Cash Budgeting

Accounting and Financial Management

Chapter 6
What is a budget?

An agreed plan of action for a period of

time
A financial plan shown in monetary
terms
Sets out financial targets for a business
Why use a budget?
 To plan and allocate resources
 To control income and expenditure
 To forecast outcomes
 To set targets
 To motivate staff
 To define levels of authority
 To monitor performance against it
Cash budget
It is essential that a business prepares a cash budget for
the financial period.
The cash budget must show all the forecast cash
inflows and cash outflows for the period.
The cash budget will show whether the business
expects to have a cash surplus or a cash shortage for
the financial period.
Typical cash inflows

Cash sales
Payments from debtors
Proceeds from sale of fixed assets
Tax refunds
Rent received
Commission received
Typical cash outflows
 Wages and salaries
 Cash purchases
 Payments to creditors
 Purchase of fixed assets
 Payment of rent
 Payment of insurances
 Cash drawings by the owner
Layout of a cash budget
Months
1 2 3
Balance at start 600 1000 1600
(+) Receipts
Cash sales 900 1200 1400
Debtors 500 600 700
2000 2800 3700
(-) Payments
Creditors 400 500 800
Wages 600 700 700
1000 1200 1500
= Balance at end 1000 1600 2200
Timing differences for sales and
purchases
Adjustments will have to be made for the timing
differences between the payment of creditors and the
receipts from debtors.
In a real situation, a sale will be made but the money
may not be received until the next month. A purchase
of materials will take place but no payment may be
required for two months.
Cash received and cash paid must be recorded in the
cash budget in the month it is received or paid.
Budgeting Example
 Royal Company is preparing budgets for the
quarter ending June 30th.
 Budgeted sales for the next five months are:
 April 20,000 units
 May 50,000 units
 June 30,000 units
 July 25,000 units
 August 15,000 units
 The selling price is $10 per unit.
The Sales Budget
The individual months of April, May, and June are
summed to obtain the total budgeted sales in units
and dollars for the quarter ended June 30 th
Expected Cash Collections
• All sales are on account.
• Royal’s collection pattern is:
 70% collected in the month of sale,
 25% collected in the month following sale,
 5% uncollectible.
• In April, the March 31st accounts receivable
balance of $30,000 will be collected in full.
Expected Cash Collections
Expected Cash Collections

From the Sales Budget for April.

Expected Cash Collections

From the Sales Budget for May.

Quick Check 
What will be the total cash collections for the
quarter?
a. $700,000
b. $220,000
c. $190,000
d. $905,000
Quick Check 
What will be the total cash collections for
the quarter?
a. $700,000
b. $220,000
c. $190,000
d. $905,000
Expected Cash Collections
The Direct Materials Budget
• At Royal Company, five pounds of material are
required per unit of product.
• Management wants materials on hand at the
end of each month equal to 10% of the
following month’s production.
• On March 31, 13,000 pounds of material are
on hand. Material cost is $0.40 per pound.

Let’s prepare the direct materials budget.

The Direct Materials Budget

From production budget.

The Direct Materials Budget
The Direct Materials Budget

March 31 inventory.

10% of following month’s Calculate the materials to

production needs. be purchased in May.
Quick Check 
How
How much
much materials
materials should
should be
be purchased
purchased in
in
May?
May?
a.
a. 221,500
221,500 pounds
pounds
b.
b. 240,000
240,000 pounds
pounds
c.
c. 230,000
230,000 pounds
pounds
d.
d. 211,500
211,500 pounds
pounds
Quick Check 
How
How much
much materials
materials should
should be
be purchased
purchased in
in
May?
May?
a.
a. 221,500
221,500 pounds
pounds
b.
b. 240,000
240,000 pounds
pounds
c.
c. 230,000
230,000 pounds
pounds
d.
d. 211,500
211,500 pounds
pounds
The Direct Materials Budget
The Direct Materials Budget

Assumed ending inventory.

Expected Cash Disbursement for Materials
• Royal pays $0.40 per pound for its materials.
• One-half of a month’s purchases is paid for in
the month of purchase; the other half is paid in
the following month.
• The March 31 accounts payable balance is
$12,000.

Let’s calculate expected cash disbursements.

Expected Cash Disbursement for Materials
Expected Cash Disbursement for Materials

Compute the expected cash

disbursements for materials
for the quarter.

140,000 lbs. × $0.40/lb. = $56,000

Quick Check 
What are the total cash disbursements for the
quarter?
a. $185,000
b. $ 68,000
c. $ 56,000
d. $201,400
Quick Check 
What are the total cash disbursements for
the quarter?
a. $185,000
b. $ 68,000
c. $ 56,000
d. $201,400
Expected Cash Disbursement for Materials
The Direct Labor Budget
• At Royal, each unit of product requires 0.05 hours (3
minutes) of direct labor.
• The Company has a “no layoff” policy so all employees will
be paid for 40 hours of work each week.
• For purposes of our illustration assume that Royal has a “no
layoff” policy, workers are paid at the rate of $10 per hour
regardless of the hours worked.
• For the next three months, the direct labor workforce will be
paid for a minimum of 1,500 hours per month.
Let’s prepare the direct labor budget.
The Direct Labor Budget

From production budget.

