Profit Planning and Budgeting

Home / Essays / Profit Planning and Budgeting

CHAPTER 9 PROFIT PLANNING AND BUDGETING Questions, Exercises, Problems, and Cases: Answers and Solutions 9. 1See text or glossary at the end of the book. 9. 2A cost center is a responsibility center in which management is responsible only for costs. In a profit center, management is responsible for both costs and revenues. 9. 3An investment center is a responsibility center in which management is responsible for managing costs, revenues, and assets. A profit center is not responsible for assets. 9. 4Input/output relationships are not well defined in discretionary cost centers.

Evaluation of such centers from accounting data is difficult and requires managerial judgment. 9. 5a. Program or course director; possibly the instructor. b. Manager of the print department. c. Dean of the business school. d. Dean of the business school and/or finance department chairperson. 9. 6General economic trends are important in forecasting sales in the airline industry. The overall health of the economy is an important factor affecting the extent of business travel. In addition, the health of the economy, safety concerns, and income levels affect the extent to which the general public travels by air. . 7The sales manager’s reward is based on sales dollars; it isn’t surprising the sales manager is concerned with revenues. If the company is concerned about profits, their commission should be based on a percentage of the profits generated by their sales as an incentive for the sales force to sell more high-profit items. 9. 8The flexible budget and master budget serve two different purposes. The master budget is a planning device, while the flexible budget is a control device. The master budget is the benchmark, or goal, based on all the information available at the time of preparation.

It gives the profit goal for the 9. 8 continued. upcoming period, based on an estimated level of activity. Although the firm may aim for that estimated level of activity, it may achieve above or below it. The flexible budget is then used to determine what revenues and costs should have been, given the actual activity level attained for the period. The use of a flexible budget allows managers to separate volume variances from those due to differences in unit selling prices, unit variable costs, and fixed costs from the master budget. 9. Every firm has a constraining factor that determines the level of activity. For most firms the constraining factor is the anticipated level of sales. Once the level of sales is estimated, the production, marketing, and administration costs can be forecast. If a firm can sell all that it makes, then the constraining factor would be production, and one would start the budgeting process with the production budget. 9. 10The master budget profit equals the flexible budget profit when the budgeted level of sales volume equals the actual level of sales volume. . 11There is no difference between these two methods. In both cases the variances due to sales volume changes are calculated. 9. 12Behavioral studies indicate that when the budget is an upper limit on expenditures, employees will have a strong incentive to create budget slack. Thus, in a governmental setting we would expect a strong incentive to overestimate costs to provide a cushion for future expenditures. 9. 13In developing a budget to meet your college expenses, the primary steps would be to project your cash receipts and your cash disbursements.

Your cash receipts could come from such sources as summer jobs, jobs held during the academic year, college funds saved by relatives or friends for your benefit, scholarships, and financial aid from your college or university. You would also need to carefully project your college expenses. Your expenses would include tuition, room and board, books and other academic supplies, transportation, clothing and other personal needs, and money for entertainment and miscellaneous expenses. 9. 14First there is an incentive for members of various subunits to overestimate costs in order to achieve bonus awards.

Of course, if the targets are set so tight that they cannot be reasonably achieved then there may be a problem for the entire incentive system. In addition, there may be a disincentive to increase sales if it means increasing costs. 9. 15Most companies find it essential to develop a budget for planning and performance evaluation purposes, no matter where the company is located. Without a plan, areas within a company would have difficulty determining the resources needed to attain the goals of the company. For example, the audit department of an accounting firm would not know how many employees to hire (or fire! . The production department of a manufacturing firm would not know the quantities of direct materials required (and, therefore, how much to purchase). Airlines would not know how many planes to purchase or lease. In addition, companies are able to evaluate the performance of their employees by comparing actual results with the initial budget. Soliciting budget input from employees (including managers) not only provides for more accurate forecasting, it creates a sense of responsibility and ownership on the part of those involved.

Employees tend to look negatively at budgets that are imposed by executive management rather than established by company employees. 9. 16Marketing, the laboratory, manufacturing, finance, and engineering all have ideas to control costs. Preparing a budget requires ideas from people in all these areas. The best way to get those ideas is to involve all of the department managers who can control costs. 9. 17Company divisions around the world can submit budget information electronically in spreadsheet form to one or more locations including accounting.

