Prior to tutorial
Week 8
Topic 7 (Chap 9)
REALLIFE
BUDGETING FOR MAJOR EVENTS: THE OLYMPIC GAMES
Budgeting is not only used for planning in companies or the public sector. It is also used to
plan major sporting and cultural events, ranging from the Olympic Games and the Formula
One Grand Prix, to arts and music festivals.
The lead-up to an Olympic Games entails many years of careful planning for the candidate
cities. Cities that submit a bid to the International Olympic Committee (IOC) to host the
games need to demonstrate that they meet a range of criteria. A candidate city needs to
explain how it will host and finance the games, including details of existing and proposed
sporting venues and accommodation, transportation, sources of sponsorship, marketing plans
and security. It takes many years of careful planning and financial projections to put together
a bid, and only one city is selected to host the games. When the IOC announced in September
1993 that Sydney had won the bid for the 2000 Olympic Games, Sydney Olympic Bid Ltd
had already started the planning and budgeting many years beforehand.
Planning and budgeting for such a major event as the Olympic Games requires projections
and assumptions for many years into the future. Estimates need to be made about exchange
rates, interest rates and detailed costs and revenues, as well as about marketing, sponsorship
and ticket sales. This is a massive task. For each Olympic sport, estimates must be made on a
day-by-day basis of the costs of holding each event, venue selection, spectator capacity and
ticket revenue. The main source of revenue usually consists of television rights and
international and local sponsorships, and these need to be estimated. New venues and other
infrastructure are often part of the plan. Members of bid teams usually consult with cities that
have hosted past games to share knowledge and to review and check their budgets. With such
a long lead time, the host city for the games needs to continually review and revise its budget
as the date of the games draws closer.
Given the complexity of the games and the need to estimate costs many years ahead, it is not
surprising that the costs of many Olympic Games run way over budget – it has been
estimated that, over the past 50 years, they have been an average of 170 per cent over budget.
The 1996 Atlanta Games was 147 per cent over budget, the 2000 Sydney Games was 90 per
cent over budget and the 1976 Montreal Games was 796 per cent over budget (Phillips,
2012).
The London team based their bid to hold the 2012 Olympic Games on ‘value for money’. The
original cost estimate in 2005 was £2.3 billion, with a break-even result anticipated.
However, in 2007, the budgeted costs were revised to nearly four times this amount. In 2012,
it was reported that the final cost of the games would be £377 million below budget.
However, this was in comparison to the revised budget of £9.298 billion, not the original
2005 budget. To offset these increased costs, revenues were much higher than originally
estimated. In particular, domestic sponsorship contracts and ticket sales reached a record
high, exceeding forecasts at a record £659 million.
Prior to tutorial
The complexity of staging the Olympic Games and the high levels of uncertainty attached to
many of the sources of revenue and costs make accurate budgeting difficult. However, the
massive expenditures involved in the venture mean that budgeting is an essential tool in
managing the project.
Source: Mace (1993); Phillips (2012); Cutler (2012)
REVIEW QUESTIONS
9.2 How can a budget facilitate communication and coordination.
9.3 Explain how a budget can be used to evaluate a manager’s performance and provide
incentives.
9.10 In the ‘Real Life’ titled ‘Budgeting for major events: the Olympic Games’ in the section
‘Budgeting at AVJennings Ltd’, the difficulty of budgeting for the Olympic Games is
outlined. Search the internet to find information about the difficulties in managing budgets
for other types of major events. Prepare a summary of these issues for class discussion.
REALLIFE
9.12 Give three examples of how a university student club could use a budget for planning
purposes.
9.17 How can an organisation reduce the problems caused by budgetary slack?
EXERCISES
9.21 Cash budgeting
The following information is available from the financial records of Pascoe Ltd:
Sales Purchases
April $360 000 $210 000
May 330 000 240 000
June 300 000 180 000
July 390 000 270 000
Receipts from customers are normally 60 per cent in the month of sale, 30 per cent in the
month following the sale, and 8 per cent in the second month following the sale. The
balance is expected to be uncollectable.
