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Master Budget andResponsibility Accounting
6 - 1©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Chapter 6
Master Budget andResponsibility Accounting
Understand what a master budgetis and explain its benefits.
Learning Objective 1Learning Objective 1
6 - 2©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Understand what a master budgetis and explain its benefits.
Budgeting CycleBudgeting Cycle
Performance planningProviding a frame of reference
6 - 3©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Providing a frame of referenceInvestigating variations
Corrective actionPlanning again
The Master BudgetThe Master Budget
Master BudgetMaster Budget
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Master Budget
OperatingDecisionsOperatingDecisions
FinancialDecisionsFinancialDecisions
Describe the advantagesof budgets.
Learning Objective 2Learning Objective 2
6 - 5©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Describe the advantagesof budgets.
What are the Advantagesof Budgets?
What are the Advantagesof Budgets?
Compels strategic planning#1
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Provides a frameworkfor judging performance#2
What are the Advantagesof Budgets?
What are the Advantagesof Budgets?
Motivates employeesand managers#3
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Promotes coordinationand communication#4
Strategy, Planning, and BudgetsStrategy, Planning, and Budgets
StrategyAnalysis
Long-runPlanning
Long-runBudgets
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StrategyAnalysis
Short-runPlanning
Short-runBudgets
Time Coverage of BudgetsTime Coverage of Budgets
Budgets typically have a set timeperiod (month, quarter, year).
This time period can itself be brokeninto subperiods.
6 - 9©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
This time period can itself be brokeninto subperiods.
The most frequently used budgetperiod is one year.
Businesses are increasingly usingrolling budgets.
Learning Objective 3Learning Objective 3
Prepare the operating budgetand its supporting schedules.
6 - 10©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Prepare the operating budgetand its supporting schedules.
Operating Budget ExampleOperating Budget Example
Hawaii Diving expects 1,100 units to be soldduring the month of August 2004.
Selling price is expected to be $240 per unit.
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Selling price is expected to be $240 per unit.How much are budgeted revenues for the month?
1,100 × $240 = $264,000
Operating Budget ExampleOperating Budget Example
Two pounds of direct materials are budgeted perunit at a cost of $2.00 per pound, $4.00 per unit.Three direct labor-hours are budgeted per unit
at $7.00 per hour, $21.00 per unit.
6 - 12©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Three direct labor-hours are budgeted per unitat $7.00 per hour, $21.00 per unit.
Variable overhead is budgeted at $8.00per direct labor-hour, $24.00 per unit.
Fixed overhead is budgeted at $5,400 per month.
Operating Budget ExampleOperating Budget Example
Variable nonmanufacturing costs areexpected to be $0.14 per revenue dollar.
Fixed nonmanufacturing costs are$7,800 per month.
6 - 13©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Fixed nonmanufacturing costs are$7,800 per month.
Production Budget ExampleProduction Budget Example
Budgeted sales (units)Target ending finished goods inventory (units)+
–
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Target ending finished goods inventory (units)Beginning finished goods inventory (units)
Budgeted production (units)
+–=
Production Budget ExampleProduction Budget Example
Assume that target ending finished goodsinventory is 80 units.
Beginning finished goods inventory is 100 units.
6 - 15©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Beginning finished goods inventory is 100 units.How many units need to be produced?
Production Budget ExampleProduction Budget Example
Hawaii Diving Production Budgetfor the Month of August 2004
Units required for sales 1,100Add ending inv. of finished units 80Total finished units required 1,180Less beg. inv. of finished units 100Units to be produced 1,080
6 - 16©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Units required for sales 1,100Add ending inv. of finished units 80Total finished units required 1,180Less beg. inv. of finished units 100Units to be produced 1,080
Direct Materials Usage BudgetDirect Materials Usage Budget
Each finished unit requires 2 pounds of directmaterials at a cost of $2.00 per pound.
Desired ending inventory equals 15% of thematerials required to produce next month’s sales.
6 - 17©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Desired ending inventory equals 15% of thematerials required to produce next month’s sales.September sales are forecasted to be 1,600 units.
