S5. K- V ;s D'^E on the last f 
 
 
 SOUTHERN BRANCH, 
 
 I'NIVERSITY OF CALIFORNIA, 
 
 LIBRARY, 
 
 ILOS ANGELES, CALIF.
 
 Budgetary Control 
 
 By 
 JAMES O. McKINSEY, A.M., LL.B. 
 
 Certified Public Accountant; Member of the 
 
 firm of Frazer & Torbet; Assistant Professor 
 
 of Accounting, University of Chicago 
 
 Second Printing 
 
 488H5 
 
 NEW YORK 
 
 THE RONALD PRESS COMPANY 
 
 1923
 
 Copyright, 1922, by 
 The Ronald Press Company 
 
 All Rights Reserved
 
 H Y 
 
 PREFACE 
 
 Although much has been written of budgetary control 
 as appHed to particular phases of a business, this is the first 
 attempt, so far as the author is aware, to present the sub- 
 ject as a whole, and cover the entire budgetary program. 
 It is to be regarded as an effort to state clearly the problems 
 involved, rather than to offer full solutions. It is hoped 
 that the discussion will stimulate thought, and constructive 
 criticism will be gladly received. 
 
 One obvious difficulty has been the problem of what to 
 include and what to omit. The budgetary procedure in- 
 
 jr . volves administrative policies on the one hand, and admin- 
 
 ^ istrative routine on the other. The discussion might easily 
 cover the whole field of business administration, ranging 
 over a wide variety of topics about which no one individual 
 can be expected to have expert knowledge. In the present 
 work, however, the reader is addressed throughout, not as a 
 technical expert, but rather as a student of the broad prob- 
 
 ^^ lem of administration. The advertising man, for example, 
 ^ may be aided in handling his own problems through under- 
 r standing the method of applying budgetary control to the 
 
 "^ operations of all other departments of the business, as ex- 
 plained in the other chapters of the book. So with the other 
 departmental executives ; it is hoped that each of them will 
 be helped by a comprehensive picture of the problem as a 
 whole. The discussion has been kept sufficiently elemen- 
 tary, it is believed, to be easily understandable by those who 
 are not experts on the technical subjects discussed. 
 
 With this thought in mind, there has been no effort to 
 prescribe an arbitrary procedure. In some cases, assump- 
 tions have been made and definite procedures discussed, but 
 
 iii
 
 iv PREFACE 
 
 only for the purpose of making the treatment concrete ; the 
 definite procedures given are intended to be suggestive only. 
 Similarly, the various forms given are merely indicative. 
 All of them have been used by the author at some time in 
 his professional practice, but he by no means regards them 
 as standard forms. He has found it necessary to design 
 forms to meet each particular case. 
 
 Finally, no attempt has been made to discuss in detail 
 the many problems which may arise in the installation and 
 operation of budgetary control. To do so would be to make 
 the volume less useful to those for whom it is primarily in- 
 tended. It is thought that the reader who has a compre- 
 hensive picture of the entire problem will be able to make 
 his o\\Ti applications and to work out the special adjust- 
 ments required for his own situation. 
 
 The text is based primarily on the rather wide experience 
 of the author in professional work, but material assistance 
 has been received from various business men, accountants, 
 and instructors. Particular acknowledgment is due to the 
 following: Mr. W. V. Lindblom, executi\^e in charge of the 
 budgetary procedure of the Walworth Manufacturing Com- 
 pany, and Mr. Albert S. Keister, Lecturer on Business 
 Finance, University of Chicago, who have read all the 
 manuscript and given many useful suggestions; Mr. N. L. 
 McCully, executive in charge of the budgetary procedure of 
 the Lewis Manufacturing Company, who prepared the 
 chart on budgetary procedure given in Chapter XXIII ; and 
 Mr. George E. Frazer, C.P.A., the author's partner, to 
 whose counsel and assistance the author is especially in- 
 debted. . 
 
 James O. McKinsey 
 Chicago, Illinois, 
 
 June 20, 1922
 
 CONTENTS 
 
 Chapter Page 
 
 I The Meaning of Budgetary Control 3 
 
 II The Need for Budgetary Control 12 
 
 III Preliminary Steps in Installation 28 
 
 IV Organization for Budgetary Control 43 
 
 V The Sales Budget 54 
 
 VI The Sales Budget (Continued) 71 
 
 VII The Selling Expense Budget 87 
 
 VIII The Advertising Budget 106 
 
 IX The Production Budget 124 
 
 X The Materials Budget 145 
 
 XI The Labor Budget 165 
 
 XII The Welfare Expense Budget 178 
 
 XIII The Manufacturing Expense Budget 188 
 
 XIV The Purchases Budget 210 
 
 XV The Purchases Budget (Continued) 228 
 
 XVI The Plant and Equipment Budget 245 
 
 XVII The Plant and Equipment Budget (Continued) . . . 261 
 
 XVIII The Expense Budgets 273 
 
 XIX The Financial Budget 295 
 
 XX The Financial Budget (Continued) 316 
 
 XXI The Estimated Balance Sheet 333 
 
 XXII The Estimated Statement of Profit and Loss . . . 359 
 
 XXIII Manual of Budgetary Procedure 374 
 
 XXIV Administrative Reports 396 
 
 XXV Advantages and Limitations of Budgetary Control 416 
 
 XXVI Budgetary Control for Non-Commercial Enter- 
 prises 425 
 
 Appendix A — The Budget and Accounting Act 439 
 
 B — Administrative Code for the State of Ohio. . 450 
 
 C — A Trust Company Budget System 456 
 
 V
 
 ILLUSTRATIONS 
 
 Figure Page 
 
 1. Chart Showing Corporate Form of Organization 21 
 
 2. Form Showing Factory Requirements for Use in Preparing Sales 
 
 Estimate 73 
 
 3. SelHng Expense Budget 103 
 
 4. Report on Selling Expense Budget 103 
 
 5. Advertising Appropriation Report 117 
 
 6. Advertising Appropriation Report (monthly cumulative) 121 
 
 7. Advertising Expenditures Report 122 
 
 8. Monthly Finished Stock Budget Report 141 
 
 9. Balance of Stores Sheet 153 
 
 10. Materials Budget 161 
 
 11. Periodic Materials Budget Report 161 
 
 12. Labor Budget 175 
 
 13. Monthly Labor Budget Report 175 
 
 14. Welfare Expense Budget 185 
 
 15. Monthly Welfare Expense Report 185 
 
 16. Manufacturing Expense Budget 205 
 
 17. Monthly Manufacturing Expense Report 205 
 
 18. Schedule of Deliveries to Stock 221 
 
 19. Monthly Report on Purchases Budget 225 
 
 20. Estimate of Purchases Disbursements 231 
 
 21. Showing Merchandise Plan of Each Department of a Department 
 
 Store 239 
 
 22. Plant Ledger 254 
 
 23. Plant and Equipment Budget 263 
 
 24. Monthly Report on Appropriations for Plant and Equipment. . . 269 
 
 25. Organization Chart for a Manufacturing Business 275 
 
 26. Another Form of Organization for a Manufacturing Business . . . 277 
 
 27. Expense Budget 292 
 
 28. Monthly Expense Appropriation Report 293 
 
 29. Graph Showing Accumulated Sales and Collecions 304 
 
 30. Estimate of Cash Receipts 308 
 
 31. Simple Estimate of Cash Disbursements 311 
 
 32. More Elaborate Estimate of Cash Disbursements 313 
 
 33. Summary of Financial Requirements 317 
 
 34. Financial Program for Bank Loans 318 
 
 35. Monthly Collections Report 321 
 
 36. Monthly Cash Receipts Report 322 
 
 37. Monthly Cash Disbursements Report 323 
 
 38. Balance Sheet 339 
 
 39. Comparative Balance Sheet, with Preliminary Estimate 351 
 
 40. Comparative Statement of Profit and Loss, with Preliminary Esti- 
 
 mate 363 
 
 41. Comparison of Actual and Estimated Balance Sheets 369 
 
 42. Comparison of Actual and Estimated Statements of Profit and Loss 371 
 
 43. Chart of Budget Procedure (opposite) 394 
 
 44. Monthly Sales Report 402 
 
 vii
 
 viii ILLUSTRATIONS 
 
 45. Monthly Selling Expense Report 403 
 
 46. Monthly Net Profits Report 405 
 
 47. Monthly Stock Report 407 
 
 48. Monthly Comparative Summary 408-40^ 
 
 49. Monthly Summary of Operations 412 
 
 50. Monthly Group Pound Cost 413 
 
 51. Monthly Factory Inventories Report 414 
 
 52. Departmental Salary Budget of a University 434-435 
 
 A Trust Company Budget System (Appendix C) 
 
 Monthly Summary of Expenses 459 
 
 Monthly Expenses of Securing Business 460 
 
 Monthly Expenses of Transacting Business — Main Office . . . 461-462 
 
 Yearly Summary of Expenses 463 
 
 Request for Appropriation 464 
 
 Yearly Appropriation Sheet 465
 
 Budgetary Control
 
 CHAPTER I 
 THE MEANING OF BUDGETARY CONTROL 
 
 Planning of Business Operations 
 
 That comprehensive planning is necessary for efficient 
 administration may be regarded as an axiom of the present- 
 day philosophy of business administration. Business 
 executives have come to realize that they can perform 
 properly the tasks of today only if they have already 
 planned those tasks yesterday, and planned also the tasks 
 of tomorrow. There are many who do not yet plan 
 scientifically, but there are few who will deny the merits 
 of the system. 
 
 The planning which may be done in connection with any 
 particular business may be classified into three broad over- 
 lapping groups : 
 
 1. That which deals with the operations of the separate depart- 
 
 ments, such as production, sales, and finance. Such planning 
 has been described loosely in the past, as "industrial engineer- 
 ing." 
 
 2. That which deals with the coordination of the operations of the 
 
 several departments to the end that a well-formulated program 
 may be made, for the business as a whole. Such planning 
 may well be termed "budgetary control." 
 
 3. That which deals with the determination of future conditions as 
 
 reflected in the business cycle and the shaping of the plans of 
 the business to meet these conditions. Such planning is known 
 as "forecasting" or "business predicting." 
 
 While the discussion in the following pages is restricted 
 primarily to a consideration of planning of the second kind, 
 it must be realized of course that these various kinds of 
 plans are all very closely related and must be coordinated if 
 
 3 
 
 ^/:
 
 4 BUDGETARY CONTROL 
 
 proper results are to be obtained. The budgetary plans are 
 vitally affected by the business cycle, and the departmental 
 plans are equally affected by the budgetary plan. The 
 reader "will notice that in the following pages it will be neces- 
 sary to discuss to some extent all three kinds of planning. 
 
 Popular Conception of Budgetary Control 
 
 In the past, budgetary control has been considered pri- 
 marily in connection with governmental units. There has 
 been much discussion of the "budgets" of cities and states, 
 and during recent years much interest has been manifested 
 in the budget of the national government. This interest 
 has been greatly increased by the passage of the National 
 Budget Act and the submission to Congress of the first 
 budget prepared under this act. The budgets of govern- 
 mental units are discussed frequently in the daily press and 
 by aspirants for political office, and are thus called constantly 
 to the attention of the public. As a consequence many 
 people have come to think of budgetary control as an instru- 
 ment for governmental administration. Not only is this the 
 popular view but practically all the literature on budgetary 
 control is confined to a discussion of governmental budgets. 
 
 Although practically all people who have given thought 
 to the subject will admit that there should be budgetary 
 control of public finances, very few have thought of budg- 
 etary control with reference to the individual business unit. 
 It is thepurpose of these chapters to showthat theprinciples 
 of budgetary control are as applicable to the individual 
 business unit as to the governmental unit, and to explain 
 the method by which these principles may be applied. As 
 a first step it is necessary to see (i) what budgetary control 
 is, and (2) why it is needed in business administration. The 
 present chapter and the chapter immediately following will 
 be devoted to a consideration of these topics.
 
 THE MEANING OF BUDGETARY CONTROL 5 
 
 Procedure for Budgetary Control 
 
 'fo^bablythe be&fe-way^o show ' ' what budgetary control 
 Js.lMa to outline how it operates. The procedure to be fol- 
 lowed by a business firm in the installation and operation of 
 budgetary control will of necessity vary, depending pri- 
 marily on the organization of the business and the nature of 
 its operations. Apossible procedure, stated briefly and in 
 
 ■-outline form, is as follows:- "^V ^ - i f- 
 
 "s^ Each department prepares an estimate of its activi- 
 ties for the budget period. The method of stating these 
 activities depends on the nature of the operations of the de- 
 partment, the sales department stating the sales it expects 
 to make and the estimated expenses it will incur in making 
 these sales ; the production department stating the estimated 
 production for the period and the estimated requirements 
 in materials, labor, and manufacturing expenses to meet this 
 estimate; the service departments, such as the personnel 
 department, the traffic department, the accounting depart- 
 ment, and the office manager's department, stating the esti- 
 mated expenditures of their departments. Because of the 
 interdependence of these departments, some will need to 
 use the estimates of other departments in making their own 
 estimates. For instance, the production department must 
 know the estimated sales before it can estimate the produc- 
 tion necessary to meet the sales demands; the treasurer 
 must know the plans of all the departments before he can 
 estimate his cash receipts and cash disbursements. Con- 
 sequently a procedure must be set up which provides for a 
 proper scheduling of the estimates with reference to prepa- 
 ration and distribution. 
 
 % The departmental heads will transmit the depart- 
 mental estimates to an executive who has supervision of the 
 budgetary procedure. Sometimes the controller acts in 
 this capacity, while in many cases the duty is delegated to a
 
 6 BUDGETARY CONTROL 
 
 member of the staff of the general manager or president. 
 SirLC€-«ra:ny businesses do not have a controllery itrwill be 
 assumed -during the present discussion that an assistant to- 
 the president acts in this capacity. This official combines 
 the estimates of all the departments into a proposed finan- 
 cial budget for the business. In preparing this estimate he 
 will be assisted by the treasurer, though in some cases this 
 budget is prepared by the treasurer alone. The proposed 
 financial budget should show the estimated receipts from 
 all sources and the estimated expenditures by all depart- 
 ments of the business. 
 
 5. The executive in charge of the budget procedure 
 makes a comparison between the estimated receipts and the 
 estimated expenditures as shown by the proposed budget. 
 If the estimated expenditures exceed the estimated receipts, 
 one of the following courses of action must be taken : 
 
 (a) The departmental expenditures may be reduced. 
 In making such reductions a problem arises due to the fact 
 that the reduction of expenditures may result in a reduction 
 of receipts. For instance, if the expenditures of the adver- 
 tising department are reduced, this may result in a reduction 
 of sales, with a consequent reduction of receipts from col- 
 lections. In the same manner, a reduction of the expendi- 
 tures of the production department may result in a reduc- 
 tion of production, with a consequent lack of goods to meet 
 sales demands which will result in a reduction of receipts 
 from sales. Care must be taken, therefore, in the reduc- 
 tion of expenditures to see that receipts are not reduced 
 more than proportionately. 
 
 (b) Additional receipts may be secured. It may be 
 possible by speeding up operations and securing more effi- 
 cient administration to secure additional receipts without 
 incurring a proportionate increase of expenditures. 
 
 (c) Additional capital may be secured. If it is not
 
 THE MEANING OF BUDGETARY CONTROL 7 
 
 deemed wise to reduce expenditures, plans must be made 
 to secure additional capital with which to finance the excess 
 of expenditures over receipts. It is understood, of course, 
 that this condition cannot continue for long, otherwise the 
 business will find it necessary to liquidate. 
 
 The executive in charge of the budgetary procedure may 
 make recommendations with reference to possible pro- 
 cedures, but he is usually not invested with authority to 
 determine the plans to be followed. 
 
 24^ The executive in charge of the budgetary procedure 
 prepares from the departmental estimates an estimated 
 balance sheet and an estimated statement of profit and 
 loss, showing respectively the anticipated financial condi- 
 tion at the end of the budget period and the anticipated 
 result of the operations of the period. 
 
 5, The departmental estimates, together with the pro- 
 posed financial budget, and the estimated financial state- 
 ments, are submitted by the executive in charge of the budg- 
 etary procedure to a budget committee, composed of the 
 principal executives of the company and presided over by 
 the president. This committee considers the proposed esti- 
 mates and makes such revisions as it thinks necessary. In 
 case the proposed budgets involve important changes in the 
 company's policy, or require the securing of additional 
 capital for a material amount, it may be necessary to submit 
 them to the board of directors for consideration, -fedeed, 
 in some businesses all budgetary plans are submitted to the 
 board of directors for approval. After the proposed esti- 
 mates have been approved, they constitute the working 
 program for the budget period. The budgets as adopted 
 set limits upon the expenditures of all the departments, and 
 these limits cannot be exceeded without the permission of 
 the budget committee. The budgets also set up standards 
 of performance for certain departments. For instance, the
 
 8 BUDGETARY CONTROL 
 
 sales budget states the sales that are to be made by the sales 
 department, and the production budget states the estimated 
 production of the production department. 
 
 -6. Each department makes plans which will enable it to 
 carry out its program as outlined by its budget. For in- 
 stance, the advertising department makes contracts for 
 advertising space; the sales department sets quotas for its 
 salesmen; the production department sets up schedules of 
 production. 
 
 7^ Records are established so that the performance of 
 each department may be properly recorded and comparisons 
 made between the estimated and the actual performance. 
 Periodic reports, showing a comparison between the estimat- 
 ed and the actual performance of each department for the 
 budget period, are made to the executive in charge of the 
 budgetary procedure and are by him transmitted to the 
 budget committee and in some cases to the board of direc- 
 tors. On the basis of these reports the budget committee 
 or board of directors may make such revisions of the budg- 
 etary program as it may deem desirable. 
 
 Essential Features 
 
 The foregoing procedure is intended to be suggestive 
 only. Each organization must adopt a procedure which is 
 fitted to its particular needs. The purpose of the foregoing 
 outline is to indicate what budgetary control is by suggest- 
 ing how it operates. From this outline it can be seen that 
 budgetary control involves the following: 
 
 1. The statement of the plans of all the departments of the business 
 
 for a certain period of time in the form of estimates. 
 
 2. The coordination of these estimates into a well-balanced pro- 
 
 gram for the business as a whole. 
 
 3. The preparation of reports showing a comparison between the 
 
 actual and the estimated performance, and the revision of the 
 original plans when these reports show that such a revision is 
 necessary.
 
 THE MEANING OF BUDGETARY CONTROL 9 
 
 Budgetary Control Not a New Idea 
 
 All businesses practice budgetary control to a greater 
 or lesser degree although many of them do not realize the 
 fact. The newsboy estimates his probable sales before mak- 
 ing his purchases, and every business man must do like- 
 wise if he is to continue to operate long. Even the farmer, 
 who usually scorns the use of formal methods of control, 
 estimates the probable returns from land used for various 
 kinds of crops and the cost of producing each, and on this 
 basis decides upon the crop which he will plant. During 
 the war the Red Cross, the Y.M.C.A., and Liberty Loan 
 committees used the budgetary idea in their "drives" by 
 setting up quotas for each territory. These quotas were 
 based on estimates of the sales possibilities in these terri- 
 tories. Budgets for governmental units have been in use 
 for many years, and the "family budget" has long been a 
 matter of discussion. 
 
 Many business firms which deny that they operate a 
 budgetary program will be found to make and use estimates. 
 In this connection the author recalls a visit he made to the 
 merchandise manager of a large wholesale store several 
 years ago. This executive derided the idea of preparing a 
 sales estimate and stated that he did not care to discuss 
 such an academic question. A few minutes later the author 
 inquired if the merchandise manager permitted his buyers 
 to use their own judgment in deciding on the quantity of 
 goods to purchase. He emphatically replied that to permit 
 the buyers to purchase all they desired would bankrupt the 
 firm in six months. In response to the request to explain 
 how the buyers' purchases were controlled, he stated that 
 the executives of the firm first obtained the average sales 
 for the past three years and added to this average the per- 
 centage of increase which they expected during the next 
 year. After they determined in this manner their "ex-
 
 10 BUDGETARY CONTROL 
 
 pected " sales, they "calculated " the purchases necessary to 
 meet these sales and instructed the buyers accordingly. It 
 took the author some minutes to show the manager that his 
 firm was preparing both a sales estimate and a purchases 
 estimate. Further investigation showed that it was the 
 practice of the treasurer of the company to obtain a copy of 
 the sales estimate and purchase estimate and to use these as 
 a means of making estimates of cash receipts and disburse- 
 ments. In other words, the company had an informal and 
 imperfect system of budgetary control. 
 
 Similar investigations will show that all other profitable 
 businesses make plans for future operations, and however 
 informal these plans may be, they are in essence budgetary 
 control. 
 
 Modern Tendency Towards Budgetary Control 
 
 Modern business administration tends more and more 
 to become a standardized routine. In a large organization 
 such standardization is essential to the maintenance of a uni- 
 fied business policy and to the coordination of the activities 
 of the several departments ; and coordination means subordi- 
 nation to a common head. Business men are gradually 
 coming to realize that this can best be accomplished by the 
 formulation of plans submitted for approval in black and 
 white, if indeed coordination can ever be accomplished in 
 any other way for a great length of time. Not that plans 
 have not always been made, but they have commonly been 
 carried around in someone's head. Because of the increase, 
 however, in the volume of business performed by the typical 
 industrial unit, with the corresponding complexity in busi- 
 ness organization, it is coming to be less and less possible to 
 maintain a business organization that depends upon the 
 intuitive faculties of a single individual developed by years 
 of experience, faculties which perish with the individual.
 
 THE MEANING OF BUDGETARY CONTROL II 
 
 The organization must be independent of any single indi- 
 vidual in it. All of which goes to show that there should be 
 some systematic method of gathering information trom the 
 past and formulating on this basis plans for the future, and 
 of subsequently reporting how these plans have been carried 
 out. Such an accounting and statistical organization we 
 may call a budget system.
 
 CHAPTER II 
 THE NEED FOR BUDGETARY CONTROL 
 
 Why Budgetary Control Is Needed 
 
 In the preceding chapter it has been explained that 
 budgetary control has long been practiced in an informal 
 way but that only in recent years has it been introduced as 
 a formal and comprehensive procedure. In fact the firms 
 are largely in the minority which have formally adopted 
 budgetary control at the present time. It is the belief of 
 the author that the delay of business firms to adopt budg- 
 etary control as a definite part of their administrative 
 methods is due to one of two causes : Either they do not 
 fully realize its need, or they do not understand how to 
 install and operate it. 
 
 It is the purpose of the present chapter to explain its 
 need as an instrument of administration, while the remain- 
 ing chapters of this book are devoted to an explanation of 
 its installation and operation. 
 
 Budgetary control is urgently needed in administrative 
 control for two purposes : 
 
 1. As a means of coordinating the activities of the various functional 
 
 departments. 
 
 2. As a basis for centralized executive control. 
 
 Perhaps its use for these purposes can best be shown by 
 sketching the method by which administrative control is 
 exercised in the modern type of business organization, the 
 problems which arise therefrom, and the need for a compre- 
 hensive method of planning ahead as a basis for solving these 
 problems. Much that is said in the remainder of this chap- 
 ter, though perhaps more or less familiar to the reader, is 
 
 12
 
 THE NEED FOR BUDGETARY CONTROL I3 
 
 stated here in order to present a comprehensive picture of 
 the problems which give rise to a need of budgetary control. 
 
 Interdependence of Business Activities 
 
 It is the author's experience that executives often be- 
 come so engrossed with what they regard as the larger 
 administrative policies of their business, that they fail to 
 give sufficient attention to many of the administrative 
 problems to realize their significance. They are easily im- 
 pressed with the value of a sales campaign which will result 
 in a large increase in the volume of sales, but they may fail 
 to realize the importance of working out methods by which 
 to coordinate the sales campaign with the production pro- 
 gram so that the goods sold will be ready for delivery at the 
 proper time. They are keenly interested in the enlargement 
 of manufacturing facilities and the increase of production, 
 but may fail to realize the significance of maintaining a care- 
 ful check on inventory to avoid the accumulation of unsal- 
 able merchandise. 
 
 It is worth while for the executive to make a comprehen- 
 sive survey of the whole problem of administrative control 
 from time to time to see that he is not overemphasizing 
 some phases of the problem at the expense of others. If 
 this chapter serves to impress upon the reader the inter- 
 dependence of all the activities of a business, it will have 
 served a useful purpose regardless of his reaction to the 
 argument presented in behalf of the need for budgetary con- 
 trol as a means of coordinating these activities. 
 
 Functional Activities — Their Coordination 
 
 The operations of businesses vary widely and the varia- 
 tions in operations produce a divergence in organization, but 
 in every business there are certain functional groups of activi- 
 ties which must be performed. These functions are:
 
 14 BUDGETARY CONTROL 
 
 1 . The sales function 
 
 2. The production or purchasing function 
 
 3. The personnel function 
 
 4. The finance function 
 
 5. The standard and record function 
 
 Since these functions are found combined in a single business 
 unit, it is fair to suppose that there must be a close relation- 
 ship between them. A very brief study will show that there 
 is such a close interrelation that it is impossible to perform 
 one of them unless the others are also being properly per- 
 formed. It is true that some businesses emphasize one of 
 these functions and other businesses emphasize another, 
 but in no business can any of these functions be safely 
 neglected. A few illustrations of the interrelationship will 
 make this clear. 
 
 Balancing Production and Sales 
 
 Goods are purchased or produced in order to be sold. 
 It is unwise and unprofitable to purchase or produce more 
 goods than can be sold within a reasonable time after their 
 purchase or production. To do so results in tying up capi- 
 tal in a non-income producing investment, for excess inven- 
 tories yield no profit. A second danger arising from this 
 procedure is the deterioration which may take place in the 
 surplus stock due to time or obsolescence. It is obvious, 
 therefore, that wise administration will take into considera- 
 tion sales expectancies in planning purchases or production. 
 The failure to limit purchases and production to correspond 
 with sales possibilities has caused many firms heavy losses 
 during recent years. 
 
 On the other hand, it is unwise to sell goods in excess of 
 the possibilities of supply. To sell more than can be pur- 
 chased or produced leads to an unnecessary expense both in 
 securing the sale and in handling the inevitable complaints
 
 THE NEED FOR BUDGETARY CONTROL 1 5 
 
 which arise from failure to fill orders. An additional loss 
 may arise from the ill-will of the disappointed customer. It 
 is better to refuse an order in the beginning than to accept 
 the order and fail to satisfy it. Many firms lost prestige by 
 such actions during the years 191 8 and 191 9. It is necessary, 
 therefore, to consider production or purchasing possibilities 
 in planning the sales campaign. In other words, the sales 
 function and the production or purchasing function are so 
 closely interrelated and interdependent that they must be 
 considered jointly in planning executive policies. 
 
 Planning for Equipment and Personnel 
 
 Not only must sales and production be correlated, but 
 this correlation must be planned sufficiently in advance of 
 the time when it is to be effected to make possible the secur- 
 ing of the necessary equipment and personnel to produce 
 the goods required. In a manufacturing business plant and 
 equipment are essential to the production of goods, and in 
 considering increased production the possible increase in 
 plant and equipment requirements resulting therefrom must 
 be taken into account. But the quantity of production is 
 determined by the volume of sales; so in the end the sales 
 campaign determines the plant and equipment program. 
 The relation between these two functions can be easily seen. 
 Loss will result from the sale of more goods than the present 
 equipment cau produce or than it is possible or profitable to 
 purchase equipment to produce. In this connection three 
 questions must be asked: 
 
 1. Can the desired amount of goods be produced with the present 
 
 plant and equipment? 
 
 2. If not, can additional plant and equipment be secured in time to 
 
 produce goods to supply the present demand? 
 
 3. If so, can such plant and equipment be secured and operated 
 
 profitably?
 
 I6 BUDGETARY CONTROL 
 
 It is equally unwise to secure plant and equipment beyond 
 that needed to satisfy the present or the anticipated demands 
 of customers. Consequently the plant and equipment pro- 
 gram is closely related to both the sales and production 
 programs. 
 
 But equipment cannot be operated without workers and 
 it is necessary to know the production requirements suffi- 
 ciently in advance of the time of their fulfilment to make 
 possible the securing of the necessary amount of personnel. 
 Where skilled labor is employed the securing of the proper 
 personnel is a problem of major importance. 
 
 Planning of Finances 
 
 The making of sales, the producing of goods, and the 
 securing of equipment and personnel, all involve sAi expend- 
 iture of funds. All these operations must be financed and 
 they can be carried on only to the extent to which the finan- 
 cial resources of the business will permit. It is unwise 
 indeed for a business to plan a sales campaign with the con- 
 sequent production requirements without considering the 
 financial possibilities of the business. A lack of coordination 
 of the sales and production programs may lead to loss, but a 
 lack of coordination of the various departmental programs 
 of the business with its financial program will lead to bank- 
 ruptcy. 
 
 Coordination — Special Problems 
 
 The foregoing illustrations point out the interrelation- 
 ship of the primary functions of the business and show the 
 necessity for their correlation. But in the securing of this 
 correlation many things must be considered. For instance, 
 emphasis has been placed upon the desirability of not pro- 
 ducing beyond sales requirements because of the consequent 
 loss arising from the capital invested and the possible de-
 
 THE NEED FOR BUDGETARY CONTROL 1 7 
 
 terioration of the goods. There may be other factors, how- 
 ever, which make it desirable to produce beyond sales ca- 
 pacity for a certain period of time. For instance, if the sales 
 fluctuate from period to period, it may not be desirable to 
 have the production fluctuate accordingly. There are sev- 
 eral reasons for this, one of the principal being the problem 
 of maintaining a proper labor supply if wide fluctuations in 
 production take place. If production fluctuates it is neces- 
 sary to discharge laborers whom it may be difficult to replace 
 later, especially in the case of skilled labor, or it is necessary 
 to retain laborers not employed for full time, which is unde- 
 sirable and uneconomical. It may be preferable to main- 
 tain a uniform production and thereby accumulate in a 
 period of slack sales an inventory which may be used to 
 meet the excess demands during the rush period. The loss 
 of the excess capital tied up in the inventory may be less 
 than the loss which would result from fluctuating produc- 
 tion. This is but one illustration of the many problems 
 which arise in planning coordination of the operations of 
 the functional departments. Many more will undoubtedly 
 occur to the reader. 
 
 Cooperation among Functional Officers 
 
 From the few illustrations given, the interrelation of the 
 various functions of the business should be evident and the 
 necessity for the coordination of these functions should be 
 apparent. But business administration can be discussed 
 only in terms of business organization, and ''functions'* of 
 the business can be discussed only in terms of the ''function- 
 aries " who are responsible for them. The discussion of the 
 coordination of functions, therefore, resolves itself into a 
 discussion of the coordination of functionaries, and a brief 
 study of the prevailing conditions in large business estab- 
 lishments will show that such coordination is the most
 
 1 8 BUDGETARY CONTROL 
 
 urgent need for effective business organization at the present 
 time. A conservative estimate would attribute a majority 
 of the business failures of the present time to a lack of co- 
 ordination of the functions of the business due to a lack of 
 cooperation on the part of the functional officers. That this 
 lack of cooperation is not intentional and is due primarily to 
 a lack of information which would make such cooperation 
 possible, does not change the situation. 
 
 Reason for Present Lack of Coordination 
 
 It is quite easy to see how the present situation came 
 about. When the business enterprise was small, with a 
 simple organization and its acti\ities local, the owner, who 
 was also the manager, was able to exercise direct control of 
 all the functions of the business. He acted as the executive 
 head of each of the functional departments; he was sales 
 manager, production manager, treasurer, and controller, 
 all in one. Because of this condition he was able to bring 
 about the proper correlation without difficulty. In his ca- 
 pacity of sales manager he knew the sales which he estimated 
 possible, so that he knew what purchases to make when he 
 was acting as merchandise manager or purchasing agent. 
 As treasurer he knew the funds which were available so that 
 he could make his sales and purchasing plans accordingly. 
 
 When the business unit increased in size and its organiza- 
 tion became more complex, the executive was forced to 
 delegate certain of his duties to assistants, and the present 
 plan of functional organization developed, with a separate 
 executive in charge of each function. The change in condi- 
 tions is apparent. The sales manager devotes his entire 
 time, thought, and energy to the securing of sales, and he 
 has no direct contact with the production department. The 
 production manager has become engrossed in the problems 
 of production and has little or no means of becoming
 
 THE NEED FOR BUDGETARY CONTROL I9 
 
 familiar with the operations of the sales department. The 
 treasurer secures the needed funds as best he can and has 
 little information upon which to make his plans. And thus 
 the coordination which formerly was brought about by the 
 centralization of control in the hands of the chief executive 
 is lacking. 
 
 Mere Study of Past Records Inadequate 
 
 During the past few years the functional staff officers of 
 many large businesses have realized the necessity for a co- 
 ordination of the activities of the various departments of a 
 business and have attempted to bring about this coordina- 
 tion by studying past results and trying to correct the worst 
 evils which were revealed. For instance, the production 
 manager may find that on certain articles large inventories 
 have been carried, so that he plans to cut down the produc- 
 tion of these articles during the coming year, thereby reduc- 
 ing the inventories. The treasurer may find that during 
 certain months his bank balances are very low because of 
 the demand on the part of the purchasing or production de- 
 partment for funds, consequently he may plan to increase 
 his bank loans at that time during the coming year. In the 
 same manner each department may study its past activities 
 and plan to correct the difficulties of the past. In some 
 cases the departmental heads may go farther and study the 
 past operations of the other departments so as to see the 
 cause for the difficulties incurred in their own department. 
 
 This method of attacking the problem accomplishes 
 some results; but even if carried out very completely it 
 usually is subject to two serious objections: 
 
 I. It is basing future plans on past results and not taking into con- 
 sideration possible changes. This is almost sure to lead to 
 inaccuracies, since a business does not remain stationary; it 
 either advances or goes backward.
 
 20 BUDGETARY CONTROL 
 
 2. It is a negative rather than a positive program. It plans to try to 
 remo\e the difficulties of last year; its goal is to try to do this 
 year what it should have done last year. It is only an attempt 
 to reach a past goal, not an attempt to reach a new goal which 
 should have been set for this year. 
 
 New Method Needed 
 
 It is contended, therefore, that a new method and a new 
 poHcy is needed, different from that followed by many firms 
 at present, a policy which will provide correlation and com- 
 pel progress. Such a policy will involve dealing with future 
 plans rather than with past results, although plans must of 
 necessity be formed in the light of results. Administrative 
 control necessitates the use of estimates. The past is gone 
 and cannot be changed. It is only future operations over 
 which control can be exercised. 
 
 If the departmental estimates are to be used efficiently 
 and effectively, it is necessary that a procedure be developed 
 for their preparation, coordination, and operation. This 
 procedure when established constitutes budgetary control. 
 
 Centralization of Executive Control 
 
 If efficient administration is to be accomplished, it is 
 necessary to provide not only for the making of plans to 
 secure coordination of departmental activities, but also for 
 administrative control of these activities so that the plans 
 made wall be carried out. The tendency in business admin- 
 istration during the past half century has been towards 
 centralization of control in the hands of a few executives and 
 the delegation of duties by these to subordinates who are 
 responsible to the primary executives for the performance 
 of the tasks thus delegated. This method has important 
 advantages, but it also gives rise to certain significant prob- 
 lems. In ofder to see the nature of these problems and the 
 need of budgetary control in their solution, let us sketch
 
 THE NEED FOR BUDGETARY CONTROL 
 
 21 
 
 briefly the method of exercising administrative control in a 
 typical organization. 
 
 Although the tendency during the past several years 
 has been towards the centralization of administrative con- 
 trol, the number of people who exercise influence in the 
 administration of the typical business is quite large. The 
 ultimate control of a business is with the owners, but In the 
 modem corporate enterprise their control in the main is 
 exercised only Indirectly. Most of their authority Is dele- 
 gated to a board of directors, who in turn delegate a large 
 part of their authority to the general oflicers of the corpora- 
 tion. The general oflicers in turn entrust the execution of 
 
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 Figure l. Chart Showing Corporate Form of Organization 
 
 many of the policies of the business to subordinates, and 
 these subordinates employ the serv^ices of assistants who 
 are directly in contact with the workers. Such a form of 
 organization may be shown graphically as In Figure I . 
 
 From the foregoing graph it can be seen that in the cor- 
 porate enterprise executive control is exercised through the 
 medium of a number of groups, cooperating In the perform- 
 ance of the administrative function. As showing the prob- 
 lems involved In securing this cooperation, a brief account is 
 given below of the degree of control exercised by each group. 
 
 Control Exercised by Owners 
 
 In the corporate type of business organization the own- 
 ership is vested in the stockholders. Legally the executive
 
 22 BUDGETARY CONTROL 
 
 control also is vested in the stockholders. As a matter of 
 practice they exercise this control very indirectly. The 
 stockholders pass upon only a few of the policies of the busi- 
 ness, the remainder being left to the jurisdiction of the board 
 of directors which is chosen by the stockholders. The direct 
 control of the stockholders is usually limited to the follow- 
 ing: 
 
 1. Protection of Property Interest. The stock- 
 holder invests in the corporation for two purposes: (a) to 
 secure the preservation of his capital, and (b) to secure an 
 income from the use of the capital in the business. He de- 
 sires reports which will show that his property interest is 
 being protected, and in case he realizes that it is being im- 
 paired, he may exercise his right to direct actively the opera- 
 tions of the business. Of course, such action is possible 
 only where there is a community of interest with conse- 
 quent cooperation of a majority of the stockholders. 
 
 2. Maintenance of Dividend Rate. As stated in the 
 preceding paragraph, the stockholder desires to obtain an 
 income from the use of his property in the operation of the 
 business. This income he obtains by means of the dividends 
 which are declared by the board of directors. He desires 
 consequently that the dividend rate be sufficiently high to 
 afford him a proper return on his investment, and he desires 
 that this dividend rate be maintained regularly if possible. 
 He is especially sensitive to a lowering of the dividend rate 
 or the passing of a dividend payment. He desires, there- 
 fore, to be consulted about a change of policies which will 
 affect the dividend rate. The chief interest of most stock- 
 holders in the board of directors is in the question of its 
 ability to protect their property interests and to maintain a 
 fair and adequate rate of dividend. So long as this is accom- 
 plished, the stockholder does not seek to interfere in the 
 administration of the corporation.
 
 THE NEED FOR BUDGETARY CONTROL 23 
 
 3. Financing of Extensions. If extensions are to be 
 made on a large scale, it may be necessary to appeal to the 
 stockholders to contribute additional capital or to obtain 
 their permission for the issuance of additional stock or bonds. 
 In either case the consent of the stockholders should be 
 obtained by the board of directors, although in the case of 
 issuing bonds the stockholders' approval is often only formal , 
 since the board of directors works out the plan and submits 
 it for approval. It is within the province of the stockholders 
 to reject such plan, but this authority is exercised rarely. 
 
 Control by Board of Directors 
 
 The preceding discussion has emphasized the fact that 
 the stockholders delegate most of their powers of control to 
 the board of directors. The board of directors, although 
 they are responsible for the administration of the business, 
 do not as directors participate in such administration. They 
 content themselves with outlining the general policies to be 
 followed and then delegate the execution of these policies to 
 the general officers of the business. The method by which 
 the board of directors exercises control may be indicated by 
 the following: 
 
 1. They select the general officers of the company and delegate to 
 
 them certain administrative duties. 
 
 2. They outline the general policies of the business lor the guidance 
 
 of these executives, to the end that the desires of the stock- 
 holders may be realized; that is, that their property interests 
 be protected and a reasonable dividend rate maintained. To 
 this end they may set up a dividend rate which is to be main- 
 tained, and judge the efficiency of the general officers by their 
 ability to make possible the maintenance of this rate. 
 
 3. They consider and approve, modify, or reject the general plans 
 
 submitted by the general officers. Such plans include the 
 estimates or budgets which the general officers present to show 
 their proposed accomplishment during the coming period.
 
 24 BUDGETARY CONTROL 
 
 4. They receive reports frorri the executives of the business which 
 
 show the degree of success they have attained in carrying out 
 the plans which have previously been approved. Such reports, 
 if properly prepared, show the success of each principal execu- 
 tive, as well as the success which has attended the efforts of 
 the executive staff as a whole. 
 
 5. They award bonuses or increases of salaries to the executives on 
 
 the basis of their performance, and thus encourage efficiency 
 and initiative. 
 
 Such are the duties of the board of directors in most 
 cases. In a corporation where the general officers of the 
 corporation are members of the board, they may exercise a 
 more direct control than that indicated. It is questionable, 
 however, whether in this case the general officers are not 
 acting in their capacity as executives rather than as direc- 
 tors. It is not feasible or desirable to consider here in detail 
 the administrative functions of the board of directors. It 
 is sufficient for our purposes to see that the execution of the 
 administrative policies of the business is left in the main to 
 the general officers of the business. 
 
 Control through General Officers 
 
 As indicated by Figure i , it is customary to have In each 
 business a chief executive who is responsible for the admin- 
 istration of the business. In a corporation this executive is 
 usually the president, although in some cases the president 
 may be subordinate to the chairman of the board of direc- 
 tors, when the latter assumes active executive duties. For 
 the purposes of this discussion we will assume that the presi- 
 dent is the chief executive officer. 
 
 In a small business the president may supervise and 
 direct all of the administrative functions. In a business of 
 any considerable size this is impossible and it is necessary 
 to employ other officers to assist in the formulation and 
 execution of the executive policies of the business. The
 
 THE NEED FOR BUDGETARY CONTROL 25 
 
 number of such officers who may be employed and the duties 
 which they may perform will depend to a considerable ex- 
 tent on the nature of the operations of the business and 
 consequently on the administrative functions which must 
 be subject to executive supervision. On a previous page 
 it has been explained that the primary administrative func- 
 tions are: 
 
 1. The sales function 
 
 2. The production function 
 
 3. The purchasing function 
 
 4. The personnel function 
 
 5. The finance^unction 
 
 6. The standard and record function 
 
 In a business of sufficient size to make advisable a func- 
 tional organization of the administrative personnel, there is 
 an executive head for each of the foregoing functions and 
 therefore we have the following general officers : 
 
 1. Sales manager 
 
 2. Production manager 
 
 3. Purchasing manager (often termed purchasing agent) 
 
 4. Personnel manager 
 
 5. Financial manager (usually termed the treasurer) 
 
 6. Standard and record manager (usually termed the controller) 
 
 The foregoing list of functional managers who assist the 
 president or the general manager in the formulation and 
 execution of the policies of a business is intended to be sug- 
 gestive rather than inclusive. The ones mentioned are those 
 which are needed to supervise and control the functions 
 common to all businesses. 
 
 Control Exercised by Junior Executives 
 
 As indicated by Figure I, the general officers delegate a 
 considerable part of their administrative duties to the sub- 
 ordinate or junior executives. No definite statement can
 
 26 BUDGETARY CONTROL 
 
 be made with reference to the duties to be performed by 
 these officers, but the modern tendency is to delegate as 
 many details as possible so that the general officers may 
 have more time to give to a consideration of general plans 
 and policies. The junior officers delegate duties to their 
 assistants, and these in turn give instructions to the workers, 
 both manual and clerical. 
 
 Result of the Delegation of Administrative Duties 
 
 The foregoing sketchy outline of the process by which 
 administrative control is exercised in the typical business 
 organization shows that it involves a continual delegation of 
 duties from one administrative group to another. The 
 stockholders delegate duties to directors, the directors dele- 
 gate duties to the general officers, the general officers dele- 
 gate duties to subordinate officers, and so on. Experience 
 has shown that in such an organization, if rational control is 
 to be exercised , it is essential that there be available informa- 
 tion of three kinds : 
 
 1. Information which will serve as a basis for the formulation of the 
 
 general policies of the business and for the delegation by each 
 group of certain duties to the next subordinate group. 
 
 2. Information which will enable each group to perform properly 
 
 the duties delegated to it and to coordinate its activities with 
 those of all the other groups. 
 
 3. Information which will enable each group to judge as to the effi- 
 
 ciency with which the duties delegated by it have been per- 
 formed by the subordinate group to which they were delegated. 
 
 To obtain this information in an accurate and compre- 
 hensive manner it is necessary 
 
 1. To maintain accounting and statistical records which will show 
 
 past performance. 
 
 2. To use the information shown by the accounting and statistical 
 
 records as a basis for preparing estimates of future per- 
 formance.
 
 THE NEED FOR BUDGETARY CONTROL 27 
 
 3. To obtain from the accounting and statistical records the current 
 
 performance. 
 
 4. To prepare reports showing a comparison between current, past, 
 
 and estimated performance. 
 
 Judging by Past Performance and by Contemplated Plans 
 
 In the past, executives have relied primarily on informa- 
 tion with reference to current and past performance. They 
 have judged current results by past results. They have 
 left their subordinates to use their initiative to a large extent 
 and rewarded them on the basis of the success which they 
 attained. To some extent this practice is still followed. 
 As pointed out in the discussion of the control exercised by 
 the stockholders, they judge the success of the directors by 
 their ability to maintain the capital of the corporation and 
 to earn a satisfactory income. It is typical of them to con- 
 sider the accomplished results of the directors' administra- 
 tion rather than the anticipated results of their contemplated 
 plans. Many stockholders have followed this custom to 
 their sorrow and have found their investment dissipated by 
 actions of the directors which they could not correct after 
 they had been consummated. In some cases directors 
 depend on reports showing the results of the actions of the 
 general officers instead of insisting on reports showing their 
 contemplated plans and the anticipated results of these 
 plans. Officers in turn sometimes follow the same policy in 
 dealing with subordinates. 
 
 Gradually, however, stockholders, directors, and general 
 officers are coming to realize that effective administration 
 requires the making of plans and that the formulation of 
 plans necessitates the use of estimates. The preparation 
 and enforcement of these estimates is the purpose of the 
 budgetary program as outlined in the following chapters.
 
 CHAPTER III 
 
 PRELIMINARY STEPS IN INSTALLATION 
 
 First Steps Towards Budgetary Control ^ 
 
 Many business fimis which realize the need for budg- 
 etary control are at a loss how to proceed to effect its installa- 
 tion. Often an attempt is made to commence its operation 
 without giving proper thought to the formulation of a com- 
 prehensive procedure for its execution. In these cases 
 undesirable consequences almost invariably result. In 
 working out the budgetary procedure it is necessary that a 
 logical sequence be followed so that no part of the program 
 may be delayed because of the failure of any other part. 
 
 Executives have a tendency to think that the depart- 
 mental estimates are the essence of the budgetary program 
 and consequently start the preparation of sales estimates, 
 production estimates, and financial estimates without first 
 working out a procedure to govern their preparation and 
 use. Consequently a great amount of data is collected as 
 the result of much labor and expense but is found to be of 
 little use because it is not In form to be correlated and also 
 because the executives do not understand the service which 
 may be obtained from It. They are apt to feel, therefore, 
 that the budgetary program entails useless expense and 
 they seek to secure Its abandonment. 
 
 It Is necessary for the success of the budgetary plans that 
 certain preliminary problems be settled before the budgetary 
 process Is commenced. Every professional accountant and 
 Industrial engineer who has given consideration to methods 
 of administrative control has seen many well-intended ad- 
 ministrative plans fail because attention had not been given 
 to the problems to which they necessarily give rise, or to the 
 
 28
 
 PRELIMINARY STEPS IN INSTALLATION 29 
 
 method of meeting these problems. This situation is par- 
 ticularly apt to occur in an attempt to install budgetary- 
 control, because most executives have not given careful 
 thought to its operation and consequently are not apt to 
 foresee the problems to which it will give rise. 
 
 It is the purpose of this chapter to discuss the first steps 
 which are involved in the installation and operation of 
 budgetary control. The following topics will be discussed 
 in order: 
 
 1. Length of the budget period 
 
 2. Responsibility for the preparation of estimates 
 
 3. ResponsibiUty for reports 
 
 4. Method of enforcing budgets 
 
 5. Cooperation of executives and employees 
 
 Length of the Budget Period 
 
 One of the first questions which arise in connection with 
 the installation of budgetary control is, What shall be the 
 length of the budget period ? Little or nothing can be done 
 until this question is answered. Each department must 
 know the period for which its estimate is to be made, other- 
 wise the various departmental estimates will in all probability 
 be for different periods of time and hence cannot be corre- 
 lated. For instance, if the sales estimate is made for six 
 months and the production estimate for one year, it is not 
 possible to compare the two. 
 
 The length of the budget period is governed by a number 
 of factors, the most important of which are : 
 
 1. Length of merchandise turnover period 
 
 2. Length of production period 
 
 3. The method of financing employed 
 
 4. The market conditions 
 
 5. The adequacy and completeness of the data with reference to 
 
 past operations 
 
 6. Length of the accounting period
 
 30 BUDGETARY CONTROL 
 
 Length of Merchandise Turnover Period 
 
 If a business has a long turnover period and the peak of 
 the sales comes at the end of the period, it is necessary for 
 the budget period to be equal in length to the turnover 
 period. Otherwise it is impossible to obtain a correlation be- 
 tween sales and purchases or production. Such a condition 
 is apt to exist where sales are affected by seasonal demands. 
 
 To illustrate, a publishing company selling textbooks 
 for use in secondary schools has the principal volume of its 
 sales in July, August, and September, just before the open- 
 ing of the academic year. It has a smaller volume in Janu- 
 ary prior to the opening of the second semester, and has 
 scattering sales throughout the year. In preparing its budg- 
 ets it is preferable to make them one year in length but 
 subdivided by months, so that the total required operations 
 of each department for the year can be seen and these sched- 
 uled by months. It is necessary for the company to have 
 some books printed throughout the year, otherwise it will 
 be impossible to have sufficient inventory on hand to meet 
 sales demands during the rush season. Consequently the 
 production during any month or quarter will not correspond 
 with the sales for that month or quarter. During the 
 period of slack sales the production will exceed the sales, 
 while during the period of large sales the production will be 
 less than the sales. It should be easily seen, therefore, that 
 it is impossible to secure a coordination between the sales 
 estimates and the production estimates for any period less 
 than a year. Assuming that a uniform inventory is main- 
 tained, the sales for the year will equal the production for 
 the year, but this equality will not exist for any shorter 
 period of time. Similarly a proper comprehension of the 
 financial requirements of the business can be obtained only 
 on the basis of the year's program, although estimates of cash 
 receipts and disbursements can be made monthly.
 
 PRELIMINARY STEPS IN INSTALLATION 31 
 
 In a business having a long turnover period it is usually 
 preferable to make the budget period of corresponding 
 length. On the other hand, a business like a grocery store 
 which has a short turnover period will find it feasible to 
 have a short budget period. In such a business sales are 
 apt to fluctuate from period to period, and by having a short 
 budget period it is possible to take advantage of these fluc- 
 tuations in making the budgetary program. If the turnover 
 period is short it is usually possible to purchase additional 
 goods easily and quickly; therefore it is not difficult to re- 
 plenish the inventory even though sales are estimated for 
 only a short period of time in advance. 
 
 Length of Production Period 
 
 In a manufacturing business producing a commodity 
 which requires a long production period, it may be necessary 
 to provide for a budget period which is at least equal in 
 length. It is necessary to know the sales a sufficient length 
 of time in advance to make possible the placing of orders 
 which wall result in an inventory of sufficient size to meet 
 the sales demands. It is obvious that the orders must be 
 placed a length of time equal to the production period in 
 advance of the time when the sales are to be made. This is 
 particularly essential in a business where the sales fluctuate 
 from period to period and there is a corresponding fluctuV 
 tion in the production. For instance, the X Company, 
 which has a production period of six months, estimates that 
 its sales will increase 50 per cent during the last quarter of 
 the year 1922. The production department should be in- 
 formed of this expected increase by April i , if it is to have 
 the inventory available to meet these sales. The reader can 
 probably recall numerous other illustrations which will show 
 the relation between the length of the production period and 
 the budget period.
 
 32 BUDGETARY CONTROL 
 
 Method of Financing Employed 
 
 In some cases the financial peak load comes at a time of 
 the year when it is difficult to obtain the necessary funds 
 quickly. Consequently, it is desirable to make financial 
 arrangements some time in advance of the period when the 
 peak load will come. In such cases it may be necessary to 
 make the budget period sufficiently long to make possible 
 the determination of financial requirements some months in 
 advance. If the executive can go to his banker several 
 months before the funds are required and show him the 
 contemplated plans of the business with the consequent 
 demand for funds at the time of the peak load, he is much 
 more apt to get a promise of funds than if he waits until the 
 funds are urgently needed. In the latter case the banker 
 does not see the reason for the sudden demands for funds, 
 while in the first case he has seen months in advance that 
 the plans of the business would result in a need for funds at 
 that particular time. 
 
 The treasurer of a young but rapidly growing corpora- 
 tion in New York City has built up a large line of bank 
 credit for his firm by following the practice of taking his 
 financial budget to the bankers at the beginning of each 
 year and showing them the plans for the year and the 
 consequent financial requirements. At the end of the year 
 he shows them a comparison between the budgets for the 
 year and the actual results. By this means he shows them 
 his requirements and convinces them that the credit which 
 he requests is reasonable and justified. 
 
 There is a growing tendency among business firms to 
 determine their financial requirements for a considerable 
 period of time in advance and to arrange for the necessary 
 funds prior to the initiation of the program which necessi- 
 tates the funds. If provision for the necessary funds cannot 
 be made, the program is revised. The advantage of this
 
 PRELIMINARY STEPS IN INSTALLATION 33 
 
 plan over the far too frequent practice of starting the 
 program and arranging for the procurement of funds when 
 the necessity for them arises should be apparent to the 
 reader. 
 
 Market Conditions 
 
 When the market conditions are uncertain and variable, 
 it is desirable to make the budget period as short as possible, 
 in order that revisions in plans can be made more easily. 
 Estimates are always difficult to make with accuracy and in 
 a period of uncertain market conditions this difficulty is 
 greatly increased. 
 
 If the sales estimate proves incorrect this will affect all 
 the other estimates, since most of them are based, at least 
 in part, on the sales estimate. For instance, it was impossi- 
 ble for a firm in January, 1921, to estimate accurately its 
 sales for the year, and if correct estimates for the year had 
 been prepared based on the yearly sales estimates, it would 
 have been entirely a matter of accident. Many firms pre- 
 pared their estimates for 1 921 on a quarterly basis and made 
 new estimates at the beginning of each quarter. Even 
 these they found necessary to revise monthly. For the 
 year 1922 similar difficulties exist. 
 
 The marketing methods of a business may affect the 
 length of its budget period. For instance, some of the large 
 mail-order houses issue catalogues each six months, which 
 quote prices effective for that period of time. In order to 
 protect themselves they find it necessary to enter into con- 
 tracts for the purchase of sufficient goods to satisfy the 
 estimated sales demands for the period covered by the cata- 
 logue. As a consequence it is necessary for these firms to 
 make their budget period six months in length, since their 
 sales estimates and purchase estimates must be made for 
 this period of time.
 
 34 BUDGETARY CONTROL 
 
 Adequacy and Completeness of Data 
 
 In a new business, or In an old-established one where 
 adequate records have not been kept, it is impossible to 
 obtain adequate statistics with reference to past results. 
 Hence it is difficult to estimate future operations, for esti- 
 mates should always be made in the light of past events. 
 In such cases it is better to make the budget period as short 
 as possible so that new budgets can be made as statistics 
 are obtained which will serve as a basis for their preparation. 
 
 Length of Accounting Period 
 
 After estimates are made, it is necessary that means be 
 provided for checking their accuracy. This is usually 
 accomplished by preparing reports showing a comparison 
 between the estimated and the actual results. The actual 
 results are obtained to a considerable extent from the 
 accounting records. The information obtained from these 
 records is usually obtainable only at the end of an account- 
 ing period. It is necessary, therefore, that the budget period 
 end on the same day as an accounting period. The budget 
 period may include two or more accounting periods, so 
 long as it comn:cnccs on the first day of one period and 
 ends on the last day of the same or some other period. 
 There is a recent tendency of business firms to secure the 
 information with which to check the budgetary program 
 from sources other than the accounting records. But even 
 in this case, the information so obtained is later checked 
 by the accounting records. 
 
 Usual Length of Budget Period 
 
 The usual length of the budget period is for three, six, 
 or twelve months. Some firms state their general plans for 
 one year in advance so as to have a goal to work for, but 
 work out detailed schedules for only one month at a time.
 
 PRELIMINARY STEPS IN INSTALLATION 35 
 
 A few firms known to the author*make their budgets for one 
 year, and at the end of each month drop the past month and 
 add one month at the other end of the period. By this 
 means they have their budgetary plans made for twelve 
 months in advance at all times. Regardless of the length 
 of time for which the budgets are prepared, they must be 
 scheduled to show monthly expectancies, so that compari- 
 sons can be made at the end of each month between the 
 actual and the estimated performance and the necessary 
 revisions put into effect. 
 
 ^General Conclusions as to Length of Budget Period 
 
 It will undoubtedly occur to the reader of the foregoing 
 discussion that some of the factors, which it is suggested 
 must be considered in determining thfe length of the budget 
 period, afford an argument for a short period while others 
 afford an argument for a long period. This is undoubtedly 
 correct and it is the purpose of the discussion to emphasize 
 this fact. It is desired to suggest to the reader that an 
 arbitrary answer cannot be given to the question. How long 
 shall the budget period be? In each business all the factors 
 suggested should be considered and the length of the budget 
 period determined as a result of this consideration. 
 
 In conclusion it may be said that it is important that 
 two things be accomplished by the budgetary program : 
 
 1 . That the executives obtain a perspective of the plans of the busi- 
 
 ness for a sufficient length of time in advance to enable them 
 to adjust their plans to the general program without too much 
 abruptness. This is especially important in a rapidly grow- 
 ing business or one subject to material changes. 
 
 2. That the executives have a definite and concrete program for the 
 
 immediate future which they can use as the basis of day-to-day 
 operations. Such a program is also necessary as a basis for 
 comparing the actual with the estimated performance, and 
 unless this comparison is made it is impossible to exercise an
 
 36 BUDGETARY CONTROL 
 
 effective control of the budgetary program. Such a definite 
 and concrete program can usually be made for only a short 
 time in advance. 
 
 For these reasons, therefore, It is desirable to make at 
 least a general program for one year in advance and to make 
 subsidiary thereto a more specific program for a month or a 
 quarter. The latter program can be used as the basis for 
 Immediate action, while the former can be used as the basis 
 for future planning. The yearly program can be revised 
 monthly or quarterly as the changing conditions demand. 
 In working out some of the programs of the business — for 
 instance, the advertising program — it may be necessary to 
 make general plans for two or three years in advance. 
 
 Responsibility for Preparation of Estimates 
 
 At the very inception of the budgetary program it is 
 necessary to determine the responsibility for the preparation 
 of the various estimates which its installation requires. The 
 practice of business firms in this matter varies widely. In 
 some businesses the controller and his staff prepare the esti- 
 mates and submit them to the departmental executives for 
 revision or approval. This method may secure satisfactory 
 results if the controller has a well-trained staff and if the 
 fluctuations in the volume of business are small. 
 
 It is "the opinion of the author that though the controller 
 and his staff may be able to prepare accurate estimates, it 
 is not desirable for this task to be performed by them. One 
 of the Important results of budgetary control is the benefit 
 derived by the executives in its installation and operation. 
 If the major part of the work is performed by a central 
 agency such as the controller, those who should benefit most 
 from the budgetary program lose the opportunity of gaining 
 this advantage. 
 
 In most businesses the departmental executives are held
 
 PRELIMINARY STEPS IN INSTALLATION 37 
 
 responsible for the preparation of the estimates. The sales 
 manager is held responsible for the sales estimate, the pro- 
 duction manager is held responsible for the production 
 estimates, and so on. Each departmental head will usually 
 delegate his responsibility for the preparation of the esti- 
 mate of his department to subordinates. Practice varies 
 greatly with reference to the subbrdinates selected for this 
 task. If the head of the department has a stafT, he may ask 
 his staff assistants to perform the task. For instance, the 
 sales manager may have the sales estimate prepared in his 
 office by staff assistants, and the production manager may 
 do likewise. 
 
 On the other hand, the sales manager may ask his branch 
 and division managers to prepare estimates of their sales, 
 and he may then combine these to get the total estimated 
 sales. In this case the sales manager and his assistants will 
 study the estimates submitted by the subordinates and 
 make revisions where necessary. The production manager 
 may ask his works managers to submit estimates, and these 
 in turn may ask the advice of their foremen or heads of de- 
 partments. The production manager and his assistants 
 will make such revisions as the evidence they have at hand 
 indicates to be necessary. 
 
 Responsibility for Performance Best Source of Estimates 
 
 4t is the experience of the author that as a general rule 
 better results will be obtained if the individuals responsible 
 for the performance of the estimate are the ones who origi- 
 nate it. This procedure is desirable: 
 
 1. Because these individuals should be best able to make the esti- 
 
 mate. 
 
 2. Because they will obtain the most value from making it. 
 
 3. Because if they are required to make the estimate, they will feel 
 
 more responsible for its enforcement. 
 
 4S8U5
 
 38 BUDGETARY CONTROL 
 
 To illustrate the foregoing by means of the sales estimate, 
 the branch manager should know more about the sales possi- 
 bilities in his territory than does the sales manager. If he 
 does not, he ought to be made to study his territory until he 
 does. If he is required to make the sales estimate, either 
 he will make it more accurately than will the sales manager, 
 or the latter can discover the incapacity of the branch man- 
 ager and take the necessary steps to correct the situation. 
 In making the sales estimate the branch manager will learn 
 much, because its preparation will force him to study past 
 results and future prospects. Finally, if the branch mana- 
 ger makes the original estimate he will feel more responsi- 
 bility for its enforcement than if it is prepared by the general 
 office without consultation with him. If he fails to meet an 
 estimate to which he has previously agreed, he cannot object 
 to being required to explain the reasons for his failure. It is 
 of course possible to enforce procedures whether subordi- 
 nates like them or not, but this is rather destructive of 
 morale, and morale is an important factor in present-day 
 administration. 
 
 What has been said in the foregoing paragraph with ref- 
 erence to the sales estimate is equally true with reference to 
 all the other estimates. Better results will be obtained if 
 the line subordinates are consulted in their preparation. 
 
 Responsibility for Reports 
 
 After the budgetary program is established, it is neces- 
 sary to have periodic reports showing the performance of 
 each department so that a comparison may be made between 
 the estimated and the actual performance. To accomplish 
 ill's it is necessary that two things be done: 
 
 1. That the reports desired be determined. 
 
 2. That the responsibility be fixed for the preparation of these 
 
 reports.
 
 PRELIMINARY STEPS IN INSTALLATION 39 
 
 Because of the importance of the reports used in budget- 
 ary control, it is desirable that considerable attention be 
 given to their form and content. It is preferable that they 
 be designed by a central authority so that the information 
 received from all departments will be in proper form for 
 comparison and correlation. The executive in charge of the 
 budget procedure knows the form in which the information 
 is desired for his use and for the use of the budget committee, 
 hence he is best able to design the necessary reports. 
 
 It is advisable that the reports desired be determined at 
 the beginning of the budget period so that provision can be 
 made for collecting the information needed for their prepa- 
 ration. If instructions for their preparation are not issued 
 until the end of the period, it is very possible that some of 
 the necessary information will not be available. This not 
 only results in a failure to secure the desired information, 
 but also tends to create ill-will on the part of those who are 
 held responsible for the preparation of the reports. 
 
 The departmental heads are responsible for the prepara- 
 tion of the departmental estimates, but in many cases it is 
 not possible to make them responsible for the preparation 
 of the reports showing the actual performance. In some 
 cases it is more desirable to obtain this information from the 
 accounting department or a central statistical department. 
 
 In any case, it is necessary to determine from which de- 
 partment this information should come and fix responsibility 
 therefor, and this determination should be reached very 
 early in the course of the budgetary procedure in order 
 that plans may be made by the department made respon- 
 sible for the collection of the required data. 
 
 Necessity for Promptness in Preparing Reports 
 
 In deciding the responsibility for the preparation of re- 
 ports, careful attention should be given to the necessity for
 
 40 BUDGETARY CONTROL 
 
 their prompt preparation after the end of the budget period. 
 Unless they are prepared with promptness so that the actual 
 and the estimated performance can be compared Imme- 
 diately after the close of the period, It Is impossible to make 
 the necessary revisions In the budgetary program which the 
 reports show are necessary. To know the variations be- 
 tween the estimated sales and the actual sales of January is 
 of value if the knowledge is available on February i, but 
 such knowledge is of little value in controlling the budget 
 program for February If not available until February 25. 
 
 It will seem on first thought that it is the function of the 
 accounting department to prepare the budget reports. 
 There are certain advantages in this procedure since It elimi- 
 nates the possibility of duplication of work if another depart- 
 ment is required to collect and report data which will later 
 be shown in the accounting records. The reports are also 
 apt to be more accurate if they are verified by the formal 
 methods employed by the accounting department. It has 
 been the author's expeFJenee, however, that it is difficult to 
 get the accounting department of most businesses to sum- 
 marize their records at the end of the period with sufficient 
 speed to make available the desired reports at the time 
 needed. He has found it advisable, therefore, to obtain in- 
 formation regarding actual performance from other sources 
 wherever possible. It is true that the audited reports pre- 
 pared from the accounting records may differ slightly from 
 those prepared by the operating departments, but these 
 differences are usually not of sufficient amount to affect the 
 conclusions to be drawn from the latter.- > 
 
 Method of Enforcing Budgets 
 
 After the departmental estimates have been approved 
 it is necessary for each department to formulate plans to 
 carry out its estimate. Unless this is done the budgetary
 
 PRELIMINARY STEPS IN INSTALLATION 41 
 
 program is apt to result In failure. Many firms have made 
 estimates of d epartmental activities but have failed to formu- 
 late a plan for their attainment, with the result that the 
 actual has varied widely from the estimated performance 
 and consequently the executives have tended to feel that 
 the budgets had little or no significance. A well thought- 
 out plan for the enforcement of the departmental estimates 
 should be formulated before the introduction of the budg- 
 etary program. 
 
 The method by which the departmental estimates will 
 be enforced will vary w4th the different departments. For 
 instance, the sales department may find it necessary to set 
 up quotas for the different sales units and for salesmen at 
 each unit in order to secure the amount of sales called for by 
 its estimate. The production department will find it neces- 
 sary to set up balance of stores records so that the inventory 
 schedules called for by the production budget may be main- 
 tained, and to operate a planning department so that its 
 schedule of finished goods may be enforced. Other depart- 
 ments will find it necessary to use similar means to carry out 
 their programs. 
 
 Some part of this procedure may be developed as the 
 budgetary program proceeds, but it is necessary to remem- 
 ber that it is useless to set up a budgetary program unless 
 means for its enforcement are provided, and it is necessary 
 that the means be developed as early as possible in the 
 installation of the budgetary procedure. 
 
 Cooperation of Executives and Employees 
 
 In order that the budgetary program be properly formu- 
 lated and executed it is necessary that all the executives 
 and employees of the business cooperate to that end ; and in 
 order to secure their cooperation it is necessary that they be 
 instructed with reference to the budgetary plans so they
 
 42 BUDGETARY CONTROL 
 
 may understand the relation of the duties delegated to them 
 to the general plans of the business. Although previous to 
 its installation it is impossible to secure a complete realiza- 
 tion by all the executives and employees of what the budget- 
 ary program involves, as mach as possible should be done 
 to this end before the budget program commences. If di- 
 plomacy and tact are used much can be accomplished. 
 
 After the budgetary program is installed, it is desirable 
 to have prepared a manual on budgetary procedure outlining 
 the purpose of the budget program and the procedure to be 
 followed by all departments and units of the business in its 
 preparation. If this manual is placed in the hands of all 
 those responsible for the performance of duties in connection 
 with the budget program, it will aid them to see the necessity 
 and desirability for prompt and efficient cooperation on 
 their part. The contents of such a manual is discussed and " 
 illustrated in Chapter XXI 11. 
 
 Much more might be said with reference to the impor- 
 tance of securing the cooperation of executives and em- 
 ployees, but it is thought that the necessity for this coopera- 
 tion is evident., The method which should be employed to 
 secure their cooperation will depend on the circumstances 
 of each case. Tact, courtesy, and patience are all neces- 
 sary, and these should be backed up by determination based 
 on confidence in the program and comprehensive knowledge 
 of the method of executing it.
 
