Showing posts with label Accounting. Show all posts
Showing posts with label Accounting. Show all posts

Objectives Of Holding Inventories

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Every firm must hold adequate inventory. The main objective of holding inventories is to reduce the cost associated with investment in inventory and maintaining efficiency in production and sales operations. If a firm does not hold sufficient inventory, and makes purchases only when it is needed for production and sale arises, then the firm will not be able to offer timely delivery according to customers order.
Objectives of holding inventory may be specified as below:

1. To Avoid Losses Of Sales
One of the objectives of holding inventory is to avoid the losses of sales. If the firm holds inadequate inventory of finished goods, the form could not satisfy customer's demand timely. As a result, the customers requiring immediate supply of goods will move to the competitors, which is known as stock-out problem.

2. To Gain Quantity Discounts
Suppliers usually offer a quantity discount on bulk purchase of materials. Therefore, if a firm has relatively lower holding cost of material, it could maintain relatively larger investment in inventories to gain from the quantity discount offered by suppliers. However, it should be noted that the benefit from quantity discount must be greater than the cost of maintaining inventories.

3. To Reduce Order Costs
If a firm's ordering cost is relatively higher for order placed each time, frequent purchasing in small quantity is not economical. Therefore, placing lessor number of orders in relatively large quantity each time could reduce the variable costs associated to ordering of material.

4. To Achieve Efficient Production Run
When a firm schedules production. the firm has to maintain a fixed production set up costs for each time. Therefore, by maintaining adequate inventories the firm can set up relatively longer run of the machines so as to reduce set up cost per unit.

Introduction And Importance Of Inventory Management

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Introduction To Inventory Management

The term inventory refers to the goods or materials used by a firm for the purpose of production and sale. It also includes the items, which are used as supportive materials to facilitate production.
There are three basic types of inventory: raw materials, work-in-progress and finished goods. Raw materials are the items purchased by firms for use in production of finished product. Work-in-progress consists of all items currently in the process of production. These are actually partly manufactured products. Finished goods consists of those items, which have already been produced but not yet sold.

Inventory constitutes one of the important items of current assets, which permits smooth operation of production and sale process of a firm. Inventory management is that aspect of current assets management, which is concerned with maintaining optimum investment in inventory and applying effective control system so as to minimize the total inventory cost.

Importance Of Inventory Management

Inventory management is important from the view point that it enables to address two important issues:

1. The firm has to maintain adequate inventory for smooth production and selling activities.

2. It has to minimize the investment in inventory to enhance firm's profitability.

Investment in inventory should neither be excessive nor inadequate. It should just be optimum. Maintaining optimum level of inventory is the main aim of inventory management. Excessive investment in inventory results into more cost of fund being tied up so that it reduces the profitability, inventories may be misused, lost, damaged and hold costs in terms of large space and others. At the same time, insufficient investment in inventory creates stock-out problems, interruption in production and selling operation. Therefore, the firm may loose the customers as they shift to the competitors. Financial manager, as he involves in inventory management, should always try to put neither excessive nor inadequate investment in inventory. The importance or significance of inventory management could be specified as below:

* Inventory management helps in maintaining a trade off between carrying costs and ordering costs which results into minimizing the total cost of inventory.

* Inventory management facilitates maintaining adequate inventory for smooth production and sales operations.

* Inventory management avoids the stock-out problem that a firm otherwise would face in the lack of proper inventory management.

* Inventory management suggests the proper inventory control system to be applied by a firm to avoid losses, damages and misuses.

Importance Of Cash Management

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Cash management is concerned with management of cash in such a way as to achieve the generally accepted objectives of the firm- maximum profitability with maximum liquidity of the firm. It is the management's ability to recognize cash problems before they arise, to solve them when they arise and having made solution available to delegate someone carry them out.

An effective and efficient cash management is considered to be important for the following reasons:

1. Cash management ensures that the firm has sufficient cash during peak times for purchase and for other purposes.

2. Cash management helps to meet obligatory cash out flows when they fall due.

3. Cash management assists in planning capital expenditure projects.

4. Cash management helps to arrange for outside financing at favorable terms and conditions, if necessary.

5. Cash management helps to allow the firm to take advantage of discount, special purchases and business opportunities.

6. Cash management helps to invest surplus cash for short or long-term periods to keep the idle funds fully employed.

Concept Of Pricing Decision And Objectives Of Pricing Policy

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Pricing Decision
Organizations producing goods and services need to set the price for their product. Setting the price for an organization's product is one of the most important decisions a manager faces. It is one of the most crucial and difficult decisions a firm's manager has to make. Pricing is a profit planning exercise. Cost is one of the major considerations in price determination of the product. It is one of the three major factors which influence ricing decision. The two other factors are customers and competitors.

Customer: In a situation where the product has many substitutes, customers decide the price. That is, the demand of customers are the paramount importance in setting the price of the product. In such a situation, the firm should try to deliver the value, in the form of product and/or service, at the target cost so that a reasonable profit can be earned. Similarly, under competitive condition, price is determined by market forces and an individual firm or an individual customer can not influence the price.
Competitors: When there are only few players in the market, competitors usually, react to the price changes and, therefore, pricing decisions are influenced by the possible reaction of competitors. As such management must keep watchful eye on the firm's competitors. That is, knowledge of competitors' strategy is essential for pricing decision in an oligopoly situation.
Cost: Cost is the third major factor. Its role in price setting varies widely among industries. Some industries determine price by market forces and in some industries, managers set prices a on the basis of production costs. Firms want to charge a price that covers its costs like production costs, distribution costs and costs relate with selling the product and also including a fair return for its effort.

Objectives Of Pricing Policy
Formulation of pricing policy begins with the classification of the basic objectives of the firm. Pricing objectives have to be in conformity with overall organizational objectives. In most of the situation, profit maximization is the main objective of price policy, but it is only one objective. Following may be other objectives of pricing policy in an organization:

1. Pricing the goods based on reasonable costs.
2. Increase the market share or growth rate at the expense of immediate profits.
3. Avoid adverse public reaction consequent on charging high price.
4. Ethical consideration not to reap high profit.
5. Immediate survival of the firm.
6. Charge reasonable price so as to have good relations with government and public at large.
7. Maximization of prestige of the firm rather than profit, and
8. To safeguard against the emergence of new producers in same line.

Although its importance varies from firm to firm, pricing is one of the tools that a firm has at its disposal in its attempt to reach the stated objectives.

Advantages And Disadvantages Of Leasing

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Advantages Of Leasing
Acquisition of long-term assets requires huge cash outlay which is some times quite beyond the financial capacity of the actual user. In such a situation, the user can lease such capital assets. Leasing serves as a long-term funding that can be used for acquisition of capital assets. The advantages of leasing are as follows:
1. Leasing Permits Alternative Uses
A leasing arrangement provides a firm with the use and control over the assets without incurring huge capital expenditure and requiring to make only periodical rental payments. Thus, leasing saves funds for alternative uses.

2. Leasing Arrange Faster And Cheaper Credit
Leasing companies are generally more accommodating than banks and other financial institutes in respect of terms of financing. As such, it has generally been found that acquisition of assets under leasing arrangement is cheaper and faster as compared to acquisition of assets through other sources of financing.

3. Leasing Increases Lessee's Capacity To Borrow
Leasing arrangements enable the lessee to use more of its own funds for working capital purposes instead of using low yielding fixed assets. The debt-equity ratio of lease does not alter because of assets acquired under lease arrangements. As such lease arrangements can resort to further borrowings in case the need arises.

4. Leasing Protects against Obsolescence
Lease arrangements helps to protect the lessee against the risk of obsolescence in respect of the assets which become obsolete at a faster pace.

5. Boon For Small Firm
Acquisition of assets through a leasing arrangement is particularly beneficial to small firms which can not afford to raise their capacity on account of scarcity of financial resources.

6. Absence Of Restrictive Convenience
The financial institution while lending money usually attach several restrictions on the borrowers as regards management, debt-equity norms declaration of dividends etc. Such restrictions are absent in the case of lease financing.

7 Trading On Tax Shield
In case of a non-tax paying lessee, the cost of financing an asset is much higher as compared to a tax-paying lessee. However, when tax-paying owns the assets, he generally passes a part of the tax benefit to the lessee by means of lower rental charge. As a result of this favor, the real cost of the asset to the lessee, work out to be lower than that what it would have been if he were the owner of the assets.

Disadvantages Of Leasing
Major disadvantages of leasing are as follows:

1. Deprived On Ownership
In a leasing arrangement, the lessee does not get the ownership of the asset. it gives only the right to use. As such, the lessee, cannot pledge the asset for securing loan from financial institutions.

2. Deprived Of The Asset IN Case Of Default
In case the lessee makes a default in rental payment, the lessor is entitled to take over the asset and the lessee has no right to prevent him from doing so.

Concept Of Lease Or Purchase Decision And Its Evaluation Process

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Lease Or Purchase
Leasing is a contract between the owner(lesser) and the lessee for the hiring of a specific assets. Leasing can apply to any fixed assets and quite commonly used for plant and machinery, office equipment and motors vehicles. Instead of acquiring these assets for itself, the company enters into an agreement with a leasing company whereby the latter purchase the assets in question and then lease them ( rent or hire them) on a long-term basis to the former. No initial funds are required but there is instead a regular charge for lease payments to be charged in the profit and loss account. The lessee obtains possession and use of the asset in exchange for the rentals, while the lessor retains legal ownership.
Leases are of two types:
a) operating Leases, and
b) finance leases
Operating lease is one where an asset leased or hired for a period of time substantially less than that of its useful life. A finance lease is one which last for the whole of an asset's useful life and where the lessee effectively takes all the risks and benefits associated with ownership.

Leasing an asset from the lessor or purchase of asset by borrowing the full purchase price of asset should be compared as financing alternatives that are dependent on the investment decision. As such, such investment have been evaluated as part of a company's capital budgeting process and mostly use the NPV method by analysis using the after tax cost of debt as the discount rate for decision making. It means a firm should evaluate whether to purchase an asset or acquire by leasing. Lease rental payments are similar to the payments of interest on debt so leasing may be an good alternative to borrowing for the firm. Thus, lease financing is made using NPV method using the after-tax cost of debt as the discount rate.

Steps Involve In Evaluating The Lease Or Purchase For Decision Making

1. Determine the after tax cash outflow for each year under lease alternative as under:
(Lease payment amount - tax benefit on lease payment=$..) tax rate X lease payment

2. Determine the NPV of after tax cash outflow amount using after tax cost of capital (cost of capital X tax rate) or Cost of capital(1-tax rate). That is, determine PV of cash flows associated with the leasing alternative.

3. Determine the after tax cash outflow under buying alternative based on borrowing (PV of purchase price - PV of tax benefits of depreciation provided). That is, PV of cash flow associated with the buying alternative will be ascertained.

4. The decision between buying or leasing will be made by comparing the NPV under each of the alternatives. The alternative having lower NPV will be preferred

Note: Principle and interest payments when discounted at the appropriate borrowing rate will always be equal to the amount borrowed. Therefore, there is no need to consider the principal and interest repayments.
Select the alternative with low present value of cash outflows.

Concept Of Sell Or Process Further Decision

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Joint products have common process and joint cost of production up to a split-point. At split-off point they become distinguishable. That is, after completing common process, the joint products will be separated. Often joint products are sold at the separation/split-off point. But sometimes, it is more profitable to process a joint product further beyond the split-off point, prior to selling it.Such additional processing adds value to a product and increases its selling rice above the amount, for which it can be sold at split-off. Manager has to decide whether a product is sold at split-off point or sold after further processing. That is, determining whether to sell or process further is an important decision that a manager must take.

Further processing not only increase the total revenues but also incurred additional costs. Therefore, the process further decision depends on whether the increase in total revenue exceeds the additional cost incurred for processing beyond split-off point. That is, incremental analysis provide the solution to sell or process further decision. Joint cost incurred prior to split-off point have no effect on the decision. The cost incurred before split-off point are past costs, sunk cost or irrelevant cost for sell or process further decision. Only future incremental revenue and differential cost should be considered. And incremental revenue is to be compared with incremental costs. The alternative which gives more benefit(incremental revenue- incremental cost) must be adopted.

Concept Of Equipment Replacement Decision

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Some time choice to be made between retention or replacement of equipment. Basically, replacement of machine or equipment is a capital investment or long-term decision requiring use of discounted cash flow technique. But, here discussion is confined to short range problems. Therefore, only one aspect of replacement will be dealt with, i.e. how to deal with written down/book value of old equipment. And differential cost approach is primarily followed because replacement will invariably involve additional fixed cost. Major considerations relevant to decision are given below:

- Determine relevant items of cash outflows and inflows due to the decision.

- Book value or written down value is irrelevant for the decisions- loss on sale of old machinery is irrelevant for this decision.

- Sales proceeds of old equipment is relevant for the decision and be considered for this analysis.
 Replacement of machinery may bring down the cost per unit, but it may involve capital outlay. Here the firm may have to decide at what point replacement will be justified.

- Profit or loss on sales of assets being replaced may affect tax payment and this taxation effect should be included in analysis.

Items Of Differential Cost:
- Capital equipment and associated cost, viz, interest and depreciation.
- Loss on sales of old equipment ( if affect by tax)
- Increase in fixed overhead cost.

Items of Differential Benefits:
- Saving in operating cost - tax benefits if any
- Increase volume and value of production
- Realizable value of old machine.

Concept Of Drop Or Continue Decision

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The management of the company may face a problem of dropping/shutdown or continuing the manufacturing and marketing facilities. It is always in the interest of company to continue to operate facilities as long as products or services sold to recover variable cost and make a contribution toward recovery of fixed cost.

