Monyetta Project - Accounting Gr 11 Lesson 4: Budgeting notes GASH BUDGETS: The main aim of any business is to make the maximum profits possible. Thorough planning and control are necessary to realize this goal and thus to survive in the business world which is highly competitive - both nationally and globally Budgeting forms an integral part of this planning Budgeting involves drawing up a plan for the activities of the business for a specific future period of time. Such a plan is: - expressed in terms of money ~ based on forecasts of amounts coming in (receipts) and going out (payments) during this period When preparing a cash budget, ask yourself the following two simple questions: Budgets should be checked and adapted regularly (sometimes once a week) to fulfill its important function as a planning, coordinating and control tool of receipts and payments. Budget periods ~ Long-term budget The lang-term budget indicates the direction the business is taking and is usually drawn up for more than one year up to ten years. It includes predictions and planning for the possible expansion of activities, staff provision and acquisition of fixed assets. = Short-term budaet The short-term budget usually covers a pariod of one year, but can also be compiled for periods as short as one month. A short-term budget is much more detailed than a long-term budget and focuses on aspects such as expected sales and purchases, payment of short- term obligations and cash flow. Budgets and internal control Management must continually receive feedback trom the different divisions of the business. A good way of exerting contral aver different divisions is by comparing budgets and actual figures with one anotherUSERS OF BUDGETS Besides the business using budgets to regulate its financial activity, there are other users who benetit from drawing budgets: + The learner at School has to work out how best to spend her monthly packet allowances for items such as movie tickets, entertainment, tuck shop, etc, - The bread wininer (father or mother) has to work out how much he can atford to pay for the various items such as food, transport, monthly bond, clothing, water and electricity, telephone, medical, etc trom one monthly salary ‘The weekly earner has to work out how much she can afford to pay for the various items Such as food, transport, monthly bond, clothing, water and electricity, telephone, medical, etc from ane weekly wage : has to work out how best to use the income from contributions and donations to pay for electricity, repairs and caretaker's wages and other running expenses. The informal trader has to calculate at what price goods must be sold ta make a reasonable profit after she has covered expenses. - Educational institutions (Schools) must prepare a budget. The budget takes into account all expected income from school fees, fundraising and the tuck shop and expected expenses incurred in the next academic year. - The'government has got national budgets, provincial budgets and local budgets, to Promote the smooth running of the economy of the country. THE PERSONAL BUDGET When preparing a cash budget, ask yourself the following two simple questions: 1. How much money (cash) will be received over the budget periad? 2. How much money (cash) will be paid over the budget period? So, itis about MONEY a Private individuals can draw up a budget showing their income and expenses for the week or month,Example 1 ‘Suzie Smith tells you that she has R320 in her bank account on 1 January 2012. Complete Suzie's cash budget for January and February 2012 using the information below. Receipts 1, Suzie receives a monthly allowance of R500 2. Her birthday is on the 2 February and she will receive R800 from her family and friends 3. Suzie walks her neighbours dogs for extra money. In this way she earns R200 pet month Payments 1. Suzie plans to save R300 during January and R600 during February and will deposit this maney into har savings account 2. She spends R200 per month at the school’s tuck shop 3. Suzie plans to go to the movies once a month. A movie ticket costs R40 4. Itis her friend John ‘s birthday on 15 February and Suzie will buy him a CD casting R120 5. She plans to spend R300 an clothing during February CASH BUDGET OF SUZIE SMITH January | February Cash Receipts Monthly allowance 500 500 Birthday gift 800 | Money forwalkingdogs | 200 | S200 Total Receipts 700 1 500 Cash Payments Savings. 