 CHAPTER IV 
 
 ORGANIZATION FOR BUDGETARY CONTROL 
 
 Need for Organization 
 
 The preceding chapters have shown that in the operation 
 of budgetary control it is necessary to formulate a com- 
 prehensive procedure which will govern the preparation, 
 correlation, and enforcement of the departmental estimates. 
 To insure the carrying out of the budgetary procedure, 
 it is necessary to set up an organization responsible for 
 its enforcement; and it is desirable that this organiza- 
 tion be effected before the budgetary program is initiated, 
 for otherwise there will be no fixed responsibility for its 
 enforcement, and delays and errors are almost sure to occur. 
 These errors and delays tend to lessen the interest and en- 
 thusiasm of the executives and employees in the budgetary 
 program, and this in turn renders its successful completion 
 more difficult. It is the purpose of this chapter to indicate 
 the nature of the organization which many business firms 
 have found desirable. 
 
 Head of the Budgetary Program 
 
 Previous chapters have emphasized the interrelation of 
 the activities of the functional departments and the need 
 of a correlation of these activities. Since it is the purpose of 
 budgetary control to effect this correlation, the budgetary 
 program is as broad and comprehensive as the business 
 itself. Inasmuch as the budgetary program involves the 
 activities of all the departments, it is not expedient to dele- 
 gate its execution to any one department. Rather, it is 
 necessary to set up an organization which, although it must 
 
 43
 
 44 BUDGETARY CONTROL 
 
 include the executives of all departments, has a central 
 head which is independent and superior to the departmental 
 executives. 
 
 In harmony with this conclusion, it is desirable that the 
 president or chief executive of the business should have 
 direct control of all matters pertaining to the budgetary 
 program. He must of necessity delegate most of the duties 
 imposed on him by this program to subordinate officers, but 
 these officers should act as his agents and be directly re- 
 sponsible to him for the proper performance of the duties 
 delegated to them. In case of disagreement between de- 
 partments with reference to the coordination of estimates, 
 the decision of the president must be final. 
 
 Disadvantages of Not Having Chief Executive at Head 
 
 The importance of having the chief executive in direct 
 and immediate control of the budgetary program cannot be 
 overemphasized, for unless this be done two undesirable 
 situations may develop : 
 
 1. The departmental executives and their subordinates 
 will fail to realize the importance of the budgetary work and 
 will not give it the time and attention necessary to make it 
 worth while. If they are required to submit estimates and 
 to make reports regarding their execution to some subordi- 
 nate official, or even to the head of some other functional 
 department, such as the general auditor's, they are apt to 
 resent what they will regard as an undue interference with 
 their activities by one who is not directly concerned with 
 them. 
 
 2. Disagreements will arise with reference to the co- 
 ordination of departmental programs. For instance, the 
 sales department may desire to sell more than the produc- 
 tion department thinks it can produce profitably, or the 
 production department may desire to produce articles which
 
 ORGANIZATION FOR BUDGETARY CONTROL 45 
 
 the sales department does not think it can sell, or both the 
 sales and production departments may desire to increase 
 their activities beyond what the financial department thinks 
 can be financed. Obviously the only authority who can 
 decide these questions is the chief executive who is superior 
 to all the executives interested in the controversy. These 
 departmental executives will not accept as final the decision 
 of an officer of equal or lower rank to themselves. Further- 
 more, if the executives in charge of the preliminary work on 
 the budget are the direct representatives of the chief execu- 
 tive they are apt to be given more consideration than if they 
 are members of a subordinate department. 
 
 Direct Control of Governmental Budgets by Chief Executive 
 
 In the preparation of governmental budgets it has usually 
 been assumed that final control and responsibility is vested 
 in the chief executive. Consequently he is usually required 
 to submit to the legislative body the proposed budget with 
 his personal approval, and he is held directly accountable 
 for its contents. In the enactment of the recent legislation 
 creating budgetary control for the United States govern- 
 ment, there was much discussion with reference to the rela- 
 tion of the President to the budgetary organization. The 
 Senate desired to place the Budget Bureau in the Treasury 
 Department, while the House desired to make it independ- 
 ent of any department and answerable directly to the 
 President. The New York Evening Post discussing the 
 proposed law very ably sets forth the arguments for placing 
 the President in direct control of the Budget Bureau, in the 
 following editorial entitled "The Right Kind of Budget": 
 
 Passage by the Senate of the McCormick budget bill is gratify- 
 ing as a forecast of the early establishment of a budget system at 
 Washington. But it is highly desirable that we get the right kind of 
 budget system. Otherwise the work will have to be done over.
 
 46 BUDGETARY CONTROL 
 
 One of the prime essentials of a proper budget isthat it be placed 
 directly under the President. The McCormickbill places the system 
 in the Treasury Department. On the other hand, the Good bill, 
 which has been introduced in the House, places the Budget Bureau 
 directly under the President. This undoubtedly is the course that 
 should be followed. The McCormick arrangement, if not fatal to 
 the right function of a budget system, would greatly hamper it. The 
 reasons lie on the surface. One of the most important duties of the 
 chief budget officer will be to cut the estimates submitted to him by 
 Cabinet officers. It takes no great stretch of the imagination to see 
 the situation that will be created if an official connected with a par- 
 ticular department cuts the estimates that come from other depart- 
 ments. Think of a budget official passing upon the estimates of his 
 chief. Inevitably there will be a feeling that the department to 
 which the budget system is attached is being favored. I n order that 
 the system may have a fair chance, it must be in exactly the same 
 relation to all the departments. With respect to it, just as with re- 
 spect to the President and Congress, the departments must be on 
 the same plane. A budget officer representing the President will be 
 in a very different position from a budget officer representing the 
 Treasury. 
 
 The argument is no less strong with reference to the relation be- 
 tween the budget and the President. No matter where the budget 
 system is placed, the President will be the final arbiter in important 
 differences between the budget officer and the department heads. It 
 will be much easier for him to settle these differences if the budget is 
 part of his office than if it is connected with one of the departments. 
 In the latter case appeal would first be taken from the budget officer 
 to the head of the department and then to the President. This 
 would put the President in the delicate position of having to decide 
 between two of his Cabinet officers. With the budget officer a part 
 of the President's Staff, the final conference would consist of the 
 President, the budget officer, the department head and perhaps the 
 head of the bureau affected — a much more promising assemblage 
 for an objective consideration of the case. 
 
 The budget officer will not be a mere reducer of figures. To be 
 of the greatest usefulness, he will make it his business to keep the 
 President informed of the activities of the various departments. He 
 will follow up his work on the estimates each year by observing the 
 way in which the appropriations are spent, continually reporting to
 
 ORGANIZATION FOR BUDGETARY CONTROL 47 
 
 the President. This valuable service, it is obvious, can be rendered 
 much better by an officer attached to the President's Staff, than by 
 one attached to a department. Under the latter arrangement, in- 
 deed, it would be rendered at a maximum of difficulty. 
 
 As is well known, the Senate and the House compro- 
 mised their differences by placing the Budget Bureau nomi- 
 nally in the Treasury Department, but with the Director 
 of .the Bureau reporting directly to the President. Since 
 the appointment of the present Director, the President has 
 taken care to emphasize to the departmental heads that the 
 Director is the representative of the President and that his 
 requests should be treated as if the President himself made 
 them. 
 
 The arguments set forth in the foregoing quotation apply 
 with slight modification to the organization for budgetary 
 control of the private enterprise. The chief executive must 
 be both the nominal and active head of the budgetary organ- 
 ization. 
 
 The Budget Committee 
 
 In all businesses where a functional organization exists 
 the budgetary program will usually be expedited and bene- 
 fited by the establishment of a budget committee. This 
 committee will consist of the principal functional executives, 
 with the president as chairman. In a manufacturing busi- 
 ness it will usually be satisfactory to have it composed of the 
 president, the sales manager, production manager, treasurer, 
 personnel manager, and controller or general auditor. In a 
 merchandise business the president, merchandise manager, 
 treasurer, personnel manager, and controller may be suffi- 
 cient. 
 
 Under the authority and direction of the president the 
 budget committee considers all departmental estimates and 
 makes changes and revisions as it may think desirable. No
 
 48 BUDGETARY CONTROL 
 
 estimate Is to be effective until it has received the approval 
 of the budget committee. In case the budget committee 
 cannot agree with reference to any estimate, the question in 
 dispute is left to the president and his decision is final. In 
 case the judgment of the president does not agree with that 
 of the majority of the committee, he has the privilege of 
 overruling them since he Is the head of the budgetary organi- 
 zation. A wise executive would take such a step, however, 
 only in extreme cases, for the success of the budgetary pro- 
 gram depends to a considerable degree upon the cooperation 
 of the executives. 
 
 In the consideration of the departmental estimates the 
 budget committee may call on departmental heads to ex- 
 plain reasons for the variations in their estimates from the 
 estimates for past periods, or to explain why changes cannot 
 be made which the committee thinks desirable. By this 
 means the committee obtains full Information on the sub- 
 ject before making its decisions. When the departmental 
 estimates have been approved by the committee and the 
 president, they then become the working budgets for the 
 departments. Of course they may have to be submitted to 
 the board of directors for approval before becoming effective. 
 
 At the end of stated periods of time, preferably monthly, 
 the committee will receive reports showing a comparison of 
 the performance for the period with the estimated perform- 
 ance. For instance, it will receive a comparison of the sales 
 for the month with the estimated sales for the month ; of the 
 actual production with the estimated production ; and of the 
 actual expenses of each department with the estimated ex- 
 penses. On the basis of these reports it may make revisions 
 in the budgets for the remainder of the budget period 
 if it deems such revisions necessary. The receiving of such 
 reports and the making of such revisions are a very impor- 
 tant part of the committee's duties.
 
 ORGANIZATION FOR BUDGETARY CONTROL 49 
 
 It is of little value to make budgets unless a check is 
 maintained on those who are responsible for their execution, 
 and unless such a check is maintained, proper attention will 
 not be given to the preparation or the execution of the 
 budgets. Furthermore, budgets deal with future operations 
 and are therefore apt to be inaccurate. It is essential that 
 these inaccuracies be discovered and corrected as quickly as 
 possible. It is exceedingly unwise to make plans covering 
 any considerable period of time and to follow these plans 
 blindly without taking into consideration the changing con- 
 ditions which could not be foreseen when the plans were 
 made. 
 
 Executive in Charge of Budgetary Procedure 
 
 If the departmental estimates and theperiodic reportsare 
 to reach the budget committee at the proper time for their 
 consideration, a definite procedure must be established for 
 their preparation and submission; and after this procedure 
 is established, there must be an executive responsible for its 
 execution. Although the president is the head of the budg- 
 etary program, he cannot assume responsibility for the direct 
 supervision of the budgetary procedure and therefore must 
 delegate this duty to some other executive. In a business 
 where there exists a controller he may very well be charged 
 with the direct supervision of the budgetary procedure. 
 
 In many businesses there is no controller, and in many 
 where there is an executive known by that title he in fact 
 acts only as head of the accounting department and is not a 
 controller in the correct sense of the word. In those busi- 
 nesses where there is no controller the supervision of the 
 budgetary procedure may well be delegated to a member of 
 the staff of the president. This executive may be given a 
 distinctive title or he may merely be termed "staff assist- 
 ant to the president." Since the businesses which have a
 
 50 BUDGETARY CONTROL 
 
 controller are by far in the minority, it will be assumed in 
 the remainder of this discussion that a staff assistant of the 
 president is the executive in charge of the budgetary pro- 
 cedure. 
 
 Duties of Executive in Charge of Budgetary Procedure 
 
 Under the authority and direction of the president, the 
 staff assistant to the president has general control and su- 
 pervision over the preparation and execution of the budg- 
 etary program. His general duties are indicated by the 
 following summarized outline: 
 
 1 . To receive from the departmental heads the periodic estimates 
 
 which will be discussed and illustrated in the following chap- 
 ters. In order that these estimates may be made in the proper 
 form for his use, he may design forms for the use of the de- 
 partments in the submission of their estimates. 
 
 2. To transmit these estimates to the budget committee with such 
 
 recommendations as he may think necessary. He may com- 
 bine and summarize these estimates so that they may be sub- 
 mitted to the budget committee in the form which will make 
 them most useful to it. It is usually his function to prepare 
 from the departmental estimates an estimated balance sheet 
 and an estimated statement of profit and loss for submission 
 to the budget committee and the board of directors. These 
 show the estimated effect of the contemplated program on the 
 financial condition and earnings of the company. 
 
 3. To supply the budget committee with all the information avail- 
 
 able which will assist it in the consideration of the estimates. 
 He should have assistants whom he should use in the collecting 
 of statistical data and the translating of these data into the 
 form of reports and charts which will be useful to both the 
 budget committee and the department heads. 
 
 4. To receiv'e from the budget conmiittee the estimates as approved 
 
 and transmit these to the departmental heads. 
 
 5. To receive periodic reports prepared by the operating depart- 
 
 ments or the accounting department showing the performance 
 of each department during the budget period.
 
 ORGANIZATION FOR BUDGETARY CONTROL 5 1 
 
 6. To transmit periodic reports to the budget committee showing a 
 
 comparison between the estimated performance and the actual 
 performance for the period for each department, and to make 
 any recommendations with reference to revisions which he 
 thinks necessary. 
 
 7. To transmit to the departmental heads any revisions in the 
 
 original estimates which have been made by the budget com- 
 mittee. 
 
 8. To recommend to the president and to the budget committee any 
 
 changes in the budget procedure which he may think necessary ; 
 and to enable him to make these recommendations, he should 
 be continually making studies and doing research. 
 
 The staff assistant usually acts as secretary to the budget 
 committee, and in this capacity is constantly available for 
 consultation with the members of the committee. He has 
 the implied authority to do everything necessary to the 
 proper performance of the duties expressly stipulated for 
 him. 
 
 Importance of Staff Assistant's Work 
 
 It is important that the staff assistant in charge of the 
 budgetary procedure should not be regarded as doing work 
 of a clerical nature. His function is something more than 
 the supervision of the budgetary routine. In the operations 
 of the budgetary program many questions of policy will 
 arise. The departmental executives will often differ with 
 reference to these questions. It is the duty of the staff 
 assistant to study these and be able to offer to the budget 
 committee and the president the matured judgment of an 
 impartial observer. His work brings him in touch with all 
 the departments of the business and should enable him to 
 have a more comprehensive view of it than is usually pos- 
 sessed by the line executives. As a result he should be able to 
 make recommendations and suggestions as to new methods 
 and policies which will be beneficial to the business. He
 
 52 BUDGETARY CONTROL 
 
 should also make a practice of collecting data which will 
 serv'e as a basis of more accurate estimates. By these means 
 he can become one of the most important executives in the 
 organization. 
 
 Departmental Executives 
 
 The executive heads of the functional departments are 
 responsible for the preparation of the estimates of their 
 departments at the time and in the manner prescribed by 
 the adopted procedure. They are also responsible in some 
 cases for the periodic reports showing the performance for 
 the period. Some of the periodic reports are obtained from 
 the accounting department, while some are obtained from 
 the operating departments. Usually the operating depart- 
 ments will submit reports more quickly than the accounting 
 department, and promptness is necessary in order to use the 
 reports effectively. Any recommendations which a depart- 
 mental executive desires to make with reference to changes 
 in budgetary procedure will be transmitted in writing to the 
 staff assistant to the president, who in turn will transmit it 
 to the budget committee for consideration. 
 
 There is a difference of opinion among executives with 
 reference to the extent to which the departmental head 
 should delegate the duty of preparing the estimates of his 
 department. As explained in Chapter III, it is the opinion 
 of the author that the preparation of the original estimate 
 should be delegated as far as possible to the one who will be 
 responsible for the carrying out of the estimate after it has 
 been adopted. 
 
 Board of Directors 
 
 In many businesses the budgetary program after it has 
 been formulated and approved is submitted to the board 
 of directors. In case the program involves a radical change
 
 ORGANIZATION FOR BUDGETARY CONTROL 53 
 
 in policy or the acquirement of a large amount of capital, 
 they may deem it necessary to modify it. The staff assist- 
 ant to the president should have available data which will 
 serve to show the modifications which are possible and their 
 effect on the program as a whole. 
 
 If modifications are necessary, the board of directors 
 may instruct the chief executive to prepare a budget giving 
 effect to the changes which they desire. In this case all the 
 departments may be required to submit new estimates, or 
 the changes may be such that they can be made by the 
 budget committee. In any case the changes as made must be 
 transmitted to the departmental heads by the staff assistant 
 to the president. 
 
 Although it is well and proper to have the budgets sub- 
 mitted to the board of directors for consideration and 
 approval, they should be transmitted to it only after they 
 have been put into completed form. It is obvious that the 
 directors are not interested in the details of preparation, 
 and therefore the budget committee should have completed 
 its work before the budgets are sent to the directors. Un- 
 doubtedly the tendency for the board of directors to give 
 consideration to the budgetary program will be increased 
 in the years to come.
 
 CHAPTER V 
 THE SALES BUDGET 
 
 Importance of Sales Information 
 
 In the preceding chapters the fact has been emphasized 
 that all of the functional departments of a business are 
 closely related and that the activities of each department 
 are dependent to a considerable extent upon the activities of 
 all the other departments. In fact it is because of this inter- 
 relation and interdependence of departmental activities 
 \that budgetary control is necessary. It is difficult to con- 
 sider the activities of any one department without consider- 
 ing to some extent their effect on the activities of all the 
 other departments, and vice versa. In the formulation of 
 the plans of any one department for the ensuing budget 
 period, it is necessary to consider at every stage of their 
 development their effect upon the plans of every other de- 
 partment. Modifications and revisions are often necessary 
 in order to effect coordination. 
 
 It will be necessary in the present chapter and in those 
 which are to follow to discuss the functional departments 
 separately, but it is deemed wise to emphasize again the 
 interdependence of the activities of these departments, so 
 that the reader will keep this characteristic of business 
 organization constantly in mind. 
 
 The initial step in the budgetary program is usually 
 made by the sales department. The reason for this is easily 
 seen. The object of the operations of a business is to make 
 a profit, and sales conclude the process which results in the 
 making of a profit. Until the sales take place, consequently 
 no profit is realized. Whenever the sales are profitable, the 
 
 54
 
 THE SALES BUDGET 55 
 
 executives of a business desire to increase their sales, and 
 they try to coordinate all the activities of the business to 
 accomplish this end. It follows that the activities of the 
 sales department exercise a very important influence over 
 the activities of all the other departments. This influence 
 is of primary importance in both a mercantile and a manu- 
 facturing business. 
 
 It is customary, therefore, for the sales department to 
 prepare a sales estimate which sets forth the sales which are 
 desired and deemed possible during the next budget period. 
 This estimate must then be studied in comparison with the 
 future possibilities of the other departments as set forth in 
 their estimates, in order to arrive at a properly coordinated 
 budget for the entire business. The revised sales estimate 
 or the "sales budget" then becomes the working program of 
 the sales department. 
 
 Need and Importance of the Sales Estimate 
 
 The owners or officers of either a trading or a manufac- 
 turing industry of necessitymust estimate the probable sales 
 of their business for each season or fiscal period. These 
 estimates may be made very unscientifically and be recorded 
 quite informally, or they may be made as the result of a very 
 careful analysis of all the factors involved and presented by 
 means of a formal report. But, in any case, an estimate 
 of sales must be prepared as a basis of planning for the 
 future. 
 
 In a trading business, the nature and amount of goods 
 to be purchased depends upon the plans of the sales depart- 
 ment. In a manufacturing business, the volume and nature 
 of production is dependent on the sales estimated. If a 
 sales estimate is not made by the sales department, the 
 probable sales must be estimated by the purchasing depart- 
 ment or the production department; otherwise these de-
 
 56 BUDGETARY CONTROL 
 
 partments have no basis for their plans. It is the purpose 
 of the present discussion to emphasize the point that it is 
 properly the function of the sales department to prepare 
 this estimate, and to explain the method by which it is pre- 
 pared. 
 
 It is evident that in a mercantile store goods must be 
 bought and placed on the shelves or in the warerooms before 
 they can be sold. It will later be explained how in a manu- 
 facturing business goods may sometimes be sold before they 
 are produced, but such is not the case in the typical mercan- 
 tile business. Consequently, in this type of business, before 
 the buyers can make contracts and select the qualities and 
 kinds of goods that are to be offered for sale, the manage- 
 ment must make estimates, however scientific or unscien- 
 tific, as to the volume and character of sales expected for 
 any given period. 
 
 The small retailer whose business is restricted to one 
 particular specialized commodity, say a dealer in rare 
 oriental rugs, may say that he will buy what he can and 
 plan for the sale of the merchandise after he has it in his pos- 
 session. But a large retail business, such as a department 
 store, that sells many thousands of different items of mer- 
 chandise, must set up a program of what sales are expected 
 to be, if purchases are to be made intelligently in source 
 markets all over the world and deliveries to the shelves of 
 the store completed before the customers of the store come 
 to buy. Even in the case of the dealer of oriental rugs it is 
 probable that he will learn by experience that certain kinds 
 or types of rugs sell more readily than others. When he 
 makes his purchases, he will be guided by that experience 
 and will seek the popular kinds of rugs for his antici- 
 pated sales. In so far as he does this, he is estimating his 
 future sales. In other words, he is making an infonnal 
 sales estimate.
 
 THE SALES BUDGET 57 
 
 Anticipated Sales the Basis for Action for All Departments 
 
 Not only does the volume and nature of the sales antici- 
 pated, as reflected in the sales estimate, affect the buyers in 
 their selection of goods, but it also vitally affects the opera- 
 tions and plans of the various functional managers of the 
 business. The officers of the store who are responsible for 
 providing proper space for counter stocks, for reserve 
 stocks, and for wareroom stocks, must have before them 
 some tangible data as to when such stocks will be purchased, 
 when sold, and what volume of sales will be made. In de- 
 partment stores and mail-order houses, where large stocks 
 are carried, this is especially important. 
 
 The operating managers above mentioned must work 
 with an estimate of sales in mind, so that they may secure 
 the proper sales persons and then train them to meet the 
 needs of the organization. Similarly the operating officials 
 must anticipate the volume and character of sales to a fairly 
 accurate degree, if they are to employ an economical num- 
 ber of packers, wrappers, telephone operators, delivery men, 
 and the like, and if they are to train these employees into an 
 efficient working force animated with the service ideals of 
 the store, and thoroughly familiar with the operations, proc- 
 esses, procedures, and schedules in retail selling and order 
 buying. 
 
 The treasurer or other officer charged with the responsi- 
 bility of financing the purchases and expenses of the store 
 must have very definitely in mind the volume of revenue 
 from sales that the store may reasonably expect to receive 
 from week to week, and even from day to day. The owners 
 themselves, or the president or general manager as their 
 agent, must carefully study expected sales in investing 
 capital in new divisions or departments of the store, in 
 making additions or extensions of physical plant, or in mak- 
 ing decisions concerning new forms of customers' credits.
 
 5B BUDGETARY CONTROL 
 
 Place of Sales Estimate in a Wholesale or Retail Store 
 
 In short, the owners and officers of a wholesale or retail 
 store of appreciable size must set up a sales program for 
 each season or fiscal period in order that the customer may 
 receive service resulting from coordinated purchasing, oper- 
 ating, financing, and plant maintenance and extension. 
 For instance, in a department store, if the various depart- 
 mental buyers who are purchasing goods in different 
 markets are to work as a unit, they must know not only 
 what volume of sales in their own particular lines they are 
 anticipating by their contracts, but they must also know 
 something of the character and volume of sales expected in 
 all the other lines of the store, so that they may select and 
 purchase qualities and quantities complementary and sup- 
 plementary to the other lines of goods handled by the store. 
 But the departmental buyers must not only work in 
 harmony with each other; they must work in harmony with 
 the traffic manager, the superintendent of warehouses, and 
 the superintendent of delivery service. The one vital point 
 of contact between the selector of merchandise and the 
 operating man who handles the order for the customer, is 
 that they both promise their work on the same expectancy 
 or estimate as to volume and character of business. It can 
 be readily seen, therefore, that comprehensive and accurate 
 information with reference to sales anticipated is of utmost 
 importance in the internal control and management of a 
 modern wholesale or retail store. 
 
 The Sales Estimate in a Manufacturing Business 
 
 In a manufacturing business the sales estimate is as 
 necessary for coordination of departmental activities as in 
 the case of a mercantile establishment. The production 
 manager must base his production program on the antici- 
 pated sales ; otherwise excess stocks will accumulate or orders
 
 THE SALES BUDGET 59 
 
 will go unfilled. The plant engineer must plan his building 
 and equipment program to meet the production program 
 demanded by the sales estimate. The employment or per- 
 sonnel department must consider the increased or decreased 
 demand for employees which will result from the program of 
 the next budget period. The purchasing agent must make 
 contracts for raw materials and supplies and schedule de- 
 liveries in order to meet the demands of the production 
 budget. The shipping department must adjust its capacity 
 to meet the demands of the sales program. The treasurer 
 must know the estimated revenue from sales as well as the 
 probable disbursements arising from the financing of the 
 sales program and the consequent production program, in 
 order to provide for the necessary funds. Thus each de- 
 partment of the business is affected by the volume of busi- 
 ness and the volume of businessisdetermined by the amount 
 of the sales. Consequently a knowledge of the amount of 
 the sales anticipated is necessary in order to plan the opera- 
 tions of the business in such a manner as to secure coordina- 
 tion, and without coordination efhcient administration is 
 impossible. 
 
 Th3 Revised Estimate, or "Budget," the Result of Cooperation 
 
 It may be well to state again that it is not intended to 
 imply by the emphasis placed on the importance of the sales 
 estimate that the sales department should determine the 
 policies of the business as a whole. The following discus- 
 sion will show that though the sales estimate is usually pre- 
 pared originally by the sales department, the sales depart- 
 ment in its preparation should take into consideration the 
 plans and possibilities of the other departments. In any 
 case, the revised estimate, or "budget," which serves as 
 the basis for future operations, is the result of the coopera- 
 tive efforts of all the functional departments of the business.
 
 6o BUDGETARY CONTROL 
 
 It is revised and modified by the functional officers and the 
 budget committee before it is adopted in its final fonn. 
 
 The purpose of the preceding discussion is to emphasize 
 the need and importance of the sales estimate. It is now 
 necessary to discuss its preparation and the method by 
 which it is used. 
 
 Threefold Basis of the Sales Estimate 
 
 The sales estimate is a report which gives in a sum- 
 marized but comprehensive form the sales which the sales 
 department desires and deems possible during the next 
 budget period. In the preparation of this estimate, infor- 
 mation of various kinds must be considered, which informa- 
 tion may be classified under the following general headings : 
 
 1. Knowledge of general plans and policies of the business. Such in- 
 
 formation is obtained from the decisions of the executive offi- 
 cers and the board of directors. 
 
 2. Knowledge of trade conditions. Such information is obtained as 
 
 a result of market analysis. 
 
 3. Knowledge of the amount and nature of previous sales, as shown by 
 
 the accounting records. Such information involves sales 
 analysis and comparisons. 
 
 It is necessary to discuss each of these briefly. 
 
 I. The General Plan and Policies of the Business 
 
 In most businesses, plans are made from time to time 
 which affect the sales policies and the volume of sales of the 
 business. A few examples will suffice to make clear the 
 importance of considering such plans in making the sales 
 estimate. 
 
 In many businesses there is a special department called 
 by various names, such as sales engineering, sales promo- 
 tion, sales development, or sales research department, whose 
 function it is to study sales possibilities and to recommend
 
 THE SALES BUDGET 6 1 
 
 changes In sales policies and methods. As a result of such 
 recommendations new lines may be added ; old lines may be 
 dropped ; new territories may be entered ; new agencies or 
 branches established ; new methods of distribution put into 
 effect; changes in prices or terms of sale made; additional 
 advertising carried on ; more salesmen added ; and numerous 
 other changes made. 
 
 Whether or not a separate department is maintained to 
 carry on work of the sort mentioned, such changes are made 
 from time to time by all progressive firms, and the effect of 
 such changes must be given careful consideration In the 
 preparation of the sales estimate. In some cases such 
 changes are decided upon by the chief executive of the sales 
 department, but since they affect to some extent the activi- 
 ties of all the other departments, it is customary for them 
 to be considered by all the functional executives before they 
 are adopted. In the case of some sales policies which will 
 vitally affect the business, it may be necessary for the board 
 of directors to judge if so radical a change as that suggested 
 by the program is desirable for the business. In a business 
 where proper methods of management are followed, the 
 effect of new policies will be considered before they are 
 adopted. Therefore it is not difficult to give effect to these 
 policies in the sales estimate. The importance of giving 
 careful consideration to their effect cannot be overestimated. 
 
 2. Market Analysis 
 
 Although the questions concerning market analysis are 
 primarily problems of the larger one of sales management, 
 they are nevertheless inseparably interwoven with a con- 
 sideration of budget-making and control. In fact, neither 
 market analysis nor sales analysis can be intelligently con- 
 sidered apart from the other. Each serves as a check upon 
 the other. Market analysis and statistical records show to
 
 62 BUDGETARY CONTROL 
 
 what extent the potential demand has been satisfied and 
 whether or not it is profitable to try to satisfy it. As has 
 been pointed out before, the purpose of making sales is to 
 gain a profit. But not every demand for goods is one which 
 can be satisfied on a profitable basis. It is the function of 
 accounting and statistics to assist in the determination of 
 the results of past sales and thus to indicate the probable 
 results of anticipated sales. 
 
 To mention all the factors which must be considered in 
 making an analysis of the market in the case of a retail, 
 wholesale, or manufacturing business is of course impossible. 
 The buying power of the community, as reflected in its 
 savings bank deposits; the industrial growth of the com- 
 munity, as reflected in its pay-rolls ; the condition of crops 
 and the profits of the farmer and stock-raiser in the surround- 
 ing agricultural region; transportation conditions in their 
 relation to the delivery of goods; climatic changes and their 
 effect on seasonable lines ; these and many other general and 
 local trade factors will each have a bearing on the sales to be 
 expected for a retail store. Then the store will have to con- 
 sider many local factors of importance to itself, such as new 
 buildings and street improvements near the store; fire 
 hazards; relationship of management to state officials with 
 reference to state laws of employment, etc. ; new forms of 
 taxes adopted or proposed ; character of store management ; 
 and the like. 
 
 In a wholesale or manufacturing business many of the 
 factors above mentioned will have to be taken into account, 
 and in addition others of a more general nature. For in- 
 stance, general industrial and agricultural conditions 
 throughout the territory reached by the retailers or jobbers 
 to whom the company sells must be considered, and in de- 
 ciding on methods of selling and advertising, and in estimat- 
 ing results, the density and character of the population in
 
 THE SALES BUDGET 63 
 
 both old and potential territory must be taken into account. 
 It will be understood that the "business cycle" must be 
 given careful consideration in the determination of the sales 
 possibilities of both a mercantile and a manufacturing firm. 
 In some businesses it is the function of the sales engineer- 
 ing department, or some other department performing the 
 same function, to make the market analysis and present the 
 data which serv^e as a basis for the sales estimate. In any 
 case these data must be available if accurate forecasts are 
 to be made. It is beyond the scope of this discussion to 
 treat of all the problems involved in sales administration 
 and management. The purpose of the present discussion 
 is to emphasize the necessity for the careful and scientific 
 consideration by the salesdepartment of all the factors which 
 may influence future sales, if the sales department is to pre- 
 pare a sales estimate which will serve as a proper basis for 
 coordination of departmental activities. 
 
 3. Sales Analysis 
 
 Having in mind that only a few of the usual factors in 
 sales management ha\e been mentioned, it seems at first 
 thought as if it were impossible to use accounting records 
 and reports to any advantage in estimating what the volume 
 and character of sales are likely to be. The outstanding 
 fact is that a sales program must be made, and in fact is 
 made in the conduct of all businesses. Even if the presi- 
 dent only "hopes to do slightly better this period than the 
 preceding one," the sales program is the result of taking 
 the revenue accounts of the last period with an additional 
 margin of possibly 5 per cent. The directors who ask their 
 officers to "hold your own despite the decline in the mar- 
 ket or other conditions," are setting up a very definite 
 standard of performance and accountability. The estimate 
 of sales is based on the actual sa'es of the preceding period,
 
 64 BUDGETARY CONTROL 
 
 or periods, plus or minus certain amounts or percentages. 
 This modification is due to a more or less careful consid- 
 eration of various general trade factors and various trade 
 conditions peculiar to the business itself. 
 
 In some businesses it is the custom to take past sales and 
 apply a more or less arbitrary percentage in order to arrive 
 at the estimated sales of the following period . This method 
 is unscientific and is usually inaccurate, for it does not take 
 into account trade conditions or changes in market policies 
 on the part of the business, and such changes occur almost 
 continuously in most businesses. It is highly important 
 that past sales be considered very carefully in making the 
 sales program, but it is not wise to follow such statistics 
 slavishly. 
 
 The sales accounts of a business tell the owner what 
 past sales have been. If the total sales are credited to one 
 account only, there is still the very valuable analysis by 
 days, weeks, and months, of cash and accounts receivable 
 gained by the store through creating sales, although this 
 information may not be classified in a convenient form, and 
 so may be difficult to obtain. If a proper analysis of sales 
 is maintained by means of accounting or statistical records, 
 there will be available information not only of value in mak- 
 ing the sales estimate, but also of service to the various 
 departmental managers. Although it is not safe to assume 
 without investigation that the same ratio between various 
 classes of sales will continue year after year, if the past 
 tendency is known a fair estimate of the future ratio can be 
 made. For instance, if the sales analysis shows that for the 
 past five years the cash sales have averaged 25 per cent of 
 the total, and the sales on account 75 per cent, the treasurer 
 can usually assume that approximately the same ratio will 
 hold good during the next year unless there are conditions 
 which it is known will change the ratio.
 
 THE SALES BUDGET 65 
 
 Various Kinds of Sales Information Desired 
 
 After the probable ratios between the various classes of 
 sales are known, the departmental executives can use them 
 in estimating the effect of the proposed program on their 
 activities. To understand the analysis which should be 
 made, it is necessary to consider briefly the nature of the 
 information which may be desired. 
 
 If the problem is to estimate the sales for a retail store 
 for the three months beginning June i, the first question 
 asked of the accountant is likely to be: What were the 
 sales of last summer by days and weeks? The representa- 
 tive, or representatives, of the sales department who are 
 responsible for the preparation of the sales estimate asks 
 this in order to be able to make an estimate for the current 
 period. The sales department, in turn, must answer the 
 question of the amount of sales anticipated for this summer. 
 In the preparation of the sales estimate, this information 
 must be obtained and made available. The merchandise 
 manager asks the question of the sales department in order 
 that he may be equipped to fix delivery dates in his con- 
 tracts with manufacturers and wholesalers. The operating 
 superintendent asks it because he must estimate the number 
 of employees required through the normal vacation period. 
 The treasurer asks it because he must finance the purchase 
 invoices, the store pay-rolls, etc. Even the finance com- 
 mittee of the board of directors may ask it if they are plan- 
 ning certain changes in the financial plans of the company. 
 