What is the ending inventory in August?480 pounds
Direct Materials Usage BudgetDirect Materials Usage Budget
September sales: 1,600 × 2 pounds per unit= 3,200 pounds
3,200 × 15% = 480 pounds(the desired ending inventory)
6 - 18©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
3,200 × 15% = 480 pounds(the desired ending inventory)
What is the beginning inventory in August?1,100 units × 2 × 15% = 330 units
Direct Materials Usage BudgetDirect Materials Usage Budget
How many pounds are needed to produce1,080 units in August?
1,080 × 2 = 2,160 pounds
6 - 19©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
1,080 × 2 = 2,160 pounds
Material Purchases BudgetMaterial Purchases BudgetHawaii Diving Direct Material Purchases
Budget for the Month of August 2004Units needed for production 2,160Target ending inventory 480Total material to provide for 2,640Less beginning inventory 330Units to be purchased 2,310Unit purchase price $ 2.00Total purchase cost $4,620
6 - 20©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Units needed for production 2,160Target ending inventory 480Total material to provide for 2,640Less beginning inventory 330Units to be purchased 2,310Unit purchase price $ 2.00Total purchase cost $4,620
Direct ManufacturingLabor Budget
Direct ManufacturingLabor Budget
Hawaii Diving Direct Labor Budgetfor the Month of August 2004
Each unit requires 3 direct labor-hoursat $7.00 per hour.
6 - 21©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Hawaii Diving Direct Labor Budgetfor the Month of August 2004
Units produced: 1,080Direct labor-hours/unit 3Total direct labor-hours: 3,240Total budget @ $7.00/hour: $22,680
Manufacturing Overhead BudgetManufacturing Overhead Budget
Variable overhead is budgeted at $8.00per direct labor-hour.
Fixed overhead is budgeted at $5,400 per month.
6 - 22©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Fixed overhead is budgeted at $5,400 per month.
Manufacturing Overhead BudgetManufacturing Overhead Budget
Hawaii Diving Manufacturing OverheadBudget for the Month of August 2004
Variable Overhead:(3,240 × $8.00) $25,920Fixed Overhead 5,400Total $31,320
6 - 23©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Variable Overhead:(3,240 × $8.00) $25,920Fixed Overhead 5,400Total $31,320
Ending Inventory BudgetEnding Inventory Budget
Cost per finished unit:Materials $ 4Labor 21Variable manufacturing overhead 24Fixed manufacturing overhead 5*Total $54
*$5,400 ÷ 1,080 = $5
6 - 24©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost per finished unit:Materials $ 4Labor 21Variable manufacturing overhead 24Fixed manufacturing overhead 5*Total $54
*$5,400 ÷ 1,080 = $5
Ending Inventory BudgetEnding Inventory Budget
What is the cost of the targetending inventory for materials?
480 × $2 = $960
6 - 25©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
480 × $2 = $960What is the cost of the target
finished goods inventory?80 × $54 = $4,320
Cost of Goods Sold BudgetCost of Goods Sold Budget
Direct materials used:2,160 × $2.00 $ 4,320Direct labor 22,680Total overhead 31,320Cost of goods manufactured $58,320
6 - 26©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Direct materials used:2,160 × $2.00 $ 4,320Direct labor 22,680Total overhead 31,320Cost of goods manufactured $58,320
Cost of Goods Sold BudgetCost of Goods Sold Budget
Ending finished goods inventory is $4,320.
Assume that the beginning finishedgoods inventory is $5,400.
6 - 27©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Ending finished goods inventory is $4,320.What is the cost of goods sold?
Cost of Goods Sold BudgetCost of Goods Sold Budget
Beginning finished goods inventory $ 5,400+ Cost of goods manufactured $58,320= Goods available for sale $63,720– Ending finished goods inventory $ 4,320= Cost of goods sold $59,400
6 - 28©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Beginning finished goods inventory $ 5,400+ Cost of goods manufactured $58,320= Goods available for sale $63,720– Ending finished goods inventory $ 4,320= Cost of goods sold $59,400
Nonmanufacturing Costs BudgetNonmanufacturing Costs Budget
Hawaii Diving Other Expenses Budgetfor the Month of August 2004
Variable Expenses:($0.14 × $264,000) $36,960Fixed expenses 7,800Total $44,760
6 - 29©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Variable Expenses:($0.14 × $264,000) $36,960Fixed expenses 7,800Total $44,760
Cost of Goods Sold BudgetCost of Goods Sold Budget
Cost of goods sold are budgeted at $59,400.
Hawaii Diving has budgeted sales of$264,000 for the month of August.
