Budgeting.pptx performance Advanced management

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1. Budgeting Patrick Robert

2. Meaning Budgeting is the process of preparing and using budgets to achieve management objectives A budget is a quantitative plan prepared for a specified period of time. Normally it is expressed in financial terms and prepared for one year. Purposes of budgeting Planning - in line with the objectives of the organisation. Control - by comparing the plan or the budget with the actual results and investigating significant differences between the two. Communication - budgets communicate the targets of the organisation to individual managers Co-ordination - of the different activities of the business by ensuring that managers are working towards the same common goal (as stated in the budget ). Evaluation - the performance of managers is often judged by looking at how well the manager has performed ‘against budget’. Motivation - budgets can motivate managers by encouraging them to beat targets or budgets set at the beginning of the budget period. Bonuses are often based on ‘beating budgets’. Budgets, if badly set, can also demotivate employees. Authorization - budgets act as a form of authorisation of expenditure. Task 1: Find out budget preparation procedures in public and private organization

3. Principal budget factor (Where to start ?) The first thing that the person in charge of the budget process must do is decide where to start! For most companies the starting point will be a sales budget. Once it has been decided how many units the company expects to sell it is then possible to produce a production budget and so on. However , this will not always be the starting point . Suppose, for example, that the company is a manufacturer of desks for which wood is the main material. Suppose also that during the coming year there is expected to be only a limited supply of wood available. In this situation the starting point will be to budget the amount of wood available, then budget how many units the company is capable of producing (a production budget) and then how many they expect to sell (a sales budget). Generally, The first budget to be prepared should be whatever factor it is that limits the growth of the company – it may be the level of demand (so a sales budget will be prepared first ) or, as for the example in the previous paragraph, it may be the availability of raw material ( so a material budget will be prepared first ). The factor that limits the company is known as the principal budget factor .

4. Master Budget A master budget is a comprehensive budget that represents the summary or total budget package for a business firm. The master budget includes all the functional budgets and financial budgets which include a forecasted income statement, a forecasted balance sheet and cash flow statement. Components of Master budget Sales budget. Production budget. Direct materials budget. Direct labour budget. Manufacturing overhead budget. Selling and administrative budget. Capital acquisitions budget. Cash budget. Budgeted statement of profit or loss. Budgeted statement of financial position. Functional Budgets refers to budgets of income and or expenditure which applies to particular function of an organization To clearly understand the preparation of functional budgets consider the following example . Functional budgets

5. Example 1 The XYZ Company produces three products, X, Y, and Z. For the coming accounting period budgets are to be prepared using the following information: Budgeted sales Product X 2,000 units at TZS 1,000 each Product Y 4,000 units at TZS 1,300 each Product Z 3,000 units at TZS 1,500 each Standard usage of raw material Wood (Kg per unit) Vanish (litres per unit) Products -X 5 2 Products -Y 3 2 Products -Z 2 1 Standard cost of raw material TZS 8,000 TZS 4,000 Inventories of finished goods (units) X Y Z Opening 500 800 700 Closing 600 1000 800 Inventories of raw materials Wood Varnish Opening 21,000 10,000 Closing 18,000 9,000 Labour is paid at the rate of TZS 3,000 per hour. X Y Z Standard hours per unit 4 6 8 Required: Prepare the following budgets: Sales budget (quantity and value) (b) Production budget ( units) (c) Material usage budget (quantities) Material purchases budget (quantities and value) (e) Labour budget (hours and value)

6. Example 2 : A company produces Products PX and TY and has budgeted to produce 3,000 units of Product PX and 500 units of Product TY in the coming year. The following data about the machine hours required to produce Products PX and TY and the standard production overheads per machine hour is relevant to the coming year. PX per unit TY per unit Machine hour 4 6 Production overheads per machine hour Variable TZS 1,540 per machine hour Fixed TZS 540 per machine hour Required: Calculate the overhead budget for the coming year .

