OPERATING BUDGETS (manufacturing) FNSACC503A Manage Budgets and - PowerPoint PPT Presentation

Week 6 – Chapter 5 OPERATING BUDGETS (manufacturing) FNSACC503A Manage Budgets and Forecasts

By the end of this lesson, you will be able to…

1. Give some examples of manufacturing organisations in Australia. 2.1 Explain some cost classification concepts relevant to manufacturing organisations. 2.2 Describe the manufacturing process . 3. Prepare all budgets for a manufacturing organisation (sales, production, direct materials, direct labour, factory overhead, ending inventory, COGS and operating expenses budgets). 4. Prepare a budgeted income statement , cash budget and budgeted balance sheet for a manufacturing organisation.

MASTER BUDGETS ( chapter 1 : budgeting fundam entals) Budget income statement MERCHANDI SI NG PROFESSI ONAL SERVI CES* MANUFACTURI NG Budget incom e statem ent Sales Fees income Sales Professional and support Purchases > > COGS Production + Ending Inventories labour costs e.g. dentist + dental * direct materials (usage + purchases) assistant * direct labour * factory overhead > > COGS Marketing expenses Marketing expenses Marketing expenses Admin. expenses Admin. expenses Admin. expenses Financial expenses Financial expenses Financial expenses Cash budget Capital expenditure budget Budgeted balance sheet * sells expertise and knowledge

1. Examples of manufacturing companies in Australia Company This company manufactures CSR Aluminium and building products Tontine Group (part of Pacific Brands) Pillows Bristol Paints Decorating supplies Malvern Star Bicycles

2. Manufacturing Organisations KEY CONCEPTS Cost classification 1. Product versus Period costs 1. Direct versus Indirect costs 2. The manufacturing process 2. Types of inventories 3. Finished goods 1. WIP 2. Materials 3.

Cost Classification (PRODUCT vs. PERIOD costs)  Product costs are costs of converting raw materials into a finished product e.g. packaging boxes MANUFACTURING or PRODUCT costs include: (1) Direct materials e.g. cardboard (2) Direct labour (3) Factory overhead

Cost Classification (PRODUCT vs. PERIOD costs) Period costs are all other costs associated with the business (i.e. expired costs). 1. Marketing expenses 2. Admin. expenses 3. Financial expenses

The Manufacturing Process Is about converting raw materials into finished goods with the use of direct labour and factory overhead .

The Manufacturing Process

The Manufacturing Process MATERIALS WORK IN PROGRESS FINISHED GOODS LABOUR OVERHEADS

DIRECT versus INDIRECT costs FACTORY OVERHEAD: All indirect costs of running a factory INDIRECT COSTS e.g. indirect materials and labour; factory insurance; light and Costs that cannot be traced very power used by the factory easily to a particular product. All factory overhead. DIRECT COSTS Major items of cost that can be traced quite easily to a particular product Direct labour Direct materials

Cost Classification Summary

What is factory overhead?  Includes all factory costs other than direct materials and direct labour.  Is also referred to as indirect manufacturing costs.  Cannot be traced or are not worthwhile tracing (cost vs. benefit) to individual units of production.  Examples: * Factory insurance * Factory supervisor’s salary * Factory light & power

What is factory overhead?  Although factory overhead costs cannot be traced (or are not worthwhile tracing) to individual units of production, the TOTAL FACTORY OVERHEAD COST incurred must be allocated to individual units of production REGARDLESS.  This means that each product has to be charged with an estimated amount of factory overhead which is expected to cover the actual TOTAL cost incurred.  How do we do this?

Applying factory overhead Manufacturing overhead costs incurred during a period are allocated to units of production based on a predetermined overhead rate . This overhead rate is based on the budgeted overhead costs for the period and the estimated level of activity (e.g. no. of units produced, direct labour hours etc.)

Applying factory overhead To apply factory overhead to individual units of production you have to: a. Estimate total factory overhead expected to be incurred during the period b. Establish an application rate (based on the relevant cost driver e.g. no. units; direct labour hours; machine hours etc. c. Apply this predetermined rate to the total factory overhead to arrive at an estimate of the cost to be allocated/charged to each individual unit of production.

Types of inventories  Materials includes stocks of raw material and factory supplies e.g. lubricating oils for machinery.  Work-in-progress are partly completed goods that will be completed in the future e.g. cardboard pieces cut out and ready to be glued.  Finished goods are fully completed products ready for sale e.g. toy boxes.

Clip * STUDENT ACTIVITY * Copy and paste the following URL into your Internet browser and watch this YouTube Clip which takes you for a tour of the Ferrari Factory in Maranello, Italy. See if you can identify and name at least one example of DIRECT MATERIAL, DIRECT LABOUR and FACTORY OVERHEAD. http://www.youtube.com/watch?v=La73Oy9ZGVw

Case Study LITTLE PEOPLE INC. You are now going to learn how to prepare the different types of budgets for the manufacturing industry using this case study.

Case Study LITTLE PEOPLE INC. Little People Inc. manufactures cardboard boxes which are used for transporting very special toys to toy stores all around Australia. We need you to prepare the company’s budgets for the coming year ending 30 June.

3. BUDGETS FOR A Manufacturing Organisation To work out an estimate for the cost of production you need to prepare the following budgets: 1.Production budget (LESSON 3 – PURCHASES BUDGET) 2a. Direct materials usage budget (NEW) 2b. Direct materials purchases budget (NEW) 3. Direct labour budget (NEW) 4. Factory overhead budget (NEW) 5. Ending inventory budget (NEW) These budgets are used to prepare the COGS budget.

3. BUDGETS FOR A Manufacturing Organisation You also need to prepare the SALES BUDGET (LESSON 2) and OPERATING EXPENSES BUDGETS (LESSON 3) before preparing the BUDGETED INCOME STATEMENT .

Ending inventory budget (budget 5 in case study) Recall: There are 3 basic types of inventories: 1. Finished goods 2. Materials 3. Work in progress (beyond the scope of this text) Before we can prepare the ending inventory budget, we need work out how much it costs to produce one completed unit e.g. box.

COGS budget (budget 6 in case study) MERCHANDISING MANUFACTURING Beginning inventory xx Beginning inventory xx Add: Planned purchases xx Add: Cost of production xx Total available for sale xx Total available for sale xx Less: Ending inventory xx Less: Ending inventory xx COGS xx COGS xx Major difference : Manufacturing firm’s COGS budget: COST OF PRODUCTION of finished goods replaces the PURCHASES of finished goods. Therefore; Step 1: Calculate the total cost of production . Step 2: Prepare the COGS budget.

Case Study LITTLE PEOPLE INC. Please refer to the following document which will take you through the case study:

You are now ready to start the FINAL lesson on: Chapter 8 Flexible Budgets Performance Reports

This week’s homework  Read Chapter 5 – Operating Budgets (manufacturing)  Complete homework questions (chapter 5) (ref. STUDENT ONLINE STUDY GUIDE)