The accounting department can then download this information at its convenience in a format that can be easily modified (rather than receiving a hard copy and having to input the information). Also, time differences between countries are no longer as significant since documents can be sent and received at the convenience of the departments involved. Once budgets are finalized, information can be provided on line to the appropriate departments. 9. 18(Jamison Company; solving for materials requirements. ) Finished42,000 24,000 Units22,000 Units Units to Be=Units to Be +in Ending–in Beginning ProducedSoldInventoryInventory

Units to Be= 44,000 Produced 9. 18 continued. Units of Raw 4 Units of Raw Materials = Materials per X 44,000 Finished Units = 176,000 to BeFinished Unit Used Units of Raw 176,000 Units110,000 Units100,000 Units Materials = to Be Used+ Desired Ending– in Beginning to BeInventoryInventory Purchased = 186,000 Units of Raw Materials. 9. 19(Scott Company; solving for budgeted manufacturing costs. ) Budgeted Sales10,000,000 Units Plus Ending Inventory 20,000 Total Units Needed…………………………………… 10,020,000 Less Beginning Inventory (80,000) Units to Be Produced 9,940,000

Costs to Be Incurred: Direct Materials (9,940,000 Units X $24 per Unit)$ 238,560,000 Direct Labor (9,940,000 Units X $18 per Unit) 178,920,000 Variable Overhead (9,940,000 Units X $6 per Unit) 59,640,000 Total Budgeted Costs$477,120,000 9. 20(Appendix 9. 1) (Lyndhurst Corporation; solving for cash collections. ) a. Budgeted Cash Collection in March: From January Sales (. 18 X $1,000,000)$180,000 From February Sales (. 30 X $1,200,000)360,000 From March Sales (. 50 X $800,000)400,000 Total Budgeted Collections in March$940,000 b. Budgeted Cash Collection in April:

From February Sales (. 18 X $1,200,000)$216,000 From March Sales (. 30 X $800,000)240,000 From April Sales (. 50 X $1,000,000)500,000 Total Budgeted Collections in April$956,000 9. 21(Appendix 9. 1) (Alabama Corporation; solving for cash payments. ) Budgeted Cash Payments to Suppliers in October: August Purchases (. 10 X $1,000,000)$100,000 September Purchases (. 20 X $900,000)180,000 October Purchases (. 70 X $1,250,000)875,000 Total Budgeted October Cash Payments$ 1,155,000 Budgeted Cash Payments to Suppliers in November: September Purchases (. 10 X $900,000)$90,000 October Purchases (. 0 X $1,250,000)250,000 November Purchases (. 70 X $1,750,000)1,225,000 Total Budgeted November Cash Payments$1,565,000 Budgeted Cash Payments to Suppliers in December: October Purchases (. 10 X $1,250,000)$125,000 November Purchases (. 20 X $1,750,000)350,000 December Purchases (. 70 X $950,000)665,000 Total Budgeted December Cash Payments$1,140,000 9. 22(Lomaine Company; sales volume variance analysis. ) FlexibleMaster BudgetSalesBudget (14,200Volume(14,000 Units)VarianceUnits) Sales Revenue$170,400a$2,400 F$168,000b Less Variable Costs71,000c1,000 U70,000d Contribution Margin. $99,400$1,400 F$98,000

Less Fixed Costs21,000 — 21,000 Operating Profit$ 78,400$1,400 F$77,000 a$170,400 = 14,200 Units X $12. b$168,000 = 14,000 Units X $12. c$71,000 = 14,200 Units X $5. d$70,000 = 14,000 Units X $5. 9. 23(Lions Company; sales volume variance analysis. ) FlexibleMaster BudgetSalesBudget (58,000Volume(55,000 Units)VarianceUnits) Sales Revenue$4,350,000a$225,000 F$4,125,000b Less Variable Costs580,000c30,000 U550,000d Contribution Margin. $3,770,000$195,000 F$ 3,575,000 Less Fixed Costs2,000,000 — 2,000,000 Operating Profit$1,770,000$195,000 F$ 1,575,000 $4,350,000 = 58,000 Units X $75. b$4,125,000 = 55,000 Units X $75. c$580,000 = 58,000 Units X $10. d$550,000 = 55,000 Units X $10. 9. 24(Graphic comparison of budgeted and actual costs. ) a. Variable Unit Cost: $1. 60 per Unit =($6,000,000- $2,000,000)/2,500,000 units b. C = $5,200,000 = $2,000,000 + (2,000,000 Units X $1. 60). c. $8,400,000 = $2,000,000 + (4,000,000 Units X $1. 60). 25. (Maxum Company; preparing flexible budgets [CPA adapted]. ) It is probably best to rearrange the statements to a contribution margin format. The solution then becomes: Flexible Budgeta (170 Units) Sales Revenue$17,000 Variable Costs:

