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Introduction
A budget is a detailed numerical plan for obtaining and using financial and other available resources over a stated future time (Banks and Giliberti 27).
The master budget or commonly referred to as the financial plan is another common type of budget, which is extremely extensive and wide in coverage. The master budget is the main financial planning tool for a company. In addition, it also offers the basis for a common financial control mechanism. More specifically, the master budget is a broad, combined financial plan created for a given fiscal period, such as a month, quarter, or year for managing financial affairs of a company. It is much wide than other forms of budgeting, such as static, continuous, or zero-based.
The master budget has several sub-budgets, such as operation budget, capital budget, investing budget, and financing budget. In addition, it also includes budgeted balance sheet and budgeted income statement.
The major areas of the master budget are mainly operating budget and financial budget, which have different components. The major items found in the operating budget are mainly sales budget, direct material budget with the final item as budgeted income statement. The financial budget consists of cash budget, capital budget, and the budgeted balance sheet.
The case study presents various section of the master budget for an energy drink referred to as ‘Blue Camel’. As such, detailed information is provided to demonstrate how the company will plan and control its resources.
The company plans to manufacture and sell Blue Camel energy drink of 250 ml in the United Arab Emirates.
Preparing the Master Budget for Blue Camel
The Operating Budgets
The Operating Budgeting process is successive with nine mini budgets. It contains the following sub-budgets: sales budget, production budget, direct materials, direct labor, factory overhead, ending inventory, selling and administrative and budgeted income statement.
These sub budgets will generally cover cost of goods sold.
Sales Budget
Blue Camel Drink Expected Cash Collection.
- Sales are made on account
- The forecasted collection trend
- 90% of sales will be collected within the month of sales
- 8% of sales will be collected in the following month after sales
- 2% is uncollectible
- It is imperative to note that Blue Camel will not offer cash discount. In addition, the price is set at AED 100 per 250 ml bottle to compete with other brands, such as Monster, XL Energy Drink, Hype, Red Bull and Power Horse among others retailing beyond AED 120.
Production Budget.
- The company expects an adequate production to meet its budgeted sales and offer enough ending inventory. In this case, the desired ending inventory has been based on the next month’s unit sales budget at 10%. It considers both costs and carrying costs.
Direct Materials Purchases Budget.
- Blue Camel Energy Drink will require about 10 grams of materials per unit of product
- The company expects materials on hand at the end of every month equal to 15% of the end of each month of the following month’s production
- Material cost is AED 2
Expected Cash Payment for Materials.
- Blue Camel expects to make full payment for materials purchases every month.
Direct Labor Cost Budget.
- Every unit of Blue Camel Energy Drink needs 0.06 hours (4 minutes) of direct labor
- No layoff intended and therefore all employees will be compensated for 40 hours of work every weak
- Workers have agreed for the rate of AED 20 per hour irrespective of the hours worked
- No overtime payment because of no layoff policy
- The company will only pay a minimum of 2,000 hours every month for the next three months
Factory Overhead Cost Budget.
- At Blue Camel Energy Drink manufacturing overhead used in unit production is based on the direct labor hours
- The variable manufacturing overhead rate is AED 15 per direct labor hour
- Fixed manufacturing overhead cost is AED 60,000 [(AED 30 per hour ) * (2,000)], including noncash depreciation costs
Selling and Administrative Expenses Budget.
- At the company, selling and administrative expenses are classified as fixed and variable costs
- The costs associated with variable selling and administrative expenses are AED 1 per unit sold
- Fixed selling and administrative expenses are AED 100,000 per month
- The fixed selling and administrative expenses include another AED 20,000 in costs associated with overall depreciations that are not considered under cash outflows within the month
Financing Budget
Cash Budget.
- Blue Camel Energy Drink borrowed AED 500,000 at an annual interest rate of 20 percent
- Ending Inventory Budget for June
- Ending direct materials
- 20,000 * AED 2 = AED 40,000
- Ending finished goods
- 15,000 * AED 100 (budgeted unit cost) = AED 300,000
Budgeted Income Statement June.
