Production
Budgets are used in Management Accounting to estimate the number of units a company needs to produce in a given period to meet
sales demand while maintaining desired inventory levels.
🎯 Example: Production Budget for XYZ Co.
Product: Wooden Chairs
Period: Quarter 1 (January–March)
|
Month |
Budgeted
Sales (units) |
Desired
Ending Inventory (units) |
Beginning
Inventory (units) |
Required
Production (units) |
|
January |
5,000 |
1,000 |
800 |
5,200 |
|
February |
4,500 |
900 |
1,000 |
4,400 |
|
March |
4,800 |
1,200 |
900 |
5,100 |
|
Total |
14,300 |
14,700 |
📌 How it's calculated:
Formula:
Required Production = Budgeted Sales + Desired Ending
Inventory − Beginning Inventory
Example (January):
5,000 + 1,000 − 800 = 5,200 units
Direct Materials Budget, which is typically prepared after
the Production Budget. This budget helps a company estimate
the quantity and cost of raw materials needed for production during a specific
period.
🪵 Direct Materials Budget for XYZ Co. (Wooden Chairs)
Material: Wood planks
Period: Quarter 1 (January–March)
Requirement: Each chair requires 3 units of wood
|
Month |
Units to
Produce |
DM Needed per
Unit |
Total DM Needed |
Desired Ending
Inventory |
Beginning
Inventory |
DM to Purchase |
Cost per Unit
($) |
Total Cost ($) |
|
January |
5,200 |
3 |
15,600 |
3,000 |
2,000 |
16,600 |
2.00 |
33,200 |
|
February |
4,400 |
3 |
13,200 |
2,700 |
3,000 |
12,900 |
2.00 |
25,800 |
|
March |
5,100 |
3 |
15,300 |
3,300 |
2,700 |
15,900 |
2.00 |
31,800 |
|
Total |
— |
— |
44,100 |
— |
— |
45,400 |
— |
90,800 |
📌 Key Formulas:
1. Total
DM Needed = Units to Produce × DM per Unit
2. DM
to Purchase = Total DM Needed + Desired Ending Inventory − Beginning
Inventory
3. Total
Cost = DM to Purchase × Cost per Unit
Direct Labor Budget, which is used to
estimate the labor hours and costs required to meet production needs.
🧑🏭 Direct Labor Budget for XYZ Co. (Wooden Chairs)
Period: Quarter 1 (January–March)
Labor Requirement: Each chair requires 1.5 direct labor hours
Wage Rate: $15 per hour
|
Month |
Units
to Produce |
DL
Hours per Unit |
Total
DL Hours |
Wage
Rate ($) |
Total
DL Cost ($) |
|
January |
5,200 |
1.5 |
7,800 |
15 |
117,000 |
|
February |
4,400 |
1.5 |
6,600 |
15 |
99,000 |
|
March |
5,100 |
1.5 |
7,650 |
15 |
114,750 |
|
Total |
— |
— |
22,050 |
— |
$330,750 |
📌 Key Formulas:
- Total DL Hours
= Units to Produce × Labor Hours per Unit
- Total DL Cost
= Total DL Hours × Hourly Wage Rate
Manufacturing Overhead Budget, which estimates all indirect production costs that aren't
direct materials or direct labor.
🏭 Manufacturing Overhead Budget for XYZ Co. (Wooden Chairs)
Period: Quarter 1 (January–March)
Let’s assume the following:
- Variable Overhead Rate: $4 per direct labor hour
- Fixed Overhead per Month: $20,000
- Total Fixed Overhead per Quarter: $60,000
- Direct Labor Hours from DL Budget: Used to calculate variable overhead
|
Month |
DL
Hours Required |
Variable
OH Rate ($) |
Variable
OH ($) |
Fixed
OH ($) |
Total
OH ($) |
|
January |
7,800 |
4 |
31,200 |
20,000 |
51,200 |
|
February |
6,600 |
4 |
26,400 |
20,000 |
46,400 |
|
March |
7,650 |
4 |
30,600 |
20,000 |
50,600 |
|
Total |
22,050 |
— |
88,200 |
60,000 |
148,200 |
📌 Key Formulas:
- Variable Overhead
= Direct Labor Hours × Variable Overhead Rate
- Total Overhead
= Variable Overhead + Fixed Overhead
Ending Finished Goods Inventory
Budget, which estimates the cost of unsold
completed units at the end of a period. It’s important for preparing the budgeted
balance sheet and calculating cost of goods sold (COGS).
📦 Ending Finished Goods Inventory Budget for XYZ Co. (Wooden
Chairs)
Period: March (End of Quarter 1)
Assumptions:
- Ending Inventory (Units): 1,200 chairs
- Direct Materials Cost per Unit: $6.00
- Direct Labor Cost per Unit: $22.50
- Variable Manufacturing Overhead per Unit: $6.00
- Fixed Manufacturing Overhead per Unit: $4.00
- Total Production Cost per Unit = $38.50
|
Description |
Amount
($) |
|
Direct Materials (3 units × $2) |
6.00 |
|
Direct Labor (1.5 hrs × $15) |
22.50 |
|
Variable Manufacturing Overhead |
6.00 |
|
Fixed Manufacturing Overhead |
4.00 |
|
Total Cost per Unit |
38.50 |
|
Ending Inventory (Units) |
1,200 |
|
Ending Finished Goods Inventory |
$46,200 |
📌 Key Formula:
Ending Inventory Value = Ending Inventory (units) × Cost per Unit
Selling and Administrative (S&A)
Expense Budget, which forecasts all
non-manufacturing expenses associated with running the business — like
marketing, salaries, and office supplies.
🧾
Selling & Administrative Expense Budget for XYZ Co.
Period: Quarter 1 (January–March)
Assumptions:
- Variable S&A Expense: $3 per unit sold
- Fixed S&A Expenses per Month: $25,000
|
Month |
Units
Sold |
Variable
S&A ($3/unit) |
Fixed
S&A |
Total
S&A Expenses |
|
January |
5,000 |
15,000 |
25,000 |
40,000 |
|
February |
4,500 |
13,500 |
25,000 |
38,500 |
|
March |
4,800 |
14,400 |
25,000 |
39,400 |
|
Total |
14,300 |
42,900 |
75,000 |
117,900 |
📌 Key Formulas:
- Variable S&A Expense = Units Sold × Variable Expense per Unit
- Total S&A Expenses = Variable S&A + Fixed S&A
🎓 Cash Budget in Management Accounting
📘 1. Introduction
"Cash is the lifeblood of a business. A company can be profitable on paper and still fail due to poor cash management."
-
Definition: A cash budget is a financial plan that estimates cash inflows and outflows over a specific period.
-
Purpose: To ensure that a business has enough cash to meet its obligations and to avoid cash shortages or idle cash.
📊 2. Objectives of a Cash Budget
-
Forecast cash surpluses and deficits
-
Plan for short-term borrowing or investment
-
Assist in decision-making and financial control
-
Coordinate receipts and payments
🧾 3. Components of a Cash Budget
| Component | Explanation |
|---|---|
| Cash Inflows | Cash sales, collections from debtors, loan receipts, asset sales |
| Cash Outflows | Payments to suppliers, wages, rent, utilities, loan repayments |
| Opening Cash Balance | Cash available at the beginning of the period |
| Closing Cash Balance | Ending cash = Opening cash + Inflows – Outflows |
📅 4. Time Frame
-
Can be monthly, weekly, or quarterly depending on the nature of the business.
-
Shorter periods are common in cash-sensitive businesses.