But the problem of drop or continue arise when the income statement regarding the product shows a loss. Then management of the company attempts to find out the reasons for loss and makes decision regarding drop or continue the manufacturing and marketing facilities.
In deciding whether to continue or drop, expected future revenue should be compared with the relevant cost. For this, the relevant cost must be separated into variable/avoidable and fixed/unavoidable cost. Certain cost- fixed cost- does not eliminate by dropping facilities, like depreciation, interest, property tax and insurance. These costs continue during complete inactivity also.

If operations are continued, certain expenditure connected with shutting down will be saved. Such expenditure includes reopening cost.expenses, cost for recruiting and training to new workers etc.
For taking decision to drop or continue the facilities, income statement should be prepared under contribution margin format. Income statements for drop or continue facilities will show:
- Contribution margin
- Net profit and,
- Percentage of net income to net sales

Alternative which has higher contribution margin should be chosen as it will absorb the fixed cost and gives higher profit. Facilities with high amount of fixed cost cannot be dropped as the fixed cost is irrelevant cost and fixed cost will not decrease by dropping the particular facilities.
Fixed cost imposed by dropping the facilities will have to be paid cumulatively in total resulting extra burden of fixed cost to continuing facilities and thereby reduced overall profit of the company.
So, the decision of dropping or continuing the facilities should be judged on the basis of overall company profit.

Concept Of Special Order Decision

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The decision to accept or reject a specially priced order is common in both service industry and manufacturing firms. Manufacturers are often faced with decisions about selling products in a special order at less than full price. The correct analysis of such decisions focuses on the relevant costs and benefits.

The correct analysis of cost and revenue employs the relevant cost approach. Irrelevant costs should be avoided from the analysis. Fixed costs, which often are allocated to individual unit of product or service, are usually irrelevant. Fixed costs typically will not change in total, whether the order is accepted or rejected. But incremental fixed cost is relevant cost. But there is no harm in including such irrelevant item in an analysis so long as they are included under every alternative being considered.

When excess capacity exists, the only relevant cost usually will be the variable costs associated with the special order. When there is no excess capacity, the opportunity cost of using the firm's facilities for the special order are also relevant to the decision.
The decision to accept or reject special order depends upon how the acceptance of the order will affect the short term financial result.

The overall profit will increase if the future total revenue from the special order exceeds the relevant cost. If the future total revenue is lower than the relevant cost, the special order should not be accepted.

Concept Of Make Or Buy Decisions

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Make Or Buy Decisions
A firm may be manufacturing a product by itself. It may receive an offer from an outside supplier to supply that product. Similarly, a firm may be buying a product from outside., it may be considering to manufacturing that product in the firm itself.
Such problem of make or buy be faced by companies which manufactures the goods assembling various sort of components parts like Television, Motor car, Watch, Computer etc. manufacturing companies. Make-or-buy decisions are not short-run in nature but fall into the small-scale tactical decision category. The decision to make or buy may be motivated by cost leadership and/or differentiation strategies. Making instead of buying or buying instead of making may be one way of reducing the cost of producing the main product. Alternatively, choosing to make or buy may be a way of increasing the quality of the component and thus increasing the overall quality of product.
A company has to take make or buy decision when it has to face following choices:
i. Buy certain part or sub-assemblies from outside suppliers, or
ii. Use available capacity to produce the item within the factory.

Cost analysis for make or buy is necessary. The decision in such case will be made by comparing the price being paid to outsides and all additional costs that will have to incurred for manufacturing the product. This type of make or buy decision should be made only after a proper analysis that compares manufacturing costs with purchasing costs and assess the best used of the available facilities. Consideration of a 'Make' option automatically implies that the company has the available capacity for that purpose or has considered the cost of obtaining the necessary capacity in the decision analysis.

Relevant Information Regarding Make Or Buy Decisions Are As Follows:
- Incremental production cost for each unit
- Unit cost of purchasing from outside supplier
- Number of available suppliers
- Quantity of production capacity available to manufacture components
- Opportunity costs of using facilities for production rather than for other purposes
- Quality for space available for storage
- Costs associated with carrying inventory
- Increase in through put generated by buying components.

Concept Of Cash Budget And Its Preparation

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A cash budget is a summary of the firm's expected cash inflows and outflows over a projected time. In other words, cash budget involves a projection of future cash receipts and cash disbursements over various time intervals. So, it is also called as cash receipts and cash disbursements budget. Cash budget helps the management in:

i. Determining the future cash needs of the firm.

ii. Planning for financing of those needs

iii. Exercising control over cash and liquidity of the firm.

The overall objective of cash budget is to enable the firm to meet all its commitments in time and at the same time prevent accumulations of unnecessary large balance with it.