Pascoe takes full advantage of the 2 per cent discount allowed on purchases paid for by
the 10th day of the following month.
Purchases for August are budgeted at $600 000, and sales for August are forecast at $660
000.
Cash payments for expenses (other than purchases) are expected to be $144 000 for the
month of August.
Pascoe’s cash balance on 1 August was $220 000.
Required:
Prior to tutorial
Prepare a cash budget for Pascoe for August that includes:
1. expected cash receipts during August
2. expected cash payments during August
3. expected cash balance on 31 August.
9.22 Cash receipts: retailer
Boutique Ltd is a retailer of ladies’ fashion and has the following historical collection pattern
for its credit sales:
70 per cent collected in the month of sale
15 per cent collected in the first month after sale
10 per cent collected in the second month after sale
4 per cent collected in the third month after sale
1 per cent uncollectable.
The credit sales have been budgeted for the last seven months of the year, as shown below:
June $245 000
July 300 000
August 350 000
September 400 000
October 450 000
November 500 000
December 425 000
Required:
Build an Excel spreadsheet to solve the following requirements.
1. Calculate the estimated total cash receipts during October from credit sales.
2. Calculate the estimated total cash receipts during the December quarter from credit sales
during that quarter.
3. Use your spreadsheet to demonstrate how your answers for requirements 1 and 2 will
change if June and July sales are $350 000 and $425 000, respectively.
9.23 Professional services budget: dental practice
Central Dental Associates is a large dental practice in Brisbane. The firm's accountant is
preparing the budget for next year. He projects a total of 48 000 patient visits throughout the
year, of which 6 000 will be in May and 8 000 in June. Eighty per cent of the visits will be
half-hour appointments, and the remainder will be one-hour visits. The average fees charged
to patients for professional dental services are $160 for half-hour appointments and $280 for
one-hour visits. Ninety per cent of each month's professional service revenue is collected
during the month when services are rendered, and the remainder is collected the month
following service. Uncollectable billings are negligible. Central Dental's dentists are paid
$200 per hour.
Prior to tutorial
Required:
1. Prepare a direct labour budget for May and June, which includes total direct professional
labour hours and costs.
2. Estimate the budgeted cash receipts for June.
9.24 Budgeted financial statements: retailer
Everywhere Sports is a retail store supplying sporting equipment to community sports clubs.
Information about the store’s operations is as follows:
November sales amounted to $400 000.
Sales are budgeted at $440 000 for December and $400 000 for January.
Receipts are expected to be 60 per cent in the month of sale and 38 per cent in the month
following the sale. Two per cent of sales receipts are expected to be uncollectable.
The store’s gross margin is 25 per cent of its sales revenue.
A total of 80 per cent of the merchandise for resale is purchased in the month prior to the
month of sale, and 20 per cent is purchased in the month of sale. Payment for
merchandise is made in the month following the purchase.
Other monthly expenses paid in cash amount to $45 200.
Annual depreciation is $432 000.
The balance sheet of Everywhere Sports as at 30 November is:
Everywhere Sports
Balance Sheet 30 November
Assets
Cash $ 44 000
Accounts receivable (net of $7 000 allowance for uncollectable accounts) 152 000
Inventory 280 000
Property, plant and equipment (net of $1 180 000 accumulated
depreciation) 1 724 000
Total assets $2 200 000
Liabilities and shareholders’ equity:
Accounts payable $ 324 000
Ordinary shares 1 590 000
Retained earnings 286 000
Total liabilities and shareholders’ equity $2 200 000
Required:
Calculate the following amounts:
1. budgeted cash receipts for December.
2. budgeted profit (loss) before income taxes for December.
3. projected balance in accounts payable on 31 December.