The Direct Labor Budget
The Direct Labor Budget

Greater
Greater of
of labor
labor hours
hours required
required
or
or labor
labor hours
hours guaranteed.
guaranteed.
The Direct Labor Budget
Quick Check 
What would be the total direct labor cost for
the quarter if the company follows its no lay-
off policy, but pays $15 (time-and-a-half) for
every hour worked in excess of 1,500 hours
in a month?
a. $79,500
b. $64,500
c. $61,000
d. $57,000
Quick Check 
What would be the total direct labor cost for
the quarter if the company follows its no lay-
off policy, but pays $15 (time-and-a-half) for
every hour worked in excess April ofMay
1,500June
hoursQuarter
Labor hours required 1,300 2,300 1,450
in a month?Regular hours paid 1,500 1,500 1,500 4,500
a. $79,500 Overtime hours paid - 800 - 800

b. $64,500 Total regular hours 4,500 $10 $ 45,000

Total overtime hours 800 $15 $ 12,000
c. $61,000 Total pay $ 57,000

d. $57,000
Manufacturing Overhead Budget
• At Royal, manufacturing overhead is applied to
units of product on the basis of direct labor hours.
• The variable manufacturing overhead rate is $20
per direct labor hour.
• Fixed manufacturing overhead is $50,000 per
month, which includes $20,000 of noncash costs
(primarily depreciation of plant assets).

Let’s prepare the manufacturing overhead budget.

Manufacturing Overhead Budget

Direct Labor Budget.

Manufacturing Overhead Budget

Depreciation
Depreciation is
is aa noncash
noncash charge.
charge.
Selling and Administrative Expense Budget
• At Royal, the selling and administrative expense budget is
divided into variable and fixed components.
• The variable selling and administrative expenses are $0.50
per unit sold.
• Fixed selling and administrative expenses are $70,000 per
month.
• The fixed selling and administrative expenses include
$10,000 in costs – primarily depreciation – that are not cash
outflows of the current month.

Let’s prepare the company’s selling and administrative

expense budget.
Selling and Administrative Expense Budget

Calculate the selling and administrative

cash expenses for the quarter.
Quick Check 
What are the total cash disbursements for
selling and administrative expenses for the
quarter?
a. $180,000
b. $230,000
c. $110,000
d. $ 70,000
Quick Check 
What are the total cash disbursements for
selling and administrative expenses for the
quarter?
a. $180,000
b. $230,000
c. $110,000
d. $ 70,000
Selling Administrative Expense Budget
Format of the Cash Budget
The cash budget is divided into four sections:
1. Cash receipts section lists all cash inflows excluding
cash received from financing;
2. Cash disbursements section consists of all cash
payments excluding repayments of principal and interest;
3. Cash excess or deficiency section determines if the
company will need to borrow money or if it will be able to
repay funds previously borrowed; and
4. Financing section details the borrowings and repayments
projected to take place during the budget period.
The Cash Budget
Assume the following information for Royal:
 Maintains a 16% open line of credit for $75,000
 Maintains a minimum cash balance of $30,000
 Borrows on the first day of the month and repays
loans on the last day of the month
 Pays a cash dividend of $49,000 in April
 Purchases $143,700 of equipment in May and
$48,300 in June (both purchases paid in cash)
 Has an April 1 cash balance of $40,000
The Cash Budget

Schedule
Schedule of
of Expected
Expected
Cash
Cash Collections.
Collections.
The Cash Budget

Schedule of Expected
Cash Disbursements.
Direct Labor
Budget.

Manufacturing
Overhead Budget.

Selling and Administrative

Expense Budget.
The Cash Budget

Because Royal maintains

a cash balance of $30,000,
the company must borrow
$50,000 on its line-of-credit.
The Cash Budget

Because Royal maintains

a cash balance of $30,000,
the company must borrow
$50,000 on its line-of-credit.

Ending cash balance for April

is the beginning May balance.
The Cash Budget
Quick Check 
What is the excess (deficiency) of cash
available over disbursements for June?
a. $ 85,000
b. $(10,000)
c. $ 75,000
d. $ 95,000
Quick Check 
What is the excess (deficiency) of cash
available over disbursements for June?
a. $ 85,000
b. $(10,000)
c. $ 75,000
d. $ 95,000
The Cash Budget

$50,000 × 16% × 3/12 = $2,000

Borrowings on April 1 and
repayment on June 30.