6 - 30©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Cost of goods sold are budgeted at $59,400.What is the budgeted gross margin?
Budgeted Statement of IncomeBudgeted Statement of Income
Hawaii Diving Budgeted Income Statementfor the Month ending August 31, 2004
Sales $264,000 100%Less cost of sales 59,400 22%Gross margin $204,600 78%Other expenses 44,760 17%Operating income $159,840 61%
6 - 31©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Sales $264,000 100%Less cost of sales 59,400 22%Gross margin $204,600 78%Other expenses 44,760 17%Operating income $159,840 61%
Learning Objective 4Learning Objective 4
Use computer-based financialplanning models insensitivity analysis.
6 - 32©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Use computer-based financialplanning models insensitivity analysis.
Financial Planning ModelsFinancial Planning Models
Financial planning models aremathematical representations of theinterrelationships among operating
activities, financial activities, and otherfactors that affect the master budget.
6 - 33©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Financial planning models aremathematical representations of theinterrelationships among operating
activities, financial activities, and otherfactors that affect the master budget.
SoftwareSoftware
Software packages are now readilyavailable to reduce the computationalburden and time required to prepare
budgets.
6 - 34©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Software packages are now readilyavailable to reduce the computationalburden and time required to prepare
budgets.These packages assist managers
to do sensitivity analysis.
Sensitivity AnalysisSensitivity Analysis
Consider Hawaii Diving.What if some parameters in the budget model
were to change?
6 - 35©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
What if some parameters in the budget modelwere to change?
For example, what if the selling price isexpected to be $230 instead of $240?
What are expected revenues?1,100 × $230 = $253,000 instead of $264,000
Sensitivity AnalysisSensitivity Analysis
What if the materials cost is expected to increaseto $2.50 per pound instead of $2.00.
What is the cost of goods sold?
6 - 36©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
What is the cost of goods sold?1,100 × $55 = $60,500 instead of $59,400
Why the increase?Because materials cost per unit become
$5.00 instead of $4.00.
Cash BudgetCash Budget
Hawaii Diving has the followingcollection pattern:
In the month of sale: 50%
6 - 37©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
In the month of sale: 50%In the month following sale: 27%In the second month following sale: 20%Uncollectible: 3%
Cash BudgetCash Budget
Budgeted charge sales are as follows:June $200,000July $250,000August $264,000September $260,000
6 - 38©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
June $200,000July $250,000August $264,000September $260,000
What are the expected cash collections in August?
Cash BudgetCash Budget
Budgeted Cash Receiptsfor the Month Ending August 31, 2004
August sales: $264,000 × 50% $132,000July sales: $250,000 × 27% 67,500June sales: $200,000 × 20% 40,000Total $239,500
6 - 39©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
August sales: $264,000 × 50% $132,000July sales: $250,000 × 27% 67,500June sales: $200,000 × 20% 40,000Total $239,500
Cash BudgetCash Budget
Budgeted Cash Disbursementsfor the Month Ending August 31, 2004
August purchases $ 4,620Direct labor 22,680Total overhead 31,320Other expenses 9,760*
Total $68,380*Other expenses exclude depreciation
6 - 40©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
August purchases $ 4,620Direct labor 22,680Total overhead 31,320Other expenses 9,760*
Total $68,380*Other expenses exclude depreciation
Cash BudgetCash Budget
Cash Budgetfor the Month Ending August 31, 2004
Budgeted receipts $239,500Budgeted disbursements 68,380Net increase in cash $171,120
6 - 41©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Budgeted receipts $239,500Budgeted disbursements 68,380Net increase in cash $171,120
Learning Objective 5Learning Objective 5
Explain kaizen budgetingand how it is used for
cost management.
6 - 42©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Explain kaizen budgetingand how it is used for
cost management.
What is Kaizen?What is Kaizen?
The Japanese use the term “kaizen”for continuous improvement.
Kaizen budgeting is an approach thatexplicitly incorporates continuousimprovement during the budgetperiod into the budget numbers.
6 - 43©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Kaizen budgeting is an approach thatexplicitly incorporates continuousimprovement during the budgetperiod into the budget numbers.
Kaizen BudgetingKaizen Budgeting
It was previously estimated that it shouldtake 3 labor-hours for Hawaii Diving to
manufacture its product.