9.27 Cash budgeting: veterinary clinic
Prior to tutorial
Happy Pets is veterinary clinic operating in Auckland. Recently John Tilley, the manager of
the clinic, has been concerned about cash flow shortages that arose quite unexpectedly in the
last three months of the past year. The clinic’s bank account went into overdraft and incurred
interest charges. Tilley believes that the main source of the cash flow difficulties is a lack of
attention to outstanding client accounts and the practice of purchasing expensive veterinary
supplies in large quantities at irregular intervals.
Tilley has asked you to help design a spreadsheet to help with planning for client
consultations, purchases of supplies, cash shortages and cash surpluses for next year. The
following data are available:
Revenue is as follows:
November $200 000 (actual)
December 225 000 (actual)
January 75 000 (budget)
February 225 000 (budget)
March 200 000 (budget)
During the past year, 50 per cent of consultation revenue was collected in the month of the
veterinary visit, 20 per cent in the following month, 20 per cent in the second month, and 10
per cent was not received. In the budget year, new credit policies are expected to result in
collections of 60 per cent, 20 per cent, 10 per cent and 10 per cent respectively.
The cost of veterinary supplies was $75 000 in December and is budgeted as $125 000 in
February. Half of the suppliers' accounts are paid in the month they are incurred and half in
the following month. Salaries of $100 000 per month and other costs of $75 000 are paid in
the month they are incurred.
Required:
1. Use Excel to create a spreadsheet to complete a cash budget for January to March of the
budget year, using the format below.
Cash budget
Februar Marc
January y h
($200
Opening cash balance 000)
Cash received from consultations
Two months ago
Last month
Current month
Total cash receipts
Cash payment
Supplies:
Previous month purchases
Current month purchases
Salaries
Other costs
Total cash payments
Prior to tutorial
Closing cash balance
2. What further steps could Tilley take to help ensure that the cash balance of the clinic
remains positive? In your answer, consider ways in which budgeting may assist.
PROBLEMS
9.35 (appendix) Production and material budgets: manufacturer
Rockhampton Chemical Company produces three products using three different continuous
processes. The products are Yarex, Darol and Norex. Projected sales in litres for the three
products for years 2 and 3 are as follows:
Year 2 Year 3
Yarex 120 000 130 000
Darol 80 000 70 000
Norex 50 000 60 000
Inventories are planned for each product so that the projected finished goods inventory at
the beginning of each year is equal to 8 per cent of that year's projected sales.
Because of the continuous nature of Rockhampton’s processes, work in process inventory
for each of the products remains constant throughout the year.
The per unit raw material requirements of the three products are shown in the following
chart
Raw Units Unit price Yarex Darol Norex
material
Gamma kilograms $8.00 0.2 0.4 0.0
Murad kilograms 6.00 0.4 0.0 0.5
Islin litres 5.00 1.0 0.7 0.5
Tarden litres 10.00 0.0 0.3 0.5
Raw material inventories are planned so that the projected inventory for each raw
material at beginning of a year is equal to 10 per cent of the previous year's usage of that
raw material.
The conversion requirements in hours per litre for the three products are: Yarex, 0.07 hour;
Darol 0.10 hour; and Norex, 0.16 hour. The conversion cost of $20 per hour.
Required:
1. Determine Rockhampton Chemical Company's production budget (in litres) for the three
products for year 2.
2. Determine Rockhampton’s conversion cost budget for year 2.
3. Assuming the usage of Islin in year 1 was 200 000 litres, determine the company's raw
material purchases budget (in dollars) for Islin for year 2.
4. Assume that for year-2 production, Rockhampton could replace the raw material Islin
with the raw material Philin. The usage of Philin would be the same as the usage of Islin.
Prior to tutorial
However, Philin would cost 20 per cent more than Islin and would cut production times
on all three products by 10 per cent. Determine whether management should use Philin or
Islin for the year-2 production, and support your decision with appropriate calculations.
For this requirement, ignore any impact of beginning and ending inventory balances.