 In addition to this information, each officer may ask for 
 data on last year's sales from the viewpoint of his particular 
 responsibility. The operating superintendent asks, "What 
 percentage of sales last summer were counter sales? What 
 percentage of sales were over the telephone?" The treas- 
 urer asks for data as to cash sales, sales on monthly accounts, 
 and instalment sales. The traffic manager asks for the
 
 66 BUDGETARY CONTROL 
 
 amount of sales to out-of-town customers by express and 
 by freight. These and many other questions of a similar 
 nature will be asked of the accounting department, and, in 
 order to be able to answer them, a proper analysis and classi- 
 fication of sales data is necessary. 
 
 Classification of Sales Data 
 
 No arbitrary classification of sales data can be given, f(jr 
 the analysis and classification made is determined by the 
 information desired by the various functional managers. 
 But it is safe to say that in planning for the future the offi- 
 cers and managers will desire sales to be classified in some or 
 all of the following ways : 
 
 1. By commodity or department 
 
 2. By terms of sales 
 
 3. By method of sale 
 
 4. By method of delivery 
 
 5. By territory of customers 
 
 6. By salesmen 
 
 7. By volume of sales to individual customers 
 
 8. By nature of customers 
 
 9. By rush vs. normal deliveries 
 
 The purpose of each of these classifications should be evi- 
 dent to the reader. 
 
 In a manufacturing business a shorter classification may 
 be required. This is due to the fact that it handles and sells 
 its commodities more directly than a trading company. 
 Where goods are sold in large quantities, as is usually the 
 case in the disposition of products by a manufacturing busi- 
 ness, the problems of selling are less complicated. In such 
 a business sales may be classified as follows: 
 
 1. By commoaities or groups 
 
 2. By territories 
 
 3. By salesmen 
 
 4. By customers
 
 THE SALES BUDGET 67 
 
 In a manufacturing business the terms of sale, method of 
 sale, and method of delivery are usually uniform for all 
 classes sold. Where this is true, no classification to indicate 
 these is necessary. 
 
 The classifications of sales stated above are intended to 
 be suggestive rather than all-inclusive. They are indica- 
 tive of what may be done in the classifying of sales in order 
 to make available information for the preparation of the 
 sales estimate and for the use of the departmental managers 
 in making their plans. 
 
 Terms in Which Estimate Is Made 
 
 The terms in which the estimate should be made are 
 dependent on the nature of the business and the purpose for 
 which the estimate is to be used. In the past, estimates of 
 sales and purchases and expenses have been made by some 
 businesses for the purpose of financial control only. As a 
 consequence they have been made in terms of value. For 
 the purposes of financial control all estimates must be stated 
 in terms of value; but for the purpose of sales, production, 
 and purchases control, estimates must be stated in terms of 
 physical quantities and not in terms of value only. There 
 are possibly a few cases where sales and purchasing control 
 may be effected in terms of value, but these cases are rare. 
 
 In a manufacturing business it is essential that the sales 
 estimate be made in terms of physical quantities, for pro- 
 duction orders are issued for a certain 7iumber of each item of 
 goods produced and not in terms of dollars and cents. It is 
 not enough for the production department to know that the 
 estimated sales for the budget period are $3,000,000. It 
 must know how many hundred of each of the items which 
 the company offers for sale will be sold during the period, so 
 it will know how many must be produced to meet the sales 
 requirements. It is necessary that the sales estimate not
 
 68 BUDGETARY CONTROL 
 
 only state the sales to be made, in terms of physical quanti- 
 ties, but it is also necessary that it state separately the sales 
 of each item of goods which is offered for sale. Some com- 
 panies make estimates in terms of sales classes or groups. 
 These are of little value from the viewpoint of coordinating 
 sales and production. 
 
 Planning Sales in Terms of Items 
 
 Sales orders are made in terms of particular items of 
 commodities, and if these items are to be available, produc- 
 tion must be planned in terms of these items. A factory 
 may have a large inventory and yet be unable to fill sales 
 orders if the particular items called for by these orders are 
 not on hand. To make the sales estimate serve as a basis 
 for the coordination of sales and production, it is essential 
 that the planning of sales be in tenns of items and not in 
 terms of values or groups or classes. 
 
 In most cases the same principle holds true in the retail 
 or wholesale store. A customer does not want a pair of 
 shoes but the pair of shoes of his particular size and shape. 
 In order that the merchant may know how many customers 
 want each particular make, size, and style and that he may 
 procure the goods in advance to meet these demands, it is 
 necessary to have records which will give such information 
 with reference to past sales, and will furnish a basis for mak- 
 ing accurate estimates of future requirements. Thus it is 
 in all lines of merchandise — the demands of the customers 
 call for particular items, and the sales and purchase budgets 
 must be made accordingly. It is of course true that, in the 
 case of goods subject to wide changes in fashion, estimates 
 by items cannot be made accurately. But even in this case 
 past statistics will show a fair indication of the customers* 
 demands for different styles and kinds. 
 
 The necessity for making the sales estimate in terms of
 
 THE SALES BUDGET 69 
 
 Items makes the task of preparing the estimate much more 
 complex in many cases. The different Items of merchandise 
 sold by some firms run Into the thousands. To estimate 
 sales and plan production In connection with each of these 
 items Is a very difficult problem. In some cases the number 
 of items may be so great that this Is well-nigh Impossible. 
 
 Under such conditions some method must be devised 
 which will obtain the necessary results without the incur- 
 rence of prohibitive labor. In most cases a study of the 
 sales of a firm handling thousands of Items will show that the 
 bulk of its sales is composed of a comparatively few Items 
 and that the remainder are slow-moving Items of which the 
 number of sales are few. This may make it possible to select 
 a list of "significant" items which will contain those which 
 constitute the bulk of the sales. In a recent case on which 
 the author was employed, it was found that of 20,000 
 Items, 682 constituted approximately 75 per cent of the 
 total sales. 
 
 Use of "Key" Items in Sales Estimates 
 
 In some cases it is found that there are certain "key" 
 Items of which the fluctuations In sales govern the fluctua- 
 tions In a number of similar Items. For Instance, there may 
 be a group of items which are the same except for size, and 
 there may be one particular size in the group for which there 
 Is the greatest demand. It may be found that the sales of 
 the less popular sizes fluctuate year by year in proportion to 
 the fluctuation in the sales of the most popular size ; and If 
 this condition can be shown to be approximately correct 
 It Is then necessary to have the sales department estimate 
 only the sales of the " key " Items, the statistical department 
 estimating the sales of the remaining Items. It Is only In 
 certain businesses handling certain lines of merchandise that 
 there exists a probability of such a condition arising, but
 
 70 BUDGETARY CONTROL 
 
 where it does arise it greatly facilitates the preparation of 
 the sales estimate. 
 
 When it is possible to select significant or key items, the 
 sales and production budgets may be made, in terms of 
 items, for the items on the significant list. The remaining 
 items can be grouped by classes and the budgets prepared 
 on them in terms of classes. Although the budgets on the 
 groups will be in most cases unsatisfactory from the view- 
 point of coordination of sales and production, this is not of 
 so great importance for these items, which have a low turn- 
 over and are slow-moving, inasmuch as it is not difficult to 
 provide sufficient inventory to meet the sales. By a proper 
 system of inventory control, excess quantities can be 
 avoided. For the purpose of the financial budget, the 
 group budget on the non-significant items will usually serve 
 satisfactorily. 
 
 It is not intended to imply by the foregoing discussion 
 that budgets prepared in terms of classes or groups of items 
 are desirable. It is intended only to suggest that this is 
 one method of procedure when the items sold by a company 
 are exceedingly numerous. If such a plan is followed, it 
 will usually be found expedient to add gradually more and 
 more items to the significant list as the work proceeds. If 
 such a study is begun, it will usually result in the elimination 
 of many of the "non-significant" items which it will be 
 found are unprofitable and unnecessary. In the end this 
 process will result in the proper budgeting of all items.
 
 CHAPTER VI 
 THE SALES BUDGET (Continued) 
 
 Responsibility for Preparing the Sales Estimate 
 
 As stated in the preceding chapter, the sales estimate is 
 prepared by the sales department. As to which particular 
 unit of the sales organization should be responsible for its 
 preparation, an arbitrary rule cannot be formulated. In 
 each case the organization of the company and its selling 
 methods must be taken into consideration. 
 
 In a department store the departmental managers are 
 usually held responsible for the preparation of the depart- 
 mental estimates, and these are combined by the merchan- 
 dise manager to make the estimate for the entire business. 
 The departmental manager of course will consult with his 
 assistants in the preparation of his estimate. 
 
 In a wholesale or manufacturing business which employs 
 traveling salesmen, each salesman may be asked to make 
 an estimate of the sales in his territory for the budget period. 
 Such estimates will of course have to be checked very closely 
 and revised by the central sales office in the light of the data 
 which it should have available. 
 
 In a business which sells its products through branches, 
 each branch may be requested to make an estimate of its 
 sales. These estimates, like those of the salesmen, should 
 be carefully checked by the central sales office. 
 
 When either salesmen or branches are requested to make 
 an estimate of their sales, they should be provided with a 
 record of their sales for one or more past periods, in order to 
 be able to use these data in making an estimate of future 
 sales. 
 
 71
 
 72 BUDGETARY CONTROL 
 
 Those who favor the making of estimates by salesmen 
 and branches contend that those in closest touch with the 
 customers are best able to judge future demands. There 
 are some companies, however, who will not rely at all upon 
 the estimates of the sales force. Instead, they favor the 
 collection of data by the central sales office and the employ- 
 ment of special investigators who make a survey of the sales 
 territory and report on possibilities. Using the data with 
 reference to population, industrial conditions, etc., and the 
 reports of the special investigators, in connection with past 
 sales, they formulate the sales estimate. In some cases, 
 after the estimate is prepared by the central office, it is sent 
 to the branches or to the salesmen for criticism. 
 
 Relation of Inventory Requirements to Sales Estimate 
 
 If a business has branches which carry an inventory of 
 merchandise, a further complication arises in connection 
 with estimating their requirements, since the amount de- 
 sired by them from the parent company is dependent not 
 only upon their anticipated sales, but also upon the condi- 
 tion of their stocks. Their inventories may be below normal 
 on some items and show an excess on others. This condi- 
 tion is especially apt to exist at the time a system of budget- 
 ary control is installed. After the system becomes effective, 
 material excesses or shortages in inventories should be 
 eliminated, except in rare cases. 
 
 Each branch must of necessity report the condition of its 
 inventories for each budget period, whether or not it is held 
 responsible for initiating the sales estimate. Since the sales 
 estimate must be submitted previous to the beginning of the 
 budget period in order that the production budget or pur- 
 chase budget may be prepared for use by the beginning of 
 the period, it is necessary for each branch or selling unit 
 which carries an inventory to estimate its inventory at both
 
 THE SALES BUDGET 
 
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 74 BUDGETARY CONTROL 
 
 the beginning and the end of the budget period. This of 
 course adds another difficulty to the making of an accurate 
 estimate. To illustrate more clearly the nature of the in- 
 formation which the branch or selling unit must submit, a 
 typical illustration may be taken. 
 
 The X Manufacturing Company distributes the major 
 part of its product through its branches, but sells some goods 
 to jobbers. The branches make the principal part of their 
 sales from stock which they carry, but take some orders 
 which are shipped direct from the factory. The general 
 sales office submits to the branches a form ruled as shown 
 in Figure 2. 
 
 The first column will be filled in by the general office. 
 If the detailed sales records are kept at the general office, it 
 also will fill in the second column. If, however, these 
 records are kept at the branch, the branch will fill in this 
 column. The remaining columns are filled in by the branch. 
 Column (6) equals the sum of columns (3) and (4) minus 
 column (5). Column (8) equals the sum of columns (6) 
 and (7). In filling in column (4), it is necessary for the 
 branch to have in mind some such terms as a "thirty-day" 
 stock or a "sixty-day " stock. After the estimated sales for 
 the period are determined, it is only a mathematical proc- 
 ess to obtain the estimated inventory at the end. The 
 foregoing illustration is given in order to indicate some of 
 the problems which may arise in the making of an accurate 
 sales estimate. 
 
 Revision of Sales Estimate According to Production 
 
 After the sales estimate is submitted by the unit of the 
 sales department which is held responsible for its prepara- 
 tion, it should be studied by the staff officers and revised in 
 the light of their information and judgment. In the case 
 of a manufacturing industry, it must be revised in the light
 
 THE SALES BUDGET 75 
 
 of production capacity. It is useless to formulate a sales 
 program which is beyond the capacity of the production 
 department to satisfy. Consequently, data must be ob- 
 tained which will show production capacity. o r der for 
 this to be accurate and comprehensive, it is necessary to 
 obtain data w^hich will show machine capacity. This neces- 
 sitates the preparation of a card for each machine used in 
 the process of manufacturing, showing the operations per- 
 formed on the machine and its capacity in the performance 
 of these operations. It is then possible to determine 
 whether the quantities called for by the sales estimate can 
 be produced. If not, it is necessary to determine which 
 items should be reduced or eliminated. 
 
 Revision of Sales Estimate in Terms of Profit 
 
 Another important factor in deciding the desirability of 
 the sales program proposed by the sales department is the 
 estimated profit. It is desirable that the profit to be ob- 
 tained by the sale of each item called for by the sales esti- 
 mate be determined, if possible. It is undesirable to produce 
 and sell an article which does not yield a satisfactory profit 
 if it can be prevented. Sometimes, however, because of 
 competitive conditions it is necessary to sell certain items 
 in order to meet sales demands for a complete line of articles. 
 For instance, in the sale of valves, dealers find it necessary 
 to carry several sizes in order to meet the demands of their 
 customers. Some manufacturers produce all these sizes 
 so that other manufacturers, in order to meet the demands 
 of the dealers, may be required to carry a complete line for 
 fear the dealer will place his order with the manufacturer 
 from whom he can obtain a complete line. That a complete 
 line may be maintained, it may be necessary for the manu- 
 facturer to produce certain sizes which he is unable to pro- 
 duce and sell at competitive prices without incurring a loss.
 
 76 BUDGETARY CONTROL 
 
 In the revision of the sales estimate in terms of profit, it 
 is necessary to give careful consideration to the problem of 
 providing complete lines, so that items may not be elimi- 
 nated which will result in decreased sales of other items. 
 On the other hand, the sales department has a tendency to 
 overemphasize the necessity for complete lines, and care 
 must be exercised to prevent the carrying of too many un- 
 profitable items. There is considerable agitation at the 
 present time for standardization. It is to be hoped that 
 this movement will develop and will result in the elimination 
 of many specialties, especially in the case of goods which are 
 adapted to standardization. Such standardization will 
 greatly simplify the problem of budgetary control. 
 
 Consideration of Maximum Gross Profit 
 
 In revising the sales estimate in terms of profit it is 
 necessary to consider not only the profit which has resulted 
 from past operations, but also the probable profit which will 
 result from the anticipated operations. Changes in method 
 or volume of production, as well as changes in method or 
 volume of sales, may affect materially the profit obtained. 
 In order to estimate more accurately the effect of these 
 changes in production or sales it is desirable to consider the 
 cost of production and selling and administrative expense 
 and the effect of the new program on these items. It is 
 imperative that careful consideration be given to these fac- 
 tors in the revision of the sales estimate. 
 
 The sales program must provide for the maximum profit 
 that trade conditions will permit consistent with the perma- 
 nency of the business. Here is one of the vital points in 
 making over the sales estimate of volume into a sales pro- 
 gram. The management must decide not only what in- 
 crease in business is desired, but also what volume of busi- 
 ness can be had at a maximum gross profit of selling price
 
 THE SALES BUDGET TJ 
 
 to the customer over the purchase price or cost of produc- 
 tion. Consequently the estimated volume of each line, 
 even of each class and kind of goods, must be re-estimated 
 at the volume that will produce the greatest amount of 
 gross profit. Obviously it is better, from the standpoint of 
 gross profits, to plan to sell $120,000 of merchandise at 30 
 per cent gross profit, than it is to sell $140,000 at 25 per cent. 
 
 Revision of Sales Estimate in Terms of Selling Administrative 
 Expense 
 
 It is to be kept in mind that gross profit is not the only 
 consideration. Handling cost may more than offset gross 
 profit. There is more net profit in selling $100,000 of mer- 
 chandise over the counter for cash at a gross profit of 15 per 
 cent and an operating and overhead expense of 1 1 per cent, 
 than there is in selling $200,000 by the instalment plan at a 
 gross profit of 27.5 per cent and an operating and overhead 
 expense of 26.2 per cent. It follows that the re-estimated 
 sales must be gone over again from the standpoint of ex- 
 pense. Sometimes it is difficult to obtain accurate informa- 
 tion with reference to the expense of selling different lines 
 or items. When possible, such statistical analysis should 
 be maintained as will provide this information. In some 
 cases the cost of obtaining such statistics is prohibitive. 
 It is then necessary to resort to tests and estimates. From 
 time to time studies can be made, and these may serve as 
 the basis for drawing up fairly accurate estimates. These 
 estimates, in turn, may be used to judge the profit possibili- 
 ties of various lines or classes. 
 
 Revision of Sales Estimate According to Financial Requirements 
 
 In the execution of sales and production, finances are 
 
 required. An important factor, therefore, which must be 
 
 given careful consideration in the formulation of the sales
 
 78 BUDGETARY CONTROL 
 
 program, is the financial requirements. There are two 
 ways in which the financial requirements may be considered. 
 After the sales estimate has been revised, taking into con- 
 sideration production capacity, profits, and the like, the 
 amount of capital required to execute this program may be 
 estimated. If this amount is in excess of that which the 
 financial resources of the business will permit to be expended, 
 it is necessary to revise the sales program. In making this 
 revision the various factors previously discussed will be 
 taken into consideration. 
 
 Another method of considering financial requirements 
 is in connection with the revision of the original sales esti- 
 mate. The amount of capital required to finance each 
 item of merchandise listed on the sales estimate may be 
 indicated and this factor considered in deciding which items 
 to reduce, in case reduction is necessary. In any case, after 
 an estimate has been made of the activities of all the depart- 
 ments of the business, it is necessary to prepare an estimate 
 of receipts and disbursements, based on the departmental 
 estimates, and to revise the departmental estimates if 
 necessary, to bring them into harmony with a workable 
 financial program. The process involved in the making 
 of the financial budget will be discussed in Chapters 
 XIX and XX. 
 
 Formulation of the Sales Program 
 
 In the previous discussion the most important factors 
 which must be considered in the revision of the sales esti- 
 mate have been explained. It should be realized, of course, 
 that no attempt has been made to treat of all the factors 
 which may need to be considered in particular cases. If 
 the sales estimate is considered and revised in the manner 
 suggested, the result will be the formulation of a sales pro- 
 gram based on the following:
 
 THE SALES BUDGET 79 
 
 1. Past sales as reflected in the sales accounts of previous years. 
 
 2. The general plans and policies of the business as reflected by de- 
 
 cisions of the executive ofificers. 
 
 3. Trade conditions as determined by the study and research of the 
 
 sales department. 
 
 4. The judgment of the sales unit (or units), which makes the original 
 
 estimate. 
 
 5. The judgment of the central sales office, which reviews the original 
 
 estimates and makes such changes as it deems necessary. 
 
 6. The production or purchasing capacity of the business as reflected in 
 
 the production and purchase estimate. 
 
 7. The gross profit-earning capacity of the different lines or items. 
 
 8. The selling and administrative cost involved in handling different 
 
 lines or items. 
 
 9. The financial requirements of the program contemplated. 
 
 10. The coordination of all the departmental estimates into a well- 
 
 rounded program for the business as a whole. 
 
 11. The sales budget, showing the volume of operations which the 
 
 sales department is expected to perform, based on the budget 
 of the business as a whole. 
 
 The process of making the sales program is not a simple 
 one. Rather a sales program must be thought of as a com- 
 bination of several estimates. It is a statement of past 
 experience modified by future plans, which are in turn modi- 
 fied by trade conditions. 
 
 Additional Factors in Determining Sales Program 
 
 Many factors have to be considered in determining the 
 proper sales program. In the case of a new business the 
 ideal sales program may be one that plans for all the sales 
 that trade conditions will permit, the only restriction im- 
 posed by the owner being that no line may be handled at a 
 net loss. Once a business is well established, however, it is 
 not likely that this will be the sales program adopted. Ex- 
 perience will show that some lines can be handled with 
 greater profit than others, because of the fact that the loca-
 
 8o BUDGETARY CONTROL 
 
 tion attracts a certain class of customers whose general 
 demands are for these profitable lines. Furthermore, cer- 
 tain of the personnel of the store will show greater aptitude 
 in one or more lines. The obvious correction in this case is 
 to strengthen the personnel, although that may be a matter 
 of years of development. Thus, in many ways the estab- 
 lished business may come to have a personality, a policy, a 
 class of trade, a place of its own that can be deflected only 
 by degrees, and this has an important bearing on its sales 
 program. 
 
 Since so many factors have to be considered in the for- 
 mulation of the sales program, it is possible for it to forecast 
 only approximately the operations of the sales department. 
 Consequently the sales program must not be regarded as an 
 arbitrary rule or regulation, or as an unchangeable order to 
 do certain definite things. A real sales program is a state- 
 ment of profits that seem possible under conditions so far 
 as conditions can be foreseen. The form of the statement is 
 in the tangible and understandable terms of estimated sales, 
 but the purpose and meaning of the program is to arrive at 
 net profit results. If conditions change after the sales pro- 
 gram is set up, then the sales program will be changed just 
 so far as the contracts and decisions made under the pro- 
 gram can be changed. In order to effect these changes, a 
 proper system of reports which will serve as a basis for con- 
 trol of the sales budget is necessary. 
 
 Control over the Sales Budget 
 
 As suggested in the preceding paragraph, the sales budget 
 is a preliminary statement of the anticipated operations of 
 the sales department. Other departments, by means of 
 their budgets, attempt to coordinate their activities with 
 those of the sales department, as shown by the sales budget. 
 As the budget period proceeds, it is necessary to take into
 
 THE SALES BUDGET 8l 
 
 consideration the variation of the actual operations of the 
 sales department from its estimated operations. It is 
 necessary that a comparison be made at frequent intervals 
 in order to determine the amount of this variation, so that 
 revisions may be made in the sales budget for the remainder 
 of the budget period, provided the comparison indicates 
 that such a revision is necessary. 
 
 Effect of Revision of Sales Budget on Other Budgets 
 
 After the sales budget is revised, it is necessary to revise 
 the other budgets which are affected thereby. For instance, 
 a sales budget may be made for the first three months of the 
 year, and a production budget prepared to meet the sales 
 program. At the end of January a comparison may show 
 that sales made during the month are 50 per cent less than 
 the estimated sales, and indications are that a like decrease 
 will take place in February. The sales budget should then 
 be revised and the production and financial budgets changed 
 to correspond, if such changes are possible. In some cases 
 commitments may have been made which make a complete 
 revision of the other budgets impracticable. At least some 
 revision, however, is usually possible. In the same manner 
 comparisons should be made in connection with the other 
 budgets, for if any of these changes are found necessary, 
 they may make a revision of the sales budget necessary. 
 For instance, if the production program had fallen down, it 
 may be necessary to decrease the sales budget because of 
 the inability to fill orders. 
 
 Reports from Sales Units 
 
 In order to make a revision of the sales budget, it is 
 necessary to have regular reports from the sales departments 
 showing what the sales have been. Usually these reports 
 are made monthly. If there are several units of the sales
 
 82 BUDGETARY CONTROL 
 
 department making sales independently of the central sales 
 office, it is necessary to have a separate report from each of 
 these units. For instance, if a business has ten branches, 
 each making sales from its own stock, it will be necessary to 
 ha\'e reports from each of these branches showing the sales 
 made, in order that the correctness of the original estimate 
 can be judged and, if necessary, revisions made. 
 
 Sales Orders vs. Shipments 
 
 In making a comparison between sales and estimated 
 sales it is necessary to interpret "sales" to mean orders re- 
 ceived rather than goods shipped. Otherwise there may 
 be a wide variation between the sales made and the sales 
 estimated, which is not due to the fact that the original 
 estimate was incorrect. The goods may not have been 
 shipped because of the failure of the purchasing department 
 or the production department to supply the goods. If the 
 sales department obtained the orders, it has fulfilled its 
 function. In revising the sales budget it is also improper to 
 consider shipments, since it is the orders received, and not 
 the shipments made, which indicate the possibilities for 
 the remainder of the period. In revising the production 
 budget it will be necessary to consider the shipments in order 
 to determine the shortage or the excess existing. In con- 
 sidering the orders received for the purpose of comparing 
 sales with estimated sales it is necessary to exclude those 
 received for future delivery. 
 
 Method of Revising Sales Estimate 
 
 In case it Is found necessary to revise the sales estimate 
 because of a falling off of orders, it is possible to determine 
 which items should be reduced, for the orders will be classi- 
 fied by items and the different Items will be changed in pro- 
 portion to the orders received for that Item. In case the
 
 THE SALES BUDGET 83 
 
 sales budget must be revised, because of a change in some 
 other budget, such as the production budget or the financial 
 budget, it is necessary to decide which items on the sales 
 budget should be changed. Some firms list the items on 
 the budget on a priority basis. In case some items must be 
 reduced due to revisions in other budgets, the reduction is 
 made on the last item on the list. If an increase seems de- 
 sirable, the first item on the list is increased. The use of 
 the priority list is of more significance in the case of some 
 budgets than it is in connection with the sales budget. For 
 instance, in the case of the plant and equipment budget it 
 is a \^ery practicable method of providing for a revision. 
 
 Source of Information Used in Formulating and Controlling the 
 Sales Budget 
 
 It is not always practicable or feasible to obtain from 
 the formal accounting records all the information needed to 
 serve as a basis for formulating or controlling the sales 
 budget. A considerable part of such information may be 
 obtained from statistical records kept in the various depart- 
 ments, or it may be obtained from a central statistical de- 
 partment. The majority of up-to-date sales departments 
 are constantly gathering statistics which will serve as a basis 
 for forecasting future sales. In many cases a special depart- 
 ment is maintained for this purpose. These data are useful 
 in making the sales estimate. The operating department 
 may keep a record of the method of delivery ; the advertising 
 manager may have the sales tickets tabulated in his ofiice 
 to indicate sales by territories; other officials may record 
 other data w^hich they need. 
 
 In many businesses tabulating machines are used to 
 collect the statistical data needed by the various depart- 
 ments. By means of cards which are punched to indicate 
 various classifications of data and which are then sorted
 
 84 BUDGETARY CONTROL 
 
 and assembled it is possible to obtain various kinds of data. 
 In case considerable statistical information is necessary the 
 tabulating machines are desirable. In any case the account- 
 ing records can provide quite useful analyses if these records 
 are properly constructed and operated, the principal obstacle 
 to this being the conception of bookkeeping as a science of 
 formulas for the all important purpose of arriving at net 
 profit or loss. Once a set of revenue accounts is rightly 
 considered as a continuing analysis of transactions, no prac- 
 tical difficulty will be experienced in keeping as many co- 
 equal sets of sales accounts as the making of the well-con- 
 sidered sales program demands. 
 
 Difficult Problems in Preparing Sales Budget 
 
 The chief difficulties encountered in the preparation of 
 the sales budget have been indicated in the preceding dis- 
 cussion. In order that these difficulties may not be disre- 
 garded or minimized, it is deemed desirable to summarize 
 them here. They may be stated as follows : 
 
 1. Market fluctuations, which make it difficult to forecast future 
 
 sales. 
 
 2. Seasonal fluctuations, which make it difficult to coordinate sales 
 
 with production. 
 
 3. Inadequate statistics with reference to past sales, which make it diffi- 
 
 cult to estimate future sales. 
 
 4. Lack of standardization, which results in one firm handling hun- 
 
 dreds of different items, with the consequent difficulty of esti- 
 mating sales on each item; 
 
 Although it is impossible to eliminate these difficulties, it is 
 possible to overcome them to a considerable extent. 
 
 By carrying on proper research work and by collecting 
 proper statistics it is possible, to some extent, to estimate 
 market fluctuation. Of course, in periods of violent read- 
 justments following a panic or a war it is difficult to estimate
 
 THE SALES BUDGET , 85 
 
 the future trend of the market. The only resource, then, 
 is to make the budget period as short as possible, keep the 
 resources of the business in a liquid condition so that they 
 will be adaptable to sudden changes, gather statistics at 
 frequent intervals to make possible a revision of the budgets, 
 and make such changes as are found necessary as quickly as 
 possible. 
 
 Seasonal fluctuations may be provided for in some cases 
 by having seasonal budgets so that the seasonal fluctuations 
 can be provided for at each budget period. If it is impossi- 
 ble to do this, it is necessary to plan operations so as to meet 
 these seasonal fluctuations and to make the budgets and 
 budgetary reports correspond. The method of planning 
 production to meet seasonal sales will be discussed in a later 
 chapter (Chapter IX). 
 
 Inadequate statistics often present a very serious diffi- 
 culty. The question sometimes arises as to the advisability 
 of attempting budgetary control before more adequate 
 statistics are obtained than are at hand. Although it may 
 be impossible to make correct budgets on the basis of infor- 
 mation available, there is a decided advantage in commenc- 
 ing the budgetary program and developing the statistical 
 records as the work proceeds. By this means the statistics 
 required can be clearly seen and the importance of obtaining 
 them can be impressed upon all those responsible for their 
 preparation. As the program proceeds it is possible to 
 obtain statistics which will make possible such revisions as 
 are found necessary. It is of course understood that if 
 budgets are based on inadequate statistics, they must be 
 used with much judgment. 
 
 It is usually necessary, for the purpose of coordinating 
 sales and production, or sales and purchasing, to make the 
 sales budget and the production or purchasing budget in 
 terms of items. In a business handling many thousands of
 
 86 BUDGETARY CONTROL 
 
 items this may be very difficult. It has been suggested 
 previously that one method of attacking this problem is to 
 select those items which represent the major part of the 
 production and budget them. By gradually increasing the 
 items selected for budgeting, an adequate system of budg- 
 etary control can be developed. 
 
 No method has ever been developed by which to fore- 
 cast with exactness the future operations of a business. By 
 careful study, plans can be made in most businesses which 
 will correspond quite accurately with the results attained. 
 Even in those businesses where it is possible to make plans 
 which are only approximately correct, such plans are better 
 than no plans at all. 
 
 It has been the purpose of this chapter and the chapter 
 immediately preceding, to explain some of the most impor- 
 tant considerations governing the preparation and use of 
 the sales budget. In the following chapters the preparation 
 of the budgets of the other functional departments and the 
 coordination of the sales budget with these will be explained 
 and illustrated.
 
 CHAPTER VII 
 THE SELLING EXPENSE BUDGET 
 
 Relation of Selling Expense to Sales 
 
 It must be evident to the reader that though it is neces- 
 sary to formulate a sales program, in some such manner as 
 explained in the two chapters immediately preceding, such 
 a program is lifeless considered by itself. Making a formal 
 statement of the volume of sales desired, or of the class of 
 sales desired, does not produce the sales. There must be a 
 sales "campaign " as well as a sales "program." 
 
 A political party does not win an election by merely 
 nominating candidates and preparing a platform. In addi- 
 tion it must conduct a campaign to convince the public of 
 the merits of its candidates and platform. In the same 
 manner a business must conduct a sales campaign to con- 
 vince the public of the merit of the product which according 
 to its sales program it is offering for sale. 
 
 A sales campaign may be said to consist of two mutual 
 parts : 
 
 1. A knowledge of the sales desired and deemed possible. 
 
 2. A plan for securing the results desired at the lowest possible cost. 
 
 The sales desired and deemed possible are determined 
 by the sales program and are expressed in the sales estimate. 
 But this program cannot be formulated without considering 
 the cost which it involves in the way of selling expense. 
 There are few firms which could not increase their sales if 
 they desired to incur the necessary expense. Sales are de- 
 sired only when profits will result. The probable profits 
 should be determined before an attempt is made to secure 
 the sales. In determining the probable profits, the selling
 
 88 BUDGETARY CONTROL 
 
 cost which the sales program will involve must be given 
 careful consideration. It is obviously impossible for the 
 budget committee or the board of directors to judge the de- 
 sirability of the contemplated sales program as presented 
 by the sales department unless they know the cost of this 
 program. 
 
 Need for Estimate of Selling Expense 
 
 The selling expense estimate is needed for the following 
 purposes : 
 
 1. That the sales department may be able to judge the desirability 
 
 of its contemplated sales program. Without a knowledge of 
 its probable cost it is unable to prepare and present for execu- 
 tive consideration an acceptable program. 
 
 2. That the sales department may have a basis for planning its sales 
 
 campaign. It must know the funds which are available before 
 it can enter into contracts for services or engage personnel. 
 
 3. That the treasurer may know the probable disbursements re- 
 
 quired by the sales program and can plan to obtain the funds 
 necessary to meet these disbursements. 
 
 4. That the budget committee may be able to see the financial re- 
 
 quirements of the proposed sales and production programs at 
 the time they are submitted to it for consideration. The sell- 
 ing expense in many cases constitutes one of the major items 
 which appear on the disbursement side of the financial budget. 
 
 Importance of Sales Expense Control 
 
 It is highly important that an effective control be exer- 
 cised over sales expense if the greatest amount of profit is to 
 be derived from the sales operations. Unless that is done, 
 this type of expense is apt to increase unduly. 
 
 The services obtained from the expenditures of the sales 
 department are in the main of an intangible nature and 
 therefore difficult to appraise. For instance, it is usually 
 difficult to determine accurately the benefit obtained from 
 expenditures incurred for advertising, and the same is true
 
 THE SELLING EXPENSE BUDGET 89 
 
 to a considerable degree of expenditures for the services of 
 salesmen. There are some direct results which can be 
 traced, but in many cases the major results are so indirect 
 that they cannot be connected directly with the ex- 
 penditure. 
 
