Budgeting and Standard Cost Accounting

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Chapter 27

• Budgeting and Standard Cost Accounting

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Budgets

• Definition A financial plan for the future.
• Budgets involve all financial areas of business.
• It is just as important to plan future revenues
  as it is to plan future costs and expenses.
• Similarly, it is essential to plan both cash
  receipts and cash payments.

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Standard Cost Accounting

• Definition A system in which manufacturing costs
  are budgeted at the start of a year and then
  compared with actual costs during the year.
• The analysis of variances from standard costs
  allows management to constantly monitor the
  efficiency of the production process.

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Value of Budgeting

• Any type of organizationa business, a school, a
  hospital, or a governmental unitcan benefit from
  budgeting.
• Budgeting allows the organization to set clear
  financial goals.
• Budgeting also provides a basis for judging the
  financial performance of the organization.

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Budgets

• The types of budgets used by businesses vary
  somewhat according to the nature of their
  operations. Common types of budgets are
• Budgets for sales, purchases, operating expenses,
  and cost of goods sold.
• Budgets for cash and capital expenditures.
• Budgets for production, materials, labor,
  overhead, and cost of goods manufactured.

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Budget Period

• Businesses usually budget for the fiscal year.
• However, a years budget is often broken down
  into quarterly or monthly segments.
• This practice makes it possible for management to
  monitor progress during the year and take
  corrective action if there are any problems in
  meeting goals.

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Income Statement Budgets

• Many businesses prepare a series of budgets
  involving revenue, costs, and expenses.
• These individual budgets allow the firm to
  produce a budgeted income statement for the next
  fiscal year.

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Sales Budget

• The first of the income statement budgets to be
  prepared.
• An estimate of the total dollar amount of the
  sales revenue for the next fiscal year.
• To prepare a sales budget, management must
  forecast the number of units of each product that
  will be sold and the selling price.

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Sales Budget

• Tech Cameras recently started operations. It
  makes one type of digital camera. Its sales
  budget for the next fiscal year is as follows.

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Sales Budget

• Sales Budget
• 20X3
• Sales price per unit 1,500
• Projected units to be sold ? 620
• Budgeted sales 930,000

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Production Budget

• An estimate of the number of units to be produced
  in the next fiscal year.
• This budget is determined as follows.

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Production Budget

• Projected units to be sold
• Desired number of units in ending inventory
• Units needed
• ? Projected units in beginning inventory
• Projected production

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Production Budget

• Tech Cameras prepared the following production
  budget for the next fiscal year.

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Production Budget

• Production Budget
• 20X3
• Projected sales 620
• Projected ending inventory 130
• Units needed 750
• Less Beginning inventory 50
• Projected production 700

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Direct Materials Purchases Budget

• Provides an estimate of the dollar amount of the
  direct materials to be purchased in the next
  fiscal year.
• This budget is determined as follows.

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Direct Materials Purchases Budget

• Amount to be used in production
• Amount needed for ending inventory
• Total amount needed
• ? Amount of beginning inventory
• Projected purchases

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Direct Materials Purchases Budget

• Tech Cameras prepared the following direct
  materials purchases budget for the next fiscal
  year.

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Direct Materials Purchases Budget

• Direct Materials Purchases Budget
• 20X3
• To be used in production 231,000
• Needed for ending inventory 16,000
• Total needed 247,000
• Less Beginning inventory 14,000
• Projected purchases 233,000

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Direct Labor Cost Budget

• Provides an estimate of the cost of the direct
  labor that must be used in the next fiscal year.
• Can be based on an estimated direct labor cost
  for each unit or an estimated number of direct
  labor hours for each unit.

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Direct Labor Cost Budget

• Tech Cameras estimates its direct labor cost at
  350 per unit. Thus, its direct labor cost budget
  for the next fiscal year is as follows.

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Direct Labor Cost Budget

• Direct Labor Cost Budget
• 20X3
• Estimated direct labor cost per unit 350
• Projected production (units) ? 700
• Projected direct labor cost 245,000

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Factory Overhead Budget

• Provides an estimate of the factory overhead cost
  that will be incurred in the next fiscal year.
• Can be based on a predetermined overhead rate,
  which is usually a percentage of the estimated
  direct labor cost.
• Can also be prepared by estimating the individual
  overhead items and then adding the projected
  amounts.