Manufacturing6,630 Marketing1,870 Contribution Margin$8,500 Fixed Costs: Manufacturing500 Marketing1,000 Administrative1,000 Operating Profit$6,000 aSales revenue and the variable costs are 85 percent (= 170 units/200 units) of the master budget amounts. Fixed costs remain the same. 25. (Maxum Company; sales volume variance analysis. ) FlexibleSalesMaster BudgetVolumeBudget (170 Units)Variance(200 Units) Sales Revenue$17,000$3,000 U$20,000 Variable Costs: Manufacturing6,6301,170 F7,800 Marketing1,870330 F2,200 Contribution Margin. $8,500$1,500 U$10,000 Fixed Costs: Manufacturing500 — 500

Marketing1,000 — 1,000 Administrative1,000 — 1,000 Operating Profit$6,000$1,500 U$7,500 9. 27(Interpreting the flexible budget line. ) a. CM = where CM =Contribution Margin Xm =Master Budget Activity Level F =Fixed Costs. ?m =Profit at the Master Budget Activity Level CM = ($240,000 + $84,000)/18,000 units = $18 per Unit. b. Xf =($240,000 + $192,000)/$18 = 24,000 Units where Xf =Flexible Budget Activity Level. 9. 28(Interpreting the flexible budget line. ) a. Flexible Budget Activity Level (Actual Units Sold): Profit= (P – V)X – F $(3,500)= $7X – $35,000 7X = $(3,500) + $35,000 X = [$3,500) = $35,000]/$7 X= 4,500 Units. b. Master Budget Activity Level: $14,000= $7X – $35,000 $7X = $14,000 + $35,000 X = ($14,000 + $35,000)/$7 X= 7,000 Units. 9. 29(Appendix 9. 2) (Incentives for accurate forecasting. ) Actual sales Forecasted sales Bonus a. $2,500$2,500$100 b. 3,000 2,500 110 c. 3,500 2,500 120 d. 2,500 3,000 95 e. 3,000 3,000 120 f. 3,500 3,000 130 g. 2,500 3,500 90 h. 3,000 3,500 115 i. 3,500 3,500 140 Calculations: a$100 = . 04($2,500). b$110 = . 04($2,500) + . 02($3,000 – $2,500). c$120 = . 04($2,500) + . 02($3,500 – $2,500). $95 = . 04($3,000) – . 05($3,000 – $2,500). e$120 = . 04($3,000). f$130 = . 04($3,000) + . 02($3,500 – $3,000). g$90 = . 04($3,500) – . 05($3,500 – $2,500). h$115 = . 04($3,500) – . 05($3,500 – $3,000). i$140 = . 04($3,500). 9. 30(Appendix 9. 2) (Incentives for accurate forecasting. ) [pic] a$2,000 = $100(20). b$2,070 = $2,000 + $70(21 – 20). c$2,140 = $2,000 + $70(22 – 20). d$2,210 = $2,000 + $70(23 – 20). e$2,280 = $2,000 + $70(24 – 20). f$1,950 = $100(21) – $150(21 – 20). g$2,100 = $100(21). h$2,170 = $2,100 + $70(22 – 21), etc. i$1,900 = $100(22) – $150(22 – 20). j$2,050 = $2,200 – $150(22 – 21), etc. . 31(Flexible budgeting—manufacturing costs. ) a. Expected Manufacturing Costs: Direct Materials: ($10. 00 per Unit X 20,000 Units)$200,000 Direct Labor: ($6. 00 per Unit X 20,000 Units)120,000 Manufacturing Overhead: Variable Overhead ($3. 00 per Unit X 20,000 Units)60,000 Fixed Overhead100,000 Total Budgeted Manufacturing Costs$480,000 b. Flexible Budget for Production Department (16,000 Units of Activity): Total CostsFixedDirectDirectVariable for Production=Costs+Materials+Labor+Overhead Department =$100,000 + ($10. 00 + $6. 00 + $3. 00) X (Units Produced) =$100,000 + ($19. 0 X 16,000 Units Produced) Total Production Costs for 16,000=$404,000. Units of Activity c. Total Production Costs for 25,000 Units Produced: = $100,000 + ($19. 00 X 25,000 Units Produced) = $575,000. 9. 32(Victoria’s Gourmet Coffee; marketing cost budget. ) Fixed Costs: Salaries$25,000 Advertising30,000 Sales Office Costs8,400 Travel2,000 $65,400 Variable Costs: Shipping Costs= $. 02 per Unit Sold and Shipped Commissions= 2% of Sales, or . 02 X Units Sold X Selling Price per Unit [pic] Marketing Cost Flexible Budget: $65,400+[$. 02 X Units Shipped]+[$. 12 X Units Sold] Case 1: Marketing Costs= $65,400 + ($. 2 X 60,000) + ($. 12 X 60,000) = $65,400 + $1,200 + $7,200 = $73,800. Case 2: Marketing Costs= $65,400 + ($. 02 X 75,000) + ($. 12 X 75,000) = $65,400 + $1,500 + $9,000 = $75,900. Case 3: Marketing Costs= $65,400 + ($. 02 X 64,000) + ($. 12 X 64,000) = $65,400 + $1,280 + $7,680 = $74,360. 9. 33(Victoria’s Gourmet Coffee; administrative cost budget. ) Fixed costs are $44,800. “Flexible” Administrative Budget = $44,800. The term “flexible” budget is somewhat of a misnomer because administrative costs are not a function of production but are fixed, presumably, over the entire relevant range.