Cash budget is mostly prepared on cash receipts and payments basis which is called Receipt and Payment Method. In this method, the cash receipts from various sources and cash payments to different agencies are estimated. Cash requirement of all functional budgets including capital expenditure budget are taken into account. Accruals and adjustments are excluded while preparing the cash budget by receipt and payment method. All the anticipated receipts are added to the opening balance of cash and expected cash payments are deducted from the total of this to arrive at the closing balance of cash for the period. The receipts and payments may be divided into two specific categories as follows:
A. Capital receipts
- Sales proceeds from capital assets
- Proceeds from issue of shares and debentures
- Loan from financial institutions

B. Revenue receipts
- Cash sales, collection from debtors and bills receivable
- Interest on loan and advances, investments
- Dividend receipts
- Others

A. Capital payments
- Redemption of redeemable preference shares and debentures
- Payment of long term loan
- Purchase of fixed assets

B. Revenue payments
- Cash purchases, payments to creditors
- Payment of wages and salaries
- Payment of overheads
- Payment of selling and administrative expenses
- Payment of interest, bonus, dividend and donations
- Payment of short term bank loan
- Payment of Taxes

The preparation of cash budget is based mainly on following information:
- Detailed estimate of cash receipts
- Detailed estimate if cash disbursements
- Time lag in induced by credit purchases
- Desired ending cash balance

If the ending cash balance is in excess of desired ending cash balance , the loan may be repaid to temporary investment may be made. And if ending cash balance is less than desired one, then borrowing will be made.

Specimen Of Cash Budget

Beginning cash balance
+ Cash receipts from sales and collection
+ Borrowing - issue of debentures
+ Issue of shares
+ Sale of investment and fixed assets
+ Receive of interest and dividend
= a) Cash available for disbursements
- Cash purchases
- Payment to creditors
- Payment of wages and salaries
- Payment of overheads
- Payment of selling and administrative expenses
- Repayment of loan
- Redemption of debentures
- Purchases of fixed assets
= b) Total cash needed for payments
- Cash excess or deficiency (a-b)
- Minimum desired balance
= Cash(needed) or available for investment or repayment of loan.

Concept And Preparation Of Cost Of Production, Cost Of Goods Sold And Selling And Administrative Budget

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Cost Of Production And Cost Of Goods Sold Budget
Budgeted production cost is known as cost of production budget. It is the aggregate of budgeted material cost , budgeted direct labor and budgeted factory overhead.

Cost Of Production Budget

Budgeted volume of material use...........................XXX
Add: Budgeted direct labor cost..............................XXX
Add: Budgeted factory overhead............................XXX
= Budgeted cost of production.................................XXX
Add: Budgeted value of opening stock...................XXX
= Budgeted value of goods available for sale.........XXX
Less: Budgeted value of ending stock....................XXX
= Budget value of cost of goods sold.......................XXX

Selling And Administrative Expenses Budget
Selling and administration expenses includes both fixed and variable expenses. Administrative expenses includes:
* Clerical wages and executive salaries
* Supplies, postage and telephone etc.

Selling and distribution expenses includes:
* Sales commission and salaries
* Advertising and sales service expenses
* Travelling expenses
* Carriage and freight on sales
* Packing cases and wages of packers
* Miscellaneous selling and distribution expenses

Concept Of Direct Labor Cost Budget And Factory Overhead Budget And Their Preparation

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Direct Labor Cost Budget

Labor cost budget is calculated on the basis of labor hours required for budgeted production volume and labor hour relate for each type of labor force. Given expected/budgeted production, The Engineering and Personnel Department can work together to determine the necessary labor requirement for the production/factory department. Labor requirements are stated in total number of workers, specific number of skilled, and unskilled workers and production hours needed for given production volume. Labor costs computation includes monetary costs and fringe benefits given to labor force.

A general format for labor cost budget is given below:

Direct Labor Cost Budget
....................................................................Product A...........Product B........Total
Budgeted production units.......................XXX.......................XXX
Direct labor hour per unit of output........XXX.......................XXX
Budgeted total labor hours:.....................XXX.......................XXX
Rate per DLH...............................................X $.........................X$
Budgeted Direct labor costs.......................$XXX.....................$XXX...........$XXX

Factory Overhead Budget
Factory overhead is also known as manufacturing overhead. It is the aggregate of indirect expenses of factory department. Factory overhead includes both variable and fixed factory overhead and include following expenses:
* Factory rents and rates, lighting and heating
* Factory power, fuel and insurance
* Factory salaries, indirect wages and pension
* Factory stationary and printing
* Canteen, medical, educational and entertainment facilities to the factory workers.
* Repairs and maintenance of plant and machinery and factory building
* Depreciation, insurance of the factory building, plant and machinery, tools and equipments.

Concept And Preparation Of Material Usage Budget And Material Purchase Budget

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Material Usage Budget And Its Preparation
Material usage budget is prepared after the determination of production need. Material consumption budget is depends upon the production volume. Material consumption per unit of output helps to prepare material uses budget for different types of materials to be consumed by the output. Budgeted production volume multiply by material per unit of output gives the budgeted consumption of material which then multiply the purchase price per unit and gives budgeted value of material use as under:

Material Consumption Budget
.................................................................Product A...........Product B
Budgeted Production Units.........................XX.........................XX
+) Material consumption/output...............XX.........................XX
Budgeted use of material............................XX..........................XX
X) Per unit purchase price............................$............................$
Budgeted value of material use.................$ XX.......................$ XX

Material Purchase Budget And Its Preparation
Manufacturing Company:
Manufacturing company purchase raw materials for its products to be produced. The quantity of materials to be purchased is determined by both production volume and inventory requirement. Purchase budget helps to determine the quantity and value of materials required for the budgeted period and also the inventory of materials required to be maintained. It is determined considering the consumption for budgeted production volume and opening and closing inventory requirement as under:
Material Purchase Budget
..............................................................Material A...................Material B
Budgeted consumption units..............XXX..............................XXX
Add: Required closing inventory........XXX..............................XXX
Total requirement................................XXX.............................XXX
Less: opening inventory.......................XXX.............................XXX
Budgeted purchase quantity................XX................................XX
X: Budgeted purchase price..................$X................................$X
Budgeted material purchases................$XX.............................$XX

Merchandising Company:
Merchandising company prepare merchandise purchase budget. Merchandise purchase budget is dependent not only a budgeted sales units but also on beginning and ending stock of merchandise. A merchandise purchase budget may be expressed in both units and price. General format of merchandise purchase budget is as follows:
Merchandise Purchase Budget

Budgeted Sales Volume................................................XXX
Add: Budgeted ending inventory................................XXX
Merchandise required to be available........................XXX
Less: Beginning inventory............................................XXX
Budgeted purchase units...............................................XXX
Budgeted purchase price/unit......................................X $
Budgeted purchase value..............................................$ XX

Concept Of Production Budget And Its Preparation

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Production Budget

For manufacturing companies production budget is prepared prior to sales budget. Production budget shows the quantities to be produced for achieving sales targets and keeping sufficient inventories. A production budget is stated in physical units.

Budgeted production volume = Budget sales units + Closing Inventory - Opening stock
Budgeted sales volume + desired closing inventory - opening inventory

Thus production is based on budgeted sales volume and desired inventory level. The responsibility for the preparation and operation of production budget lies with production manager.

Preparation Of Production Budget
Following steps are followed while preparing production budget:

1. Limiting factor(s) both in sales budget as well as production budget should be considered and overcome. If production itself happen to be limiting factor, effort should be made either to increase the budgeted production or to revise the sales budget itself.

2. Inventory policy is also to be taken into account. Production budget should be such as to cover sales units and adjusted inventory units. Where the sales is governing factor and expected sales for present is not enough, it may decide to produce up to capacity, or above the present requirements for inventory accumulation, for reduction of cost or for meeting the additional sales requirements. On the other hand, it may also be decided to scale down the present stock level of certain products and divert the plant capacity for the production of other products.

3. By analyzing the production scheduling any bottleneck in the production process should be found. Keeping into account this bottleneck, production estimate be revised downward or a decision to extend the capacity of that stage may be taken up.

4. If various products are manufactured, production estimates should be expressed in standard hours and not in units.

Key factors which usually control the quantity that can be manufactured are:
* Raw material Supply
* Labor Supply
* Plant Capacity
* Storage Capacity

Management adopts various measures to minimize the incidence of key factors. Following are the some of such measures:
* Working overtime - Shift working
* Using alternative raw materials
* Out-souring of finished products or components
* Re-designing of product to reduce the production bottleneck
* Improved plant lay out
* Installation of balancing facilities to even out the imbalances
* Installation of additional and/or improved plant
* Training of workers
* Introduction of incentive schemes
* Method improvements

The stock of work-in-progress should be expressed in equivalent finished goods terms and then should be treated as inventory.