9.36 (appendix) Production and direct labour budgets: manufacturer
Alpha Mann Ltd makes and sells computer carry bags. Bill Blake, the company accountant, is
responsible for preparing the company's annual budget. In compiling the budget data for next
year, Blake has learned that new automated production equipment will be installed on 1
March. This will reduce the direct labour per unit from 1 hour to 0.75 hour.
Labour-related costs include employer superannuation contributions of 9 per cent of
employee wages, workers' compensation insurance of $0.20 per hour, and payroll tax equal to
7 per cent of employee wages. These on-costs are treated as an additional direct labour cost.
The accountant estimates that a wage increase for production workers of $4.00 per hour will
take place on 1 April.
Management expects to have 16 000 bags on hand at the beginning of the budget year, and
has a policy of carrying an end-of-month inventory of 100 per cent of the following month's
sales plus 50 per cent of the second following month's sales.
This and other data compiled by Blake are summarised in the following table:
Januar February March April May
y
Direct labour hours per unit 1.0 1.0 0.75 0.75 0.75
Wage per direct labour hour $32.00 $32.00 $32.00 $36.0 $36.00
0
Estimated unit sales 20 000 24 000 16 000 18 18 000
000
Sales price per unit $50.00 $47.50 $47.50 $47.5 $47.50
0
Manufacturing overhead:
Shipping and handling (per unit sold) $ 3.00 $ 3.00 $ 3.00 $ 3.00 $ 3.00
Purchasing and material handling (per $ 4.50 $ 4.50 $ 4.50 $ 4.50 $ 4.50
unit produced)
Other (per direct labour hour) $10.50 $10.50 $10.50 $10.5 $10.50
0
Required:
1. Prepare a production budget and a direct labour budget for Alpha Mann Ltd, by month
and for the first quarter of the next budget year. Both budgets may be combined into a
Prior to tutorial
single schedule. The direct labour budget should include direct labour hours and show the
detail for each direct labour cost category.
2. For each item used in the firm’s production budget and direct labour budget, identify the
other components of the annual budget that would also use these data.
3. Prepare a manufacturing overhead budget for each month and for the first quarter.
Prior to tutorial
9.37 (appendix) Sales, production and purchases budgets; activity-based overhead:
manufacturer
George Ltd manufactures and sells two different types of coils used in electric motors. In
September, Jessica Martin, the management accountant, compiled the following data for the
upcoming annual budget:
Use of direct material:
Amount used per unit
Direct material Light coil Heavy coil
Sheet material 4 kilograms 5 kilograms
Copper wire 2 kilograms 3 kilograms
Platform 1 unit
Raw material prices and inventory levels:
Raw material Anticipated Expected inventories Desired inventories
purchase price 1 January 31 December
Sheet material $8 32 000 kilograms 36 000 kilograms
Copper wire $5 29 000 kilograms 32 000 kilograms
Platform $3 6 000 units 7 000 units
Direct labour requirements and rates:
Product Hours per unit Rate per hour
Light coil 2 $30
Heavy coil 3 $40
Manufacturing overhead:
Activity Cost per unit of activity driver
Martial handing:
Sheet metal and copper wire $0.50 per kg of raw material purchased
Platforms $0.10 per unit purchased
Machine related $1.50 per machine hour*
Shipping $2.00 per coil shipped
General manufacturing overhead $1.20 per direct labour hour
* Total annual machine hours are 100 000 for light coils and 200 000 for heavy coils
Finished goods inventories (in units):
Product Expected 1 January Desired 31 December
Light coil 20 000 25 000
Heavy coil 8 000 9 000
Sales forecast:
Product Units Price
Light coil 60 000 $130
Heavy coil 40 000 $190
Prior to tutorial
Required:
Prepare the following budgets:
1. sales budget (in dollars)
2. production budget (in units)
3. direct material purchases budget (in quantities)
4. direct material purchases budget (in dollars)
5. direct labour budget (in dollars)
6. manufacturing overhead budget (in dollars).