 If a purchase of materials is made for the production 
 department, it is possible to connect directly the materials 
 received with the funds expended. It is possible to judge 
 the wisdom of the expenditure by determining the value of 
 the materials. But if space for advertising is purchased, it 
 is usually not possible to determine the number of orders 
 which result from the expenditure. It is also difficult to 
 determine for how long benefit may be derived from the 
 advertising. Orders may be received as a result of the 
 advertising some time after the expenditure for it is in- 
 curred. Again, a salesman may build up good-will for his 
 company which will result in orders after his services are 
 ended. Because of this indefinite relation between cause 
 and effect, executives are apt to think that the sales expense 
 is necessary and should be incurred even though direct 
 results cannot be seen, and therefore they may not scruti- 
 nize closely the amount and nature of this expense. 
 
 Moreover, hardly any satisfactory standards exist by 
 which to judge selling expense. It is possible to determine 
 the amount of material necessary to produce a certain arti- 
 cle, and use this amount as a standard to judge the future 
 consumption of materials in the production of that article. 
 But there is no exact means of determining the amount of 
 selling expense which is necessary to secure a dollar of sales, 
 and it is therefore more difficult to formulate a standard by 
 which to judge the quantity of selling expense. 
 
 Because of these reasons it is especially necessary that 
 formal and exact control of selling expense be exercised. 
 This control involves three steps:
 
 90 BUDGETARY CONTROL 
 
 1. Determination of what is included in selling expense and the 
 
 setting up of a proper classification thereof. 
 
 2. Determination of standards by which to judge the amount of 
 
 selling expense, and the use of these standards in the formula- 
 tion of a selling expense budget. 
 
 3. Determination of methods of enforcing the standards set, and the 
 
 execution of these methods. 
 
 Definition of Selling Expense 
 
 There is a considerable difference of opinion among both 
 accountants and business men as to what should be consid- 
 ered as selling expense. This is probably due to several 
 causes. 
 
 There are many items of expense which contribute more 
 or less indirectly to the making of sales. Inasmuch as sales 
 consummate the process which results in the securing of a 
 profit, it is not difficult to reason that the purpose of many of 
 the operations of the business is to secure sales and that the 
 expense incurred in those operations should be treated as a 
 selling expense. 
 
 The classification of expenses is discussed at some length 
 in Chapter XVIII of this book in connection with the con- 
 sideration of the expense budgets, and it is not desired to 
 enter into this subject here. Suffice it to say that from the 
 viewpoint of administrative control it is desirable that 
 expenses should be classified so as to indicate the responsi- 
 bility for their incurrence. Executive control can be exer- 
 cised only in terms of organization, and members of an 
 organization can rightly be held responsible only for that 
 over which they exercise control. 
 
 If responsibility is taken as the controlling factor in an 
 expense classification, selling expense will include all ex- 
 penses which are under the control of the sales manager or 
 executive head of the sales department, and in addition such 
 miscellaneous items as are directly connected with sales and
 
 THE SELLING EXPENSE BUDGET 9 1 
 
 the amount of which is fixed or at least beyond the direct 
 control of any officer. 
 
 An illustration of the former case is found in the salaries 
 of employees in the sales department, who are under the 
 direct control of the sales manager, while an illustration of 
 the latter case is found in depreciation on delivery equip- 
 ment, the estimated amount of which is usually determined 
 by others than the sales manager. The depreciation may 
 properly be treated as a sales expense, for it is connected 
 directly with the sales function. Its amount, moreover, 
 could not be affected by the action of the sales manager 
 even if the determination of it were in his power, since it is 
 assumed that the correct amount is to be stated. 
 
 These illustrations should be sufficient to enable the 
 reader to determine the proper treatment of other items 
 about which there may be a question. There are some few 
 items the classification of which is dependent on a decision 
 as to the purpose for which they are incurred, and in many 
 instances there is no unanimity of opinion with reference to 
 this purpose. These items will be discussed in Chapter 
 XVIII on expense budgets. 
 
 Classification of Selling Expense 
 
 It is customary to charge as a part of the cost of goods 
 sold, all expenditures incurred in connection with the product 
 up to the time when it is ready to be offered for sale. This is 
 based on the theory that the sales department docs not have 
 jurisdiction of the merchandise prior to this time and is not 
 responsible for the expenditures incurred in connection with 
 it. The first expense incurred by the sales department is in 
 the securing of sales orders. This expense wuU include the 
 expenses of the sales office which directs the sales effort, the 
 salaries of salesmen, and the expenses of salesmen. It may 
 also include the cost of advertising. After the goods are
 
 92 BUDGETARY CONTROL 
 
 sold they must be prepared for delivery to the customer — 
 which involves packing or wrapping, and finally they must 
 be delivered to the customer, or to a transportation com- 
 pany which will effect the delivery. On the basis of the 
 foregoing discussion it is possible to set up the following 
 classification of sales expense : 
 
 1 . Sales office expense 
 
 2. Salesmen's salaries and expenses 
 
 3. Packing and shipping 
 
 4. Advertising 
 
 The first three of these items will be discussed in the 
 present chapter. The control of advertising expense is 
 thought of sufficient importance to merit separate treatment 
 and its discussion will be postponed until the next chapter. 
 
 Sales Office Expense 
 
 Sales must always be subject to some executive super- 
 vision and this supervision results in expense. The nature 
 of the supervision exercised over sales will depend upon the 
 size and organization of each particular business. In most 
 businesses there is a sales manager who is the executive head 
 of the sales department, and frequently he Is assisted by a 
 staff. In many cases there are district offices each under 
 the control of a manager who is subordinate to the general 
 sales manager. Each district manager may have a staff 
 of assistants. If a company has a sufficient volume of 
 foreign sales. It may have an "export" sales office In the 
 charge of a manager with the appropriate assistants. In a 
 company distributing Its product through branches, there 
 Is a sales staff at each branch. 
 
 As the sales organization grows, care must be exercised 
 to avoid incurring unnecessary expense. It is but natural 
 that each subordinate office will desire to enlarge Its activi- 
 ties as much as possible and because of this tendency there
 
 THE SELLING EXPENSE BUDGET 93 
 
 may be a duplication of work. There are many activities 
 which can be performed better by the central sales ofhce for 
 the benefit of all the subordinate offices than by each office 
 for itself. Every professional man who has done work on 
 administrative control can recall instances of duplication of 
 work in branch offices which existed because it had not 
 been called to the attention of the general officers responsi- 
 ble for the control of branch expense. 
 
 The preparation of estimates of sales expense will do 
 much to prevent incurring unnecessary expense by units of 
 sales organization. These estimates will sen'e, in the first 
 place, to call the attention of all the executives of the com- 
 pany to the expenses of each unit and to require them to 
 consider these expenses before they are incurred, and in the 
 second place, to provide comparison between different units. 
 It should be apparent, if the estimate of selling expenses of 
 the X unit calls for expenditures which are equal to lo per 
 cent of estimated sales, and the estimate of the Y unit calls 
 for expenditures which are equal to 20 per cent of estimated 
 sales, that the budget committee will call for an explanation. 
 In fact the sales manager should have asked for an explana- 
 tion before he transmitted the estimates to the executive 
 In charge of the budget committee, and the latter should 
 call the attention of the budget committee to the fact and 
 to the explanation of the sales manager which it is assumed 
 he attaches to the estimates when he transmits them. 
 
 Salesmen's Salaries and Expense 
 
 There is usually little difficulty in deciding as to the items 
 which should be included under this heading or as to the 
 proper method of recording and reporting them. The chief 
 problem is the controlling of such expenses, for they have 
 a tendency to become unduly large unless an effective check 
 is exercised. One of the chief sources of difficulty is the
 
 94 BUDGETARY CONTROL 
 
 determination of the proper method of coinpensating the 
 salesmen for their services. 
 
 If definite salaries are paid salesmen, it is often difhcult 
 to determine the equitableness of the amount paid. In an 
 attempt to lessen the difficulty, salesmen may be paid in 
 whole or in part on a commission basis. Some sales execu- 
 tives think that a salary plus a commission is the most de- 
 sirable method on the theory that the work of a salesman 
 cannot be judged entirely by the sales which are directly 
 attributable to him. He may have a certain advertising 
 value to the business which is not adequately measured in 
 terms of the sales orders which he turns in. A salary, which 
 is not directly dependent on the volume of sales, remunerates 
 him for the work which he does towards building up the 
 good-will of the firm; whereas the commission which he 
 receives, based on the volume of sales secured or on the 
 excess of sales over a certain amount, rewards efficiency and 
 penalizes inefficiency. Those who are exponents of the pay- 
 ment of a commission only contend that the salesman is 
 remunerated for the work he does in building up good-will 
 by the additional orders which he will receive later on. If 
 all orders received from the salesman's territory are credited 
 to him, there is merit in this contention. 
 
 The method to be employed in remunerating the sales- 
 men is a problem of the sales department, but as it has an 
 important bearing on the preparation of the estimate of 
 selling expense, it is of interest to the student of budgetary 
 control. It may be added that, if a propcn' control is to be 
 exercised over these expenses, it is necessary to have records 
 and reports which will provide an analysis of sales and sell- 
 ing expense showing: 
 
 1. Whether the salesman or the territory is responsible for the sales. 
 
 2. Whether the sales which are being made are of the goods which 
 
 the company most desires to sell. The latter, at least, can be
 
 THE SELLING EXPENSE BUDGET 95 
 
 determined by obtaining the profit realized on sales made by 
 each salesman and judging his efficiency in terms of profit 
 rather than by volume of sales. 
 
 The nature of the reports used in exercising control of 
 salesmen's expenses will be discussed later in this chapter. 
 
 Packing and Shipping 
 
 The amount of the expenses incurred in packing and 
 shipping merchandise depends upon the nature of the prod- 
 uct sold and to a considerable degree upon whether a firm is 
 doing a retail, wholesale, or manufacturing business. In a 
 retail business the merchandise in most cases is wrapped by 
 the salesmen, or by clerks who are located in each depart- 
 ment for that purpose. It may be delivered to the cus- 
 tomer by the sales clerk at the time of sale or by the regular 
 delivery service of the business. In a wholesale and manu- 
 facturing business there is usually a separate shipping de- 
 partment which is responsible for the packing of the mer- 
 chandise and its delivery to the transportation company. 
 In a few companies freight is paid on all goods shipped, in 
 which case we have the item of "freight out." 
 
 The shipping department is not always under the control 
 of the sales department. In a manufacturing business it 
 may be under the control of the production department. 
 In a department store it may be under the control of the 
 operating superintendent. If the shipping department is 
 not under the control of the sales department, the latter 
 cannot be held responsible for the shipping expense. But 
 the estimate of shipping expense must be considered with 
 the sales program, since it varies with the volume of sales. 
 
 Some Packing Cost a Manufacturing Expense 
 
 Not all the expenses of packing, or at least of placing 
 merchandise in containers, are to be treated as selling ex-
 
 96 BUDGETARY CONTROL 
 
 pense. If the packing is that which goes directly on goods 
 and is necessary to preserve them and to keep them in a con- 
 dition to be sold, the charge is against the cost of the goods. 
 Examples of such cases are the jars which hold fruit, the 
 boxes containing cigars, the paper wrappers on chocolate 
 bars, etc. Such containers or wrappers are an integral part 
 of manufacturing costs and should be so treated in the 
 accounts and the reports. If the wrappers contain adver- 
 tising matter, some part of their cost may be charged to 
 advertising expense. 
 
 Allocation of "Drayage" Expense 
 
 The expense of packing goods for shipment may ordi- 
 narily be treated as a selling expense, as may also the ex- 
 pense of carrying the goods to transportation agencies for 
 shipment. Sometimes the same employees are used in con- 
 nection with the unpacking of goods when received and in 
 packing them for shipment after they are sold. In such 
 cases the expenses incurred in connection with both opera- 
 tions are usually charged to one account and then allocated 
 as between cost of goods and selling expense. In many 
 cases the same transportation equipment, such as trucks or 
 horses and wagons, are used to transport incoming and out- 
 going goods. In such cases the total expense is usually 
 charged to a " drayage " account and later allocated on some 
 equitable basis, such as the ratio of cost of purchases to 
 cost of goods sold. In some cases the tonnage transported 
 to and from the station may be available and can be used 
 as the basis of allocation. 
 
 Treatment of Freight Out 
 
 There is some difference of opinion as to the treatment of 
 the expense incurred in shipping goods to customers if the 
 transportation charges are paid by the vendor. It is some-
 
 THE SELLING EXPENSE BUDGET 97 
 
 times argued that such expenses, which are usually termed 
 "freight out," should be deducted from gross sales, since 
 "freight in" is added to purchases in determining the cost 
 of goods sold. Such a procedure seems logical and if trans- 
 portation charges are paid by the vendor on all the goods 
 sold, or on the major part of them there is little objection to 
 this treatment since it must be assumed that the matter was 
 considered in setting the sales price and a sufficient amount 
 added to cover the anticipated cost of shipment. If, as is 
 usually true, the vendor pays these charges only in excep- 
 tional cases to obtain special orders, it would seem more 
 proper to treat them as selling expense. In these cases the 
 granting of such concessions is under the control of the sales 
 department and allowed only when this department thinks 
 it is advantageous to do so in carrying out its sales program. 
 Unless the sales department is charged with these expenses, 
 it is apt to be too lenient in granting such concessions, and 
 moreover the comparison of selling expense with sales, 
 period by period, will not show exact results. 
 
 Analysis of Shipping Expenses 
 
 As a matter of control it is often advisable to subdivide 
 packing and shipping expenses. A geographical analysis 
 will often prove useful. When uniform prices are quoted 
 regardless of territory, an analysis of packing and shipping 
 expense on a territorial basis will often show that some 
 goods are being sold at a very small profit or even at a loss, 
 because of the additional expenses incurred in connection 
 with their preparation for shipment and delivery. This is 
 apt to be true particularly when a manufacturer of bulky 
 articles has a national market. One writer even goes so far 
 as to say: "I have never seen such a division made by a 
 national manufacturer, selling from coast to coast, which did 
 not show that in some sections he w^as selling merely to help 
 
 7
 
 98 BUDGETARY CONTROL 
 
 his pride and not his profit; in distant markets, the extra 
 packing and the high freight outward will commonly be 
 found to absorb the entire normal profits." 
 
 Use of Warehouses and Branch Depots 
 
 Whenever possible, sales should be made f.o.b. the 
 place of manufacture. If because of the custom of the 
 trade the freight must be paid by the vendor, then a business 
 may find it profitable to establish branch depots or ware- 
 houses to which goods may be shipped in bulk and then dis- 
 tributed. Many national manufacturers have such ware- 
 houses. Some department stores in large cities establish 
 warehouses in different parts of the city, from which they 
 deliver goods to customers. Where warehouses exist it is 
 necessary to give careful consideration to their cost in pre- 
 paring the expense estimates. 
 
 Treatment of Breakage 
 
 Another item of considerable importance in some cases 
 is the loss arising as a result of breakage or damage occurring 
 in the process of shipping. If there is a regular, unavoidable 
 breakage it can properly be treated as sales expense. If 
 there is a breakage in connection with one line which is not 
 common to all lines handled, it is better to raise the sales 
 price of this commodity sufhciently to cover the breakage 
 and not attempt to allocate it over all goods sold. 
 
 Importance of Proper Handling of Packing and Shipping Expenses 
 The matter of packing and shipping expense has here 
 been given considerable space, for it has been the author's 
 experience that in many cases definite responsibility is not 
 fixed for the administration of the shipping department and 
 consequently effective control of shipping expense is not 
 exercised. The preparation and enforcement of careful 
 estimates will aid in remedying this condition.
 
 THE SELLING EXPENSE BUDGET 99 
 
 Method of Estimating Selling Expense 
 
 One of the most useful devices a manager can have is 
 that of expense standards. If he knows what is current 
 practice in various fields of expenditure, he has a sort of 
 norm against which to measure his own performances and 
 with which to check his own figures in the preparation of 
 budgets. Such standards are needed in controlling the oper- 
 ations of all the functional departments, but are particularly 
 needed by the sales manager because of the nature of sales 
 expense and its indefinite relation to results. 
 
 Unfortunately, not much has been done towards de- 
 veloping standard rates for selling expenses. Some few 
 agencies, like the Bureau of Business Research of Harvard 
 University, have gathered data which show the prevailing 
 rates in certain lines of industry. These statistics are use- 
 ful in enabling the executive to see how his business com- 
 pares with others in the matter of selling cost. Certain 
 trade associations, moreover, have gathered data with refer- 
 ence to the expenses of their members and made it available 
 for the use of other members. In the past many firms have 
 hesitated to give their competitors data with reference to 
 expenses and costs. This attitude is changing to a con- 
 siderable degree and we can expect that more and more 
 there will be available useful data of this nature. 
 
 Even though data are obtainable which show the selling 
 expenses of other firms, there is no assurance that the rates 
 thus shown are desirable. Each firm must of necessity 
 develop its own rates and determine the standards which are 
 applicable to its conditions. If periodical estimates, based 
 on scientific research, are carefully made and these estimates 
 are controlled by accurate reports, a firm will gradually 
 develop standards which will be very useful in making plans 
 and judging results. Until such standards are available it 
 must use the best data obtainable in preparing its estimates.
 
 lOO BUDGETARY CONTROL 
 
 In preparing the estimate of selling expense it is neces- 
 sary to consider each class of expense separately. If the 
 sales office expense has been satisfactory in the past, the 
 amount shown by the past records may be used as a basis 
 for the current estimate, of course considering separately 
 each item of expense. Consideration must be given to 
 salaries of the sales manager and his staff, salaries of clerical 
 assistants and stenographers, cost of supplies, etc. In case 
 of district or branch offices it will be necessary to make a 
 separate estimate for each item of expense to be incurred in 
 these offices. It should be evident that in no case should 
 the sales office expense be estimated on a percentage basis. 
 As sales increase, the ratio of "overhead" expenses to 
 sales should decrease. If the sales office expenses are 3 
 per cent of sales when the yearly sales are $100,000, they 
 should be expected to be something less than 3 per cent 
 when sales become $500,000. 
 
 If salesmen are paid a commission they usually pay their 
 own expenses, and it is consequently very easy to estimate 
 the cost of salesmen's expenses and salaries. The rate of 
 commission is applied to the estimate of sales, and the result 
 is the estimate of salesmen's salaries and expenses. If the 
 salesmen are paid a salary and the company pays their ex- 
 penses, it is necessary to consider each salesman individu- 
 ally. After a list of all salesmen is made, there will be 
 placed after the name of each his present salary and the 
 normal amount of his expenses. This list will be gone over 
 by the sales manager and his assistants. If advances of 
 salesmen's salaries are contemplated, these will be shown. 
 Each salesman's expenses will be examined and revisions 
 made when it is thought that conditions warrant. Gradu- 
 ally standard expense rates should be developed for each 
 territory and the salesmen's expenses based on these stand- 
 ards. If the rates are fairly determined, each salesman can
 
 THE SELLING EXPENSE BUDGET lOI 
 
 be required to limit his expenses so that they will not exceed 
 the standard. 
 
 If possible, standards showing the cost per unit for 
 packing and shipping should be developed. If this is not 
 feasible because of the variety of units sold, it is then neces- 
 sary to develop a standard rate expressed in terms of a per- 
 centage of sales. In either case it should be kept in mind 
 that as the volume of sales increases, the ratio of packing 
 and shipping expense should decrease. Under normal con- 
 ditions such a result is to be expected because there are cer- 
 tain items of overhead which will not increase in proportion 
 to volume of goods handled. 
 
 After standard rates for packing and shipping expense 
 are developed, it is only necessary to apply these rates to the 
 sales volume as shown by the sales estimate to obtain the 
 amount of the estimated packing and shipping expense. If 
 there are conditions which indicate a deviation from the 
 standard rates, these must be given consideration. 
 
 Preparation of Selling Expense Budget 
 
 The sales office expense estimate will be prepared by the 
 staff of the executive head of the office. If there be but one 
 sales office, the estimate will be prepared by the staff of the 
 sales manager. If there are branch or division offices, the 
 staff of each office will prepare an estimate of that office, 
 and after it is approved by the manager it will be forwarded 
 to the sales manager at the general office. 
 
 The salesmen's salaries and expense estimate should be 
 prepared by the immediate superior of the salesmen for 
 whom the estimate is made. If there are branch and divi- 
 sion offices, each of these will prepare an estimate for the 
 salesmen belonging to that office, and after it is approved by 
 the manager it will be forwarded to the sales manager at the 
 general office.
 
 I02 BUDGETARY CONTROL 
 
 The packing and shipping expense budget will be pre- 
 pared by the head of the shipping department and forwarded 
 by him to the sales manager. 
 
 The sales manager will make such revisions as he thinks 
 necessary in the estimates of his subordinates and forward 
 them to the executive in charge of the budget procedure, 
 with such recommendations as he may desire to offer. The 
 executlA'e in charge of the budget procedure will forward 
 these to the budget committee, which will make any re- 
 visions which it may think necessary and return the esti- 
 mate with its approval to the executive in charge of the 
 budget procedure. The latter will return them to the sales 
 manager, who in turn will transmit to each subordinate his 
 budget as approved. 
 
 In form the estimate of selling expense may be made as 
 shown in Figure 3. The purpose of each of the columns 
 shown on this form should be apparent to the reader. 
 
 In some businesses the controller prepares all expense 
 estimates, including those for sales expense. Although the 
 controller may very properly be given the authority to pre- 
 scribe the form of the estimates and the reports to be used in 
 their control, it is the author's opinion that he should not 
 be responsible for their preparation. The reasons for this 
 belief have been explained in Chapter III and need not be 
 repeated here. As a member of the budget committee the 
 controller will have an opportunity to pass upon all budgets 
 submitted and should be able to offer constructive criticism 
 of them. In some cases it may be desirable to refer the 
 estimates to his office for review before they are considered 
 by the budget committee. 
 
 Control of the Selling Expense Budget 
 
 To exercise control of the selling expense budget, It is 
 necessary to have a proper system of reports which will make
 
 THE SELLING EXPENSE BUDGET 
 
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 104 BUDGETARY CONTROL 
 
 possible a proper check of Its operation. These reports may 
 be divided broadly into two classes: 
 
 1. Those which are used by the sales department in the enforcement 
 
 of its budget. 
 
 2. Those used by the executives and the budget committee to judge 
 
 how well the sales department has succeeded in the enforce- 
 ment of its budget. 
 
 The first class of reports may be well illustrated by those 
 required in enforcing the salesmen's expense budget. The 
 reports used for this purpose may in turn be divided broadly 
 into two classes: 
 
 (a) Those which are used primarily by the general sales office. 
 
 (b) Those which are used primarily as reports to salesmen. 
 
 For the use of the general office it is useful to make a 
 report showing for each salesman the following compar- 
 isons: 
 
 (a) Actual sales and estimated sales 
 
 (b) Expense and sales 
 
 (c) Actual expense and standard 
 
 (d) Expense with average of territory 
 
 If in addition to the amounts these comparisons are ex- 
 pressed in percentages, the report is much more useful. If 
 this report shows wide variations between the standard 
 and the actual, supplementary reports should be prepared 
 explaining the variations. 
 
 Reports may be sent to the salesmen monthly, or even 
 weekly if desired, showing a comparison between the esti- 
 mated expense and the actual and also the profit earned by 
 their sales. In some cases the gross profits by lines may be 
 shown on these reports, so as to indicate to the salesmen the 
 lines of merchandise which they should push. 
 
 For the use of the general executives and the budget 
 committee a report may be made in the form of Figure 4.
 
 THE SELLING EXPENSE BUDGET 105 
 
 The purpose and value of each of the columns shown on 
 this report should be apparent to the reader. In case this 
 report shows wide variations between the actual and the 
 estimated, supplementary reports should be submitted 
 explaining the variations.
 
 CHAPTER VIII 
 THE ADVERTISING BUDGET 
 
 Relation of Advertising to Selling Expense 
 
 There has long been an argument among the executives 
 in the marketing field as to the relation of advertising and 
 selling — principally as to the proper relation between 
 the advertising manager and the sales manager. Some 
 have contended that the advertising manager should be the 
 executive head of an independent department, while others 
 have insisted that he should be subordinate to the sales 
 manager. There is no intention of entering into this dis- 
 cussion here, but it is desired to emphasize that regardless of 
 the organization by which the advertising is carried on, the 
 advertising program must be considered as a part of the sales 
 program as a whole and the advertising expense must be 
 considered as a part of selling expense. 
 
 It should not be difficult for the reader to see why this 
 is true. The purpose of the advertising and of the sales 
 force is the same — to secure the maximum of profitable sales 
 with a minimum of cost. There are some services in the 
 marketing of a product which commonly can be performed 
 more effectively by advertising than by the sales force, and 
 the opposite is equally true. The advertising campaign 
 must be planned with reference to the specific work which 
 it is expected to perform in relation to the other sales work 
 of the company. Consequently, neither the amount of the 
 advertising expense nor the amount of the other items of 
 selling expense can be determined independently. The 
 advertising budget must be presented as a part of the larger 
 selling expense budget. 
 
 1 06
 
 THE ADVERTISING BUDGET I07 
 
 The Advertising Appropriation 
 
 It has long been the practice of many firms to make an 
 annual "appropriation" for advertising expense. It may 
 seem strange that a firm will make an advertising appro- 
 priation but will not make an appropriation for any other 
 purpose. We rarely hear of an accounting appropriation, 
 a manufacturing appropriation, a traffic appropriation, etc. 
 It may at first be thought, since definite appropriations are 
 made for advertising expense, that this class of expense is 
 more effectively and scientifically controlled than are the 
 expenses of the various other departments. Further study 
 will lead one to doubt if this be true. Rather one is apt to 
 find that the practice of establishing definite appropriations 
 for advertising expense is based upon two reasons : 
 
 1. Outside counsel, in the form of advertising agencies, have often 
 
 been employed to direct the advertising and it was necessary 
 to have a definite agreement with them with reference to the 
 amount which they were permitted to spend. 
 
 2. Business executives have not regarded advertising expense as 
 
 they have the other expenses of the business, but rather as an 
 additional expense which while it might be beneficial was not 
 necessary for sur\-i\-al. As they knew no definite way of deter- 
 mining the amount of the advertising expense, they guessed at 
 a lump sum which they thought they could afiford, and took a 
 chance on obtaining results from it. In many cases it was a 
 policy of cast your bread on the waters and trust it to return. 
 
 The professional advertising agency has rendered a 
 service by teaching business executives the necessity for 
 formulating an advertising program and coordinating this 
 program with the sales program. It is but natural, how- 
 ever, for these specialists to be enthusiasts for advertising 
 and it is open to question whether they have always given as 
 much attention to scientific methods of calculating the 
 amount of the advertising appropriation as they have to the 
 attempt to make it as large as possible. In many cases this
 
 I08 BUDGETARY CONTROL 
 
 proved a short-sighted policy because it produced a reaction 
 when the management failed to see adequate returns for 
 the money expended. This remark is not intended as a 
 criticism of advertising agencies, for many of them have 
 rendered very useful service in advising executives with 
 reference to the amount of the advertising which they should 
 do, as well as the kind of advertising which would be most 
 effective. Their errors have probably not been greater or 
 more numerous than those of the professional accountant or 
 the engineer. 
 
 Methods of Calculating Advertising Cost 
 
 In recent years both advertising experts and business 
 executives have come to realize, first, that advertising ex- 
 pense is a necessary expense of operation, no less than the 
 expense incurred in carrying on any of the other functional 
 activities of the business; second, that the advertising pro- 
 gram is closely related to the program of the business as a 
 whole and that therefore the amount of the advertising 
 expense should be based on contemplated plans of the busi- 
 ness as a whole. As a result considerable attention has been 
 given to the proper method of calculating advertising ex- 
 pense. The following methods are those in most current use : 
 
 1 . The advertising expense of the current period may be 
 based on the expense of the previous period, adding or sub- 
 tracting a certain percentage depending on the opinion of 
 the executives with reference to the success of the advertis- 
 ing program of the preceding period. The general manager 
 may say to the advertising manager, "Last year we spent 
 $1 10,000 for advertising expenses; this year you may spend 
 5 per cent more." Such a budget refers the advertising 
 manager to the expense accounts of the preceding year for 
 his working program. 
 
 2. The advertising expense of the current period may
 
 THE ADVERTISING BUDGET 109 
 
 be based on the estimated sales of the current period, deter- 
 mining the amount by taking a certain percentage of the 
 total volume of sales. For instance, the general manager 
 may say to the advertising manager, ' ' Last year we spent 
 5 per cent of sales for advertising expense. Here is our 
 sales expectancy for this year. We expect you to secure the 
 sales at an advertising cost of 5 per cent or less." This 
 method is more scientific than that suggested in (i) for it 
 requires the advertising manager to connect cause with 
 effect — advertising expense with sales to be secured. It 
 should be apparent that the advertising expense should not 
 be based on past sales. The advertising of the current 
 period can have no effect on, or no relation to, the sales of 
 past periods. It is to make possible the attainment of the 
 current sales program that the advertising program is in- 
 tended, and the amount to be expended under the adver- 
 tising program can only be determined properly by con- 
 sidering the current sales program. 
 
 3. The advertising expense of the current period may be 
 based on the estimated sales of the current period, deter- 
 mining the amount by allowing for advertising so much per 
 unit of the product which it is planned to sell. For instance, 
 it may be agreed that so many cents will be spent for adver- 
 tising for each crate, ton, dozen — or other unit used in the 
 estimate — which is expected to be sold. 
 
 Readers interested in other methods of calculating ad- 
 vertising cost may well read articles by John A. Murphy, 
 in December 9, 1920 and December 16, 1920 issues of 
 Printers' Ink. 
 
 Advantages and Disadvantages 
 
 Opinion differs with reference to the merits of these dif- 
 ferent methods. No definite rule can be laid down to 
 govern the policy to be followed by all businesses. In the
 
 no BUDGETARY CONTROL 
 
 Opinion of the author the first method is the one least to be 
 desired. It is apt to result in careless planning of adver- 
 tising cost, since it is so very easy to add or subtract a cer- 
 tain percentage of past expenses and not to consider the 
 question further. It is also apt to result in basing present 
 expenses on past expenses without giving proper considera- 
 tion to the contemplated changes in the sales program. At 
 least it fails to compel a consideration of present plans.>4^ 
 The ideal in the designing of methods of administrative 
 control is to secure those which will compel coordination 
 and at the same time promote progress. 
 
 To base the advertising appropriation on a percentage of 
 the volume of sales tends to simplicity, and in a business 
 where the fluctuation in sales is not great may give satis- 
 factory results. This condition is more apt to prevail in a 
 business handling a staple and well-established line than in 
 a business handling specialties. In a business having many 
 and varied lines it may be the only feasible method, since 
 calculation of the unit cost of advertising for each item of 
 goods sold may not be practicable. This method has the 
 disadvantage of fluctuating unduly in some cases because of 
 the fluctuation in the price of purchases of materials, sup- 
 plies, and labor, and consequent fluctuation of the selling 
 price./ In a period of depression as many units of commodity 
 may be sold as before the depression, but at a price which 
 will greatly decrease the total sales in terms of dollars and 
 cents. In this case if the advertising appropriation is based 
 on the sales volume expressed in terms of dollars and cents, 
 it will be greatly decreased, whereas it may be desirable to 
 keep up the advertising campaign in order to maintain the 
 sales volume in spite of the adverse conditions. There is 
 something to be said for the possibility that if the sales price 
 of the commodities sold has decreased, the cost of advertis- 
 ing will decrease also. 
 
 / If advertising is calculated as so much per unit of product
 
 THE ADVERTISING BUDGET III 
 
 sold, it tends to concentrate attention on the purpose for 
 which the advertising is incurred and incidentally to call 
 attention to the unit cost and unit profit realized on the 
 articles sold. This method is also apt to cause the advertis- 
 ing appropriation to fluctuate less, since the units sold are 
 apt to vary less than the returns from sales. There may 
 be some argument for having the advertising fluctuate as the 
 sales fluctuate. At least there are occasions when this is 
 true. There are also other occasions where the advertising 
 may fluctuate in reverse order to the fluctuations in sales. 
 A financially strong enterprise may increase its advertising 
 during a period of depression in order to reduce the decrease 
 in sales to a minimum and to establish itself in the market 
 so as to take advantage of the contemplated period of pros- 
 perity. 
 
 It would seem, regardless of whether the unit costs or 
 the percentage method is used, that revisions will have to be 
 made in case of changing conditions which affect the general 
 plans made at the time the advertising appropriation is 
 determined. The advertising appropriation should be re- 
 garded as only an estimate and subject to revision no less 
 than the other estimates. Of course, in making such re- 
 visions outstanding commitments must be considered. 
 ^ There is reason to bclie\^e that advertising managers 
 have placed great emphasis on the basis of determining the 
 amount of the advertising appropriation, because it has 
 been difficult to get appropriations approved and conse- 
 quently it was desirable to get a definite basis established 
 which would give them the maximum amount under all cir- 
 cumstances. ^ 
 
 ^ Regardless of the basis adopted for calculating the ad- 
 vertising appropriation, each individual business must make 
 constant study of its advertising program with the object 
 of revising it as soon as the necessity is indicated./'
 
 112 BUDGETARY CONTROL 
 
 Determining the Amount of the Advertising Appropriation 
 
 — After the basis on which the advertising appropriation Is 
 to be calculated is decided, it is necessary to determine the 
 desired amount in dollars and cents. Theoretically the 
 rate may be determined without consideration of the total, 
 but it is doubtful if this is ever done. A firm may decide 
 that it can well afford to spend one cent per article sold for 
 advertising, but if the total thus determined runs beyond 
 the amount necessary to pay for the advertising plans con- 
 templated, the rate per unit will be reduced. If a percent- 
 age of sales is used as the basis the same procedure will be 
 followed. After the total is determined the rate will be 
 revised, if necessary, to make the total somewhat near the 
 amount which the executives think desirable. 
 
 In determining the amount of the appropriation two 
 important factors must be given consideration : 
 
 1. What is the purpose of the advertising — what is to be accom- 
 
 plished by it? 
 
 2. How is the advertising appropriation to be expended — how is the 
 
 purpose of the advertising to be accomplished? 
 
 Purpose of Advertising 
 
 If we assume that a business has previously done no 
 advertising, the selling price of its commodity will be com- 
 posed of the following items: manufacturing or purchase 
 cost, selling expense, administrative expense, and profit. 
 Expressed In the form of an equation we have : 
 
 Cost of goods sold+selling expense + administrative expense 
 +profit = selling price 
 
 Obviously, if It is determined to Incur expenditures for ad- 
 vertising, some of the members of this equation will be 
 changed. Either the left-hand members must be decreased, 
 or the right-hand member must be increased.
 
