classified on the
basis of time, function and flexibility.
Classification on the basis of flexibility (or capacity):
1.Fixed budget designed to remains unchanged, irrespective of the
change in volume or level of activity.
2.Flexible budget designed to change, in relation to change in level of
activity. It recognises the difference between fixed, semi-fixed and variable
cost.

Budgeting Process and Key Budget Factor

The budgeting process begins with a strategic planning by
a budget committee that supervises the budgeting
process.
A budget committee then applies the agreed strategic
direction to a series of plans that roll up into a master
budget.

The main objectives of budget committee

is to agree on all departmental budgets,
normal standard hours and allocations.

Budgeting Process and Key Budget Factor

When budgets are prepared, there are key budget factor
(also known as principal budget factor, limiting factor or
governing factor) which limits the quantity that can be made
or sold.
Examples of key budget factors are:
a)Material: shortage of supply especially scarce material
b)Labour: shortage of skilled labour
c)Plant: plant capacity that is limited to machine time
d)Working Capital: credit control
e)Sales: customer demand

Budgeting vs Forecasting
Forecasts and budgets refer to the anticipated actions and
events. But there are differences between budgets and forecasts
as given below:
Budgets
Related to planned events.

Forecasts
Concerned with anticipated or probable
events.

Planned or prepared for a shorter period. May cover for longer period or years.
A target fixed for a period.

Only a tentative estimate.

Result of planning is budgeting.

Results in planning.

Budget is prepared for the business as a Usually covers a specific business

whole.

function.

Purpose of budget is not merely a Does not act as a tool of controlling

planning device but also a controlling measurement.
tool.

Preparation of Budgets:
Master Budget

Master Budget
two major components: operational budget and financial
budget.
operating budget shows the income-generating
activities of a company, including revenues and
expenses. The result is a budgeted income statement.
financial budget shows the inflows and outflows of cash
and other elements of the company's financial position.
The inflows and outflows of cash come from the cash
budget.

Master Budget
Operating Budget:
Sales Budget
Production Budget
Purchases Budget
Labour Budget
Overhead Budget

Master Budget
Financial Budget:
Cash Budget shows cash inflows and outflows,
expected borrowing and expected investing
Budgeted Income Statement
Budgeted Statement of Financial Position gives the
ending balances of the asset, liability and equity
accounts

Sales Budget
the basic component of budget and influences other
components of functional budget.
prepared based on the following basis:
Product
Area
Type of consumers
Salesmen
Period

Production Budget
shows planned production (in units) that must be made by a
manufacturer during a specific period to meet the expected
demand for sales and the planned finished goods inventory.
The required production is determined by:
Planned Production (units)
= Expected Sales + Planned Ending Inventory Beginning Inventory

prepared after the sales budget

only a manufacturing business needs to prepare the
production budget.

Purchases Budget
shows budgeted beginning and ending direct material
inventory, the quantity of direct material that will be used
in production, the amount of direct material that must be
purchased and its cost during a specific period.
the formula:
Budgeted Direct Material Purchases (units):
= Direct Material needed for Production + Budgeted Ending Direct
Material Budgeted Beginning Direct Material

Direct Material needed for Production (units)

= Budgeted production during the period x units of
direct material required per unit

Labour Budget
used to plan labour force requirements.
shows the total direct labour cost and number of direct
labour hours needed for production.
done after the production budget.
Direct Labour Budget
= Budgeted Direct Labour Hours Required Cost per Direct Labour Hours

Budgeted Direct Labour Hours Required

= Planned Production in unit Direct Labour Hours
Required per Unit

Overhead Budget
consists of planned operating expenses other than
manufacturing costs.
prepare before the preparation of budgeted income
statement.
a) Production overhead budget
shows all the planned manufacturing costs which are
needed to produce the budgeted production level of a
period (other than direct costs).
production overhead costs are separated into fixed and
variable overhead costs for control purposes.

Overhead Budget
b) Selling and distribution budget
shows the planned costs associated with selling and
distribution of the quantities stated in the sales budget.
example include advertising, packaging and drivers
wages.
Both selling and distribution expenses may be fixed
or variable. For example sales commission and freight
cost on sales are variable selling expenses, whereas
sales salaries are fixed selling expenses.

Overhead Budget
c) Administrative overhead budget
o separated into fixed and variable overhead costs for
control purposes.
o E.g., depreciation and rent on office building are fixed
administrative expenses, whereas office supplies and
utilities expenses are variable administrative expenses.

Cash Budget
o represents the anticipated receipts and payment of cash
during the budget period.
o it is important to anticipate cash required to meet current
cash obligations. If at any time, a concern fails to meet
its obligations, it will be technically insolvent.

Cash Budget (Illustration)

A company is expecting to have RM25,000 cash in hand on 1st October 2016 and it
requires you to prepare an estimate of cash position in respect of three months from
October to December 2016, from the information given below:

Month

Sales

Purchases

Wages

Expenses

August

70,000

40,000

8,000

6,000

September

80,000

50,000

8,000

7,000

October
92,000
52,000
9,000
7,000
Additional Information:
November
100,000
60,000
10,000
8,000
a)Period of credit allowed by suppliers two months.
December
55,000
12,000for credit sale 9,000
b)25% of sale is for cash120,000
and the period of credit
allowed to customer
one
month.
c)Delay in payment of wages and expenses one month.
d)Income Tax RM25,000 is to be paid in December 2016.

Cash Budget (Illustration)

Particulars

Cash Budget for the months of October December 2016

April
May
June

Opening balance for cash

Cash receipts:
Cash sales
Accounts receivable

Cash payments:
Accounts payable
Wages
Expenses
Income Tax

Closing balance

Total

Budgeted Income Statement

o contains all of the items found in a normal income
statement, except that it is a projection of what the
income statement will look like during future budget
periods.
o is prepared after other parts of the budget are prepared.

Budgeted Statement of Financial

Position
o contains all of the items found in a normal statement of
financial position, except that it is a projection of what the
statement will look like during future budget periods.
o Current Asset and Current Liabilities Section of the
Statement of Financial Position: