PREPARATION OF

BUDGETS
Edy Sukarno
ILLUSTRATION 1

AB Co. Ltd. is comtemplating to prepare budgets for January, February, and

March. It sells its two products in three sales areas. The company’s balance
sheet for the year just ended is shown in Table 1.

Sales areas X, Y, and Z respectively produce 10 per cent and 70 per cent of
Product A sales and 50 per cent, 30 per cent and 20 per cent of Product B
sales. The selling price for Product A is US$ 10 and for Product B is US$ 14.

Sales are made on 50 per cent cash and 50 per cent credit basis. The credit
sales are collected in the following month.
 TABLE 1. AB Co. Ltd
Balance Sheet, 31 December 20XX
US$ US$

Creditors 12,300
Provision for dividend 3,000
Share capital 2,91,210
Total 3,06,510
Cash 12,000
Debtors 15,000
Stock:*
Raw material (15,750 at US$ 1) 15,750
Finished goods:
Product A (720 at US$ 8) 5,760
Product B (1800 at US$ 10) 18,000 39,510

Plant and Machinery 3,00,000

Less: Accumulated depreciation 60,000 2,40,000

Total 3,06,510

*Finished goods are valued at the cost of direct labour and direct material
Sales for December 20XX were US$ 30,000. The monthly forecast of
sales (units) are shown below:

Units Jan Feb Mar Apr

A 900 1,050 1,200 1,350

B 2,250 2,400 2,550 2,700

The production of both Products A and B uses one common material,

which costs US$ 1 per unit. Two units of material are required to
manufacture one unit of Product A while Product B requires four
units for the same material. Wages are paid at the rate of US$ 6 per
hour during which it can produce one unit of A or B. The AB Co. Ltd.
has a policy of maintaining a basic finished goods inventory equal to
80 per cent of next month’s production needs.
The payments to creditors are made during the month for
the following purchase. Salaries and wages are paid during
the month they accrue. Sales commission is 5 per cent of
sales and is paid during the month earned. An equipment
costing US$ 1,500 will be purchased in February and the
payment will be made in the same month. A minimum
cash balance of US$ 12,000 at the end of each month is
intended to be maintained by the AB Co. Ltd. Money
can be borrowed or repaid in multiples of US$ 3,000.
Interest rate on loans is 6 per cent per year. Loans are
initiated on the first day of month and repaid on the last
day of month. Interest is paid when the principal is
repaid.
The other estimated monthly expenses are:

Salaries US$ 1,500 paid as incurred

Rent US$ 600 paid as incurred

Depreciation US$ 1,800

Miscellaneous 1 % of sales paid as incurred

Sales Budget
Table 2 is contructed to show the sales budget for the AB Co. Ltd. The
sales budget may look like the projections of raw sales data. The sales
area managers will be involved in the preparation of the sales budget.

TABLE 2. AB Co. Ltd.

Sales Budget

Months

Area and Products Jan Feb Mar Total

US$ US$ US$ US$

Sales Area X
Product A 900 1,050 1,200 3,150
Product B 15,750 16,800 17,850 50,400

Total 16,650 17,850 19,050 53,550

Area and Products Jan Feb Mar Total
US$ US$ US$ US$
Sales Area Y
Product A 1,800 2,100 2,400 6,300
Product B 9,450 10,080 10,710 30,240
Total 11,250 12,180 13,110 36,540

Sales Area Z
Product A 6,300 7,350 8,400 22,050
Product B 6,300 6,720 7,140 20,160
Total 12,600 14,070 15,540 42,210

Total of all assets 40,500 44,100 47,700 1,32,300

 PRODUCTION BUDGET
Production Budget is prepared after the sales budget.
It is based on sales forecasts. To prepare the
production budget, the sales forecasts for each
product are combined with information about the
beginning level and the expected level of ending
inventories of the finished products. The units of
budgeted production may be calculated as follows:

Budgeted production units =

Sales estimate + Expected ending inventory –
Beginning inventory
  The production budget is shown in Table 3.

TABLE 3. AB Co. Ltd.

Production Budget (Units)

Months
Jan Feb Mar

Estimated sale of A 900 1,050 1,200

+ Desired ending inventory 840 960 1,080
1,740 2,010 2,280
- Beginning inventory 720 840 960

Units of A to be produced 1,020 1,170 1,320

Estimated sale of B 2,250 2,400 2,550

+ Desired ending inventory 1,920 2,040 2,160
4,170 4,440 4,710
- Beginning inventory 1,800 1,920 2,040

Units of B to be produced 2,370 2,520 2,670

PURCHASING BUDGET
 After having prepared the production budget,
the materials usage and the purchasing budget
can be easily constructed. The material usage
depends upon the level of production and the
levels of beginning inventory and desired
ending inventories. The units of material to be
purchased can be determined as follows:

Purchases (units) =
Budgeted usage + Desired ending inventory
(material) – Beginning inventory (material)
 The construction of the purchased budget is shown in Table 4.
TABLE 4. AB Co. Ltd.
Purchasing Budget

Months
Jan Feb Mar

Material needed to produce A

(1 unit of A x 2 units of mat.) 2,040 2,340 2,640
Material needed to produce B
(1 unit of B x 4 units of mat.) 9,480 10,080 10,680
Total production needs 11,520 12,420 13,320
+ Desired ending balance 17,280 18,630 19,980
Total needs 28,800 31,050 33,300
- Beginning balance 15,750 17,280 18,630

Purchases (Units) 13,050 13,770 14,670

Cost of purchases (US$) 13,050 13,770 14,670
 Labour Budget

 A direct labour budget can also be prepared from

data given in the production budget. The direct
labour hours to be spent depend on the units to be
produced and the labour hours required per unit of
production.
The labour schedule for the AB Co. Ltd. is shown in Table 5.

TABLE 5. AB Co. Ltd.

Labour Schedule

Months
Jan Feb Mar

US$ US$ US$

Units of A to be produced 1,020 1,170 1,320
Units of B to be produced 2,370 2,520 2,670
Total units 3,390 3,690 3,990
Total hours at 1 hr. per unit 3,390 3,690 3,990
Total labour cost US$ 6, per hr 20,340 22,140 23,940
 CASH BUDGET

So far we have illustrated the construction of operating budgets.

The data of the operating budgets can be easily translated into US$
amounts to construct the financial budgets, such as cash budgets,
proforma financial statements, etc. For example, the sales forecasts
in units can be converted into estimated sales revenues. Cost of
production can be calculated from materials schedule and labour
schedule. The unit of materials to be purchased can be converted
into the estimated costs of purchases.
Table 6 shows a cash budget for the AB Co. Ltd.
Main source of the cash receipt sales, while cash
disbursements are for payment to creditors, cash
expenditures, repayment of loans, capital
acquisitions, payment of dividends, etc. Generally,
all firms maintain some minimum cash balance to
ensure liquidity.
 TABLE 6. AB Co. Ltd.
Cash Budget
Months
Jan Feb Mar
US$ US$ US$
Beginning cash balance 12,000 13,080 13,944
Add: Cash collections:
50% of sales 20,250 22,050 23,850
Collections from debtors 15,000 20,250 22,050
Total cash receipts 47,250 55,380 59,844
Less: Cash disbursements
Raw material purchases 12,300 13,050 13,770
Salaries 1,500 1,500 1,500
Wages 20,340 22,140 23,940
Sales commision 2,025 2,205 2,385
Rent 600 600 600
Miscellaneous 405 441 477
Purchase of equipment - 1,500 -
Dividends 3,000 - -
Total cash disbursements 40,170 41,436 42,672
Cash surplus or deficit 7,080 13,944 17,172
Minimum cash balance (ending) 12,000 12,000 12,000
Borrowing (repayment) 6,000 - (3,000)
Interest - - (45)
Cash balance (ending) 13,080 13,944 14,127
 PROFORMA STATEMENTS

 The proforma financial statements can easily be

prepared from the data accumulated in various
operating and financial budgets. The proforma
income statement and balance sheet respectively
are shown in Tables 7 and 8.
 TABLE 7. AB CO. LTD.
PROFORMA INCOME STATEMENT

US$ US$

Sales revenue 1,32,300

Cost of goods sold:
Product A (3,150 at US$ 8) 25,200
Product B (7,200 at US$ 10) 72,000 97,200
Gross profit 35,100
Operating expenses:
Salaries 4,500
Rent 1,800
Sales commission 6,615
Interest expenses 90
Miscellaneous 1,323
Depreciation 5,400 19,728
Net profit 15,372
 TABLE 8. AB Co. Ltd.
Proforma Balance Sheet
US$ US$
Creditors 14,670
Loan 3,000
Interest payable 45
Share capital 2,91,210
Profit 15,372
3,24,297
Cash 14,127
Debtors 23,850
Stock:
Raw material (19,980 at US$ 1) 19,980
Product A (1,080 at US$ 8) 8,640
Product B (2,160 at US$ 10) 21,600 50,220
Plant and machinery 3,01,500
Less: Depreciation 65,400 2,36,100
3,24,297