Concept Of Sales Budget And Its Preparation

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The sales budget provides an estimate of goods to be sold and revenue to be derived from sales. Sales budget is a starting point in the budgeting procedure. That is, budgeting exercise usually commences with the preparation of the sales budget because the customers' demand is usually the key factor for most organizations.
Sales budget is one of the functional/operating budgets and is essentially, a forecast of sales to be effected in a budget period. Sales budget defines the quantities and values of expected sales in total as well as product wise and area wise during definite future period.
Sales budget forms the fundamental basis for other functional budgets and it is needed to coordinate the production function with expected demand for a particular product. The preparation of sales budget requires forecasts of quantities to be sold and standard prices at which these quantities may be sold.
Up-to-date statistics covering the following area are usually compiled to prepare sales budget:

1. Past sales by the firm and by its competitors in each geographical area.
2. Movements in the total customer demand and in the market share of the firm and it competitors.
3. The total sale by the competitors in geographical areas not served by the firm.
4. In case of industrial products, trend in sales of the industries to which the customers belongs.
5. The trend of sales in each geographical area compared with trend in other areas.

It is also necessary to give careful attention on the following factors while preparing a sales budget:

1. Quantity and value of past sales.
2. General economic and market condition.
3. Relative profitability of the products.
4. Plans and policies of the firm pertaining to pricing, advertisement and sales promotion, market research etc.
5. Competition
6. Report from salesmen and the quality of the sales force.
7. Seasonal changes in sales and price change.
8. Company's productive capacity.
9. Long-term sales trends.
10. Anticipated introduction of new, improved or substitute product by the company or its competitors.
11. Expected shift of the customers to the competitor.

In most of the companies, sales estimates are prepare by each of the salesmen. These estimates move upwards through formal channel and ultimately reach the chief of the sales function, where they are compiled and adjusted for factors which are unknown to salesmen. The process involves holding of discussions with managers of all levels which broadens participant's thinking.

Concept And Process Of Preparing Master Budget

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Concept Of Master Budget
The master budget is prepared for a specific period and is static rather than flexible. Master budget is a comprehensive plan, a coordinated set of detailed financial statement of the operating plans and schedule for a short period, usually a year. It is the organization's formal plan of action for forth coming budget period. Master budget is a complete financial presentation of the operating plans of the entire company for the budgeted period. It presents all the information to the depth appropriate for the top management action. Master budget is a best media of understanding the company's micro economics relating to the forthcoming budget period. The schedule takes the shape of functional budgets. Master budget is a summary budget which incorporates all the functional budgets and it may taken the form of profit and loss account and balance sheet at the end of budget period. The master budget embraces both operating decisions and financial decisions. The operating divisions are incorporated in operating or functional budgets. Functional budgets are based for master budget. That is, preparation of master budget is not possible without preparing functional budgets.

Functional Budgets
* Sales Budget
* Production Budget
* Direct Material consumption Budget
* Material Purchase Budget
* Direct Labor Budget
* Factory Overhead Budget
* Cost Of Goods Sold Budget
* Selling Expenses Budget
* Administrative Expenses Budget

Financial Budget
* Capital Expenditure Budget
* Cash Budget
* Projected Income Statement
* Projected Balance Sheet

Process Of Preparing Master Budget
Some of the budget listed above can not be prepared until other budgets on the list are first prepare and completed. For example, the production budget in manufacturing company and the merchandise purchase budget in trading business cannot be prepared until the sales budget is available. As a result budgets within the master budget must be prepared in a definite sequence as follows:

1. Preparation Of Functional Budget:

a) Sales Budget
b) Production Budget
c) Direct Material Budget: Direct Material Uses Budget, Direct Material Purchase Budget
d) Direct Labor Budget
e) Factory Overhead Budget
f) Cost Of Production Budget
g) Cost Of Goods Sold Budget
h) Selling And Administrative Budget

2. Preparation Of Financial Budgets:

a) Budgeted Income Statement
b) Cash collection and distribution budget
c) Budgeted Balance Sheet

Audit On Behalf Of Different Types Of Partners

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The appointment of auditor is made on the basis of agreement or partnership deed in partnership firm and auditor should perform work for the shake of all partners. Following partners may make audit of partnership firm:

A) Audit On Behalf Of A Sleeping Partner
A partner who does not take any part in the business is known as sleeping partner. He invests his capital, he is entitled to profits, his liability is unlimited and so on. When this liability is unlimited and he cannot take active part in the business, naturally he would like to know as to how the business is being carried on, and that his co-partners are not handling the business in such a way that ultimately he may lose his capital. Therefore, he may appoint an auditor to examine the accounts to safeguard his interest. Of course, this is possible when there is a provision in the Partnership Agreement to that effect or all the other partners agree for such audit. The auditor so appointed should see that the interest of his client, viz, the sleeping partner, is not sacrificed and that it is safe. Auditor should pay particular attention to the following points:

1. No excessive reserve is created or over-depreciation is provided as it will reduce the amount of profit to be distributed to the partners.