Blue Camel Energy Drink
Budgeted Balance Sheet, June 30.
Conclusion
The master budget for Blue Camel Energy Drink has offered the best way to plan different revenue generating and costs of generating such revenues in the company. In this case, the master budget is imperative to avoid possible financial disaster. It will therefore help the company to plan its financial performances and related affairs.
The company will generally create revenues from sales of its Blue Camel drink to potential customers, including retailers and wholesalers. Alongside revenue generation, the company will also incur costs associated with its daily operations. These costs are mainly variable costs, fixed costs, costs of manufacturing and other related expenses.
It is necessary for the company to categorize costs to show cause and effect relationships. As such, the company management will be able to understand how various budgets affect organizational performance while eliminating complexities associated with budgets (Raghunandan, Ramgulam and Raghunandan-Mohammed 110).
Given the projected sales, it is noted that Blue Camel Energy Drink will perform relatively well because of low pricing strategies, low costs of acquiring materials, and minimal labor costs among others. The company should therefore venture into the market.
Recommendations
The company should use the master budget for integration and coordination of financial resources and activities. The master budget is an important planning tool for the company. Therefore, Blue Camel should use it to coordinate and integrate different activities found in diverse functional departments. For instance, a thorough financial plan would ensure that the company accounts for all requirements, including equipment, labor, material supplies, and costs among others. Planning will assist the company to enhance efficiency.
Planning shall also ensure that Blue Camel manufactures the right product required in the market. That is, the company should use its sales budget to drive manufacturing activities. Hence, it should not manufacture goods based on market speculations and force the product into the market.
The company will realize that excess inventory and other ‘idle’ resources are associated with high costs and other risks. The integrative approach demonstrated by the master budget is the best way to execute a lean organization concept. In this case, the company should consider ‘just-in-time’ manufacturing if possible and focus on the performance of all departments to control costs.
The company should also use the master budget to enhance communication and motivate employees. Personnel in different functional areas will rely on the master budget to assess their efforts and understand their contributions toward strategic goals of the company. Effective communication will motivate employees and result in high job satisfaction. It is important for employees to understand their performances and values they add to an organization in terms of revenues and profit generations. This recommendation captures behavioral element of a budget.
The company should also use the budget for continuous performance improvement. The master budget, as a planning tool, will assist the company to identify the most cost-effective ways to cut costs and create value for customers. It is important for sustained improvement of operational processes. The company’s financial plan and related performances are measures to demonstrate financial results of inputs.
Blue Camel should also use the master budget to guide its performance. In this case, the company will use the master budget to ensure that all items covered, including sales forecasts, are successfully executed. Thus, the budget is an instrument for acquiring and using resources to realize organizational goals. The company will strive to ensure perfection during budgeting to limit and eliminate instances of uncertainty and variability in mission critical activities.
The master budget will also guide vendors’ activities. Based on the forecast, the company will order materials to ensure just-in-time delivery without waiting for several months.
Finally, to enhance control, it is highly recommended that the company should use the master budget for performance assessment and control. In fact, it is the most appropriate tool for evaluating and controlling organizational fiscal performance.
The above-mentioned recommendations demonstrate how the company will use the master budget to realize its strategic goals. However, it is also imperative for Blue Camel to recognize that the master budget has some inherent limitations. In fact, these challenges are many and, therefore, the company management should carefully assess them. These limitations include operational uncertainty, behavioral aspects, and costs (Martin 1; Abogun and Fagbemi 248).
Blue Camel must recognize that budgeting is often surround by a substantial amount of uncertainty. Specifically, forecasting is the most affected aspect of budgeting. Uncertainty can derail financial plans of an organization. Uncertainties noted in revenue generation could be a critical threat to success of the company and financial planning. In most instances, financial analysts consider diverse economic factors, actions of the government, monetary policies, market competitive forces, customer behaviors, and supplier factors among others. These different aspects influence sales budget, which is generally based on various forecasting techniques. However, uncertainties surrounding sales forecasting are responsible for greater challenges. Revenues from sales run company operations. In this regard, the company should constantly review and assess economic dynamics to understand emerging trends. From a planning point of view, the failure of an organization to forecast future trends precisely reduces the essence of an original sales budget estimate, materials requirements, and planning for other required resources.