🧮 5. Format of a Simple Monthly Cash Budget
| Particulars | January ($) |
|---|---|
| Opening Cash Balance | 10,000 |
| Add: Cash Inflows | |
| Cash Sales | 5,000 |
| Collections from Debtors | 7,000 |
| Total Inflows | 12,000 |
| Less: Cash Outflows | |
| Purchases | 6,000 |
| Wages | 3,000 |
| Rent | 1,500 |
| Total Outflows | 10,500 |
| Closing Cash Balance | 11,500 |
🧠 6. Benefits of Cash Budgeting
-
Prevents liquidity crises
-
Facilitates better borrowing decisions
-
Allows proactive management
-
Encourages discipline in expenditure
⚠️ 7. Limitations
-
Based on estimates, hence prone to inaccuracy
-
Doesn’t account for non-cash items (like depreciation)
-
Time-consuming for businesses with many small transactions
🧑🏫 8. Wrap-Up & Takeaway
"A well-prepared cash budget doesn’t just help a business survive—it helps it thrive by giving leaders clarity and control over their most liquid asset."
Part II
🎓 Cash Budget in Management Accounting
📘 1. Introduction
"Profit is not the same as cash. A business can fail due to poor cash flow despite showing profits on the income statement."
-
Definition: A cash budget is a financial plan that estimates the cash inflows and outflows over a specific future period.
-
Purpose: To ensure the business can meet its obligations, plan for financing needs, and avoid both cash shortages and idle funds.
📊 2. Objectives of a Cash Budget
-
Forecast cash shortages or surpluses
-
Guide decisions on financing or investments
-
Assist in timing expenditures
-
Enhance short-term financial planning
🧩 3. Components of a Cash Budget
🔹 1. Receipts Section
-
Lists cash inflows:
-
Cash sales
-
Collections from customers
-
Other income (e.g., interest, asset sales)
-
🔹 2. Disbursements Section
-
Lists cash payments:
-
Raw materials
-
Wages & salaries
-
Rent, utilities, taxes
-
Loan repayments, dividends
-
🔹 3. Cash Excess or Deficiency Section
-
Compares total inflows vs. total outflows
-
Determines if there is a surplus or shortage of cash
🔹 4. Financing Section
-
Plans for borrowing, interest, or repayments
-
Ensures a minimum cash balance is maintained
🧾 4. Basic Example: One-Month Cash Budget
| Particulars | January ($) |
|---|---|
| Opening Cash Balance | 10,000 |
| Receipts Section | |
| Cash Sales | 5,000 |
| Collections from Debtors | 7,000 |
| Total Receipts | 12,000 |
| Disbursements Section | |
| Purchases | 6,000 |
| Wages | 3,000 |
| Rent | 1,500 |
| Utilities | 500 |
| Total Disbursements | 11,000 |
| Cash Excess/(Deficiency) | 1,000 |
| Closing Cash Before Finance | 11,000 |
| Financing Section | No borrowing needed |
| Closing Cash Balance | 11,000 |
🔁 5. Advanced Example: Quarterly Cash Budget with Financing
🧮 Assumptions:
-
Minimum desired cash balance: $5,000
-
Borrowing available in multiples of $1,000
-
Interest: 1% monthly (only applied on borrowed amount)
| Particulars | Jan ($) | Feb ($) | Mar ($) |
|---|---|---|---|
| Opening Cash Balance | 3,000 | 4,200 | 5,000 |
| Receipts | |||
| Collections | 6,000 | 7,000 | 8,000 |
| Total Receipts | 6,000 | 7,000 | 8,000 |
| Disbursements | |||
| Purchases | 3,500 | 4,200 | 4,500 |
| Wages | 1,800 | 1,900 | 2,000 |
| Rent & Utilities | 1,500 | 1,600 | 1,700 |
| Total Disbursements | 6,800 | 7,700 | 8,200 |
| Cash Excess/(Deficiency) | (800) | (700) | (200) |
| Financing Activities | 2,000 Borrowed | Interest 20 | Repay 1,000 |
| Ending Cash Balance | 4,200 | 5,000 | 5,000 |
🧠 6. Tips
-
Use real-world scenarios (e.g., retail store with seasonal sales).
-
Students should build their own monthly cash budget from scratch.
-
Introduce Excel-based modeling to simulate changes in cash flow.
-
Highlight the importance of minimum cash balances and short-term borrowing.
✅ 7. Summary
"A cash budget gives you the roadmap to financial control. It’s not just about knowing where your money goes — it’s about steering your business with foresight."
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