- Budgeting is another important topic
in managerial accounting.
Remember that managerial accounting data
are detailed data that we use everyday inside a business,
not the kind of thing that we're going to reveal
to people outside.
Budgeting is making systematic quantitative plans
on paper so we can see problems
before they arise in the real world.
Let's consider a simple example of a cash budget.
It's the end of September, and Darrel Company
has budgeted its cash receipts and cash payments
for the next four months.
At the end of September, they've got $54,000 cash
in the bank, and they're just looking ahead
to see what's going to happen in the next few months.
In October, their cash receipts
are expected to be $10,000,
and they're forecasting necessary cash payments of $50,000.
In November, they're again expecting to collect $10,000,
and they're expecting to pay $60,000.
So October and November are going to be some lean months.
Darrel Company is going to be paying out a lot more
than they're going to be taking in.
In December, they are finally forecasting getting balanced,
as they expect to collect $40,000 and pay $40,000,
and then in January, it looks like
they will be collecting lots of cash,
perhaps because of sales during the holiday selling season
that their customers will be paying for in January.
So, Darrel expects to collect a lot of cash in January,
but there are going to be some lean times
between now and then.
It's a good idea for Darrel to sit down
at the end of September, and plan a way
through these lean cash times for the next few months.
But now it's the end of October,
and Darrel's actual cash balance is $23,000.
Is this good news, or bad news?
Well, our first thought is, this is a catastrophe.
We ended September with $54,000,
and now at the end of October, we're down to $23,000.
We're burning through our cash!
This is horrible, this is bad news indeed, let's run for it!
No, let's be calm.
What was our plan?
As of the end of September, according to our plan,
what did we think would happen?
Well, we thought we'd collect about $10,000 in October.
So, we started the month of October with $54,000
that carried forward from September,
add the $10,000 expected to be collected in October,
and that gives us $64,000.
Our plan was, we were going to have
to spend $50,000 in October.
$64,000 minus $50,000
means that our budget was that we were going to end
the month of October with $14,000.
We actually ended the month of October with $23,000.
Is that good news or bad news?
It's great news, we're ahead of schedule.
We did much better than we thought we were going to do.
This is a key aspect of a cash budget,
especially for a start up company,
or for a company that is going through a tough stretch,
such as Darrel Company is here.
Companies go through these times of cash shortage,
individuals go through these times of cash shortage,
but if you plan it out, the cash budget
gives you a more realistic, meaningful target
than just panicking and saying, hey, our cash went down.
Budgets give you hope.
Budgets give you more realistic targets
in times when maybe there will be
some temporary cash shortages.