A Project will cost Rs.40,000/- ; Its stream of equations before depreciation, interest and tases EBDIT during 1st yr.
through 4 years is expected to be 15,000 ; 20,000 ; 25,000 ; 30,000. Assume 50% tax rate and 10,000 depreciation in straight line.
period 1 2 3 4 Average
1.Earning before depreciation 15000 20000 25000 30000 22500 interest & taxes (EBDIT)
2. Depreciation 10000 10000 10000 10000 10000
3. Earning before interest 5000 10000 15000 20000 12500 (EBIT)
4. Taxes 50% 2500 5000 7500 10000
5. Earning before interest & 2500 5000 7500 10000 6250 after Tax [EBIT (1-T)]
6.Book Value Investment
Beginning 40000 30000 20000 10000
Ending 30000 20000 10000
Average 35000 25000 15000 18750
AverageIncome 6250
ARR = = x 100 = 33.33%
AverageInvestment 18750
ARR > target rate - accept
< ,, - reject
Operational & Capital Budget
• Budgeting or profit planning is a detailed action plan during a period of one year or less.
• Firm or organization should achieve its objectives by minimizing the use of resources.
• Financial planning indicates a firm 's growth, Performance, investment and requirement of funds during a given period of time usually 3 or 5 years.
1. Financial Planning
• Growth in sales is an important objective of any firm
Downloaded from www.bhawesh.com.np/ 28
• Increase in firm's market share lead to higher growth.
• Firm needs assets for higher growth.
• It requires to increase production capacity for which additional plant and machinery has to be added.
• When internally generated fund of the firm will not be sufficient to meet above mentioned needs, then firm needs to manage external fund i.e. by in using equity or debt or both
The process of estimating the funds requirement of a firm and determining the sources of the fund is known as financial planning.
Financial forcasting is the basis of financial planning and financial forcasting is the estimate of future fund based on past data.
2. Steps of Financial Planning
1. Past Performance : Analysis of past performance of the firms financial strength weakness
2. Operating Characteristics : Analysis of firm' s operating characteristics like product, market, competition, production & marketing policies, control system, operating risk.
3. Corporate Strategy and Investment Needs:
Determining the firm's investment needs and overall strategy.
4. Cash flow from operation : For casting firm's revenue and expenses based on its investment and dividend policies.
5. Financing Alternatives : Analysis of financial alternatives and dividing appropriate means of raising fund.
6. Consequences of financial plans : Analysis the consequences of its financial plans for the long term health and survival to firm.
7. Consistency : Evaluating the consistency of financial policies with each other and with the corporate strategy.
Financial planning is long -term plan of the firm which includes long -term growth and profitability, investment and financing decision.
3. Profit Planning (Budget)
Profit planning or Budget is short-term financial plan. It is an action-plan to guide managers in achieving the firm's objectives. A budget is a comprehensive and coordinate plan, expressed in financial term.
The basic elements of budget are:
• It is comprehensive & coordinated plan
• It is expressed in financial term
• It is a plan for the firm's operation and resources
• It is a future plan for specified periods.
A Budget is :
• Integrated plan
• Financial Qualification
• Operations & Resources
• Time Element
The major objectives of Budget are:
• the firm's expectations (goals) in clear and formal terms to avoid confusion and to facilitate their attaintability.( Statement of expectation)
• to communicate expectations of the firm to all concerned staff of the firm, so that they can understand, support & implement (communications).
• to provide detail action plan (planning).
• to coordinate the activities and efforts in such a way that the use of resources is maximized.
(Coordination)
• to provide a means of measuring, controlling the performance of individuals and units and to supply information on the basis of which the necessary corrective action can be taken (Control).
Preparation of profit plan (Budget)
A comprehensive planning and budgeting system generally includes.
a) A sales budget b) A production budget c) A purchasing budget d) A cash budget
e) Performa financial statement f) Capital expenditure budget
a) Sales Budget
i) The area wise sales of products A & B are as follow:
Sales Area product %
A B
X 10 50
Y 20 30
Z 70 20
ii) The selling price of product A is Rs.10, & B is Rs. 20.
iii) Sales forcast in monthly basis are as follow:
Product Jan Feb March Total
(No) (No) (No) (No)
A 500 1000 1500 3000
B 1000 2000 3000 6000
Jan Feb March
1. Sales Budget I . Estimate sales of A: 500 units 1000 15000
Month Desired closing stock 200 500 700
Area of Product Jan Feb March Total(Rs)
Sales Area X Total: 700 1500 2200
Product A 500 1000 1500 3000 (-)Opening stock: 400 500 800
Product B 10000 20000 30000 600000 Unit A to be produced : 300 1000 1400
Total of Area : 10500 30000 31500 63000
Sales Area Y
Product A 1000 2000 3000 6000
Product B 6000 12000 18000 36000
Total of Area : 7000 14000 21000 42000
Sales Area Y
Product A 3500 7000 10500 21000
Product B 4000 8000 12000 24000
Total of Area : 7500 15000 22500 45000
Total for all areas 25000 59000 75000 159000
2. Production Budget
II. Estimate sales of B: 1000 2000 3000
Desired closing stock 500 1000 1500
Total: 1500 3000 4500
(-)Opening stock: 500 1000 1500
Unit B to be produced : 1000 2000 3000 3. Purchasing Budget
In the production of each product A and B needs one common material. Say to produce A need 2 units of materials and to produce B 4 units of materials. The cost of one unit of materials is Rs 2/- Labour cost is Rs5/- per hour in which one can produce 1 unit of materials.
Budgeted Production (units) = (Sales estimate + Desired /
Expected closing stock) - opening stock Then Purchasing Budget is as follow:
Jan Feb March
a) Material needed to Produce A
(1 unit x 2 unit of materials) 600 2000 2800
b) Materials needed to produce B
(1 unit x 4 unit of materials) 4000 8000 12000
Total production needed 4600 10000 14800
(+) Desired closing balance 2000 5000 8000
6600 15000 22800
(-) Opening balance 3000 8000 10000
Purchase (units) 3600 7000 12800
Cost of purchase @
Rs.2/- per unit 7200 14000 25600
4. Labour Budget
Jan Feb March
Units of A to be produced 3000 1000 1400
,, ,, B ,, ,, ,, 1000 2000 3000
Total Units 4000 3000 4400
Total hours at 1 hr per unit 4000 3000 4400
Total labour cost @ Rs.5/- per hr (Rs)20000 15000 22000
4. Cash Budget
Jan Feb March
Description
a) Opening cash balance b) Add cash collection
From sales + debtor collection
c) Less cash disburshment, Raw materials purchase d) Total cash disburshment
e) Cash surplus or deficit
f) Min-cash balance (ending) g) Borrowing (repayment) h) Interest
i) Cash balance ending
5. Performa Income Statement
Rs Rs
Sales Revenue *
Cost of goods sold
Product A *
Product B *
**
Gross Profit (*-**)
Operating expenses
Salaries -
Rent -
Sales Commission -
Interest -
Depreciation -
Net Profit
X (*-**)-X