On the contrary, uncertainties noted on costs of materials, labor, and other services required do not present significant threats. It is argued that senior executives have inherent control over these factors, including labor quantities required. Unfortunately, they cannot control purchase quantities made by their customers. The company should therefore consider vital tools for assessment and control of financial risks. Specifically, flexible budgets can be used to fix these risks to show realistic expectations based on the current trends of market activities.
Budgeting is also associated with behavioral bias. In this case, some issues associated with behavioral conflicts emanate when a budget is applied as a control tool in an organization. A budget can only be useful when it is actually used by intended managers. Therefore, the company should ensure that its master budget is acceptable to all managers. Behavioral studies on budgeting stress the important of relying on the most likely scenarios in an efficient operating environment (Martin 1). The budget, when used as a planning and controlling tool, should promote performance and efficiency in an organization (Sookram and Kistow 6). At the same time, budgets should be fair and achievable. That is, unfair budget can simply intimidate users and result in failed execution of activities. One major method is to adopt participative budgeting instead of imposed budgeting to motivate managers and their juniors (DeMicco and Dempsey 77). A participatory approach is meant to enhance participation and inclusion of all managers from various functional departments. Of course, the company will require its financial department to coordinate budgeting and ensure that a fair budget, which would assist the company to attain its strategic goals, is realized.
When the company uses budget to assess fiscal performances, it should strive to avoid possible behavioral bias. The company should therefore apply ideas of variation and relatedness. Performance indicators depict their variations, and these variations emanate from other factors other than human. The relatedness in an organization appreciates the fact that different functional divisions are parts that make up the whole. Certainly, these divisions affect one another in different ways. However, when financial planners fail to recognize relatedness within a company, then behavioral conflicts are most likely to emanate. As a result, employees would focus on distinct divisional performance rather than advancing the performance the entire organization.
Overall, the company will use flexible budgeting approaches to minimize behavioral conflicts related to budgeting, specifically when assessing performance.
Another critical drawback associated with budgeting is the amount of resources dedicated in terms of effort and time. For some companies, a budget done on a continuous basis has been helpful. They manage to eliminate some costs and time consumed during budgeting. For smaller companies, however, it can be difficult to justify time, costs, and efforts invested in master budget preparation. It has also been observed that some small, possibly profitable, companies fail to make financial plans and ultimately fail as a result. It is therefore recommended that Blue Camel should focus on financial planning to avoid failure. Issues associated with cash flow can simply be eliminated through effective cash budgeting on a continuous basis.
Given the estimates for Blue Camel Energy Drink, it is forecasted that the company will perform well in the market. In addition, pricing strategy will cover all costs associated with costs of goods, selling and administrative expenses, and interests. It is however noted that without assessing limitations of the master budget, then company may still fail. As such, it should observe best practices in budgeting and using the budget as a control and planning tool.
Works Cited
Abogun, Segun and Temitope Olamide Fagbemi. “The Global Debate on Budgeting: Empirical Evidence from Nigeria.” International Business Research 4.4 (2011): 248-254. Print.
Banks, Alan and John Giliberti. Budgeting. Australia: McGraw-Hill Higher Education, 2003. Print.
DeMicco, Frederick J. and Steven J. Dempsey. “Participative Budgeting and Participant Motivation: A Review of the Literature.” Hospitality Review 6.1 (1988): 77-94. Print.
Martin, James R. “Management Accounting: Concepts, Techniques & Controversial Issues.” n.d. Web.
Raghunandan, Moolchand, Narendra Ramgulam and Koshina Raghunandan-Mohammed. “Examining the Behavioural Aspects of Budgeting with particular emphasis on Public Sector/Service Budgets.” International Journal of Business and Social Science 3.14 (2012): 110-117. Print.
Sookram, Ron and Balraj Kistow. “Capital Budgeting and Sustainable Enterprises: Ethical Implications.” The Journal of Values-Based Leadership 5.1 (2014): 6-12. Print.
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