Page 81 - Encyclopedia of Business and Finance

eobf_B 7/5/06 2:55 PM Page 58

Break-Even Analysis

BREAK-EVEN ANALYSIS facturing organization’s master budget includes a produc-
tion budget, which uses the sales budget and inventory
SEE Cost-Volume-Profit Analysis
levels anticipated at the beginning and end of the period
to determine how much to produce.
The production budget needs to be exploded into
BROKERS AND DEALERS budgets for direct material, direct labor, and manufactur-
ing overhead. Direct material and direct labor are items
SEE Financial Institutions
clearly identifiable in the finished product. Manufactur-
ing overhead includes all costs of manufacturing except
direct material and direct labor, such as machine depreci-
ation, utilities, and supervision. The direct material
BUDGETS AND
budget explodes the production into basic ingredients;
BUDGETING quantities to be purchased are anticipated based on
A budget is a financial plan for the upcoming period. A expected inventory levels at the beginning and end of the
capital budget, on the other hand, involves an organiza- period. With the help of the purchasing department, the
tion’s proposed long-range major projects. The focus of prices for the needed materials are computed to arrive at
this section is on budget. Public and private entities both the material purchases budget. The direct labor budget
engage in the budgetary process. A government budget uses industrial engineering guidelines and production
starts with the projection of sources and amounts of rev- needs to estimate labor requirements. The human
enue and allocates the potential receipts among projects resources department provides the labor rates for the skill
and legislatively mandated programs based on projected levels required. Overhead costs are estimated based on
needs and public pressure. Government entities actually production level and appropriate cost drivers (i.e., the fac-
record budgets in the accounting records against which tors that cause costs to vary). Some overhead costs are con-
expenditures can be made. sidered variable because they vary with the level of output.
A budget is a quantitative plan of operations that Others are considered fixed because the level of output
identifies the resources needed to fulfill the organization’s does not affect the amount of those costs. For example,
goals and objectives. It includes both financial and nonfi- the production supervision cost is assumed to be the same
nancial aspects. Budgeting is the process of preparing a regardless of how much is produced within a shift in a
plan, commonly called a budget. A master budget is com- plant. One can, then, estimate production costs and cost
prised of operating budgets and financial budgets. Oper- per unit for goods to be produced. Cost of goods sold can
ating budgets identify the use of resources in operating be determined based on the inventory levels of finished
activities. They include production budgets, purchase goods. Selling and general administration costs are then
budgets, human resources budgets, and sales budgets. estimated, taking into consideration those costs that vary
Financial budgets identify sources and outflows of funds with sales, such as sales commission, as well as fixed costs
for the budgeted operations and the expected operating that remain the same regardless of the level of sales, such
results for the period. Some variations of budgets are con- as office rent. The information put together so far gives
tinuous budgets and continuously updated budgets. one all one needs to prepare a forecasted income state-
Rather than preparing one budget for the upcoming year, ment.
in a continuous budget one updates the budget for the fol- At this point, the cash budget is developed. This item
lowing twelve months at the end of each month or each starts with cash at the beginning of the period plus cash
quarter. Such a budget remains more current and relevant.
that will be generated through collection of receivables,
A good budget uses historical data as a base and for refer-
cash sales, and other sources minus anticipated minus cash
ence but at the same time incorporates anticipated costs
disbursements, which include payroll disbursements, pay-
and volumes based on a comprehensive knowledge and ment for taxes, and accounts payable depending on the
understanding of both internal and external factors that terms for payment. The resulting cash balance may be
affect the business.
negative if there are more disbursements than receipts, in
which case borrowing needs are determined. A positive
COMPONENTS OF THE MASTER cash balance may be more than needed for operating
BUDGET expense. Such excess cash may be deposited in a tempo-
The master budget includes a sales budget, which shows rary investment account. The final part of master budget
expected sales in units and in dollars. A merchandising preparation is the forecasted balance sheet, where the
firm needs to budget for the goods it needs to purchase for anticipated cash balance, investments, accounts receiv-
resale; these purchases become its cost of sales. A manu- able, inventory, fixed assets, accounts payable, wages

58 ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION