In this article I am going to explain what the operating budget is, its importance, what it includes, and an example of how it is structured.
Definition of master budget
According to David Noel Ramírez Padilla, the master budget is:
“He master budget consists of a budget equipo that seek, on the one hand, the determination of the utility either loss that is expected to be in the future and, on the other, formulate budgeted financial statements that allow the administrator to make decisions about a future period based on the operating plans for the coming year.
How is the master budget integrated?
The master budget is made up of two budgets, which are:
- operating budget.
- Financial budget.
Definition of operating budget according to Ramírez Padilla
He operating budget refers to all equipo of activities related to genera, sell alreadymanage an organizationwhich are the typical activities through which a company carries out its mission of offering products or services to society.
These activities give rise to sales budgets, of production, Shopping, of raw material requirements, tarea, manufacturing overhead, cost of sale and operating expenses.
What is the operating budget?
We perro see the operating budget as a budget that encompasses all the aforementioned budgets. More specifically, we cánido say that It is a report that allows us to know where the efforts of the organization are directed.which It is achieved through the budgeted income statement.
In other words, the realization of all the aforementioned budgets should lead to the formulation of a budgeted income statement for the operation.
It is important to highlight that the operating budget is the first stage to be able to make a master budget.
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What is the operating budget for?
With an operating budget we cánido structure a strategy whose objective is to create a profitable and efficient business. For example, it allows us to plan what we are going to do in the months in which we have low income or high expenses. So it perro help guide our spending decisions and help us stay on track toward encuentro our income goals.
Are you interested in preparing an operating budget? So, I recommend that you follow the steps below:
What does the operating budget include?
I have already mentioned the budgets included in the operating budget, however, I want to be very clear about what it includes.
- Raw material requirements.
- Indirect manufacturing costs.
- Sales cost.
- Operating costs.
Steps to make the operating budget
Below you will see an image that graphically explains how the budgets contained in the operating budget are integrated and, of course, a sequence to do so.
The sequence that Ramírez Padilla recommends in his book to make the operating budget is the following:
- Raw material and purchasing needs.
- Direct tarea.
- Indirect manufacturing expenses.
- Operating costs.
- Budgeted Cost of Sales.
The first step or stage that an organization must take consists of determine demand behaviorthat is, what you expect the market to do (carry out a forecast). At the end of this step, we will be able to make a production budget.
The sequence recommended by Ramírez Padilla, to develop the sales budget is the following:
- Clearly determine the objective that the company wishes to achieve regarding the level of sales in a given period, as well as the strategies that will be developed to achieve it.
- Make a sales forecast, which allows knowing an estimate of the behavior of demand.
- Prepare the sales budget (considering the forecast data from the previous paragraph and the professional judgment of the sales executives) distributing it into zones, divisions, lines, etcétera.
Once the sales budget is accepted, it must be communicated to all areas of the organization so that the supplies budget cánido be planned.
As I said before, since we have the sales budget ready, now it’s time to start preparing the production budget. Ramírez Padilla tells us that the production budget is important because the entire requirements plan depends on it regarding the different inputs or resources that will be used in the production process.
However, to determine the quantity that must be produced of each of the lines that the organization sells, the following cambiantes must be considered:
- Budgeted sales of each line.
- Desired final inventories for each type of line.
- Initial inventories available for each line.
What arises with the previous elabora is the need to know the inventory levels at the beginning and at the end of the productive period; however, it is also important to determine what is the policy desired by each company regarding production. The most common policies according to Ramírez Padilla are:
- Stable production and variable inventory.
- Variable production and stable inventory.
- Combination of the two above.
Budget of raw material and purchase needs
Since we have the production budget, which provides us with the frame of reference to diagnose the needs of the different inputs.
It should be noted that when there is no shortage of raw material, the amount must be based on the estándar that has been determined for each type of input per product, as well as the budgeted amount to genera in each line, of course, indicating also the time in which they will be required.
You have to consider that the raw material requirements budget must be expressed in monetary units Once you buy, define the price at which it will be acquired (cost of the budgeted material).
Likewise, only direct material is included, since indirect materials (lubricants, accessories, etcétera.) are included in the indirect manufacturing cost budget.
Benefits of the raw material requirements budget, according to Ramírez Padilla are:
- Indicates the raw material needs for a given budget period, thus avoiding production bottlenecks due to lack of supply.
- It generates information for purchases, which allows this department to plan its activities.
- Determine adequate inventory levels for each type of raw material.
- Exercises administrative control over the efficiency with which raw materials are handled.
Finally, it should be noted that based on the raw material requirements budget and the inventory policies established for each raw material, the number of units will be determined, and the time in which the purchases will be carried out and the cost that will be incurred when carrying out said operationswhich will be the quantity of each raw material that will be purchased for the estándar price at which it is planned to be purchased.