7. Example 3 You are presented with the following flow forecasted data for your organisation for the period November 2021 to March 2022. It has been extracted from functional flow forecasts that have already been prepared Nov-21 Dec-21 Jan-22 Feb-22 Mar-22 Sales 160,000,000 200,000,000 220,000,000 260,000,000 280,000,000 Purchases 80,000,000 120,000,000 160,000,000 180,000,000 220,000,000 Wages 20,000,000 24,000,000 32,000,000 40,000,000 48,000,000 Overheads 20,000,000 20,000,000 30,000,000 30,000,000 30,000,000 You are also told the following. Sales are 40% cash 60% credit. Credit sales are paid two months after month of sale. Purchases are paid the month following purchase. 75 % of wages are paid in the current month and 25% the following month. Overheads are paid the month after they are incurred. The company purchases state-of-art equipment for TZS 45,000,000 in January 2022 The firm must maintain a minimum cash balance of TZS 1,000,000 and to facilitate this, it maintains a 12% open line of credit for TZS 10,000,000. Loans are repaid at the end of the month. On March 31 st 2022, the company received rental income of TZS 18,500,000. The opening cash balance is TZS 30,000,000. Required: Prepare a cash flow forecast for the three-month period January to March 2022

8. Example 4 - TYU Mash makes one product the blue. Sales for next year are budgeted at 10,000 units of Blue. Planned selling price is TZS130,000. Mash expects to have the following opening inventory and required closing inventory levels of finished products Units Opening inventory 200 Required closing inventory 2,200 Budgeted production data for the product is as follows: Finished products Units Raw material Z: Kg per unit 24 Direct labour hours per unit 16 Raw material inventories Opening inventory (kg) 10,000 Planned closing inventory (kg) 12,000 Standard rates and prices: Direct labour rate per hour TZS1,400 Material Z purchase price per kg TZS400 Production overhead absorption rates Variable TZS200 per direct labour hour Fixed TZS1,600 per direct labour hour Budgeted administration and marketing overheads are 45,000,000 .

9. The opening Statement of financial position is expected to be as TZS (000) TZS (000) Non-current assets 190,000 Inventory 13,200 Trade receivables 52,000 Cash 5,000 Total current Assets 70,200 Trade payables 17,200 Other short-term liabilities 4,800 Total current liabilities 22,000 Net current assets 48,200 Net assets 238,200 Non-current assets in the statement of financial position are expected to increase by TZS8,000,000 but no change is expected in trade receivables, trade payables and other short-term liabilities. There are no plans at this stage to raise extra capital by issuing new shares or obtaining new loans. The company currently has an overdraft facility of TZS60,000,000 with its bank. Required: Complete the following: The production budget The raw material usage budget The raw material purchases budget The direct labour budget The overhead budget The cost per unit of Blue Budgeted Statement of profit or loss Budgeted Statement of financial position

10. Budgetary Control Control refers to the process whereby management take decisions in an attempt to ensure that an organisation achieves its objectives The key feature of any budgetary control system is the process of comparing actual results with the budgeted (expected results). The difference between these figures is usually termed as variance. Variances may be either unfavourable (adverse) or favourable. Adverse variances (A) implies increase in costs and decrease profits. Favourable variances (F) indicates decrease in costs and increase profits . Fixed and flexible budgets A fixed budget is a budget which is produced for a single level of activity. This budget will remain the same irrespective of changes in the volume of sales or production. It is not useful for control; it is mainly used in the planning stage of budget preparation and often referred to as the original budget. A flexible budget recognize cost behaviour patterns, is designed to change as volume of sales of production changes. It should represent what the costs and revenues were expected to be at different levels of activity. It is particularly useful for control as the original (fixed) budget can be flexed to show the costs and revenues for the actual level of activity.