2. Capital expenditure is not charged to revenue account as it will have the same effect on the divisible profit.

3. The active partners do not withdraw more money on account of profit or capital than that which is allowed by the partnership agreement.

4. The active partners do not indulge in speculative transactions which do not form part of the ordinary business.

B.) Audit On Behalf Of A Retiring Partner
An auditor is appointed by a retiring partner to see that the assets and liabilities are properly valued and that his account is correctly prepared to show the amount due to him. The auditor so appointed must pay attention to the following points:

1. Auditor should read the carefully especially the provisions relating to the retirement of a partner.

2. Auditor should see that such provisions are properly carried out.

3. Assets and liabilities are properly and correctly valued.

4. Outstanding assets specially goodwill and liabilities are brought into account and they are correctly valued so that the amount of profit or loss arrived at on the date of retirement is correct and, therefore, the amount due to the retiring partner is correct.

5. After taking into consideration the above points, the auditor should see what amount is due to the retiring partner.

6. The amount so due to a partner, sometimes, is payable at once, or by installments in subsequent years. The auditor should see that the terms of the original agreement related to the repayment of money due to a retiring partner are properly carried out. If the amount is to be paid by installments, he should see that it is transferred to the Loan Account and that the interest due to such loans is duly credited to the retiring partner's Loan Account.

C) Audit On Behalf Of The Representative Of A Deceased Partner
The line of action by the auditor in such a case will be the same as in the case of auditor appointed on behalf of a retiring partner. The deceased partner might have died during the course of the financial year and, therefore, the question of computation of the profit or loss, up to the date of death arises. Profit or loss maybe calculated on the basis of the average profit or loss of the previous year or the books of accounts may be closed on the date of the death of the partner and Profit and Loss Account may be prepared up to that date. But which course should be adopted? For this, auditor should refer to the terms of the agreement.
Again the question of computing goodwill of the firm may arise. Goodwill item may not exist in the books of account. He will have to refer to the agreement in which usually a provision is made that goodwill is to be calculated on the basis of the average profits of the previous two or three years. Auditor should see that it is computed correctly and that no capital expenditure is charged to revenue account as this step will reduce the net profit and consequently the share of deceased partner will also be reduced.
Auditor should also see that correct amounts are charged to revenue account so that the interest of the deceased partner is not sacrificed. Finally, the auditor should see that the account of the deceased partner is correctly debited and credited and thus find out what amount is due to such partner. Auditor should also find out from the Partnership Agreement as to how the amount due to the representative of the deceased partner is to be paid and advise the representative accordingly.

D) Audit On Behalf Of Quasi Partner
Sometimes an outgoing partner may leave his money to the business in the term that certain rate of interest will be charged on that amount. To know the safety of his investment, he may appoint an auditor on the basis of agreement. An auditor should conduct audit considering the interest of his client and business. He should consider the following facts while conducting audit:

1. Auditor should receive instruction from client in written form.

2. Auditor should check whether the profit and loss are properly calculated or not.

3. Depreciation on assets is properly deducted or not.

4. Amount of drawing drawn by the partners is within the limit of agreement or not.

5. Whether the capital expenditure is shown as revenue expenditure or vice-versa or not.

6. Whether the transactions of the firm are performed with personal interest or not.

Related Topics
Audit Of Non Governmental Organizations(NGOs)
Audit Of Charitable Institution
Audit Of Educational Institutions

Meaning Of Audit Report And Points To Be Considered While Preparing Audit Report

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Audit Report
The preparation of audit report is the last work of audit. An auditor presents weakness, strength and details of an organization by preparing audit report. Audit report accumulates all the facts of audit. So, it is the proof of conducting audit properly.

Audit is related with the examination of books of accounts on the basis of regularity, rationality, economy and efficiency. An auditor checks the books of accounts on the basis of evidential documents. So, a financial statement is prepared by the auditor on the basis of information collected from the examination of evidential documents and records. An auditor should prepare report incorporating the facts found during the course of audit which is known as audit report.

Audit report is an important document in which the auditor sets forth the scope and nature of the audit and also gives his impartial opinion regarding the client's financial statement. It is the last outcome of every audit. We can find vast difference in the reports which were prepared previously and the reports prepared nowadays because the responsibility of an auditor is increased highly. So, an auditor should prepare report considering the following facts:

1. Address should be made to the authority that has appointed him.

2. Auditor should express his opinion in connection to financial statements.

3. Auditor should prepare report based on the facts found after the examination of all the books of accounts.

4. Date must be written in report which shows the duration of audit.

5. Audit report may clean, qualified and adverse.

6. All the facts incorporated in report should be concise, clear and correct

Related Topic
Content Of Audit Report.