Since there are no variable costs, the flexible budget will be $44,800 regardless of anticipated production-sales levels within the relevant range of activity. 9. 34(Sales volume variance analysis. ) Product X: Total sales volume variance is $1,800 favorable as shown below. FlexibleMaster BudgetSalesBudget (5,300Volume(5,000 Units)VarianceUnits) Sales$53,000$3,000 F$50,000 Variable Costs21,2001,200 U20,000 Contribution Margin$31,800$1,800 F$30,000 Product Y: Total sales volume variance is $400 favorable as shown below. FlexibleSalesMaster BudgetVolumeBudget (240 Units)Variance(200 Units) Sales$12,000$2,000 F$10,000

Variable Costs9,6001,600 U8,000 Contribution Margin$2,400$400 F$2,000 Product Z: Total sales volume variance is $2,000 unfavorable as shown below. FlexibleMaster BudgetSalesBudget (48,000Volume(50,000 Units)VarianceUnits) Sales$120,000$5,000 U$125,000 Variable Costs72,0003,000 F75,000 Contribution Margin$48,000$2,000 U$50,000 35. (Estimating flexible selling expense budget and computing variances. ) a. Fixed Costs= $20,000 [Salaries] + $50,000 [Advertising] + $4,000 [Sales Office] = $74,000. Variable Costs as a Function= (. 05 [Commissions] X Revenue) + (. 03 [Travel] X Revenue). of Revenue Variable Costs s a Function = ($. 05 [Office] X Units Sold) + ($. 10 [Shipping] X Units Sold). of Units Sold Total Selling= $74,000 + (. 08 X Revenues) + ($. 15 X Units Sold). Expenses b. Sales Volume Variance Analysis FlexibleMaster BudgetSalesBudget (50,000Volume(65,000 Units)VarianceUnits) Sales Revenue$275,000a$82,500 U$357,500b Less Variable Costs29,500c8,850 F38,350d Contribution Margin$245,500$73,650 U$319,150 Less Fixed Costs74,000 — 74,000 Operating Profit$171,500$73,650 U$245,150 a$275,000 = $5. 50 X 50,000 units. b$357,500 = $5. 50 X 65,000 units. c$29,500 = (. 08 X $275,000) + ($. 5 X 50,000) = $22,000 + $7,500. d$38,350 = (. 08 X $357,500) + ($. 15 X 65,000) = $28,600 + $9,750. 36. (Master budget profit plan. ) SOLANO PRODUCTS MASTER BUDGET PROFIT PLAN FOR YEAR 2 Calculations Sales$913,500$725,000 X 1. 20 X 1. 05 Less Variable Costs: Materials46,368$ 42,000 X 1. 20 X . 92 Other Manufacturing41,866$ 35,600 X 1. 20 X . 98 Marketing126,720$105,600 X 1. 20 Contribution Margin$ 698,546 Less Fixed Costs: Manufacturing Deprecia- tion249,750Unchanged Other Manufacturing85,995$ 81,900 X 1. 05 Marketing Depreciation37,400Unchanged Administrative Deprecia- tion18,700Unchanged