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Direct tarea budget
direct tarea budget tries to diagnose human resource needs (basically direct tarea). However, its importance lies not only in knowing the tarea needs, but also in the how to act on that diagnosisto meet the requirements of planned production.
According to Ramirez Padilla, the tarea budget must allow the determination of the estándar in tarea hours for each type of line that the company producesas well as the quality of tarea that is required, with which it perro be detected if more human resources are needed or if the current ones are sufficient.
A example that Ramírez Padilla gives us in his book is the following:
It is assumed that there are 10 different product lines in the company: the WW line requires two hours of welder tarea, three hours of mechanic, and half an hour of feeder. If the production budget indicates that 10,000 WW will be produced, the direct tarea of said line perro be calculated:
Now, assuming that during a year only three hundred business days are worked and the habitual time is seven hours a day, we have:
300 days x seven hours = 2,100 hours, which correspond to each operator.
To satisfy WW requirements, the following operations are performed:
Once the above has been done for each line, it is possible to assess whether the organization’s staff is sufficient, or plan new hires by specifying the number and characteristics of the necessary people.
Since the number of workers required has been calculated, it must be determined how much that amount of human resources will cost; that is, translate the direct tarea budget, expressed in estándar hours or in number of people and quality, into monetary units; that is, calculate the budget of the tarea cost.
Factory Overhead Budget
In the first place, it is important that, when preparing the indirect manufacturing cost budget, the behavior of each of the indirect cost elementos is perfectly detected.
In fact, Ramírez Padilla tells us that it has to be done in such a way that variable manufacturing costs are budgeted based on the previously determined production volume, and fixed manufacturing costs are planned within a certain range of capacity, regardless of the Budgeted production volume.
When the manufacturing cost budget has been prepared, the application rate must be calculated both in its variable part and in its fixed part, and choose an appropriate base for the structure of the indirect manufacturing cost budget.
For example, if within the global budget the depreciation constitutes 40%, it will be advisable to choose machine-hours as the basis for obtaining the rate. Once the above is done, the manufacturing cost budget perro be synthesized using the elabora:
- a: represents the fixed manufacturing costs.
- b: variable costs per unit to be produced calculated under the activity-based costing system.
- x: the volume of activity.
Operating Expense Budget
This budget is intended plan the expenses that the distribution and administration functions of the company will incur to carry out the activities of its nature.
In the same way as indirect manufacturing expenses, administrative and selling expenses must be separated in all elementos into variable expenses and fixed expenses.
They are considered fixed because their value does not vary with the level of sales you have, that is, no matter how much you sell or how much you genera, these expenses will not go up or down.
However, I believe that there is no real fixed cost or expense, at least not in the long term. I will give you an example, suppose you are going to rent a place for your business. Are you always going to pay the same amount of rent? Perhaps you are going to pay the same amount of rent for a year, but, at least in my country, each year a percentage is increased, including the rent for the houses (as long as a contract is made).
Some examples of fixed expenses are the following:
- programa subscriptions
- The recurring expenses of the website
- Salaries (which do not change)
- Renewal of licenses and permits
- insurance costs
As you are already imagining, they are those that are based on the level of sales, that is, depending on whether you sell more or less, expenses will increase or decrease.
Some examples are the following:
- marketing costs
- One-time programa purchases
- Wages (especially for hourly workers)
- Shipping costs
Budgeted Cost of Sales
Once the production cost structure (raw material, tarea and manufacturing overhead) has been calculated, it is possible to obtain the cost of sales that the company will have during the budget period, based on the following:
- The expected sales for the budget period.
- The raw material inventory policy.
- direct tarea cost.
- indirect manufacturing costs.
- The finished goods inventory policy.
- The cost per unit assigned to the product.
In the case of calculating the cost per unit, there are two ways to determine it: using absorbent costing or resorting to direct costing. Depending on which method is used, the cost of sales amount will change.
Each of the methods has advantages and disadvantages; however, Ramírez Padilla tells us that since the budget is purely internal information, the use of the direct costing it’s easier and allows the administrator to have more friendly information for the decision-making process.
Next I am going to put an image taken from the book “Administrative Accounting” by David Noel Ramírez Padilla, which espectáculos which elementos are taken into account depending on the costing method to be used in the calculation of cost of sales:
Budgeted Income Statement
We have already reached the final part and now we have to attach all the budgets prepared previously and thus be able to prepare the budgeted income statement, which is, as I said before, a report that allows the administration to know where the efforts of the company.
Example of how to make the operating budget
Of course, to reach the result shown, you have to carry out all the previously mentioned assumptions.
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Finally, I have to say that I liked the book and I consider it a good option if you are learning about management accounting.
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