300, 600 Tuck shop 200 200 Movies 40 40 Gift for John 120 Ciothes 300 Total Payments 540 4.260 Cash surplus 160 240 Bank balance beginning of the month 480 Bank balance end of the month 480 720 Suzie starts with R320 in her bank account, but if she sticks to her budget, she will have R720 in her bank account at the end of FebruaryTHE FORMAL CASH BUDGET When a cash budget is drawn up, it only predicts and plans for the inflow and outflow of If the cash budget predicts that the business will experience a cash shortfall in a jicular month, management can make arrangements with the bank or come up with an Giersaies plan in advance. The cash budget indicates: ~ the bank balance at the beginning of the month = a@ prediction of cash that will flow into the business + a prediction of cash that wil flow out of tha business - the estimated bank balance at the end of the month CASH BUDGET 1. Zz. Month, 4 2 = | Cash surplus/shortfall +/- | Bank balance beginning of the month = | Bank balance end of the month x Forecast receipts and payments Cash sales ‘Gash purchases of goods Cash fram debiors Payments to creditors (Debtors collection schedule) (Creditors payments schedule) Proceeds trom sale of fixed assets Purchase of fixed assets [opeesing ler, rent income: Operating expenses, eg insurance ‘Withdrawal of money5 since it does not involve cash Bad debts Depreciation Discount allowed Discount received Withdrawal of trading stock/stationery Profit/Loss on sales of asset CASH BUDGET OF A TRADING BUSINESS Many businesses adopt a “cash only” policy. But many business houses offer credit facilities to the buying public. The majority of consumers make use of these facilities, To obviate the tisk of credit trading, many businesses encourage their customers to pay by debit cards and credit cards — from the paint of view of the business such transactions are treated as cash There are also those businesses which grants credit whereby a credit agreement is entered into with the customer, The trader will need to decide on the credit terms to be allowed, eg 30 days, 60 days ot $0 days. It is important that the customer is made aware of the credit terms, that if an account becomes overdue he may be charged interest or if he pays before a Stipulated day he may be entities 10 a cash discount. CREDIT SALES —- DEBTORS COLLECTION SCHEDULE A caretul study of the payments pattern of credit customers is necessary so that future intiows and outfiows of cash can be budgeted for. Historical records may reveal that collection from debtors are spread over a few months. A Debtors Collection Schedule is drawn up to record the expected collections from debtors. Example 2 Calculate the expected collection from debtors for Sunrise Traders during the months of March, April and May Credit sales were as follows: Actual Budgeted January 32.000 February, 33.000 March 39 000 il 60 000 May 24 000 Debtors usually settle their debts as follows: 50% during the month of sales (the same month) 30% during the month following the month of sales (the next month) 18% during the second month of sales (two months after sale) 2% itecoverable (bad debts)Why are the credit sales for January and February actual and those for March, April and May budgeted? Because we are now at the end of February, so January and February are in the past, and we are going to budget (projected) for March, April and May (collection period — in the future). Note! Always start with the first month given to you (January) because there is still money for January receivable in the collection period. Remember! Only credit sales Memo: Debtors Collection Schedule of Sunrise Traders Collection period Month Credit March April sales January 32 000 § 760 = February 33,000 ‘9 900 5940 : March 39 000 419 500 44700 7 020 April 60 000 5 "30. 000_| "48.000 May 24 000 - - 12.000 47 640* [37 020 * The amount that we are going to take to the Cash Budget ~ Cash from Debtors What about the bad debts? Bad debts is a non-cash item that will not be included in the Cash Budget. Sometimes they will add a column in the Debtors Collection Schedule for Bad debts ~ Bad debts can only be written off in the month after the last leg, for example the bad debts for the January credit sales can be written ot in April, because we are going to receive the money from the Debtors in January, February and March. Example 3 Given the following information in respect of Malet Traders, you are required to prepare the Debtors Collection Schedule for the three-month period 1 October 2007 ~ 31 December 2007 Actual Sales | Budgeted Sales July 42.000 August 16 000 ‘Septomber 42.000 October 8.000 November, 42.000 December, 20 000 Additional information: 1. Cash sales is 25% of total sales.7 2. Debtors pay according to the following pattern: 60% one month after date of