Budgeting for Conversion Costs and Support Services

1
Budgeting for Conversion Costs and Support
Services
Lecture 3

• Planning for direct labor, indirect product
  costs, and support services

2
Interrelated Budgets
3
Other Expense Budgets

• Direct labor
• Factory overhead
• Indirect or support costs
• Selling and marketing
• Administrative and corporate overhead

4
Direct Labor

• Number of workers needed
• Pay rates and benefits
• Workers needed depends on
• Number of units produced or services provided
• Time to assemble each unit or perform service
• Expected nonproductive (downtime)

5
Estimating fringe benefits

• There are many fringe benefits paid in whole or
  part by the employer
• For simplicity, someone at the corporate level
  may provide an average percentage of salary to be
  used for budgeting purposes

6
Salaries benefits where?

• Direct labor costs
• Indirect labor
• Sales and marketing salaries
• Administrative salaries

7
Factory Overhead

• Overhead cannot be directly associated with a
  particular product
• Traditionally, FOH has been applied to products
  on a simplistic basis using a single cost pool
  and a single cost driver
• Direct labor hours
• Direct labor dollars
• Direct materials cost

8
Accounting for overhead

• GAAP requires Full Absorption Costing
• This means that both fixed and variable
  production costs must be assigned to products
• Applies to EXTERNAL reporting
• Variable Costing and other methods can be used
  internally

9
Budgeting overhead

• FOH is budgeted in two parts
• Variable costs (VFOH)
• Increases as production units or hours increase
• Some costs vary with materials used
• Other costs are related to labor
• Fixed costs (FFOH)
• Depreciation, Factory Management, Janitorial
  Services, Property Taxes, etc.

10
Remember companies make choices about reporting
units and product costs that impact the details
of how budget is prepared
These choices impact what is classified as
support service vs part of product cost
11
Support Services

• We need budgets for support areas not included in
  FOH
• Research and development
• Personnel (HRM)
• Marketing and Sales
• Divisional corporate administration

12
Indirect Cost Allocations Impact on Budgeting
Process

• Each support area must come up with its budget
  before the amounts to be allocated can be
  determined
• Makes budgeting more complicated
• More iterations
• Company may choose NOT to allocate support
  service costs

13
FOH other support services

• We can get more sophisticated and detailed
• Multiple cost pools each with a different cost
  driver
• Referred to as activity based costing (ABC)

14
Proforma Income Statement

• Information needed comes from
• Sales budget
• Production and purchase budgets
• Budgets for other expenses
• What we are still missing
• Interest expense
• Interest revenue and other investment income
• Related impact on income tax expense

15
Practice Problems Set 7

• Exercise 5a and 6 (a, b c) Wet Plug Company
• Budget for direct labor
• Budget for overhead
• On pages 82-84 in text
• Due Tues, Feb. 22
• To be graded in class for HW points