11. Budgetary Control cycle Budget Agreed Expenditure incurred Difference between budget and actual analysed Reason for difference sought and obtained, followed by appropriate management action. Feedback for revision for next budget Feedback for revision of performance

12. Example 5 A company has prepared the following fixed budget for the coming year. Sales 10,000 units Production 10,000 units TZS Direct materials 50,000 Direct labour 25,000 Variable overheads 12,500 Fixed overheads 10,000 97,500 Budgeted selling price TZS 10 per unit. At the end of the year, the following costs had been incurred for the actual production of 12,000 units. TZS Direct materials 60,000 Direct labour 28,500 Variable overheads 15,000 Fixed overheads 11,000 114,500 The actual sales were 12,000 units for TZS 122,000 Required: Prepare a flexed budget for the actual activity for the year

13. Example 6 Simple Ltd manufactures one product and when operating at 100% capacity can produce 10,000 units per period, but for the last few periods has been operating below capacity. Below is the flexible budget prepared at the start of last period, for three levels of activity at below capacity: Level of activity (units) 7,000 8,000 9,000 TZS TZS TZS Direct materials 3,500 4,000 4,500 Direct labour 14,000 16,000 18,000 Production overheads 17,000 18,000 19,000 Administration, selling and distribution overheads 7,500 7,500 7,500 Total cost 42,000 45,500 49,000 In the event, the last period turned out to be even worse than expected, with production of only 5,000 units. The following costs were incurred: TZS Direct materials 2,250 Direct labour 11,000 Production overheads 14,000 Administration, selling and distribution overheads 8,250 Total cost 35,500 Required: Use the information provided above to prepare the following. A flexed budget for 5,000 units. A budgetary control statement .

14. Example 7 - TYU Bongo Ltd manufactures one product . Activity levels in the production department department are an average level of activity of 20,000 units production per four-week period. The actual results for four weeks in April 20223 are: Level of activity (units) Budget 20,000 units Actual 17,600 units TZS TZS Direct labour 40,000,000 39,080,000 Direct expense 1,600,000 2,000,000 Direct materials 8,400,000 7,320,000 Depreciation 20,000,000 20,000,000 Semi-variable overheads 10,000,000 9,520,000 80,000,000 77,920,000 Assume that at a level of production of 15,000 units, semi-variable overheads are forecast to be TZS 9,000,000 Required Produce a budgetary control statement.

15. Alternative Approaches to Budgeting This refers to the means used to formulate or originate budgets, and they include: Top down vs bottom up budgeting Top down (Imposed style) - a budget which is set without allowing the final budget holder to have the opportunity to participate in the budgeting process Bottom up (Participative budgets ) - is the one in which all budget holders are given the opportunity to participate in preparing their own budgets Incremental budgeting - An incremental budget starts with the previous period’s budget or actual results and adjusts for inflation or other known changes by adding (or subtracting) an incremental amount to the original figures. Zero-based budgeting (ZBB) - This involves preparing a budget for each cost centre from a zero-base i.e. from scratch. It requires each cost element to be specifically justified, as though the activities to which the budget relates were being undertaken for the first time. Rolling budgets - This is the budget which is kept continuously up to date by simply adding another budget period when the earliest budget period has expired. The remaining budget is re-forecast, as well as the new period being added. Activity-based budgeting (ABB) - ABB is defined as the process of preparing budgets using overhead costs from activity based costing methodology Task 2 : Discuss pros and cons of the alternative approaches to budgeting (3 points @)

16. Behavioural aspects of budgeting Budget to a greater extent should influence human behaviour as follows: Goal congruency - Individuals , groups and organizational goals should coincide. All staff should aim at the same goal posts. A budget should instil in the employee’s the team spirit so that the organization goal can be achieved Participation of staff - Budgets should encourage staff to work willingly in the budget implementation other than imposing budgets on them. Budgets should encourage them to participate willingly in decision making at any level Motivation. By all means budgets should be able to motivate employees in pursuing the set targets . The main factors influencing how well the managers will be motivated are : T o what extent they were involved in preparing budgets and therefore in setting targets How easy or difficult will it be for the managers to achieve the targets How the managers will be rewarded for achieving their targets (or punished for not achieving them!

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