sale (next month) 25% two months after date at sale (after 60 days) 12% three months after date of sale (after 90 days) 3% never pay and are written off 5% discount Calculations: Sales Cash Credit 25% 75% July 12.000 3000 9 000 August 16 000 4000 12000 ‘September October November 42.000 3.000 ‘3 000 December 20 000 5000 15.000 What are you going to use in the Debtors Collection Schedule? Only the Credit sales Memo: Debtors Collection Schedule othtalles Traders Month Credit Nov Dec Bad sales July’ 3000 | 14080 - ‘August 12000 | 3.000 [1 440 : ‘September go00 {5130 | 2250 | 1080 | 270 October 6000 = 3.420 | 1500 =. November $000 : : 5 130 : December 15 000 - - - 5 9240 | 7110 | 7710 900 CREDIT PURCHASES —- CREDITORS PAYMENT SCHEDULE ‘Stock purchases may be for cash or credit. Cash purchases are simply recorded in the cash budget in the month of the purchase. When preparing a cash budget where credit purchases involved the follawing need to be considered: ~ the credit terms allowed by suppliers (60/30 days) and any discounts allowed for early settlement of accounts ~ the stock replenishment policy of the business regarding the maintenance of a base stock level, thus a minimum amount of stock which will be on hand to be able to meet customers’ requirements —- stock are kept at constant levelsExample 4 The information given was extracted from the books of Bazuko Traders. Calculate the ‘amounts payable to the creditors for the period 1 January 2008 - 31 March 2008 Information: Total Sales ‘Actual Budgeted November 2007 December 2007 January 2008 28 000 February 2008 21 000 March 2008. 17500 Additional information: 1. Cost of sales is equal to 50% of turnover (sales) Cash purchases of trading stock amount to 20% of all purchases 2 3. Creditors allow the business 60 days credit. These terms will be complied with 4. Trading stock sold each month is replenished in the same month - stock are kept at constant levels Calculations: Sales Purchases Cash Credit (Cost of sales) 20% 80% x 50/100 November 24500 12 250 2450 9 800 December 39.000, 49 500 3.900 45 600 January 28 000 44 000 2.800 41.200 February 21 000 10 500, 2100 8 400 March 17 500, 8750 1750 7 000 The Cash Budget —» remember the Creditors allow the business 60 days (2 months)! Memo: Cash Payments Jan Feb Mar Payments to creditors ‘9 800 (Nov) 45 600 (Dec) | 41 200 (Jan)Eamples Use the information to draw up the Cash Budget of Show Traders for the period 1 June 2007 = 31 July 2007 Information: 1 Actual si a April RS5O 000, May 40 000 Expected sales: June 50000, July 60.000 Credit sales amounted to 50% of total sales Debtors paid their accounts as follows: - 30% in the month in which the transaction took place (in 30 days) + 60% in the following month (in 60 days) + 8% in 90 days - 2% irrecoverable atter 90 days 60% of purchases are for cash and stock are kept at constant levels, i.e. sold goods teplaced in the same month Profit on cost price is 25%. Creditors are paid after two months (60 days) The tent is received monthly and increases annually by 15% on 1 July. The rent for June was R1 800 Bad debts will amount to Rt 200 in June, because one of the debtors disappeared ‘The business already has a buyer for one of the vehicles, which cast R30 000 originally. Accumulated depreciation amounts to R17 000. According to the agreement a cheque will be received for the carrying value on 1 July 2007. A new vehicle warth R60 000 will be purchased for cash the same day ‘An advertising campaign is planned for June 2007; R'1 000 will be paid for this in June and R500 in July — expenses usually amount to R36 000 p.a. and this is distributed ever The business is planning to take out a loan of R70 000 during July 2007 ‘The owner withdraws R2 000 cash monthly, as well as stationery worth of R600 in June Equipment of R8 000 will be purchased in June 2007. Half of the amount will be paid in June and the other halt in August 2007 Cash in the bank an 1 June 2007, R14 582Calculations: Sales Cash Credit ] Purchases | Cash Credit 50% 50% x 100/125, 60% 40% Aprit_| $0000 | 25000 | 25000 | 40000 | 24000 | 16 000 May | 40000 | 20000 | 20000 32 000 19 200 12 800, June_| 50000 | 25000 | 25000 | 40000 | 24000 | 16000 July | 60 000 _| 30000 | 30000 48 000 28 800 19 200 Memo: DEBTORS COLLECTION SCHEDULE OF SHOW TRADERS. Credit Sales June July April 25 000 2 000 = May 20 000 12000 1600 June 25 000 7.500 15.000 July 30.000 : 9.000 21 500° 25 600 * CASH BUDGET OF SHOW TRADERS Budget period: 1 June - 31 July 2007 June Jul Cash Receipts Cash sales 25 000 30.000 Cash from debtors * 21 500 25 600 Rent income 1.800 2070 Loan 70 000 Proceeds from asset disposal 13 000 Total Receipts 48300__| 440 670 Cash Payments Cash purchases 24 000 28 800 ments to creditors. 