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Factory Overhead Budget

• Tech Cameras estimates its factory overhead at
  80 of the projected direct labor cost.

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Factory Overhead Budget

• Factory Overhead Budget
• 20X3
• Projected direct labor cost 245,000
• Predetermined overhead rate ? .80
• Projected factory overhead 196,000

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Cost of Goods Manufactured Budget

• Brings together the projected amounts for direct
  materials, direct labor, and factory overhead
  from the other manufacturing budgets.
• The three amounts are added to find the estimated
  cost of goods manufactured for the next fiscal
  year.

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Cost of Goods Manufactured Budget

• Tech Cameras has an estimated cost of goods
  manufactured of 672,000 for the next fiscal year.

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Cost of Goods Manufactured Budget

• Cost of Goods Manufactured Budget
• 20X3
• Direct materials to be used in production 231,000
  
• Direct labor 245,000
• Factory overhead 196,000
• Budgeted cost of goods manufactured 672,000

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Cost of Goods Sold Budget

• Tech Cameras has an estimated unit cost of 960
  for the cameras to be produced in 20X3.
• The unit cost is found by dividing the budgeted
  cost of goods manufactured by the number of units
  to be produced in 20X3 (672,000 ? 700 units).
• The budgeted cost of goods sold is calculated by
  multiplying the estimated unit cost (960) by the
  projected units to be sold (620).

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Cost of Goods Sold Budget

• Tech Cameras has a budgeted cost of goods sold of
  595,200 for the next fiscal year.

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Cost of Goods Sold Budget

• Cost of Goods Sold Budget
• 20X3
• Cost per unit 960
• Projected units to be sold ? 620
• Budgeted cost of goods sold 595,200

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Operating Expenses Budget

• Tech Cameras estimated that in 20X3 its selling
  expenses will be 165 per unit and its general
  expenses will be 110 per unit.
• To find its budgeted operating expenses for 20X3,
  Tech Cameras must multiply the total of the
  selling and general expenses for each unit (275)
  by the projected units to be sold (620).

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Operating Expenses Budget

• Operating Expenses Budget
• 20X3
• Expenses per unit
• Selling expenses 165
• General expenses 110
• Total operating expenses per unit 275
• Projected sales (units) ? 620
• Budgeted operating expenses 170,500

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Budgeted Income Statement

• Ties together all the budgeted amounts for
  revenue, costs, and expenses calculated
  previously.

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Tech CamerasBudgeted Income StatementFor Year
Ending December 31, 20X3

• Sales 930,000
• Cost of goods sold 595,200
• Gross profit 334,800
• Operating expenses 170,500
• Net income 164,300

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Budgeted Income Statement

• Shows the operating results that management can
  expect for the upcoming fiscal year.
• If these results are not satisfactory, management
  can revise its plans.
• It may want to raise selling prices or cut
  expenses.

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Balance Sheet Budgets

• The budgeted income statement and its supporting
  projections are one part of a firms budgeting
  activities.
• Another part of budgeting activities is the
  preparation of balance sheet budgets.
• The most widely used balance sheet budgets are
  the cash budget and the capital expenditures
  budget.

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Cash Budget

• Provides a month-by-month breakdown of expected
  cash receipts and payments during the fiscal
  year.
• An important tool for managing short-term cash
  needs.

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Capital Expenditures Budget

• Shows planned outlays for plant assets over a
  period of several years, such as five years.
• Provides a long-term plan for acquiring the plant
  assets needed for a firms operations.

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Flexible Budget

• Sometimes changes in the level of production
  occur after the budget period begins.
• To deal with this situation in advance, many
  firms prepare a flexible budget.

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Flexible Budget

• The flexible budget provides estimates for
  several levels of production.
• Example
• A flexible budget might include estimates for
  8,000 units, 9,000 units, and 10,000 units.

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Variable and Fixed Costs

• To prepare a flexible budget, it is necessary to
  classify costs as variable or fixed.