 THE ADVERTISING BUDGET 1 13 
 
 The competitive condition of the market may be such 
 that by the advertising a sufficient demand can be created 
 for the product to make possible an increase in the selling 
 price. If this be true, the cost of the advertising may be 
 consumed by the increase in selling price and the other 
 members of the equation left undisturbed. This condition 
 is not apt to exist in many cases under present competitive 
 conditions. In fact, only in the case of a monopoly can 
 such a result be expected to be obtained permanently. 
 
 If the purpose of the advertising is to maintain the pres- 
 ent volume of sales during a period of bitter competition, 
 the expense may be met out of profits. The company may 
 desire to maintain its position in the trade even though 
 smaller profits are to be secured at the present time. It 
 may be thought that the lessened profits at this time will be 
 more than compensated for by increased profits in the future. 
 Similarly a company may incur advertising in order to ward 
 off hostile public opinion and to prevent undesirable legis- 
 lation. Public utilities have done considerable advertising 
 of this nature during past years. More recently some of 
 the packing companies have followed the same practice. 
 Advertising of this nature may well be met out of profits 
 because it is thought that it will prevent lessened profits in 
 the future. Again, a firm may incur expenditures for adver- 
 tising which will lessen current profits but build up good- 
 will which in turn will result in larger future profits. 
 
 In some cases advertising is incurred because it is thought 
 that it will increase the volume of sales and thus result in a 
 decrease of the cost of goods sold, the selling expense, or the 
 administrative expense. 
 
 In a manufacturing business, an increase in the volume 
 of sales, with the consequent increase in the volume of pro- 
 duction, will usually decrease the cost of production because 
 of the decrease in the unit cost of overhead. It may also
 
 114 BUDGETARY CONTROL 
 
 make possible a more economical use of labor and materials./ 
 For instance, the production may become of sufficient vol- 
 ume to make possible the use of scrap in the production of a 
 by-product. (■''In a mercantile business the increased volume 
 of sales may make possible more economical purchasing 
 with a lower unit cost for goods purchased, but the savings 
 in this connection are rarely comparable with the decrease 
 in the unit cost of goods manufactured when the volume of 
 production is increased. / 
 
 The increased volume of sales may reduce the unit sell- 
 ing cost. If the advertising enables each salesman to sell 
 more with the same amount of effort and expense, the unit 
 selling cost will be decreased accordingly. In addition to 
 the cost of salesmen, the overhead expense incurred in main- 
 taining the sales manager and his staff is usually an appre- 
 ciable amount, and an increase of sales will not usually 
 cause this expense to increase in proportion. 
 
 Finally, an increase in volume of sales should have a de- 
 sirable result on the administrative expense. There is every 
 reason why the ratio of administrative expense to sales 
 should decrease as the volume of sales increases. 
 
 Importance of Defining Purpose in Advance 
 
 The foregoing discussion shows that there may be sev- 
 eral reasons why advertising should be undertaken. /The 
 primary purpose of pointing out these various purposes is to 
 emphasize that the results which it is expected to obtain as 
 a result of the advertising should be clearly in mind before 
 the advertising is begun. So far as possible, data should be 
 prepared to show the possible results of the advertising. 
 The most difficult problem is that of determining the 
 effect of the advertising on the volume of sales. If this 
 can be forecast it is usually possible to estimate the 
 approximate effect of the advertising on the manufactur-
 
 THE ADVERTISING BUDGET II5 
 
 ing cost, selling expense, administrative expense, and net 
 profity/ 
 
 "Unfortunately, some firms make advertising appropria- 
 tions expecting to obtain a large increase in volume of sales, 
 without stopping to determine whether the increase in vol- 
 ume which is anticipated would produce satisfactory results 
 — that is, whether the savings resulting from the increase 
 will be equal to the cost of the advertising./ Only recently 
 a manufacturing firm entered into a large contract for ad- 
 vertising and the president showed the author the estimated 
 Increase in sales which he expected to obtain as a result of 
 this advertising. A few moments' calculation showed that 
 if the anticipated volume of sales was obtained the factories 
 of the company would not be able to produce goods to 
 satisfy 75 per cent of the sales orders. In this case, regard- 
 less of whether the advertising failed or succeeded so far 
 as producing the contemplated volume of sales, the firm 
 was bound to lose as a result of the contract. This is but 
 another instance of lack of coordination, which a proper 
 program of budgetary control would rectify. 
 
 /All of which is to say that advertising is merely a means 
 and not an end in itself. It is a potent force in modern 
 management but it produces satisfactory results only when 
 it is used with judgment and is coordinated with the other 
 functional activities of a business. 
 
 Method of Accomplishing Desired Purpose 
 
 After deciding that it is desirable to use advertising for 
 some particular purpose, it is necessary to determine the 
 most effective way of accomplishing this purpose. It is not 
 enough to decide that there are many people who need and 
 can afford the product which you sell and that you can 
 profitably spend a certain amount in order to get them to 
 purchase a certain volume. It is also necessary to decide
 
 Il6 BUDGETARY CONTROL 
 
 in what way they can be reached so as to persuade them to 
 purchase. In other words, it is necessary to decide upon 
 the medium of advertising to be used. 
 
 There is a multipHcity of ways in which advertising may 
 be accompHshed. To the layman the various possibihties 
 present a confusing complexity. Because of this very com- 
 plexity it is necessary that very careful consideration be 
 given to the contemplated program. Although the adver- 
 tising department should be given considerable freedom of 
 judgment, this freedom should be manifested in the main 
 before, instead of after, the advertising appropriation is 
 approvedy^ It does not seem desirable that the department 
 be given a lump sum without any conditions being attached 
 to its use. In addition, it is impossible to judge the amount 
 to be appropriated until the method in which it is to be spent 
 has been determined. Alt is only by balancing the two fac- 
 tors — the purpose to be accomplished by the advertising and 
 the method of accomplishing this purpose — that it is possi- 
 ble to work out a well-balanced advertising program. 
 
 Preparation of the Advertising Budget 
 
 The preliminary estimate of advertising expenses should 
 be prepared by the advertising manager. He should have 
 before him the contemplated sales plans of the business, and 
 also be familiar with the general plans and policies of the 
 business as a whole. If the advertising manager is sub- 
 ordinate to the sales manager, he will submit his estimate 
 to the latter for approval. In any case he must work in 
 cooperation with the sales manager in formulating the ad- 
 vertising program, as the advertising program is but one 
 part of the sales program. The sales manager, or the adver- 
 tising manager, depending on whether the latter is subordi- 
 nate to the former, will transmit the advertising program 
 to the executive in charge of the budgetary procedure, who
 
 THE ADVERTISING BUDGET 
 
 117 
 
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 Il8 BUDGETARY CONTROL 
 
 will in turn submit it to the budget committee which will 
 make such changes as it thinks necessary before approving 
 it. f As will be shown in the manual on budgetary pro- 
 cedure discussed in Chapter XXIII {the budget committee 
 will have before-it all the proposed budgets at one time so 
 that it can consider them as a whole. If the committee 
 thinks that important changes in the estimate are neces- 
 sary, it will call the advertising manager before it and give 
 him an opportunity to defend his requests. 
 
 After the estimate has been approved by the budget 
 committee it may be submitted to the board of directors for 
 consideration and approval. When it has been finally 
 approved, it then becomes the advertising budget for the 
 current budget period. It will be transmitted by the execu- 
 tive in charge of the budgetary procedure to the advertising 
 manager and will constitute his working program for the 
 period. 
 
 Form of the Advertising Budget 
 
 The advertising estimate should be made in such form 
 as to show: 
 
 1. The lines of goods which are to be advertised and the amount to 
 
 be spent on each of them. 
 
 2. The methods by which the appropriation is to be spent and the 
 
 amount to be spent by each method. 
 
 The budget as approved will show the same information 
 as the estimate and this makes possible the exercise of a 
 proper control of advertising expenditures (i) by purposes 
 and (2) by methods of expenditure. 
 
 The executive in charge of the budgetary procedure is 
 responsible for seeing that supplementary data are prepared 
 and submitted to the budget committee with the advertising 
 budget which will enable it to judge the possible results of 
 the proposed advertising program. It is expected that a
 
 THE ADVERTISING BUDGET II9 
 
 considerable portion of these data will be prepared by the 
 advertising manager in support of his request. He should 
 at least present data to show the anticipated effect of the 
 proposed program on the volume of sales. The executi\'e 
 in charge of the budgetary procedure will usually have to 
 supply the data showing the effect of the increased volume 
 of sales on the manufacturing, selling, and administrative 
 cost. In preparing this he may be assisted by the controller 
 and his staff. 
 
 Control of the Advertising Budget 
 
 After the advertising budget is adopted It is necessary 
 to take measures to secure its enforcement. The advertis- 
 ing budget may be thought of as a fixed amount of money 
 voted to the advertising manager by the budget committee 
 or board of directors. So it is — the advertising budget is 
 at once an estimate and a limitation of authority to spend. 
 We have seen, however, that the sales program is based on 
 trade conditions and must be currently modified and 
 amended as trade conditions change. Similarly, the adver- 
 tising budget is based on the sales program to a considerable 
 degree and may need to be modified and amended when the 
 sales program is changed. In order that the relation between 
 the advertising program and the sales program may be 
 clearly seen, it is desirable that there be prepared at the end 
 of each month a report similar in form to Figure 5. 
 
 Mr. W. A. McDermid, in Administration for July, 192 1, 
 suggests the following method of controlling the advertising 
 appropriation: 
 
 The physical control of the appropriations — the forms by means 
 of which the advertising executive knows where he stands day 
 by day — are relatively simple. They have been modified in 
 many details for different concerns, but a majority are based on 
 the following;
 
 120 BUDGETARY CONTROL 
 
 1. The budget sheet: 
 
 Regardless of the method by which the appropriation has 
 been determined, there is laid out an estimate, roughly 
 distributed month by month, with subtotals at con- 
 venient intervals. 
 
 2. Detail sheet: 
 
 (a) For space. These sheets show, with as much detail 
 
 as may seem advisable, the publications, dates of 
 insertion, size of space, and cost. The advertising 
 agency usually works this out in compact form 
 both for its guidance and approval. 
 
 (b) For sundry costs. These sheets are usually more of a 
 
 guess than the space sheets, but they cover esti- 
 mates for literature, printing, engraving, and innu- 
 merable incidental costs. They should be binding 
 only as to outside limits. 
 
 3. Budget control sheet (see Figure 6) : 
 
 With this before him and his general budget approved, 
 the manager knows where he stands all the time. If 
 the appropriation or scale of expenditure warrants, this 
 could be made weekly or even daily. 
 
 The advertising budget presents a plan under which the 
 advertising manager may engage expert labor, make news- 
 paper contracts, etc. As such contracts are made and obli- 
 gations incurred, the advertising budget comes by degrees 
 to a stage where amendments are difficult. For example, 
 after a contract has been made for printing a shoe catalogue, 
 it is of little use to decide that the money involved can be 
 expended to better purpose in street-car advertising. A 
 report is needed, therefore, which will show the amounts 
 under each appropriation item still available for contract or 
 for transfer to other purposes. Such a report may be made 
 in the form of Figure 7. 
 
 A little consideration of this report should make apparent 
 the value and purpose of each of the columnar headings. 
 Columns (i) to (4) inclusive show original plans and the
 
 THE ADVERTISING BUDGET 
 
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 THE ADVERTISING BUDGET 123 
 
 changes made in these plans, with the present status of the 
 appropriation as a result of these changes. Column (5) 
 shows the cash disbursements which have been made. 
 Columns (6) and (7) show the amounts which must yet be 
 financed. Columns (8) to (10) inclusive show commitments 
 which may or may not be subject to adjustment. Column 
 (11) shows the amount available for new contracts or for 
 transfer to other appropriations if this is found advisable. 
 
 The reports used in exercising control of the advertising, 
 like all reports used in budgetary control, must be made 
 promptly and accurately if they are to be of service. This 
 necessitates that the accounting department must render 
 reports immediately after the end of the month or other 
 period used as a basis for control, and it must maintain 
 accounts which will provide a proper distribution of the 
 expenditures incurred under the advertising budget.
 
 CHAPTER IX 
 THE PRODUCTION BUDGET 
 
 Relation of Production Budget to Sales Budget 
 
 The sales program, as shown by the sales budget, con- 
 templates the delivery of certain commodities or services to 
 customers. To execute this program it is necessary that 
 these commodities or services be produced by the firm which 
 offers them for sale or that they be purchased from other 
 firms. But these commodities or services must not be 
 merely delivered ; they must be delivered at the time and in 
 the quantity demanded by customers. This necessitates 
 the making of plans which schedule deliveries from the 
 factory or the vendors in such a manner that sales demands 
 may be met. 
 
 The execution of these plans requires the preparation of 
 a production or purchasing budget, and the formulation of a 
 production or purchasing program. The general principles 
 involved in the control of the quantity of production and of 
 purchases are very similar, but their application in the two 
 cases are sufHciently different to make a separate treatment 
 of the two problems desirable. It is the purpose of the 
 present chapter to discuss the production budget. A later 
 chapter will deal with the purchasing budget. 
 
 Relation of Production Control to Production Policies 
 
 From the viewpoint of budgetary control, manufactur- 
 ing industries may be divided broadly into two general 
 classes : 
 
 I . Those which manufacture a standard commodity or commodities, 
 and produce and place them in stock in anticipation of sales 
 demands. 
 
 124
 
 THE PRODUCTION BUDGET 125 
 
 2. Those which produce goods in accordance with the customers' 
 specifications, and hence cannot manufacture for stock but 
 only in response to orders. 
 
 In the first case, it is necessary to plan production so as to 
 have available the goods required when the sales order is 
 received. In the second case, it is necessary to plan produc- 
 tion so as to be able to produce the goods as quickly as 
 possible after the order is secured. The preparation of a 
 production budget for a manufacturing industry producing 
 for stock, will be first explained. Such modifications as 
 are necessary for a business producing on special order will 
 then be stated. 
 
 Adjusting Sales Plans with Production Capacity 
 
 It has been explained in the discussion of the preparation 
 of the sales budget that the sales estimate, as submitted by 
 the sales units, should be revised by the production depart- 
 ment with reference to production possibilities. In making 
 these revisions the production department should not only 
 consider the possibility of producing the volume called for 
 by the sales estimate, but also the possibility of producing 
 this volume at an economical cost. The sales estimate may 
 call for the production of some items in such small quantities 
 that they cannot be produced economically, or it may call 
 for such a volume of production of some items that it would 
 be necessary to incur so great an amount of extra expense to 
 produce the amount required that it would be unprofitable 
 to do so. 
 
 It may also be that the sales estimate is such that it does 
 not provide for a well-balanced production program. It 
 may call for so many of some items and so few of others that 
 the result would be the overloading of some departments or 
 some machines, and a lack of work for other departments or 
 other machines. The production department should have
 
 126 BUDGETARY CONTROL 
 
 available data on production capacity which will indicate all 
 this, so that it can suggest the necessary revisions in the 
 sales estimate. 
 
 To be able to make these revisions it is necessary for the 
 production department to have data of two kinds : 
 
 1. It must have an analysis of each of the products offered for sale 
 
 which shows the manufacturing operations necessary in its 
 production. 
 
 2. It must have a record of each of the machines operated by the 
 
 company, showing the operations the machine performs and 
 the number of operations it can perform in a specified time. 
 
 If these data are available it is possible to determine the 
 volume of the operations required to produce the goods 
 called for by the sales estimate and to balance this against 
 the machine capacity of the plant. Three situations may 
 arise : 
 
 1. The sales budget may approximately equal the production 
 
 capacity. This is the desirable result. 
 
 2. The sales budget may exceed the production capacity, in which 
 
 case one of three things must be done: 
 
 (a) The sales budget may be reduced. 
 
 (b) Additional equipment may be secured. 
 
 (c) Some goods may be purchased from outside sources. 
 
 3. The sales budget may be less than the production capacity, in 
 
 which case it may be desirable to attempt to increase the sales 
 program so as to provide for a more desirable production pro- 
 gram. In some cases this may be impossible. Under these 
 conditions some machinery may be left idle until an increase in 
 sales can be secured. If it is evident that the decrease in sales 
 is permanent, the production capacity may be reduced by the 
 sale of the unnecessary equipment. 
 
 It is not an easy matter to coordinate sales possibilities 
 with production capacity. In fact it is one of the most 
 difficult of administrative problems. The need for this 
 coordination is so great, however, that it is worth while to
 
 THE PRODUCTION BUDGET 127 
 
 Spend any amount of effort in order to secure it. The first 
 step in the solution of the problem is the preparation of data 
 to show what the possible sales are and what the available 
 production capacity is. 
 
 In so far as possible, a manufacturing business should 
 select its machinery and equipment so that it will be well- 
 balanced and flexible, as this makes it possible to adapt 
 production to variations in sales demands. There is a 
 limit, however, to the extent to which machinery can be 
 adapted to different uses, and there should be an attempt to 
 harmonize the sales program with the factory possibilities. 
 Often it is possible to shift the emphasis of the sales program 
 by means of extra efforts on the part of the salesmen and by 
 the nature of the advertising, and to increase the sales of the 
 items which the factory is best adapted to produce. 
 
 Determination of Production Requirements 
 
 If the production department makes a careful revision 
 of the sales estimate, and if its recommendations are given 
 proper consideration, the sales budget will represent factory 
 requirements which are both possible and profitable. After 
 the sales budget is adopted, the production department has 
 an estimate of the requirements of the sales units during the 
 next budget period. Presumably these requirements state 
 the number of each item of goods manufactured by the 
 company which must be provided to the selling units during 
 the period. In order to translate these requirements of the 
 sales units into an estimate of production for the period, it 
 is necessary for the production department to take into 
 consideration the inventory of finished goods at the begin- 
 ning of the period and the estimated inventory of finished 
 goods at the end of the period. 
 
 To illustrate: The ten sales units of the X Manufactur- 
 ing Company estimate their requirements from the factory
 
 128 BUDGETARY CONTROL 
 
 for article Y for the next budget period to be 120. The 
 records of the factory show that the inventory of article Y 
 at the beginning of the budget period is 30, and it is esti- 
 mated that an inventory of 20 at the end of the period will 
 be sufficient. The estimate of production on article Y for 
 the period will be 120+20—30=110. Each item on the 
 sales budget must be considered in the same manner in order 
 to determine the estimate of production for the period. 
 
 Relation of Inventory of Finished Goods to Estimate of Produc- 
 tion 
 
 But the problem of the production department is not 
 merely to produce the quantity of goods that are to be sold 
 during the budget period. It must do more than that; it 
 must produce the goods in anticipation of sales orders and 
 place them in the finished storeroom so that customers may 
 be served promptly and according to the delivery dates 
 given in the sales contracts. An easy solution of this prob- 
 lem would be to manufacture before the beginning of the 
 budget period, or shortly thereafter, all the goods that are 
 to be sold during the period. For example, if the owners or 
 officers of an automobile factory estimate that they will sell 
 200 automobiles during the budget period, the production 
 manager may manufacture and place in the storeroom these 
 200 automobiles on or before the first day of the period. 
 Such a procedure is clearly impracticable except in rare 
 cases. 
 
 In the first place, the production manager must distrib- 
 ute his manufacturing processes throughout the year, so far 
 as this is practicable, in order that he may make the fullest 
 possible use of floor space in his factory and of machinery 
 and equipment, and, more important still, in order that he 
 may give employment continuously through the year to all 
 of his skilled employees and to as many of his unskilled em-
 
 THE PRODUCTION BUDGET " I29 
 
 ployees as possible. From every standpoint it is clearly 
 undesirable for the production manager to make up all the 
 product in advance of the selling period and then shut down 
 the factory for several weeks or months. To a less degree, 
 it is undesirable for the production manager to operate his 
 factory at loo per cent capacity for eight months of the year 
 and at 50 per cent capacity during the other four months. 
 Under any system of finished stock control, there will be 
 varying production requirements at different seasons of the 
 year, but two very important considerations from the stand- 
 point of the factory superintendent are : (a) that a sufficient 
 amount of finished stock shall be on hand to meet sales 
 orders, and (b) that this stock shall be constantly replen- 
 ished from goods in process in the factory. 
 
 In the second place, it is clearly undesirable to manu- 
 facture goods in complete anticipation of the demands of 
 the selling period, because of the large amount of capital 
 required. If automobiles to the value of $500,000 are ex- 
 pected to be sold during the year 1922, it is clearly undesir- 
 able to ha\'e all these automobiles on the floor of the ware- 
 room on December 31, 1 92 1 . The $500,000 invested should 
 be at productive use, and it is an economic loss to maintain 
 stocks of finished goods on hand for any longer period than 
 is absolutely necessary to make reasonably sure of prompt 
 shipment to customers. 
 
 From the foregoing discussion it can be seen that it is not 
 enough to know the total amount to be produced during the 
 budget period. It is necessary, in addition, to schedule 
 production so that a sufficient amount of goods will be on 
 hand at all times to meet sales demands and yet prevent an 
 excess of inventory and the consequent loss on the capital 
 invested. In order to accomplish this, it is necessary to set 
 up a schedule for the inventory of finished goods and to set 
 up a schedule of production which will maintain the in-
 
 I 
 
 130 BUDGETARY CONTROL 
 
 ventory schedule. The ideal schedule would be one which 
 delivered to stock each day the exact amount of goods which 
 would be sold during the day. If such a schedule couM be 
 maintained during 300 sales days of the year, the stock of 
 goods in the finished goods storeroom would be turned over 
 300 times. In such an ideal situation, $40,000 of stock 
 might be delivered into the stockroom daily and be sold 
 300 times. As will be seen readily, such a $40,000 stock so 
 operated would satisfy the requirements of a sales volume 
 of $12,000,000. 
 
 Unfortunately the daily sales are not uniform in amount 
 and production is not sufficiently standardized to insure 
 a uniform daily delivery to stock; consequently, for both 
 these reasons it is impossible to deliver into stock each day 
 the same amount of goods that is to be shipped to customers 
 on that day. It is, therefore, necessary to carry an inven- 
 tory to provide for the lack of coordination of sales and pro- 
 duction. A most important problem of production con- 
 trol is to determine the desirable amount for this inventory 
 and to plan production so as to maintain it at this amount. 
 
 The inventory of finished goods is not a fixed or uniform 
 amount. Since its purpose is to take up the slack between 
 production and sales, this should be evident. It is a con- 
 stantly varying amount. Because of its constant fluctua- 
 tions, it is necessary that an effective control be exercised 
 over it. This control involves the following: 
 
 1. The establishment of maximum and minimum limits, to serve as 
 
 a check on its size. 
 
 2. The establishment of adequate records and an adequate proce- 
 
 dure to enforce these limits. 
 
 "Maximum" and ''Minimum" Limits as a Basis of Inventory 
 Control 
 "Maximum" and "minimum" limits should be estab- 
 lished for each item of finished goods carried in stock. The
 
 THE PRODUCTION BUDGET I3I 
 
 "maximum" states the amount above which the inventory 
 should never be permitted to go except by special permission 
 of the executive officers ; the * ' minimum ' ' states the amount 
 to which the stock of any item can be depleted before the 
 placing of a production order to replenish it. When the 
 sales orders reduce the stock to or below the minimum, a 
 production order should be issued for the amount decided 
 upon as the "quantity to order." 
 
 The production department should establish minima, 
 quantities to order, and maxima, in accordance with the 
 following principles : 
 
 1. There should be at all times sufficient stock on hand to satisfy 
 
 customers' demands, if such demands are consistent with the 
 capacity of the factory. 
 
 2. There should not be larger stocks on hand than can be turned 
 
 over in a period necessary for the production of a similar quan- 
 tity, unless such quantities do not constitute an economical 
 run. 
 
 3. Goods should be produced in quantities large enough to insure 
 
 economical production. 
 
 The following factors should be considered in establish- 
 ing minima, quantities to order, and maxima: 
 
 1. Production period 
 
 2. Probable sales 
 
 3. Margin of safety 
 
 4. Economical run 
 
 Production Period 
 
 The production period is the time required from the 
 placing of an order until the finished goods are delivered to 
 the storehouse. Obviously this period cannot be established 
 exactly and will vary according to the quantity ordered, 
 since it will take longer to produce 10,000 items than to 
 produce 1,000 items. Sufficient data can be collected, 
 however, to estimate the approximate length of this period
 
 132 BUDGETARY CONTROL 
 
 for different quantities of production. In the absence of 
 better statistics it may be necessary to use the average 
 production period, as shown by the records of past produc- 
 tion. Obviously investigation and study should be made 
 to determine the desirability of this average period and 
 changes made in the light of this investigation. 
 
 Probable Sales 
 
 The probable sales for the budget period are stated in 
 the sales estimate. By using the ratio of the average pro- 
 duction period to the budget period, the probable sales for 
 the production period can be determined. To illustrate, 
 if the production period is thirty days and the quarterly 
 sales estimate is 600 units of item Y, the probable sales for 
 the production period are 200. 
 
 Margin of Safety 
 
 Neither probable sales nor the length of the production 
 period can be forecast with exactness. Consequently, if 
 the minimum is established as the probable sales for the 
 production period and a production order is issued when the 
 minimum is reached, it will be only in rare cases that stocks 
 on hand will be exactly depleted when the newly manu- 
 factured product arrives at the storehouse. Probable sales 
 may be oversold; strikes, breakdowns, and delays in de- 
 liveries of raw material may interfere with the normal 
 course of production. It becomes necessary, therefore, to 
 have a quantity of finished goods on hand in excess of the 
 probable sales for the production period at the time the pro- 
 duction order is issued. This excess may be termed the 
 "margin of safety." 
 
 The margin of safety is usually estimated at from 10 to 
 25 per cent of the probable sales for the production period. 
 Its amount will vary in different businesses and may well
 
 THE PRODUCTION BUDGET 133 
 
 vary with reference to different items in the same business. 
 Whenever the inventory of any item falls below the margin 
 of safety the production manager should be notified. He 
 may find it necessary to resort to emergency measures to 
 replenish the stock if there are indications that the margin 
 of safety is not sufficient to supply the sales demand until 
 additional stock is received from the factory. If a well- 
 organized planning system is maintained, it will be possible 
 to determine the length of time before additional goods will 
 be received. It is, of course, not necessary to resort to 
 emergency production or purchasing each time the inven- 
 tory falls below the margin of safety. In fact, its purpose is 
 to provide for just such cases. It is desirable, however, to 
 call the attention of the production executive to the fact 
 that the margin of safety is reached so that he may take ac- 
 tion if he deems it necessary. Used in this manner, the 
 limit set by the margin of safety serves as a danger signal. 
 
 Economical Run 
 
 In determining the "economical run" it is necessary to 
 determine the time necessary for "tearing douii" and 
 "setting up " the machines used in making each item. This 
 involves the collection of data showing machine operations, 
 so that the machines required in the production of each item 
 can be determined and the cost involved in "setting up" 
 these machines for the production of each item estimated. 
 It is impossible to set an arbitrary standard for, or to de- 
 termine with exactness just what constitutes, an economical 
 run, but certain limits can be set up. The problem of 
 determining what constitutes an economical run usually 
 arises only in connection with slow-moving items, of which 
 only a limited amount is sold during the production period. 
 In the consideration of such items, it is necessary to offset 
 the high unit cost of producing them in small quantities
 
 134 BUDGETARY CONTROL 
 
 against the capital cost of carrying a large inventory. Con- 
 siderable judgment must be used and considerable research 
 should be carried on in determining the most profitable pro- 
 cedure. Such a study may often result in the elimination of 
 some items from the manufacturing program. It may be 
 determined that it is cheaper to purchase the small amount 
 needed from other manufacturers, or it may be decided to 
 eliminate them from the sales program. Whether they can 
 be eliminated from the sales program will depend, of course, 
 upon the effect of this elimination on the sale of other items. 
 
 Method of Calculating "Maximum" and "Minimum" 
 
 As previously explained, the probable sales for the pro- 
 duction period are the quantity expected to be turned over 
 during that period. The margin of safety is the amount 
 which it is thought necessary to carry in addition to insure 
 against contingencies. Therefore, the quantity to which 
 stocks can be depleted before a production order is started 
 Is the sum of the probable sales for the production period 
 and the margin of safety. This is the minimum. When- 
 ever stocks are depleted to this quantity, a production order 
 Is started. The product specified on the order goes through 
 the production process and arrives at the storeroom, ideally, 
 when stocks have been reduced to the margin of safety. 
 
 Quantities to order must be established under two sets 
 of conditions. Each condition of facts will Influence the 
 quantity which is to be ordered. These conditions and the 
 procedure in each case are as follows : 
 
 1. Where the probable sales for the production period is less than 
 
 the amount of the economical run, the latter amount becomes 
 the quantity to order. 
 
 2. Where the amount of probable sales for the production period is 
 
 equal to or greater than the amount of the economical run, the 
 fonner amount becomes the quantity to order.
 
 THE PRODUCTION BUDGET 135 
 
 The maximum is the sum of the minimum and the 
 quantity to order. It is the danger mark which must not be 
 exceeded. In the case of many products the maxima will 
 never be reached, since, during the time that goods are being 
 produced, stocks on hand are being depleted by shipments 
 on orders. From the foregoing it can be seen that the 
 maximum is established by adding to the minimum the 
 "normal" quantity to order, that is, the quantity to order 
 in case the production order is issued when the stock on 
 hand exactly equals the minimum. As a matter of practice, 
 the production order is usually issued when the inventory is 
 slightly below the minimum, since the sales order which re- 
 duces the inventory to the minimum will probably reduce it 
 somewhat below. In some cases it is better for the produc- 
 tion order to be made out for the difference between the 
 actual inventory and the maximum, than to be made out 
 for the difference between the minimum and the maximum. 
 The reasons for this are apparent. 
 
 Finished Goods Records 
 
 To enforce the requirements with reference to maxima, 
 quantity to order, and minima, as outlined in the preceding 
 paragraphs, it is necessary to maintain a finished goods 
 record which provides a perpetual inventory of finished 
 goods. The maximum, quantity to order, and minimum, 
 as established for each item of finished stock, will be shown 
 on the finished goods record. Usually this record is kept 
 in what is termed a "balance of stores" form which is espe- 
 cially adapted for exercising effective inventory control. 
 The form of a balance of stores record is illustrated in 
 Chapter X. 
 
 It should be understood that it is not intended to lay 
 down an arbitrary procedure in the foregoing discussion. 
 The method of establishing maxima, minima, and quanti-
 
 136 BUDGETARY CONTROL 
 
 ties to order has been discussed somewhat in detail, and a 
 definite procedure has been explained in order to indicate 
 the problem involved in enforcing a production budget 
 based on a sales budget. Although the procedure outlined 
 is typical of that which must be employed by any factory 
 which produces for stock and which attempts to execute a 
 production program in a systematic manner, variations of 
 considerable consequence will of necessity be made in 
 adapting this procedure to particular cases. 
 
 Relation of Production Planning to the Production Budget 
 
 A balance of stores record properly operated results in 
 the issuance of production orders with sufHcient frequency to 
 provide for the replenishment of stock in accordance with 
 the finished goods schedule prepared under the production 
 program. But in order that these production orders may 
 result in deliveries according to schedule, it is necessary that 
 there exist an effective production control. Such control 
 usually necessitates the establishment of a systematic 
 organization to carry on production planning. This 
 organization is usually called the planning department. It 
 is not possible or desirable to discuss here the organization 
 and operation of a planning department. This is a matter 
 of production management. It is important to keep in 
 mind, however, that the planning function must be per- 
 formed either by a separate organized department or by 
 different individuals in different departments, if the produc- 
 tion budget is to be translated into an effective production 
 program. 
 
 Relation of Production Costs to the Production Budget 
 
 The preceding discussion has treated primarily of the 
 problem of producing the volume of finished goods called 
 for by the production budget. What constitutes finished
 
 THE PRODUCTION BUDGET I37 
 
 stock in a particular business depends upon the character 
 of the product offered for sale to customers of the business. 
 The finished stock of the X Foundry Company becomes the 
 raw material of the Modem School Desk Manufacturing 
 Company. The lumber, as it comes from the mill of a 
 lumber company, may be finished stock if the lumber com- 
 pany offers the green lumber for sale to its customers. Or 
 sawed lumber may be seasoned and planed, and so made 
 into finished lumber of the higher grades. Materials are 
 either (a) raw materials; (b) goods in process; or (c) finished 
 stock, depending upon the stage of their utility to the 
 customers of the selling company. 
 
 For census purposes we may classify certain materials 
 as "raw materials," or basic materials, but that classification 
 does not hold in the reports of any particular company 
 where the only test must be that finished stock is stock in 
 the form demanded by customers. 
 
 The finished stock of a company may be produced in the 
 factory of the company from raw materials ; or it may be as- 
 sembled and altered from parts in the alteration room of the 
 company; or it may be purchased as finished stock. The 
 present discussion is confined to a consideration of the 
 finished stock of a manufacturing company which is 
 produced in its factory. All such stock is produced by the 
 employment of labor and equipment in the performance of 
 certain operations upon raw materials by which they are 
 transformed into the finished product. 
 
 Although it is not the function of the budgetary pro- 
 gram to prescribe the method by which production is 
 carried on, since this is the province of the planning 
 department, it is necessary for effective production con- 
 trol that a budget be prepared for each of the elements 
 of production cost — materials, labor, and overhead — to 
 the end:
 
 138 BUDGETARY CONTROL 
 
 1 . That the necessary amount of materials and labor will be avail- 
 
 able and excess amounts will be prevented. 
 
 2. That the cost of materials, labor, and overhead shall be under 
 
 effective control. 
 
 3. That the cost of financing the production program may be 
 
 determined for the purpose of the financial budget. 
 
 The preparation of the materials, labor, and manufactur- 
 ing expense budgets will be discussed in the chapters im- 
 mediately following the present one. 
 
 Control of Production on Special Orders 
 
 Many manufacturing businesses receive some special 
 orders for goods which they do not carry in stock but which 
 they produce in response to the requests of customers. 
 There are a few businesses which produce all their goods in 
 accordance with the customers' specifications, and therefore 
 produce only on special orders. A foundry is a good illus- 
 tration of the latter class. In either case, the problem of 
 production control is not greatly different from that of the 
 business which manufactures for stock on standard orders. 
 
