Introduction to Budgeting Management Accounting Systems Cost Accounting

Introduction to Budgeting

Management Accounting Systems Cost Accounting Systems Budgeting Systems Variance Analysis Transfer Pricing Performance Measurement Systems

Agenda • Introduction To Budgeting • Budgeting Example: Ross Jewelers • Takeaway

Motivation for Budgeting • Costs are driven by Resources • Resources are used by Products • First half of this course – Understand how Resource Costs map into Product Costs • Organizations need to compute Product Costs in advance – Planning and pricing cannot wait till actual costs are realized – Resource acquisition decisions must also be made in advance

Budgeting • Budgeting: – Process of developing a forecast of business activities in future periods • Budgets: – Result from the budgeting process – Expressed in financial measures (sales, expenses, income) – Primary uses of budgets: • Planning (e. g. , resource acquisition decisions) • Performance measurement: Actual results are compared to budget

The Budgeting Process • Run the production or the business model in reverse – Forecast sales – Forecast production volume – Forecast various resource commitments and purchases

Budgeting Example Ross Jewelers currently has 10 rings in inventory – Forecast sales for next month is 20 rings – Production target is set for 15 rings (5 rings safety stock) – Producing this volume requires committing to $300 in factory resources – In addition, producing each ring is forecast to • Require $50 in raw material • Require $10 in labor – Budgeted Product Cost = [$300 + ($50 + $10) x 15] ÷ 15 = $80 per ring

Budgeting Challenges • Key challenge: – Information that is important for developing budgets is spread throughout the organization. • E. g. , managers of foreign divisions have superior knowledge about local market trends. → Top management can’t prepare budgets by themselves. – What is the best way to collect all the information? • Which employees should make forecasts? • Are employees going to report their “true” forecasts?

Takeaway • The budgeting process runs the business model in reverse: – Forecast: Sales Production Volume Input Resources • Budgets typically have a dual role: – Planning – Performance evaluation • Key challenge: – Information is spread throughout the organization