Administrative140,030$127,300 X 1. 10 Operating Profit$ 166,671 The projected operating profit for year 2 is more than six times the operating profit for year 1. This substantial increase occurs because sales increase by 26%, while variable costs increase by 20% or less and fixed costs increase by 10% or less. 9. 37 (Master budget profit plan. ) FLORAL PRODUCTS MASTER BUDGET PROFIT PLAN FOR YEAR 2 Calculations Sales$885,651$746,000 X 1. 12 X 1. 06 Less Variable Costs: Materials163,856$133,000 X 1. 12 X 1. 10 Other Manufacturing194,504$180,900 X 1. 12 X . 96 Marketing106,400$ 95,000 X 1. 12

Contribution Margin$420,891 Less Fixed Costs: Manufacturing Deprecia- tion89,000Unchanged Other Manufacturing66,960$ 72,000 X . 93 Marketing Depreciation22,600Unchanged Administrative Deprecia- tion8,400Unchanged Administrative97,319$ 90,110 X 1. 08 Operating Profit$136,612 The projected operating profit will more than double the operating profit for year 1. Revenue increases more than 18% while total variable costs increase considerably less and total fixed costs increase very little. 38. (Production budget. ) COFFEE EXPRESS PRODUCTION BUDGET FOR THE YEAR ENDED DECEMBER 31 (IN UNITS) First, compute units to be produced:

Expected Sales18,000 Units Add: Desired Ending Inventory of Finished Goods7,000 Total Units Needed25,000 Less: Beginning Inventory of Finished Goods(4,000) Units to Be Produced21,000 Units Next, estimate the costs: Direct Materials: Glass (21,000 Units. X $. 40)$8,400 Metal (21,000 Units X $1. 60 X 1. 10)36,960 Total Direct Materials$45,360 Direct Labor: 21,000 Units X 1/4 hr. X $8. 60$45,150 Overhead: Indirect Labor (21,000 Units X $. 12)2,520 Indirect Materials (21,000 Units X $. 03)630 Power (21,000 Units X $. 07)1,470 Equipment Costs (20,000 Units X $. 36)7,200 Building Occupancy (20,000 Units X $. 9)3,800 Total Overhead$15,620 Total Budgeted Manufacturing Costs$106,130 39. (Production budget. ) ARIZONA, INC. PRODUCTION BUDGET FOR THE YEAR ENDED DECEMBER 31 (IN UNITS) First, compute units to be produced: Expected Sales10,000 Units Add: Desired Ending Inventory of Finished Goods4,000 Total Units Needed14,000 Less: Beginning Inventory of Finished Goods(2,000) Units to Be Produced12,000 Units Next, estimate the costs: Direct Materials ( 12,000 Units X $1. 20 X 1. 10)………………….. $ 15,840 Direct Labor: 12,000 Units X 1/4 hr. X $1030,000 Overhead: Indirect Labor (12,000 Units X $. 0)1,200 Indirect Materials (12,000 Units X $. 08 X 1. 10)1,056 Power (12,000 Units X $. 07)840 Equipment Costs (10,000 Units X $. 36)3,600 Building Occupancy (10,000 Units X $. 19)1,900 Total Overhead$ 8,596 Total Budgeted Manufacturing Costs$ 54,436 40. (Marketing expense budget. ) Budgeted For Next ItemJulyAdjustmentsJuly Sales Commissions$140,000X1. 05 X 1. 10=$ 161,700 Sales Staff Salaries60,000X1. 04= 62,400 Telephone and Mailing16,000X1. 08 X 1. 05= 18,144 Building Lease20,000None=20,000 Heat, Light, and Water5,000X1. 2= 5,600 Packaging and Delivery28,000X1. 05=29,400 Depreciation15,000+ ($1,900/10 years) =16,900 Marketing Consultants20,000Not Applicable35,000 Total Budgeted Costs$349,144 It appears that the company will barely achieve its goal of holding the total marketing expense budget under $350,000 for the year. The costs that increase the most are commissions. It might not be wise to cut sales commissions. The company should start looking at ways to cut telephone and mailing costs, perhaps with greater reliance on e mail and the web. 41. (Marketing expense budget. ) Budgeted Typical