 In the case of a business which manufactures on both 
 standard and special orders, it is necessary to determine 
 what proportion of the orders received will be special orders. 
 In making the sales estimate the special orders should be 
 estimated separately, so that the production department 
 can estimate the goods to be produced for stock and those 
 to be produced to order. To make an accurate estimate of 
 the probable special orders to be received, it is necessary to 
 make a careful analysis of past sales to learn the trend of 
 special orders by years and by territories. The effect of 
 market conditions on the number of special orders received 
 may also be useful. The policy to be followed in handling 
 special orders — whether they are to be given the right of 
 way or are only to take up unused time — will have a con- 
 siderable bearing on the planning for their control.
 
 THE PRODUCTION BUDGET I39 
 
 Whether a business manufactures on standard or special 
 orders, the first step in the planning of production control is 
 the preparation of the estimate of production. The next 
 step is to pro\'ide for the performance of this estimate. 
 This involves the preparation of three supplementary es- 
 timates: the estimate of labor, the estimate of manufactur- 
 ing expense, and the estimate of materials. When goods 
 are produced for stock it is necessary to take into considera- 
 tion the finished goods inventory requirement in determin- 
 ing the production requirements, while in the case of special 
 orders the question of finished goods does not enter. It is 
 necessary, however, to estimate carefully the quantity of 
 production, so that the necessary labor and materials may 
 be secured. It is usually urgent to produce the goods called 
 for by special orders as quickly as possible, which makes it 
 the more imperative that plans be made carefully, so that 
 delays will not result from a lack of materials or labor. 
 
 It can be seen, therefore, that the preceding discussion, 
 with the exception of that dealing with the control of finished 
 stock, applies equally well to a manufacturing business 
 producing for stock and to one producing on special orders. 
 
 Preparation of Production Budget 
 
 As shown by the foregoing discussion, the production 
 budget is the result of a coordination of the sales possibili- 
 ties and the production capacity. Its preparation involves 
 a procedure similar to the following : 
 
 I. Preparation of Sales Budget: 
 
 1. Sales estimates are prepared by sales units. 
 
 2. These are revised by the general sales ofifice. 
 
 3. They are then forwarded to the production department 
 
 where a comparison is made between the requirements of 
 sales estimates and the production capacity. If the 
 production department thinks revisions are necessary 
 these are shown on the sales estimates.
 
 140 BUDGETARY CONTROL 
 
 4. Estimates as approved by the production department are 
 forwarded to the budget committee for final revision and 
 approval. This committee will decide any differences 
 which may exist between the programs of the sales and 
 the production department. 
 
 II. Preparation of .Finished Goods Budget: 
 
 1. Estimate of finished goods requirements prepared from the 
 
 sales budget by the production department. 
 
 2. This estimate is forwarded to the budget committee for its 
 
 consideration and appro^•al. 
 
 3. After the estimate of finished goods is approved by the 
 
 budget committee, it is enforced by the production de- 
 partment by means of the balance of stores records 
 operated under maximum and minimum standards. 
 
 It will be noticed that the "production budget" really 
 resolves itself into a "finished goods " budget. In order to 
 carry out this budget it is necessary to prepare supplemen- 
 tary budgets for materials, labor, and manufacturing 
 expense. 
 
 It is usually necessary to have the production budget 
 prepared in the office of the production manager. It is 
 desirable to have the records of machine capacity centralized 
 and these are often kept in the central office. In some cases 
 these records are kept by the planning department, which 
 may then perform the detail work involved in the prepara- 
 tion of the production budget, whereupon the budget will 
 be carefully revised by the production manager before it is 
 submitted to the budget committee. 
 
 Control over Production Budget 
 
 To exercise control over the production budget and to 
 make revisions when necessary, monthly reports are re- 
 quired which show a comparison between the estimated and 
 the actual performance. These reports will vary some- 
 what, depending on the one for whose use the report is
 
 THE PRODUCTION BUDGET 
 
 141 
 
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 142 BUDGETARY CONTROL 
 
 intended. The balance of stores records are Intended to 
 enforce automatically the production budget; but no 
 matter how carefully these records are operated, errors will 
 occur which will make them fail to accomplish this purpose 
 perfectly. When these errors occur, they ought to be 
 detected as quickly as possible and measures taken to 
 remedy them. 
 
 For the use of the general officers a finished stock 
 budget report made in the form shown in Figure 8 is very 
 serviceable. 
 
 This report serves to show to what extent coordination 
 between sales and production is being achieved. If the 
 commodities sold by the company are not too numerous, 
 each commodity should be shown on this report. Where 
 the commodities are very numerous, It will be necessary to 
 show them on this report by groups or classes. In this case 
 judgment must be used in interpreting the report, for it is 
 obvious that there might be very close coordination be- 
 tween the sales and production of a group and yet there 
 might be items In the group on which large Inventories 
 existed and other Items for which unfilled orders were on 
 hand. 
 
 The amount shown in column (2) in Figure 8 is taken 
 from the last revision of the sales estimate. Column (3) 
 shows the estimated quota for finished goods based on the 
 estimated sales shown in column (2). Column (4) shows 
 the actual sales for the month, and column (5) shows the 
 revised finished goods quota, the revision being based on the 
 actual sales as shown In column (4). Column (6) shows 
 the actual deliveries to stock of finished goods. Columns 
 (2) and (4) provide a comparison of estimated and actual 
 production for the month. Columns (5) and (6) provide a 
 comparison between the actual production and the revised 
 production quota. A comparison of columns (3), (5), and
 
 THE PRODUCTION BUDGET 143 
 
 (6) win show two things: (a) by how much the original 
 estimate of production was incorrect; and (b) how much the 
 actual production varied from the estimated. The informa- 
 tion sho\\Ti in column (4) is taken from the sales records for 
 the month, and the information shown in column (6) is 
 taken from the balance of stores records. Column (7) 
 shows the difference between columns (5) and (6). Column 
 (8) shows the manufacturing orders outstanding in the 
 factory at the end of the month. These orders should be 
 shown by the records of the planning department and also 
 on the balance of stores records. Column (9) shows the 
 amount to which the production budget for the next month 
 should be revised. 
 
 If a monthly quota system is maintained on stock 
 deliveries, the unfilled orders at the end of the month as 
 shown by this report furnish valuable data for use in pro- 
 duction control. It is possible that a large amount of un- 
 filled orders represents poor production management. In 
 some cases these unfilled orders may be due to traffic mis- 
 management, to poor warehouse control and operation, to 
 general trade depression, or to strikes and similar causes. 
 In each case the data given in the report as to outstanding 
 unfilled orders presents material for executive judgment, 
 executive orders, and executive discipline and control. 
 Such a budget and reporting system makes use of sales, 
 inventory, and production accounts as a basis for future 
 plans. The reports under such a system offer comparisons 
 between estimated sales and estimated production, and 
 actual sales and actual production. Such reporting makes 
 constant use of accounts, and the requirements of the re- 
 ports to be made determine what grouping of sales ac- 
 counts should be followed. Similarly, reporting require- 
 ments indicate the analysis to be followed in classifying 
 inventory accounts and cost sheets.
 
 144 BUDGETARY CONTROL 
 
 Significance of Finished Stock Budget Report 
 
 Every functional officer of a factory has his own partic- 
 ular interest in the showing made in the monthly report of 
 delivered and undelivered orders under the monthly quota. 
 The officer in charge of the employment of labor studies the 
 outstanding orders and quota balances with reference to 
 labor that may be needed in meeting rush deliveries into 
 stock. The traffic manager is vitally interested in out- 
 standing orders, since the amount for a given item may or 
 may not indicate the necessity for action as to terminal 
 facilities, warehousing, reloading, and the like. The ad- 
 vertising manager notes with concern the balances in quotas 
 for which orders have not been placed, since such balances 
 may indicate a departure from advertised promises of serv- 
 ice. Or the monthly report may show production in 
 excess of quotas and may indicate to the sales manager 
 the necessity for extra efforts to move the surplus inven- 
 tory. Of course, the treasurer is interested in the amount 
 of outstanding orders and the problem of financing their 
 production. 
 
 The monthly report discussed in the foregoing paragraphs 
 furnishes the basis for immediate management decisions. 
 It also provides a progressive month-by-month commentary 
 on the accuracy of the estimating and planning in the busi- 
 ness. Such monthly reports reveal errors in business judg- 
 ment and make for better estimating for the next budget 
 period.
 
 CHAPTER X 
 
 THE MATERIALS BUDGET 
 
 Need for Estimate of Materials 
 
 After the finished goods which are to be produced during 
 the budget period are determined by means of the produc- 
 tion budget, it is necessary to estimate the materials which 
 are necessary to produce these goods. This estimate is 
 necessary : 
 
 1. That the purchasing department may make plans by which 
 
 to secure the necessary materials by the time they are 
 needed in production. 
 
 2. That the treasurer may know the probable disbursements re- 
 
 quired by the purchasing program and can plan to obtain the 
 funds necessary to meet these disbursements. 
 
 3. That the budget committee may be able to see the financial re- 
 
 quirements of the proposed sales and production programs at 
 the time they are submitted to it for consideration. It will 
 be shown in a later chapter that all the departmental budgets 
 are used as a basis for the preparation of a financial 
 budget, which the budget committee uses as a means of judg- 
 ing the desirability of the proposed budgets. The materials 
 budget usually gives rise to one of the largest of the disburse- 
 ment items on the financial budget. Its use is therefore essen- 
 tial to the preparation of the financial budget. 
 
 4. The materials budget is also necessary for the preparation of the 
 
 estimated balance sheet and estimated statement of profit and 
 loss, which are discussed in Chapters XXI and XXII. 
 
 Determination of Material Requirements — By Commodities 
 
 In the same manner in which the production department 
 
 maintains an analysis of each of its products to show the 
 
 manufacturing operations required in its production, it 
 
 should maintain an analysis which will show the materials 
 
 10 145
 
 146 BUDGETARY CONTROL 
 
 required in the production of each commodity. By the use 
 of this analysis it is possible to estimate, on the basis of the 
 production budget, the materials which will be required to 
 produce the goods called for by the production program. 
 The preferable way of making this estimate is to take each 
 item on the finished goods or production budget, and to 
 determine the amount of each kind of material which will be 
 required to produce it. To illustrate, the production budget 
 calls for the manufacture of 1,000 cast iron valves of X size. 
 The product analysis shows that it takes 4 pounds of pig 
 iron to produce this valve. Consequently it will be neces- 
 sary to purchase 4,000 pounds of pig iron to make possible 
 the production of the 1,000 valves. If each item on the 
 production budget which requires the use of pig iron is con- 
 sidered in this manner, the total purchases of pig iron can 
 be determined. In the same manner each item on the 
 production budget will be considered to determine the 
 amount of materials of each kind that is necessary for 
 its production. 
 
 It is easy to see that this method of determining the 
 material requirements may in some circumstances be quite 
 difficult. In the first place, there may be so many commodi- 
 ties produced and so many different kinds of materials may 
 enter into each that it may require an immense amount of 
 clerical work to determine the material requirements for 
 each commodity. Again, there may be a considerable varia- 
 tion between the quantity of raw material required in the 
 production of a commodity and the quantity of material 
 which is in the finished product. This is due to shrinkage 
 and waste, which are usually unavoidable. If this shrink- 
 age and waste are fairly uniform, as they should be under 
 normal conditions, it is possible to estimate them fairly 
 accurately, but in some cases it is difficult to estimate their 
 amount with any accuracy.
 
 THE MATERIALS BUDGET 147 
 
 By Ratios of Former Periods 
 
 In some cases, instead of estimating the material require- 
 ments for each commodity produced, it is expedient, in order 
 to obtain the probable material requirements for the period, 
 to find the ratio between the production volume for several 
 periods and the volume of materials of each kind required 
 for this production, and apply these ratios to the production 
 budget of the current period. These estimates will be more 
 accurate if separate ratios are determined for different classes 
 of product manufactured. The reason for this is apparent, 
 for different quantities of raw material will be required for 
 different classes of finished product and the ratio between the 
 different classes is apt not to remain the same during dif- 
 ferent periods. 
 
 To take a simple illustration, the M Manufacturing 
 Company produces 10,000 different articles which can be 
 grouped into three principal classes, known as Class A, 
 Class B, and Class C. The articles in each class are com- 
 posed of the same materials but vary as to size and design. 
 The three principal raw materials used in the manufacture 
 of the three classes are the commodities X, Y, and Z. Each 
 of these commodities Is used in the manufacture of each 
 class, but in varying degrees. Commodity X is used prin- 
 cipally in the production of Class A, commodity Y princi- 
 pally in the production of Class B, and commodity Z prin- 
 cipally in the production of Class C. It may be assumed 
 that in terms of pounds the ratios are as follows : 
 
 Class A— Commodity X 60%, Y 20%, Z 10% 
 Class B— Commodity X 10%, Y 60%, Z 20% 
 Class C — Commodity X 20%, Y 10%, Z 60% 
 
 The remaining 10 per cent In each case is composed of mis- 
 cellaneous materials. 
 
 If the ratio between the tonnage of the three classes
 
 148 BUDGETARY CONTROL 
 
 fluctuates from period to period, it can be readily seen that 
 the quantity of X, Y, and Z required in production would 
 fluctuate accordingly. For instance, if it is determined that 
 it is desirable to increase the production of A 20 per cent and 
 to decrease the production of C a like amount, the efl^ect on 
 the requirements for each of the commodities X, Y, and Z 
 is apparent. There are few businesses producing several 
 different articles in which the ratio between the volume of 
 these articles produced each year does not vary materially. 
 The foregoing illustration serves to show that if such varia- 
 tions exist, inaccuracies will result from estimating the 
 material requirements by the use of the ratio of materials 
 to total production. 
 
 Standard Material Rates as an Aid 
 
 During recent years accountants and Industrial engineers 
 have given much attention to the development of standards 
 by which to judge production. The principal emphasis has 
 been placed on standard rates for manufacturing expenses, 
 but there has been some consideration given to the develop- 
 ment of standard rates of material and labor. There seems 
 to be no good reason why standard material rates should 
 not be developed. If these are set up they will serve at least 
 three useful purposes: 
 
 1 . They can be used in the estimating of costs and the establishment 
 
 of prices on contracts. 
 
 2. They will serve as a means of judging the efficiency of the manu- 
 
 facturing operations and will assist in the elimination of waste 
 due to errors or improper use of material. By comparing the 
 material used with the standard, it will be possible to locate the 
 excessive use of material. 
 
 3. They will be of important service in estimating material require- 
 
 ments and in preparing a purchasing program. 
 
 Where standard rates of material to be used in the man- 
 ufacture of each product are established, the task of pre-
 
 THE MATERIALS BUDGET I49 
 
 paring the materials budget is greatly lessened. It is only 
 necessary to multiply the standard rate of material set on 
 each commodity by the number of units of that commodity 
 which is to be produced, to determine the material require- 
 ments. 
 
 Relation of Materials Requirements to Materials Inventory 
 
 By means of one of the methods explained in the fore- 
 going discussion it is possible to estimate the materials re- 
 quired to satisfy the production program. To translate 
 the requirements of the production program into an estimate 
 of materials which will serve as a basis for the materials 
 budget, it is necessary to take into consideration the inven- 
 tory of materials at the beginning of the period and the 
 estimated inventory of materials at the end of the period. 
 To illustrate : The production budget calls for the manu- 
 facture of 1,000 articles X, and it is estimated that it will 
 take 4,000 pounds of commodity Y to produce these. The 
 records of the factory show that the inventory of com- 
 modity Y at the beginning of the budget period is 1,300 
 pounds, and it is estimated that an inventory of 1,200 
 pounds at the end of the period will be sufficient. The esti- 
 mate of materials on commodity Y for the period will be 
 4,000 lbs. + i,200 lbs. — 1,300 lbs. = 3,900 lbs. Each com- 
 modity which is to appear on the materials budget must 
 be treated in this manner if an accurate estimate is to be 
 prepared. 
 
 But the problem of the purchasing department is not 
 merely to purchase the quantity of materials that are to be 
 used in production during the budget period. It must do 
 more than that; it must purchase the materials in anticipa- 
 tion of factory requisitions and place them in the storeroom 
 so that the needs of the factory may be served promptly. 
 An easy solution of this problem would be to purchase before
 
 I50 BUDGETARY CONTROL 
 
 the beginning of the budget period, or shortly thereafter, all 
 the materials required during the period. For example, if 
 the officers of a foundry estimate that lOO tons of pig iron 
 will be required during the budget period, the purchasing 
 agent may purchase and have on hand the loo tons on or 
 before the first day of the period. Such a procedure is 
 clearly impracticable except in rare cases. 
 
 In the first place, it is clearly undesirable to purchase 
 materials in complete anticipation of production require- 
 ments because of the large amount of capital required. If 
 this procedure is followed, a large part of the capital invested 
 in the materials is tied up for a considerable period of time 
 before the materials are needed. It usually is desirable not 
 to maintain stocks of materials on hand for any longer period 
 of time than is necessary to make reasonably sure of the 
 prompt satisfaction of factory requisitions. There are of 
 course circumstances which make another procedure de- 
 sirable, and these are discussed later in this chapter. 
 
 In the second place, it is usually not profitable to main- 
 tain storehouses of sufficient capacity to provide space for 
 an inventory of raw materials in excess of that needed to 
 meet the current demands of the production program. The 
 space required for such storerooms is usually costly and the 
 labor required to care for them is an additional expense. 
 Again, if the material is subject to deterioration or obso- 
 lescence, it may decrease in value during the time it is left 
 in the storeroom. Insurance and taxes may also be in- 
 creased because of its possession. 
 
 From the foregoing it can be seen that it is the problem 
 of the purchasing department to schedule deliveries of ma- 
 terials so that a sufficient amount of materials will be on 
 hand at all times to meet the production needs and yet not 
 be excessive with the consequent loss arising from such 
 excess. To accomplish this it is necessary to set up a
 
 THE MATERIALS BUDGET 15I 
 
 schedule for the inventory of materials to be maintained and 
 one for deliveries which will maintain the inventory schedule. 
 The ideal schedule w^ould be one which delivered to stock 
 each day the exact amount of goods which would be sold 
 during the day. If such a schedule could be maintained 
 during 300 production days of a year, the materials stock 
 would be turned over 300 times. 
 
 Unfortunately the daily factory requisitions are not 
 uniform in amount, and purchase deliveries cannot be en- 
 forced with sufficient exactness to insure a uniform daily 
 delivery to stock; consequently it is impossible to deliver 
 into stock each day the amount of materials that is to be 
 requisitioned by the factory on that day. It is necessary, 
 therefore, to carry an inventory to provide for the lack of 
 coordination of purchase deliveries and production require- 
 ments. It is the problem of the purchasing department, 
 acting in cooperation with the production department, to de- 
 termine the desirable amount for this inventory and to plan 
 a purchasing program that will maintain it at this amount. 
 
 The inventory of materials is not a fixed or uniform 
 amount. Since its purpose is to take up the slack between 
 purchase deliveries and production requirements, it should 
 be evident that it is a constantly varying amount. Because 
 of its constant fluctuations, it is necessary that an effective 
 control be exercised over it. This control involves the 
 following : 
 
 1. The establishment of maximum and minimum limits, to serve as 
 
 a check on its size. 
 
 2. The establishment of adequate records and an adequate proce- 
 
 dure to enforce these limits. 
 
 Maximum and Minimum Limits as a Basis of Inventory Control 
 
 Maximum, minimum, and quantities to order are used in 
 
 the same manner in the control of raw materials as they are
 
 152 BUDGETARY CONTROL 
 
 used In the control of finished goods. The factors which 
 must be considered in the estabHshment of these quantities 
 for materials are somewhat different in terminology from 
 those which determine the same quantities for finished 
 goods, but they are very similar in nature. Instead of 
 considering the production period, it is necessary to consider 
 the purchasing period, or the length of time between the 
 sending of the purchase order and the receipt of the goods. 
 Instead of considering probable sales, it is necessary to con- 
 sider the probable factory requisitions for materials. Instead 
 of considering the economical run, it is necessary to con- 
 sider the economical quantity to purchase with reference to 
 terms, price, and deliveries. 
 
 The method by which these facts must be considered in 
 establishing control of raw materials should be apparent 
 after the rather extensive explanation of the control of fin- 
 ished goods which has been given in the preceding chapter. 
 
 Record of Materials 
 
 To enforce the requirements with reference to maximum, 
 quantity to order, and minimum, it is necessary to maintain 
 a materials record which provides a perpetual Inventory of 
 raw materials. The maximum, quantity to order, and 
 minimum, as established for each item of materials, will be 
 shown on the materials record. Usually this record is kept 
 on what is termed a "balance of stores form," which Is 
 especially adapted for exercising effective inventory control. 
 
 There are many variations In the form of the balance of 
 stores record. A typical form is shown in Figure 9. 
 
 To illustrate the use of this type of balance of stores, the 
 entries appearing thereon will be explained. Suppose that 
 on the day the balance of stores record is opened, April i, a 
 physical Inventory shows that there are 12,500 pieces In the 
 stockhouse bin. This quantity Is entered In the balance
 
 THE MATERIALS BUDGET 
 
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 154 BUDGETARY CONTROL 
 
 column. This column shows at all times the amount on 
 hand. After looking through the files of factory requisitions 
 it is found that all requisitions for this particular commodity 
 have been filled so that the quantity of 12,500 is available 
 for use. This quantity would be entered, therefore, in the 
 Available or Shortage column. An examination of the pur- 
 chase order files shows that there is outstanding a purchase 
 order for 10,000 pieces of this commodity, this amount being 
 the Quantity to Order. The 10,000 on order is entered in 
 the ordered column. The record is now ready for the receipt 
 of the current entries. 
 
 On April 5 a factory requisition, No. E 6784, is received 
 for 4,000 pieces. The number 4,000 is entered in the Applied 
 column and substracted from the amount in the Available 
 or Shortage column, thereby reducing the balance in this 
 column to 8,500. On April 10 the quantity specified on 
 requisition E 6784 is delivered to the factory and an entry 
 is made in the Issued column, reducing the Balance column 
 to 8,500. The other entries for requisitions received, bal- 
 ance on hand, and quantities delivered to factory, are simi- 
 lar to the ones described above. On May i, 10,000 pieces 
 of stock are received from the vendors to whom purchase 
 orders have previously been issued. This quantity is en- 
 tered in the Received column and added to the quantity in 
 the Balance column and the Available or Shortage column. 
 
 The value of the Applied column lies in the fact that it 
 makes possible the reserving of materials for use on an order 
 though it may not be desirable to requisition them from 
 stock at once. In a factory operated under a proper plan- 
 ning system, a "bill of materials" showing the materials 
 required for the entire order is prepared for each production 
 order issued. On the basis of this bill of materials entries 
 are made on the materials balance of stores resei'ving the 
 materials needed for the order. Some of these materials
 
 THE MATERIALS BUDGET 155 
 
 may not be taken out of stock for several days, but it is de- 
 sirable that they be reserved so that there will be no danger 
 that the order may be delayed because of the lack of ma- 
 terials. If this method is not followed, materials may be 
 on hand when the order is issued but before the materials 
 are requisitioned from stock they may have been used on 
 another order. 
 
 Relation of Purchasing Policies to Materials Budget 
 
 In the preceding discussion it has been assumed that the 
 materials budget is based on the production requirements 
 and that the purchases will be scheduled to correspond with 
 the production schedule. The only deviation from this 
 assumption which has been recognized in the foregoing dis- 
 cussion, is that in establishing quantities to order care must 
 be taken to see that the quantities stated are sufficient to 
 constitute economical purchases. In determining what con- 
 stitutes an economical purchase it is necessary to consider 
 (i) the possibility of getting lower prices or better terms 
 by making larger purchases, and (2) the possibility of 
 saving in freight costs by purchasing in large lots instead 
 of small ones. In each case it is necessary to balance the 
 savings which may be made by purchasing in large quanti- 
 ties against (i) the loss incurred by tying up capital in excess 
 inventories, (2) the possible loss due to deterioration or de- 
 crease in price of the inventory, and (3) the possible financial 
 embarrassment which may result from having capital in- 
 vested in inventory which cannot be quickly realized. 
 
 There are many factors which may affect the purchasing 
 policy of a firm, and there are some of these which are op- 
 posed to the control of purchases by budget. For instance, 
 some firms think it is a function of the purchasing depart- 
 ment to speculate on market changes and tendencies. In 
 these firms, during periods of rising prices, large quantities
 
 156 BUDGETARY CONTROL 
 
 of materials will be purchased and deliveries scheduled far 
 in excess of production demands. It is undoubtedly true 
 that under these circumstances a firm may make large sav- 
 ings by placing large orders while the prices are increasing. 
 It obtains materials for future use at a lower price than it 
 could obtain them if it waited to purchase them when 
 needed. It is also more assured of their delivery than if it 
 waited until their purchase is indicated by the materials 
 budget. 
 
 This policy is apt to prove a dangerous one if careful 
 control is not exercised. If the purchasing department is 
 once given the opportunity to purchase in large quantities, 
 unrestrained by the limitations of present requirements as 
 shown by the materials budget, it is apt to make the most 
 of its opportunity and continue the policy of quantity buy- 
 ing as long as prices continue to rise. When the turn in 
 prices comes, the firm is apt to find itself burdened with an 
 inventory far beyond its needs, with large deliveries sched- 
 uled to be made for several months, all of which has been 
 purchased at the peak of prices. In many cases, even if the 
 firm escapes serious financial embarrassment it loses more 
 on its high-priced inventories than it gained from the quan- 
 tity buying during the period of rising prices. 
 
 A falling price level often has the opposite effect on the 
 purchasing policy of many firms. The possibility of buying 
 materials in the near future at reduced prices and the ease 
 with which goods can be procured tend toward "hand-to- 
 mouth" buying. It is very desirable to exercise caution 
 during a period of declining prices, but the purchasing policy 
 may be so conservative that it will result in a decided loss. 
 Parsimonious buying may result in unbalanced inventories 
 and make it impossible to give proper service to customers, 
 with the consequent loss of trade. Small purchases may 
 also result in higher prices and freight rates.
 
 THE MATERIALS BUDGET 1 57 
 
 It is the author's opinion that the purchasing depart- 
 ment is not equipped to speculate and that it is not its 
 function to attempt to do so. We have not yet developed 
 methods of forecasting with sufficient accuracy to make it 
 possible to speculate on market trends without the incurring 
 of great risk. As Mr. Arthur E. Swanson very well says in 
 the November, 192 1 Administration: "The difficulty which 
 even very experienced and well-trained business men en- 
 counter in predicting even approximately the trend of price 
 levels and business activity, has caused many to follow a 
 sort of straddling policy in reference to economic trends. 
 They do not buy very far in advance when the level ap- 
 pears to be on a long upward swing, or very close when 
 the level appears to be on a downward swing. They are 
 satisfied with an average buy." 
 
 Whatever may be the purchasing policy of a firm, it is 
 the function of the materials budget to show the materials 
 required by the production program, and to show a schedule 
 of deliveries which will meet the needs of this program. If 
 the management desires to disregard the purchasing pro- 
 gram shown by the budget in order to carry into effect pur- 
 chasing policies which it has adopted, that is its privilege. 
 It is the opinion of the author that it is only in exceptional 
 cases that it is wise for it to do so. 
 
 The "Stores" Budget 
 
 The purchasing department purchases not only the ma- 
 terials which become a part of the manufactured product, 
 but also numerous "supplies" which are used in carrying on 
 the manufacturing operations. It also purchases the sup- 
 plies used by all the operating departments. Under a well- 
 developed system of inventory control it is customary to 
 term as " stores " all the materials purchased for all purposes 
 and to place them in a storeroom from whence they are
 
 158 BUDGETARY CONTROL 
 
 requisitioned for use. When the requisitions are issued it 
 is indicated whether the stores for which they call are to be 
 charged as "materials" or as "supplies." 
 
 Because of this method of handling materials and sup- 
 plies, it is the practice of some finns to prepare a stores 
 budget which takes the place of the materials budget. The 
 stores budget includes the estimated purchases for both 
 materials and supplies. It is claimed that it is easier for 
 the purchasing agent to make a stores budget than it is to 
 estimate separately the materials and supplies. It is also 
 claimed that it is easier to compare the estimated with the 
 actual performance if the materials and supplies are shown 
 in one budget. This contention is based on the fact that 
 both the materials and supplies are charged to a Stores 
 account when purchased and are not distributed as between 
 materials, manufacturing expense (manufacturing supplies 
 are charged to manufacturing expense when consumed) and 
 departmental expenses, until they are requisitioned from the 
 storeroom for use. Consequently the stores accounts give 
 a ready means of checking the estimate of purchases, while 
 the materials and manufacturing expense accounts do not, 
 since purchases do not correspond with consumption during 
 any specific period. 
 
 There is considerable merit in these contentions, and the 
 author has found it advisable in some cases to prepare two 
 budgets, the first based on purchases and the second on con- 
 sumption. The consumption budget is essential if standard 
 costs are to be established for material, labor, and manufac- 
 turing expense, and it is the belief of the author that such 
 standards are essential for effective production control. 
 
 Preparation of Materials Budget 
 
 After the production budget is prepared, the production 
 department can prepare an estimate of the materials re-
 
 THE MATERIALS BUDGET 159 
 
 quired to produce the goods called for by this budget. If a 
 well-developed planning department is in operation, it will 
 have available data which will make it possible to prepare 
 this estimate without difficulty. In such cases it is custo- 
 mary to delegate the preparation of the materials estimate 
 to the planning department. After its preparation, the 
 materials estimate is carefully examined by the production 
 manager and his staff. If there is not a planning depart- 
 ment in operation, the estimate of materials requirements 
 will be prepared by the staff of the production manager. 
 After the estimate of materials has been approved by the 
 production manager it will be transmitted to the purchasing 
 department, which will make an estimate of the purchases 
 which must be made to meet the estimate of materials. 
 
 The foregoing procedure is not always followed. In 
 some businesses the production budget is sent to the pur- 
 chasing department, and it is required to estimate both the 
 materials required and the purchases which are necessary to 
 meet these requirements. It is the author's opinion that 
 the estimate of materials can best be made by the produc- 
 tion department, since it usually has available the informa- 
 tion which is necessary for its preparation, or if it does not, 
 it can obtain the information easily. It should be evident 
 that if the production department, through the planning 
 department or otherwise, prepares bills of material for pro- 
 duction orders, it must have available data from which it 
 can estimate material requirements. If the purchasing de- 
 partment collects the data necessary to make this estimate, 
 it will usually lead to a duplication of data, the same infor- 
 mation being collected and recorded by both the production 
 and the purchasing departments. 
 
 In other businesses the production department prepares 
 both the estimate of materials and the estimate of pur- 
 chases. This procedure leads to equally undesirable results.
 
 I60 BUDGETARY CONTROL 
 
 The purchasing department must have available for its own 
 use the data necessary for the preparation of the estimate 
 of purchases ; and if this task is undertaken by the produc- 
 tion department, it will be necessary for it to collect dupli- 
 cate data which it is not as well qualified to interpret and 
 use as is the purchasing department. Furthermore, the 
 purchasing department may rightly resent what it regards 
 as an undue usurpation of its functions. One of its primary 
 functions is to collect data and formulate a purchasing pro- 
 gram which will meet the needs of all the departments and 
 result in the most profit to the company. If the production 
 department prepares the estimate of materials which usually 
 constitutes the major part of the purchases made, it is 
 depriving the purchasing department of its initiative and 
 judgment. 
 
 Materials Budget Form 
 
 As in the case of all other forms used in budgetary con- 
 trol, it is not feasible to prescribe a form for the materials 
 budget which will satisfy all conditions. The author has 
 found the form shown in Figure lo serviceable in most cases. 
 The illustration is designed for use when the budget period 
 is three months in length. If the period is for a longer period 
 of time, further columns may be added. 
 
 In most cases the materials budget will need to be pre- 
 pared prior to the beginning of the budget period ; therefore, 
 all the information shown on the budget report, including 
 the beginning inventory, must be estimated. The estimated 
 beginning inventory can be obtained from the budget report 
 of the previous period, since the ending inventory of one 
 period will be the beginning inventory of the next period. 
 The estimated purchases will be based on the estimate of 
 materials submitted by the production department, with 
 such modifications as the purchasing department may think
 
 THE MATERIALS BUDGET 
 
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 l62 BUDGETARY CONTROL 
 
 necessary. For instance, the purchasing department may 
 purchase more during the month than called for by the 
 materials estimate because the latter amount may not con- 
 stitute an economical purchase. The estimated inventory 
 at the end of the month is obtained by adding the estimated 
 purchases to the beginning inventory, and substracting the 
 estimated consumption of materials as shown by the esti- 
 mate of materials submitted by the production department. 
 If the quantity of purchases and the quantity of materials 
 consumed are the same, the beginning and ending inventories 
 will be the same. A comparison of the beginning and end- 
 ing inventories is of significance to the budget committee, 
 since in case of an increase in inventory the purchasing de- 
 partment may be asked to explain the cause. 
 
 The estimated disbursements for purchases of previous 
 months can be obtained from the unpaid invoice file. The 
 accounts payable section of the accounting department may 
 be asked to supply this information, since this section main- 
 tains the unpaid invoice file. The estimated disbursement 
 for purchases of the current month will be determined by 
 estimating the time of delivery of the purchases and allow- 
 ing for the usual discount period. It can be readily seen 
 that the information shown in this column can be only 
 approximately correct, but this does not destroy its use- 
 fulness, since the purpose of showing the estimated dis- 
 bursements on the materials budget is only to indicate, in a 
 convenient form for the use of the treasurer and the budget 
 committee, the probable financial requirements of the 
 contemplated purchasing program. As will be explained 
 in the discussion of the financial budget, these estimates 
 will be checked and revised, if necessary, by the executive 
 in charge of the budgetary procedure and the treasurer in 
 the preparation of the monthly estimates of cash receipts 
 and disbursements.
 
 THE MATERIALS BUDGET 1 63 
 
 After the estimate of material purchases is prepared by 
 the purchasing department, it is forwarded to the executive 
 in charge of the budget procedure and is transferred by him 
 to the budget committee, together with the other depart- 
 mental estimates and the estimates of cash receipts and dis- 
 bursements which are prepared from the departmental esti- 
 mates. After the estimate of materials is approved by the 
 budget committee, it is transferred by the executive in 
 charge of the budget committee to the purchasing depart- 
 ment, whose working program it constitutes for the budget 
 period, subject, however, to monthly revisions which may 
 be made by the budget committee. 
 
 Control of Materials Budget 
 
 The materials budget, like all other budgets, must be 
 checked up at frequent intervals in order that errors in the 
 original budget may be detected and corrections made as 
 quickly as possible. To make this possible it is necessary to 
 have a monthly report which will provide comparisons be- 
 tween the estimated and the actual purchases. The report 
 illustrated in Figure 1 1 will ser\'e this purpose. 
 