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Variable Cost

• Definition Cost that changes in response to a
  change in the level of production.
• Examples
• direct materials and direct labor
• Variable costs vary in total with changes in
  production level, but they remain constant on a
  per-unit basis.

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Variable CostExample

• The Wilson Company has a cost of 52 per unit for
  direct materials.
• If the firm produces 4,000 units, the total cost
  of direct materials is 208,000 (52 ? 4,000).
• If the firm produces 5,000 units, the total cost
  of direct materials is 260,000 (52 ? 5,000).

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Fixed Cost

• Definition Cost that does not change if the
  level of production changes.
• Example
• Rent and depreciation
• Fixed costs remain constant in total no matter
  what the production level, but they vary on a
  per-unit basis.

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Fixed CostExample

• The Wilson Company has total fixed factory
  overhead of 120,000.
• If the firm produces 4,000 units, the per-unit
  cost of fixed factory overhead is 30 (120,000
  ? 4,000).
• If the firm produces 5,000 units, the per-unit
  cost of fixed factory overhead is 24 (120,000
  ? 5,000).

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Flexible Budget for Wilson CompanyCost of Goods
Manufactured20X1

• 
  4,000 5,000
• 
  Units Units
• Direct materials 52 per unit 208,000 260,000
• Direct labor 64 per unit 256,000 320,000
• Variable overhead 40 per unit 160,000 200,000
• Fixed overhead 120,000 120,000
• Total cost 744,000 900,000
• Per-unit cost 186.00 180.00

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Standard Cost Accounting

• Can be used with either a job order system or a
  process system.
• Budgeted (standard) costs are assigned to all
  products in advance.
• When the products are manufactured, the actual
  and standard costs are compared.

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Favorable and Unfavorable Variances

• Any difference between an actual cost and a
  budgeted (standard) cost is called a variance.
• All variances must be analyzed.
• If an actual cost exceeds a standard cost, the
  difference is an unfavorable variance.
• If an actual cost is less than a standard cost,
  the difference is a favorable variance.

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Variance Analysis

• Suppose the Wilson Companys standard for direct
  materials is one set of materials at 52 for each
  unit produced.
• In 20X1, the firm produced 5,000 units and used
  5,300 sets of materials at a price of 50 per
  set.

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Variance Analysis

• The quantity of the materials used was 300 sets
  above the standard.
• The price of the materials used was 2 per unit
  below the standard.

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Calculating the Direct Materials Variance

• The Wilson Company had an unfavorable direct
  materials variance of 5,000.
• Actual cost 5,300 sets at 50 each 265,000
• Standard cost 5,000 sets at 52 each 260,000
• Direct materials varianceunfavorable 5,000

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Calculating a Quantity Variance

• The Wilson Companys direct materials variance is
  made up of a quantity variance and a price
  variance.
• There is an unfavorable quantity variance of
  15,600 for direct materials.

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Calculating a Quantity Variance

• Actual quantity 5,300
• Standard quantity ? 5,000
• Excess quantity 300
• Standard Cost ? Excess Quantity Quantity
  Variance
• 52 ? 300 15,600

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Calculating a Price Variance

• Standard price 52
• Actual price ? 50
• Savings per unit 2
• Savings per unit ? Actual Quantity Price
  Variance
• 2 ? 5,300 10,600

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Summary of Direct Materials Variances

• Unfavorable quantity variance 15,600
• Favorable price variance ? 10,600
• Unfavorable variance 5,000

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Recording the Variances

• The total standard cost for materials is debited
  to Work-in-Process Inventory. The total actual
  cost is credited to Raw Materials Inventory.
• The variances are recorded in separate accounts
  for quantity and price variances.

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Recording the Variances

• 20X1
• Dec. 31 Work-in-Process Inventory 260,000
• Direct Materials Quantity
• Variance 15,600
• Direct Materials Price Variance 10,600
• Raw Materials Inventory 265,000

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Variance Accounts

• Temporary owners equity accounts.
• Unfavorable variances are recorded as debits
  because they decrease owners equity.
• Favorable variances are recorded as credits
  because they increase owners equity.
• The variance accounts are closed into Cost of
  Goods Sold at the end of the accounting period.