ItemMarchAdjustmentsMonth Sales Commissions$135,000X1. 05 X 1. 10=$155,925 Sales Staff Salaries32,000X1. 04=33,280 Telephone and Mailing16,200X1. 08 X 1. 05=18,371 Building Lease20,000None=20,000 Heat, Light, and Water4,100X1. 12=4,592 Packaging and Delivery27,400X1. 05=28,770 Depreciation12,500=12,500 Marketing Consultants19,700Not Applicable35,000 Total Budgeted Costs$308,438 9. 42 (Budgeted purchases and cash flows—multiple choice. ) a. The correct answer is (3) $225,000. BB + TI =TO + EB (130% X 11,900) + TI =11,900 + (130% X 11,400) 15,470 + TI =11,900 + 14,820 TI =11,900 + 14,820 – 15,470 11,250 Units 11,250 X $20 =$225,000 b. The correct answer is (2) $243,600. BB + TI =TO + EB (130% X 11,400) + TI =11,400 + (130% X 12,000) 14,820 + TI =11,400 + 15,600 TI =11,400 + 15,600 – 14,820 =12,180 Units 12,180 X $20 =$243,600 c. The correct answer is (5), none of the above, $328,116 60% X $363,000 X 97%=$211,266 25% X $363,000=90,750 9% X $290,000=26,100 $328,116 d. The correct answer is (1) $285,379. August purchases paid in September: $225,000* X 46% = $103,500. August selling, general, and administrative expenses paid in September: [$357,000 X 15%) – $2,000] X 46% = $23,713.

September purchases paid in September: $243,600** X 54% = $131,544. September selling, general, and administrative expenses paid in September: [$342,000 X 15%) – $2,000] X 54% = $26,622. $103,500 + $23,713 + $131,544 + $26,622 = $285,379 *From Part a. of this problem. **From Part b. of this problem. e. The correct answer is (3) 12,260. BB + TI =TO + EB (130% X 12,000) + TI =12,000 + (130% X 12,200) 15,600 + TI =12,000 + 15,860 TI =12,000 + 15,860 – 15,600 =12,260 Units 43. (Budgeted purchases and cash flows) a. Budgeted purchases in May. BB + TI = TO + EB (1. 2 X 11,900) + TI = 11,900 + (1. 2 X 11,400)

TI = 11,900 + 13,680 – 14,280 TI = 11,300 units or $226,000 b. Budgeted purchases in June. BB + TI = TO + EB (1. 2 X 11,400) + TI = 11,400 + (1. 2 X 12,000) TI = 11,400 + 14,400 – 13,680 TI = 12,120 units or $242,400 c. Cash collections for May. 60% X $363,000 X 97%=$211,266 25% X $363,000=90,750 10% X $354,000=35,400 $337,416 d. Cash disbursements in June. May purchases paid in June: $226,000 (from a) X 40% = $90,400. May selling, general, and administrative expenses paid in June: [$357,000 X 15%) – $2,000] X 40% = $20,620. June purchases paid in June: $242,400 (from b) X 60% = $145,440.