6 - 44©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
It was previously estimated that it shouldtake 3 labor-hours for Hawaii Diving to
manufacture its product.A kaizen budgeting approach would
incorporate future improvements.
Kaizen BudgetingKaizen Budgeting
Budgeted Hours/ItemJanuary – March 2004 3.00April – June 2004 2.95July – September 2004 2.90October – December 2004 2.85
6 - 45©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Budgeted Hours/ItemJanuary – March 2004 3.00April – June 2004 2.95July – September 2004 2.90October – December 2004 2.85
Learning Objective 6Learning Objective 6
Prepare an activity-basedbudget.
6 - 46©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Prepare an activity-basedbudget.
Activity-Based BudgetingActivity-Based Budgeting
Activity-based costing reports and analyzespast and current costs.
Activity-based budgeting (ABB) focuseson the budgeted cost of activities necessaryto produce and sell products and services.
6 - 47©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Activity-based budgeting (ABB) focuseson the budgeted cost of activities necessaryto produce and sell products and services.
Activity-Based BudgetingActivity-Based Budgeting
Product A Product BUnits produced: 880 200Labor-hours per unit: 3 3Budgeted setup-hours: 5 5Total budgeted machine setup related cost is$25,920 per month.
6 - 48©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Product A Product BUnits produced: 880 200Labor-hours per unit: 3 3Budgeted setup-hours: 5 5Total budgeted machine setup related cost is$25,920 per month.
Activity-Based BudgetingActivity-Based Budgeting
Total budgeted labor-hours are:Product A: 880 × 3 2,640Product B: 200 × 3 600Total 3,240
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Product A: 880 × 3 2,640Product B: 200 × 3 600Total 3,240
What is the allocation rate per labor-hour?$25,920 ÷ 3,240 = $8.00
Activity-Based BudgetingActivity-Based Budgeting
Product A: $8.00 × 2,640 = $21,120Total cost allocated to each product line:
6 - 50©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Product A: $8.00 × 2,640 = $21,120Product B: $8.00 × 600 = $ 4,800
Activity-Based BudgetingActivity-Based Budgeting
$25,920 budgeted machine setup cost÷ 10 budgeted machine setup-hours
= $2,592 allocation rate per machine setup-hour.
Under ABB, the number of setups is the cost driver.
6 - 51©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
$25,920 budgeted machine setup cost÷ 10 budgeted machine setup-hours
= $2,592 allocation rate per machine setup-hour.How much machine setup related costs are
allocated to each product line?
Activity-Based BudgetingActivity-Based Budgeting
Product A Product B$2,592 × 5 $12,960$2,592 × 5 $12,960
6 - 52©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Product A Product B$2,592 × 5 $12,960$2,592 × 5 $12,960
Setup-related cost per unit:Product A: $12,960 ÷ 880 $14.73Product B: $12,960 ÷ 200 $64.80
Learning Objective 7Learning Objective 7
Describe responsibility centersand responsibility accounting.
6 - 53©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Describe responsibility centersand responsibility accounting.
What is a Responsibility Center?What is a Responsibility Center?
It is any part, segment, or subunitof a business that needs control.
6 - 54©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
– production– service
Cost centerCost center
Types of Responsibility CentersTypes of Responsibility Centers
6 - 55©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Investment centerInvestment center
Cost center
Profit centerProfit center
Learning Objective 8Learning Objective 8
Explain how controllabilityrelates to responsibility
accounting.
6 - 56©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
Explain how controllabilityrelates to responsibility
accounting.
What is Controllability?What is Controllability?
It is the degree of influence that a specificmanager has over costs, revenues,
or other items in question.
6 - 57©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
It is the degree of influence that a specificmanager has over costs, revenues,
or other items in question.A controllable cost is any cost that isprimarily subject to the influence of agiven responsibility center manager
for a given time period.
ControllabilityControllability
Responsibility accounting focuses oninformation and knowledge, not control.A responsibility accounting system could
exclude all uncontrollable costs froma manager’s performance report.
6 - 58©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
A responsibility accounting system couldexclude all uncontrollable costs from
a manager’s performance report.In practice, controllability is difficult to pinpoint.
End of Chapter 6
6 - 59©2003 Prentice Hall Business Publishing, Cost Accounting 11/e, Horngren/Datar/Foster
End of Chapter 6