16 000 42800 cle 60 000 ‘Advertising 1000 500 Operating expenses 3.000 3.000 Equipment 4.000 Drawings 2000 2000 Total Payments 50 000 107 100 ‘Cash surplus/shorttall (4.700) 33.570 Bank (opening balance) 14 582 12 882 Bank (closing balance) 12 882 46 452PROJECTED INCOME STATEMENT ‘The business must prepare an operating budget, which contains the planning and predictions for its future business activities. This is necessary in order to determine whether the business will keep making a profit or, for example, need to cut back on its expenses. Most businesses have quiet and busy times in the year. For example, a business near the Sea that trades in diving and fishing equipment may establish that it needs more stock and additional staff in December, while the apposite may be true during the winter months. The operating budget consists of a Projected Income Statement which, in tum, contains the sections below. Sales budget This is a prediction of expected sales SS Purchases budget This is a prediction of purchases of Trading stock — it is determined by the expected predicted tumover (sales) 4 Operating expenses budget The business studies the trends of past ‘expenses in order to make it predictions and plans for possible future expenses [Parsee A Cash Budget looks at future inflows and outflows of cash. The budget indicates the expected bank balances during each month of the budget period ‘A Projected Income Statement looks at expected income and expenses during the budget period. This statement shows the expected net profit in the future In order to prepare a Projected income Statement, the following information is required: - an Income Statement for the past year or month = expected monthly sales figures or growth rate for the budget period = percentage gross profit margin on cost of sales or turnover + expected other income = expected operating expenses payable + expected interest payable on loans - expected non-cash expenses such as depreciation and bad debts12 ‘The fallowing will be included in the Projected Income Statement (non-cash items) Bad debts Depreciation Discount allowed Discount received ‘Withdrawal of trading stock/stationery Proti/Loss on sale of asset ‘When preparing a Projected Income Statement, you must take adjustments into account because this Income Statement looks at expected income and expenses during the budget period Example 6 ‘The following information wa: ‘ended 30 November 2008. Required: Prepare the monthly Income Forecast/Projected Income Statement for the 3 months ended 28 February 2009 acted from the records of Benna Stores for the month INCOME STATEMENT OF BENNA STORES FOR THE MONTH ENDED 30 NOVEMBER 2008 Interest income (on fixed deposit Operating profit before interest expense Interest expense Net profit for the month13 Information: 1 Sales forecast: - Sales are expected to increase by 60% in December + In January a decrease of 20% on December sales is expected - Sales in February are expected to amount to R324 000 The existing gross profit margin on cost will be maintained during December and January. In February this will be lowered by 20%. Bad debts are calculated at 3% of the expected turnover (credit sales). 40% of the sales during the budget period is on credit. Four temporary workers will be employed for two weeks in December. They will be paid R1 500 each. Permanent employees receive an annual increase af 8% effective from 1 January 2009. Rent increase by 15% per annum on 1 January each year The interest on the investment will remain constant during the budget period. Depreciation is calculated at 15% p.a. on cost. Additional equipment casting R4 000 would be purchased for cash on 1 February 2009. Other expenses are expected to remain constant.14 PROJECTED INCOME STATEMENT OF BENNA STORES FOR THE THREE MONTHS ENDING 28 FEBRUARY 2009 Dee Jan Feb Sales 400 000 320 000 324 000 Cost of sales (200 000) 160 000) {180 000) Gross profit 200 000 460.000 | 144.000 erating income 2500 2875 2875 Rent income 2500 2875 2875 Gross operating income 202 $00 162875 | 146.875 erating expenses 123900, | (124620) | (124718) Salaries 102 000 103 680 103 680 reciation 3.000 3.000 3.050 Stationery 900 900 900 Advertising 7.200 7200 7200 Bad debts 4800 3.840 3.888 Insurance 1.200 4.200 1.200 ‘Sundry expenses 4.800 4800 4.900 ting profit 78 600 38 255 22157 Intetest income (on fixed dep) 400 100 | Operating profit betore interest 78 700 38.355 22.257 expense Interest expense = = = | Net for the month 38355 22 257