June selling, general, and administrative expenses paid in June: [$342,000 X 15%) – $2,000] X 60% = $29,580. $90,400 + $20,620 + $145,440 + $29,580 = $286,040 e. Number of units of inventory to purchase in July. BB + TI = TO + EB (1. 2 X 12,000) + TI = 12,000 + (1. 2 X 12,200) TI = 12,000 + 14,640 – 14,400 TI = 12,240 units 44. (Comprehensive budget plan. ) (CPA adapted. ) a. (1)SCHEDULE COMPUTING PRODUCTION BUDGET (UNITS) FOR OCTOBER, NOVEMBER, AND DECEMBER, YEAR 1 OctoberNovemberDecember Budgeted Sales—Units100,00090,000100,000 Inventory Required at End of Montha18,00020,00020,000

Total to be Accounted for118,000110,000120,000 Less Inventory on Hand at Beginning of Month24,00018,00020,000 Budgeted Production—Units94,00092,000100,000 aOctober:90,000 X . 2 = 18,000 November: 100,000 X . 2 = 20,000 December: 100,000 X . 2 = 20,000 (2)SCHEDULE COMPUTING RAW MATERIAL PURCHASES BUDGET (POUNDS) FOR OCTOBER AND NOVEMBER YEAR 1 OctoberNovember Budgeted Production—Pounds (1/2 lb. per Unit)a47,00046,000 Inventory Required at End of Monthb18,40020,000 Total to be Accounted for65,40066,000 Less Inventory on Hand at Beginning of Month22,80025,800c Balance Required by Pur- chase42,60040,200

Budgeted Purchases—Pounds (Based on Shipments in Multiples of 25,000)50,00050,000 aOctober:94,000 X . 5 = 47,000 November:92,000 X . 5 = 46,000 bOctober:92,000 X . 4 X . 5 = 18,400 November:100,000 X . 4 X . 5 = 20,000 c22,800 + 50,000 – 47,000 = 25,800. 9. 44 continued. b. REGIS CORPORATION PROJECTED INCOME STATEMENT FOR THE MONTH OF NOVEMBER, YEAR 1 Sales (90,000 Units X $2)$180,000 Less Variable Costs: Cost of Sales$99,000* Selling (10% of Sales)18,000117,000 Contribution Margin63,000 Less Fixed Costs: Overhead$10,000 Administrative ($33,000 per Month)33,000 Interest (1% X $100,000)1,00044,000 Operating Profit$19,000 $99,000 = [($50,000 + $40,000 + $20,000)/100,000 units] X 90,000 units. 9. 45 (Comprehensive budget plan. ) (CPA adapted. ) a. With 24,000 units of inventory on hand on October 1, the company has sufficient inventory to support production for all three months. No inventory need be produced and no raw materials need be purchased. (The high level of inventory in the fall might reflect preparation for the coming winter sales season, but the level of inventory seems excessive and might explain the company’s cash needs. ) b. BOARDS, INC. PROJECTED INCOME STATEMENT FOR THE MONTH OF NOVEMBER, YEAR 1

Sales (3,000 Units X $100)$300,000 Less Variable Costs: Cost of Sales$165,000* Selling (10% of Sales)30,000195,000 Contribution Margin105,000 Less Fixed Costs: Overhead$60,000 Administrative ($33,000 per Month)33,000 Interest (1% X $100,000)1,00094,000 Operating Profit$11,000 *$165,000 = [($80,000 + $20,000 + $10,000)/2,000 units] X 3,000 units. 9. 46 (Ethical issues [CMA adapted]. ) a. Their methods are a hedge against uncertainty, but more importantly, they allow employees to exceed expectations. By understating budgeted sales, and overstating budgeted costs, one can excel when compared o the budget. This can be personally rewarding if promotions, bonuses, etc. , are based on actual versus budgeted performance. b. The sales manager and the production manager will lose credibility in the eyes of upper management if they continuously present poor budgets. Furthermore, management may use these budgets for important decisions, such as determining staffing levels or the profitability of products or product lines. Submitting a budget with lower sales and higher costs (a reduced contribution margin) could have adverse effects on the company. c.

The sales and production managers have an ethical responsibility to prepare reports using relevant and reliable information. Clearly they are not doing this. The budgets they are submitting are not prepared objectively. There is also a question of integrity if they hope to benefit from the use of budgetary slack. By submitting erroneous budgets they are subverting the legitimate goals of the company. 9. 47 (Solving for unknowns; cost-volume-profit and budget analysis [adapted from a problem by David O. Green]. ) a. Year 0Year 1 Sales100,000 X $10$1,000,000$1,362,800*130,000 X ?

Cost of Sales: Material$600,000 X . 5$(300,000)$(468,000)130,000 X $3. 60 Labor$600,000 X . 33333(200,000)(299,000)130,000 X $2. 30 Variable Over- head($600,000 X .16667) – $40,000(60,000)(85,800)130,000 X $0. 66 Fixed Overhead(40,000)(42,000)1. 05 X $40,000 Selling(150,000)(162,000)1. 08 X $150,000 Administrative(100,000)(106,000)1. 06 X $100,000 Operating Profit$150,000$200,000 *The $1,362,800 is found by adding costs to the $200,000 profit. The sales price = $1,362,800/130,000 units = $10. 48308. b. Sales (110,000 units X $10. 48308)$1,153,139

Cost of Sales: Materials (110,000 X $3. 60)(396,000) Labor (110,000 X $2. 30)(253,000) Variable Overhead (110,000 X $. 66)(72,600) Fixed Overhead(42,000) Selling Costs [$150,000 + (. 08/3 X 150,000)](154,000) Administrative Costs(106,000) Operating Profit$129,539 c. Selling costs have a fixed and a variable component. In Year 0: Selling Costs = $150,000 = a + b(100,000 Units) a = $150,000 – b(100,000) From Part a. : Selling Costs = $162,000 = a + b(130,000 Units) substituting from Year 0 $162,000 = $150,000 – b(100,000) + b(130,000) 12,000 = 30,000b b = $. 40 a = $110,000 9. 7 c. continued. Fixed Selling Costs= $110,000 Variable Selling Costs= $. 40 per Unit Variable Manufacturing Cost per Unit= $3. 60 + $2. 30 + $. 66 = $6. 56. Total Fixed Costs: Selling$110,000 Overhead42,000 Administrative106,000 $258,000 Variable Cost per Unit: Manufacturing$6. 56 Selling. 40 $6. 96 Let X = Units that must be sold at $10. 00 each in order that Year 1 pretax income will be $200,000. Total Sales = $10X Total Variable Costs = $6. 96X Total Fixed Costs = $258,000 $10X – $6. 96X – $258,000 =$200,000 $3. 04X =$458,000 X =150,658 Units. 9. 48 (River Beverages; budgeting case. ) . Open the class by asking for an overview of the case. Be sure that the students discuss the various levels of the organization as well as the regional structure of the organization. Draw the flow of the budgeting process on the board. Students usually find it easier to understand the corporate controls if they can examine the process visually. Points to be raised during the budget discussion are: 1. There are actually three sales projections made; one each by the division managers, strategic research team, and district sales managers. 2. Standard costs are used to develop the plant budget. . The purpose of the visit by the regional general managers and the strategic research team appears to be to wave the corporate flag, plus allow local managers to make their cases about budget requests. 4. Distinguish between top down and bottom up budgeting. River Beverages starts in the middle and works upward, then goes back down to the lower levels of the organization. 5. How could the budget formulation process be changed? River Beverages could start at the bottom with the district sales managers. However, initial projections might be set low in order to be easily attainable.

If River Beverages starts higher in the organization, budget forecasts could have a tendency to be unrealistic because higher level managers do not know detailed information at the district level. b. Question, “Should the plants be treated as profit centers or cost centers? ” Main points to be made are: 1. Plant managers directly control costs. They have the ability to decrease spending when sales are down. Also, their actions affect sales. They can affect quality which affects sales in the long run. They can miss or meet sales delivery deadlines which affects sales in both the short run and the long run. . Plant managers do have responsibility for operating efficiency. Ask, “In the long run, is it better to motivate by minimizing costs or maximizing efficiency? ” Minimizing costs could cause plant managers to defer maintenance which could cause an unsafe work place or a higher number of break downs in the future. Sales managers are responsible for revenue centers and plant managers are responsible for profit centers. Ask the students, “What would be the effect of making the sales function a profit center? ” Possible outcomes may be: 1. Sales managers may not be as flexible to changes or rush orders of customers.

Changes and rush orders cost more and would cut into profit margins. 2. Sales managers may begin to focus on margins rather than volumes. Ask the students, “Should the plants be operated as cost centers rather than profit centers? ” If plants were cost centers, possible outcomes might be: 1. Managers would be rewarded for minimizing costs. This could lead to deferred maintenance or capital spending which would not benefit the organization in the long run. 2. Plant managers would be less willing to complete rush jobs because of higher costs. | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | | |This page is intentionally left blank | | |