 The purpose and value of the information shown in each 
 column of this report should be evident. The executives 
 should study this report in the light of the production for the 
 month compared with the estimated production. They 
 should also give consideration to the comments shown in 
 column (8), since there may be special considerations which 
 have brought about a deviation from the materials budget. 
 Such deviations should be made as a general rule, however, 
 only in response to executive direction or permission. This 
 report will be submitted to the executive in charge of the 
 budget procedure, and will be transferred by him to the 
 budget committee with such recommendations as he may 
 think desirable. By a study of this report the budget com-
 
 I64 BUDGETARY CONTROL 
 
 mittee will be able to make such revisions as are necessary 
 in the materials budget for the remainder of the budget 
 period. These revisions will be communicated to the pur- 
 chasing department by the executive in charge of the budget 
 procedure. 
 
 It is evident that the budget committee and the treasurer 
 will want, in addition to the report shown in Figure 1 1 , a 
 report which will show the disbursements for material pur- 
 chases during the month compared with the estimated dis- 
 bursements for the month.
 
 CHAPTER XI 
 
 THE LABOR BUDGET 
 
 Need for Estimate of Labor 
 
 After the finished goods which are to be produced during 
 the budget period are determined by means of the produc- 
 tion budget, it is necessary to estimate the labor required to 
 produce these goods. This estimate Is necessary in order: 
 
 1. That the personnel department may make plans to have avail- 
 
 able the necessary workmen at the time they are needed in 
 production, 
 
 2. That the treasurer may know the probable disbursements re- 
 
 quired by the labor program and can make plans to obtain 
 funds for these disbursements. 
 
 3. That the budget committee may be able to see the financial re- 
 
 quirements of the proposed sales and production programs at 
 the time they are submitted to it for consideration. The labor 
 budget must be combined with the selling expense budget, the 
 materials budget, and the other budgets requiring disburse- 
 ment of funds, in order to show the total disbursements of the 
 budget period, before the budget committee or the board of 
 directors can judge the advisability of undertaking the financial 
 obligations imposed by the proposed budget program. 
 
 4. The estimate of labor is also required in preparing the "general 
 
 budget" or estimated balance sheet and statement of profit 
 and loss. 
 
 It is particularly important that the personnel depart- 
 ment have information with reference to the labor require- 
 ments considerably in advance of the time when it is neces- 
 sary for these requirements to be satisfied. To obtain an 
 efficient working force is not an easy task, and capable 
 workmen cannot be secured by issuing a purchasing order 
 as can materials. If skilled laborers are required, the task 
 
 165
 
 l66 BUDGETARY CONTROL 
 
 of supplying them is usually not an easy one. In many 
 cases they must be trained before their services can be used 
 effectively. A well-organized personnel department will 
 gather information of its own accord, which will afford it an 
 approximate estimate of the labor requirements, but it docs 
 not have an approved program on which to work until it 
 receives the labor budget. 
 
 Determining Labor Requirements by Analysis of Each Product 
 
 In the same manner in which the production department 
 maintains an analysis of each of its products to show the 
 manufacturing operations and materials required in its pro- 
 duction, it should maintain an analysis which will show the 
 labor required in the production of each commodity. If a 
 planning department is in operation this analysis will prob- 
 ably be maintained by this department, for the analysis is 
 necessary for its use in preparing time tickets for distribu- 
 tion to the different departments when production orders 
 are being scheduled. If this information is not available in 
 the planning department, it may be available in the estimat- 
 ing department, the pay-roll department, or the personnel 
 department. If none of these departments have such 
 records, it is necessary that the records be prepared by the 
 staff of the production manager. 
 
 By the use of this analysis it is possible to estimate, on 
 the basis of the production budget, the labor which will be 
 required to produce the goods called for by the production 
 program. The preferable way of making this estimate is to 
 take each item on the finished goods or production budget 
 and determine the amount of labor of each kind which will 
 be required to produce it. To illustrate: The production 
 budget calls for the manufacture of i ,000 units of articles X 
 of Y size. The product analysis shows that article X passes 
 through four processes. Process A requires four hours of
 
 THE LABOR BUDGET 167 
 
 labor, process B two hours, process C three hours, and 
 process D five hours. It takes, therefore, a total of four- 
 teen hours to produce one unit of article X. If 1,000 are to 
 be produced it will take a total of 14,000 hours. It is, of 
 course, probable that the labor used in the different processes 
 will not be of the same grade, in which case the total labor re- 
 quired for each process will need to be estimated separately. 
 If each item on the production budget is considered in this 
 manner, it will be possible to determine the total labor re- 
 quirements of the production program. 
 
 Other Methods of Estimating Labor Requirements 
 
 It is easy to see that this method of determining the 
 labor requirements may in some circumstances be quite 
 difficult. There may be so many commodities produced 
 and so many different kinds of labor may enter into each, 
 that it may require an immense amount of clerical work to 
 determine the labor requirements of each commodity. 
 
 In some cases it is thought expedient to use the budget 
 of machine capacity, discussed in connection with the pro- 
 duction budget, as a basis for estimating labor requirements. 
 The number of * ' machine hours ' ' required by the production 
 budget having been obtained, an estimate is then made of 
 the workmen who will be required to operate these ma- 
 chines. In other cases it has been found expedient to 
 obtain the ratio between the production volume for several 
 periods and the volume of labor of each kind required for 
 this production, and apply these ratios to the production 
 budget of the current period to obtain the probable labor 
 requirements. These estimates will be more accurate if 
 separate ratios are determined for the different classes 
 of product manufactured. The reason for this is ap- 
 parent, for different quantities of labor will be required 
 for different classes of finished product, and the ratio
 
 1 68 BUDGETARY CONTROL 
 
 between the different classes is apt to vary from period 
 to period. 
 
 The illustration given on page i6i in connection with the 
 discussion of the method of estimating material require- 
 ments is equally applicable to the determination of labor 
 requirements. 
 
 In some businesses the estimate of labor requirements 
 is made by determining the labor cost per unit of produc- 
 tion for several periods, and then applying this unit cost to 
 the estimate of production for the current period. For 
 instance, it may be determined that the average labor cost 
 as shown by the records for several periods is $30 a ton. 
 The estimate of production calls for the manufacture of 
 1,000 tons; therefore the estimate of labor is $30,000. If 
 the unit cost is determined carefully and is calculated sepa- 
 rately on each product, an estimate made in this manner 
 may serve satisfactorily for purposes of financial control; 
 but it does not provide satisfactory information for the use 
 of the personnel department. In a business where the vol- 
 ume of production is fairly uniform and the working force 
 stable, it is not so important that the personnel department 
 receive a report showing labor in terms of hours. It must 
 always be remembered that the cost of obtaining informa- 
 tion must be balanced against its value. Budgetary con- 
 trol is no exception to the general rule that profit and loss is 
 the ultimate test of the merit of any method of administra- 
 tive control. 
 
 Use of Standard Labor Rates 
 
 Some of the most valuable work of industrial engineers 
 has been in the establishment of standards by which to judge 
 labor. The first work performed by the exponents of "scien- 
 tific management" was the establishment of standard time 
 limits for the performance of tasks. These rates were first
 
 THE LABOR BUDGET 169 
 
 established in connection with factory labor and were used 
 to speed up production. There seems to be no good reason 
 why such standard rates with proper modifications might 
 not be applied to all departments of a business and used 
 very extensively in the enforcement of administrative con- 
 trol. It is interesting to note that a large manufacturing 
 firm in the East is now scheduling very definitely its sales- 
 men and making a careful study of how each employs his 
 time with the intention of developing standards by which 
 to judge salesmen's activities. 
 
 Standard labor rates serve three useful purposes: 
 
 1. They can be used in the estimating of costs and in the establish- 
 
 ment of prices on special orders and contracts. 
 
 2. They serve as a means of judging the efficiency of workmen. If 
 
 the rates are fair and equitable, a workman's efficiency can be 
 judged by his ability to reach the standard. In many cases 
 his wages are based on the standard, so that he has an incen- 
 tive to reach or exceed the standard if possible. 
 
 3. They give important service in estimating labor requirements 
 
 and in formulating a labor program. 
 
 Where standard rates of labor to be used in the man- 
 ufacture of each product are established, the task of prepar- 
 ing the labor budget is greatly lessened. It must be remem- 
 bered, however, that varying conditions may make the 
 actual labor cost more or less than the standard, and it is 
 the actual as near as it can be estimated which is necessary 
 for budgetary control purposes. 
 
 Relation of Labor Requirements to Production and Labor Policies 
 The preceding discussion has explained the method of 
 determining the amount of labor required to produce the 
 amount of goods called for by a production program based 
 on a sales program. It might seem from the discussion that 
 it is the intention to advocate that the production program 
 always fluctuate in harmony with the sales program and
 
 lyo BUDGETARY CONTROL 
 
 that the labor supply be made to fluctuate with the produc- 
 tion program. If this could be done, the determination of 
 the labor requirements, once the sales requirements were 
 obtained, would be merely a mathematical process. But 
 the formulation of a labor program, which is a prerequisite 
 to the maintenance of an effective working force, is not so 
 simple as this. In the establishment of a labor program it 
 is necessary to consider not only the immediate but also the 
 long-time labor requirements of a firm. This leads to a 
 consideration of both the production and labor policies of 
 the firm in question. One or two simple illustrations will 
 assist to make this more apparent. 
 
 Previous mention has been made of the fact that the 
 production program may not be varied in all cases to cor- 
 respond with the fluctuations in the sales program. It may 
 be impossible to control the fluctuations in the sales, al- 
 though some businesses, notably department stores, have 
 done much towards accomplishing this end. But the vol- 
 ume of production is under the control of the firm, and 
 within the limits of its resources can be varied to suit its 
 needs. It may be found more profitable to maintain a 
 uniform production, building up during the dull season an 
 inventory to meet the excess demands of the rush season, 
 than to cause the production program to fluctuate in har- 
 mony with the sales program. This procedure may provide 
 for a better use of equipment and make possible the main- 
 tenance of a more stable and better trained working force. 
 If this policy is to be followed it must be kept in mind when 
 the personnel department is formulating its labor program. 
 It is apparent that the labor program must be based on 
 a "long look ahead " rather than on a "flash-light glimpse" 
 of the present condition. 
 
 Some business firms provide homes for the use of their 
 workers, charging in many cases a nominal rent for their
 
 THE LABOR BUDGET 171 
 
 use. In some cases the business is located in a village and 
 most of the inhabitants work for the firm ; and in case work- 
 men are laid off during dull seasons, it is necessary that they 
 journey to another village to obtain work. If they remain 
 in the village it is necessary for them to continue to live on 
 the property of the firm unless they suffer considerable 
 hardship. In many cases the workmen regard the houses 
 in which they live as their permanent homes. In fact one 
 of the reasons for their being willing to work for the small 
 wages they usually receive in these cases is because they 
 expect to have a permanent home. In such cases a firm 
 may attempt to provide some work for all its employees 
 during each month of the year if possible. If necessar^^ it 
 will reduce wages or work the laborers in shifts, so that each 
 may work part time, but it will attempt to retain the full 
 personnel on the pay-roll, so long as it expects to need them 
 for future use. In carrying out this policy, it may pile up 
 inventory during dull seasons which will be used during the 
 rush seasons. 
 
 In addition, in the formulation of its labor program each 
 firm must consider its relations to labor unions, the state 
 labor laws, and similar agencies. More than all, it must 
 consider its attitude towards its workmen, its welfare pro- 
 gram, and the long-run policy it desires to maintain in 
 handling its labor force. 
 
 Like any other administrative device, a budget should 
 not restrain the management from exercising its legitimate 
 functions; it should only aid the management by providing 
 information which will serve as the basis for judgments. 
 This is particularly true of the labor budget. 
 
 The Pay-Roll Budget 
 
 The personnel department contracts not only for the 
 personnel which is necessary to perform the operations
 
 172 BUDGETARY CONTROL 
 
 required in the manufacture of the product of the firm, but 
 also the personnel which is necessary to perform the supple- 
 mentary operations which are required in order that the 
 manufacturing operations can be performed. For instance, 
 it employs janitors and repair men as well as machine opera- 
 tors. In addition it employs personnel for all the other 
 departments of the business as well as for the production 
 department. 
 
 In consequence of this situation it is the practice of some 
 firms to prepare a pay-roll budget which takes the place of 
 the labor budget. The pay-roll budget includes an estimate 
 of the entire pay-roll of the company. The pay-roll budget 
 probably arose from the practice of having the labor budget 
 prepared by the pay-roll department. This department 
 found it easier to make an estimate of its total pay-roll than 
 to analyze it and present separate estimates. 
 
 Reasons Against Employment of Pay-RoU Budget 
 
 It is the opinion of the author that usually this plan is 
 not desirable for the following reasons: 
 
 1. It is very apt to lead to inaccurate estimates. It is 
 so very easy to add or substract a certain amount from the 
 total and report the result as an estimate. The method 
 usually results in the employment of ratios between pay- 
 roll and volume of business, and such comparisons are un- 
 satisfactory because the pay-roll does not fluctuate in pro- 
 portion to volume of business. 
 
 2. The pay-roll budget is apt to make difficult an accu- 
 rate check on the estimates. If it contains the cost of the 
 entire pay-roll of the company, it is difficult to determine the 
 cause of the variations between the actual and estimated, 
 which are bound to occur. Furthermore, the amounts 
 shown on the budget will not correspond with the amounts 
 shown in the records, since the pay-roll in the latter is classi-
 
 THE LABOR BUDGET 1 73 
 
 fied by departments, and in the production department 
 direct labor is recorded under labor, while indirect labor is 
 recorded as manufacturing expense. 
 
 3. It is desirable to have each functional department 
 prepare an estimate of its total expense, including its pay- 
 roll. This procedure requires the head of each department 
 to consider what his costs have been and what he plans they 
 will be in the future. This is one of the important purposes 
 of the budgetary program, and the budgetary procedure 
 should be designed so as to obtain this result. 
 
 The present chapter is restricted to a consideration of 
 the "direct" labor employed in production. "Indirect" 
 labor will be considered in connection with the manufac- 
 turing expense budget, and the personnel cost of the func- 
 tional departments will be considered in connection with the 
 budgets of these departments. 
 
 Preparation of Labor Budget — Approved Procedure 
 
 After the production budget is prepared, the production 
 department can prepare an estimate of the labor required 
 to produce the goods called for by this budget. If a well- 
 developed planning department is in operation, it will have 
 available data which will make it possible to prepare this 
 estimate without difficulty. In such cases it is customary 
 to delegate the preparation of the labor budget to the plan- 
 ning department. After it is prepared it is carefully exam- 
 ined by the production manager and his staff. If there is 
 not a planning department in operation, the estimate of 
 labor may be prepared by the staff of the production depart- 
 ment, the pay-roll department, or the personnel department. 
 In any case it must be approved by the production manager. 
 After the estimate of labor requirements is approved by 
 the production department, it will be transmitted to the 
 personnel department, which will make an estimate of the
 
 174 BUDGETARY CONTROL 
 
 cost of the labor required. In some cases the personnel de- 
 partment makes an estimate of the labor requirements and 
 then transmits the estimate to the pay-roll department, 
 where the estimated cost is entered. Thereafter the esti- 
 mate of labor requirements is returned to the personnel 
 department for review. 
 
 Less Satisfactory Methods of Preparing Labor Budget 
 
 The foregoing procedure is not always followed. In 
 some businesses the production budget is sent to the per- 
 sonnel department, or to the pay-roll department, which 
 must estimate both the labor required and the cost of secur- 
 ing it. It is the author's opinion that the estimate of labor 
 required can best be made by the production department, 
 since it usually has available the information necessary for 
 its preparation. 
 
 If the personnel department collects the data necessary 
 to make this estimate, it will usually lead to a duplication 
 of data, since the same information will be collected and 
 recorded by both the production and personnel depart- 
 ments. It is admitted that some of this information is 
 useful and even necessary for the personnel department, 
 but it is not necessary to have it in as great detail as is 
 required for making the estimate of labor. 
 
 In other businesses the production department prepares 
 both the estimate of labor requirements and the estimate of 
 labor costs. This procedure leads to equally undesirable 
 results. The personnel department must have available 
 for its own use the data necessary for the preparation of the 
 estimate of labor costs, and if this task is undertaken by the 
 production department, it will be necessary for it to collect 
 duplicate data which it is not as well qualified to interpret 
 and use as is the personnel department. Furthermore, the 
 personnel department may rightly resent what it regards
 
 THE LABOR BUDGET 
 
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 176 BUDGETARY CONTROL 
 
 as an undue usurpation of its functions. One of its primary 
 functions is to collect data on labor requirements and form- 
 ulate a labor program which will meet the needs of all the 
 departments and result in the most profit to the company. 
 "Labor program" is here used in a broad sense, and does 
 not refer to estimating labor costs only. If the production 
 department prepares the estimate of labor cost, it may be 
 such as to conflict with the general program of the personnel 
 department. 
 
 Form of Labor Budget 
 
 The author has found the form shown in Figure 12 of 
 service in the presentation of the labor budget. It can be 
 modified to suit the needs of each particular case. This 
 form is intended for use in presenting the labor budget to 
 the budget committee. The production and personnel de- 
 partments will need more detailed reports in preparing the 
 estimate. The illustration is designed for -use when the 
 budget period is three months in length. If the period is 
 for a longer period of time, additional columns can be added. 
 
 If the estimate is prepared in this form, it will be possible 
 for the budget committee to determine whether the current 
 estimates are in excess of past expenditures, and, if so, what 
 the cause of the increase is. If this increase is deemed 
 unjustifiable, the estimate can be revised accordingly. 
 The value of the monthly distribution to the treasurer in the 
 preparation of his cash budget is quite evident. 
 
 It may be desirable to show an analysis of the labor costs 
 of each department. At least the production and personnel 
 departments will employ such an analysis. 
 
 Approval by Budget Committee 
 
 After the estimate of labor is approved by both the pro- 
 duction and personnel departments, it will be forwarded to
 
 THE LABOR BUDGET 177 
 
 the executive in charge of the budget procedure. He will 
 transmit it, with such recommendations as he may think 
 necessary, to the budget committee. The latter will con- 
 sider it in connection with the other budgets submitted to 
 it, and will make revisions if it thinks they are necessary. 
 It will return the budget as approved to the executive in 
 charge of the budget procedure, who will transmit a copy of 
 it to the production and personnel departments. 
 
 Control of Labor Budget 
 
 The labor budget, like all other budgets, must be kept 
 under effective control, and this involves the preparation at 
 frequent intervals of reports which provide a comparison 
 between the actual and estimated performance. It is 
 usually desirable to have a monthly report which shows 
 these comparisons. A report in the form sho^\^l in Figure 
 13 will serve this purpose. 
 
 The purpose and value of the information shown in each 
 column of this report should be evident. The executives 
 should study this report, giving particular attention to the 
 effect of any variations in the production program on the 
 labor cost. 
 
 This report will be submitted to the executive in charge 
 of the budget procedure, and will be transferred by him to 
 the budget committee with such recommendations as he 
 may think desirable. By a study of this report the budget 
 committee will be able to make such revisions as are neces- 
 sary in the labor budget for the remainder of the period. 
 These revisions will be communicated to the personnel and 
 production departments by the executive in charge of the 
 budget procedure. 
 
 12
 
 CHAPTER XII 
 
 THE WELFARE EXPENSE BUDGET 
 
 Relation of Welfare Expense to Labor Cost 
 
 The preceding chapter has dealt with the method of esti- 
 mating and controlling the cost of labor used in manufac- 
 turing operations, in so far as that cost is represented by 
 the wages paid to workmen. But all firms incur some 
 expense in the securing and maintenance of the labor force, 
 in addition to the compensation paid to the members of this 
 force. This expense for the purpose of budget making may 
 be divided into two groups : 
 
 1 . " Welfare ' ' expense 
 
 2. Administrative expense of the personnel department 
 
 It is the purpose of the present chapter to treat of the 
 first of these, while the second will be discussed in Chapter 
 XVIII in the treatment of the expense budgets. It is not 
 always easy to make a clear line of demarcation between 
 these two classes of expenses, but the following discussion 
 will serve to show certain distinguishing features between 
 the two. 
 
 Practically all large industrial and mercantile firms now 
 place considerable emphasis upon desirable working condi- 
 tions for their employees as a basic factor in labor expense 
 control. The welfare of the employee is studiously consid- 
 ered from the standpoint of his loyalty to the employer as 
 well as from the standpoint of his efficiency as a productive 
 workman. His health and personal habits have an impor- 
 tant bearing also upon his availability for service now and 
 in the future as a trained employee. 
 
 178
 
 THE WELFARE EXPENSE BUDGET 1 79 
 
 Classification of Welfare Expense 
 
 The large corporations, under their welfare plans, incur 
 various kinds of expense. Programs for better conditions 
 of employment usually include at least medical inspection, 
 first-aid medical services, and restrooms for women em- 
 ployees. These programs may include any or all of the 
 following classes of expense : 
 
 1. Medical inspection 
 
 2. Medical attendance and hospital expense 
 
 3. Payment of wages while on sick leave 
 
 4. Dental inspection and dental work 
 
 5. Inspection of the eyes and fitting of glasses 
 
 6. Picnics, dances, and other entertainments 
 
 7. Night classes in English, civics, arithmetic, and other elemen- 
 
 tary subjects 
 
 8. Tuition in evening schools of commerce 
 
 9. Restrooms 
 
 10. Gymnasiums 
 
 11. Prizes for athletic and literary contests 
 
 12. Lunches free or at cost 
 
 13. Books and magazines 
 
 14. Contributions to savings fund 
 
 15. Contributions to pension and old-age retirement funds 
 
 The foregoing list is intended to be suggestive of the 
 kinds of expenditures which may be incurred in improving 
 the working conditions of the employee. It is not the func- 
 tion of this discussion to pass judgment on the nature of this 
 work or the kind of expenditures which it should include. 
 That problem lies in the field of personnel management. 
 But granting that certain kinds of expenses exist, it Is the 
 province of the budgetary program to effect their control. 
 It is also unnecessary to enter here Into a discussion of the 
 title by which these expenses should be known. There are 
 some who object to the term "welfare expense" because it 
 is thought that It has an Improper connotation. From
 
 I80 BUDGETARY CONTROL 
 
 the viewpoint of our problem the title of this expense is 
 immaterial. 
 
 Relation of Welfare Expense to Functional Departments 
 
 The welfare expenses are largely impersonal. The basis 
 for welfare work must be democratic if it is to result in in- 
 creased loyalty and self-improvement on the part of the 
 average employee. This requirement leads to the opening 
 of all the advantages to each employee alike, whether the 
 employee is an ofhcer of the company or a machine helper. 
 It is sometimes necessary to make exceptions to this rule, 
 but they should be as few as possible. All employees alike 
 are required to submit to medical inspection, all employees 
 alike are given medical service, all are permitted to use the 
 gymnasium, and all share in the pension fund, although their 
 share may be affected by their previous earning power. 
 
 Because of this impersonal character of practically all 
 welfare expense, it is not possible to charge any particular 
 item of it as a part of the direct cost of a particular job or as 
 a direct charge to the expenses of a particular operating de- 
 partment of the business. It may be that more employees 
 of the production department avail themselves of the use of 
 the bowling alley than employees of the sales department, 
 but this does not warrant charging the major part of the 
 expenses of maintaining the bowling alley to production 
 expense. In most cases the clerical employees will make 
 greater use of the books and magazines than will the manual 
 laborers ; but so long as the publications are available for the 
 use of all the departments, they cannot be treated as an 
 expense of any particular department. 
 
 The independent nature of the welfare expense of any of 
 the departments is seen also if the purpose of the expense 
 is considered. For example, a physical examination of each 
 employee may be required to prevent possible poor health
 
 THE WELFARE EXPENSE BUDGET l8l 
 
 or breakdown of any necessary or trained employee. All 
 this is general expense. We cannot say accurately that any 
 part of this expense has been incurred for the benefit of a 
 particular laborer or even for the benefit of a particular pro- 
 ductive unit or operating department. All departments are 
 benefited by the maintenance of an efficient working force. 
 
 Again a part of welfare expense is incurred with the idea 
 of creating loyalty on the part of the employees towards the 
 company. It is desired that they should be stimulated to a 
 definite feeling of cooperative Interest in their fellow em- 
 ployees. Thus, the bowling club prize, awarded by the 
 president of the company to the winner of the individual 
 high score in the contest open to all employees, is by no 
 means to be charged directly to the department where the 
 winner is employed. 
 
 The foregoing discussion and illustrations should be 
 sufficient to show that welfare expense is general in nature 
 and is seldom particular to any employee or department. 
 The welfare expense budget is discussed in connection with 
 the several budgets prepared for manufacturing operations, 
 because it is in connection with manufacturing industries 
 that the administration of personnel has been most difficult 
 and the need for welfare work has been most felt; but it is 
 not intended to imply that this expense is primarily for the 
 benefit of the production department. In a manufacturing 
 business the bulk of the personnel will usually be in the pro- 
 duction department and the greatest fluctuations in the 
 number of personnel will also occur here, so that in esti- 
 mating the amount of the welfare expense it is necessary 
 to give careful consideration to the production program. 
 
 Estimating Welfare Expense — Per Capita Cost Method 
 
 Welfare expense will be incurred in the case of any par- 
 ticular concern to the extent that the concern finds it profit-
 
 1 82 BUDGETARY CONTROL 
 
 able to improve Its conditions of employment so as (i) to 
 compete with other concerns as a place of continuous em- 
 ployment, and (2) to improve the efficiency of its workmen. 
 A business with a factory located in a country town will not 
 find it necessary to incur certain expenses to so great an 
 extent as will a business whose factory is located in a con- 
 gested tenement district. The former will incur less for 
 medical services and in the maintenance of sanitary condi- 
 tions. On the other hand, it may find it worth while to 
 maintain homes for its employees in order to attract a better 
 class of workmen to live in the semi-rural locality, and thus 
 incur an expense not common to industrial firms located in 
 cities. 
 
 There is no means by which welfare expense can be de- 
 termined exactly. It will vary with the number of employ- 
 ees, and will also vary from month to month and year to 
 year, given the same number of employees. For in- 
 stance, an epidemic may break out at any time which 
 will require additional expense for medical inspection and 
 service. 
 
 Perhaps the best method of estimating the amounts for a 
 budget on welfare expense is to determine the per capita 
 cost of each class of expense, and then to multiply the aver- 
 age per capita cost of past years by the estimated average 
 number of employees for the coming period. If the per 
 capita method is employed as a basis for estimating welfare 
 expense, it is desirable to have a report showing the amount 
 of each class of expense in past years. Then if statistics 
 can be had as to the average number of employees in past 
 years, the amount of money spent, say, for doctors and 
 nurses in 192 1, can be divided by the average number of 
 employees for 1921 to obtain the per capita expense during 
 this year. If it is thought that the same per capita cost 
 should be maintained during the year 1922, the per capita
 
 THE WELFARE EXPENSE BUDGET 183 
 
 cost of 1 92 1 will be multiplied by the estimated average 
 number of employees for 1922 to obtain the estimated total 
 expense for 1922. I twill be noticed that by this method it is 
 assumed that the expense is for the benefit of all employees 
 alike. It would seem that this is proper, since doctors and 
 nurses are employed not for the benefit of any particular 
 employees, but for the welfare of all as a productive group. 
 
 Points to be Allowed for in Estimating Welfare Expense 
 
 It may be desirable to work out two per capita figures 
 for the past year: first, a per capita cost of all employees; 
 and second, a per capita cost based on the number of only 
 those employees who have been directly benefited by the 
 kind of welfare expense under consideration. Thus the per 
 capita cost in 1921 for entertainments should be the per 
 capita cost for all employees whether or not they have 
 attended the entertainments. The per capita cost should 
 be figured on the average number of employees, since enter- 
 tainments are open to all employees. As a secondary figure, 
 it mc.y be useful to have the per capita cost of entertainment 
 expense based on the actual number of employees who have 
 attended the entertainments. 
 
 If the plant is subject to periodical shut-downs due to 
 irregular volume of business, or to seasonal strikes resulting 
 from adjustments of wage scales, or for other reasons, it will 
 be necessary to distinguish between (i) per capita average 
 for continuing expense, such as the salaries of the head sur- 
 geon, the head nurse, the librarian, etc., and (2) per capita 
 per diem average for all expenses that are incurred only 
 during the days of actual plant operation. For example, a 
 per capita per diem limitation may be set on free lunches, 
 gymnasium operating expenses, and similar expenses which 
 are incurred day by day according to the fluctuating num- 
 ber of employees.
 
 184 BUDGETARY CONTROL 
 
 It Is necessary to use the average number of employees 
 In arriving at per capita cost. In any large industrial or 
 mercantile business there will be a larger number of individ- 
 ual names that have appeared on the pay-rolls during the 
 year than the average number continuously employed. 
 Thus one man may be employed on a job from January to 
 March inclusive, another man from March to August inclu- 
 sive, and still another man from September to December 
 inclusive. This gives three employees, if we are consider- 
 ing the total number of employees actually engaged during 
 the year. From the standpoint of the average number of 
 employees, these three men constitute only one employee, 
 since taken together their services have equaled the serv- 
 ices of one man employed continuously throughout the 
 year. 
 
 If it is possible to do so, labor turnovers should be figured 
 from two different standpoints. First, the turnover of 
 labor on account of irregular volume of business should be 
 determined. For example, a thousand men may be dis- 
 charged in May simply because there is no work for them, 
 and a thousand new men may be employed in September, 
 because a new volume of work has been obtained. This 
 labor turnover is due to Irregularity of volume of sales and 
 production, and should be distinguished from the labor 
 turnover caused by dissatisfaction of employees. 
 
 In estimating the average number of employees for a 
 particular year, consideration should first be given to the 
 sales program of that year as an index to the labor program 
 that will probably result from irregular volume of business. 
 The result thus obtained must be modified by consideration 
 )f the labor turnover in the year In question, that may pre- 
 sumably result from nonnal dissatisfaction of Individual 
 employees or from strikes and other manifestations of labor 
 jnrest.
 
 THE WELFARE EXPENSE BUDGET 
 
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 l86 BUDGETARY CONTROL 
 
 Preparation of "Welfare Expense Budget 
 
 The control of welfare expense or the expense of condi- 
 tions of employment, like the control of any other activity in 
 the business, demands first of all that a budget, or estimate, 
 or program, or quota, be set up, indicating the plans for 
 welfare expense for the coming period. This budget should 
 show information for each distinctive class of welfare 
 expense. For instance, it may show the welfare expense 
 classified under the fifteen headings given on page 179. In 
 form the welfare expense budget may be as shown in Figure 
 14. The purpose of each of thecolumn headings is apparent. 
 
 The welfare expense budget should be prepared by the 
 personnel department. It should be based on the general 
 plans of the business as shown by its various departmental 
 estimates, and should be in harmony with the general poli- 
 cies which have been adopted by the company. The per- 
 sonnel manager should discuss with the budget committee 
 prior to the preparation of the estimate of welfare expense, 
 any new plans which he desires to inaugurate, so that he 
 may have the benefit of the judgment of the principal execu- 
 tives of the company in its preparation. 
 
 The personnel manager will transmit the welfare budget 
 with his approval to the executive in charge of the budget 
 procedure. The latter will transmit it to the budget com- 
 mittee with any comments he thinks necessary. The 
 budget committee will make any revisions which it may 
 think are required and return the budget, with its approval, 
 to the executive in charge of the budget procedure. The 
 latter will return it to the personnel manager. 
 
 Control of Welfare Expense Budget 
 
 The budget on welfare expense is effective only if a 
 monthly report is prepared, showing the information given 
 in the seven columns of the welfare budget contrasted with
 
 THE WELFARE EXPENSE BUDGET 1 87 
 
 actual number of employees reported, and actual amount of 
 expense for each class of welfare expense, and actual per 
 capita cost. This report may be made in the form shown 
 in Figure 15. 
 
 It is quite likely that the actual per capita will vary to a 
 considerable degree from the estimated per capita, but the 
 budget report does furnish a basis for planning welfare 
 expense and also offers the means whereby the management 
 responsible for welfare expense can keep such expense 
 within reasonable control. 
 
 The monthly report will be submitted by the executive 
 in charge of the budget procedure to the budget committee, 
 and the latter may, if it thinks this report shows the neces- 
 sity, make revisions in the welfare expense budget. The 
 executive in charge of the budget procedure will communi- 
 cate these changes to the personnel manager.
 
 CHAPTER XIII 
 
 THE MANUFACTURING EXPENSE BUDGET 
 
 Need for Estimate of Manufacturing Expense 
 
 After the finished goods which are to be produced during 
 the budget period are determined by means of the pro- 
 duction budget, it is necessary to estimate the manufactur- 
 ing expenses which are necessary to produce these goods. 
 This estimate is necessary in order — 
 
 1. That the various departments which are responsible for securing 
 
 the "services" which compose manufacturing expense, may 
 make plans to have these services by the time they are 
 needed in production. The nature of these services and the 
 departments responsible for their procurement will be explained 
 later in this chapter. 
 
 2. That the treasurer may know the probable disbursements re- 
 
 quired by the manufacturing expense program and can plan 
 to obtain the funds needed for these disbursements. 
 
 3. That standard rates for manufacturing expense may be estab- 
 
 lished more accurately. The method of establishing such 
 rates is discussed later. 
 
 4. That the budget committee and the board of directors may be 
 
 able to see the financial requirements of the proposed sales 
 and production programs at the time they are submitted for 
 consideration, and that they may see the effect of the manu- 
 facturing expense cost on the estimated financial statements. 
 In addition they should be able to see the relation of the 
 volume of production to the manufacturing expense. The 
 significance of this relationship will be explained later in the 
 chapter. 
 
 The reader will notice that the estimate of manufactur- 
 ing expense combined with the estimate of labor and the 
 estimate of materials constitutes the estimated cost of 
 
 188
 
 THE MANUFACTURING EXPENSE BUDGET 1 89 
 
 the manufactured product, since the elements of manu- 
 facturing cost are materials, labor, and manufacturing 
 expense. 
 
 Definition of Manufacturing Expense 
 
 The costs incurred in the production of the finished 
 product are divided into two broad classes, "direct" costs 
 and "indirect" costs. 
 
 Direct costs are payments or charges for labor and material 
 expended upon a definitely determined unit or product. Small 
 costs, however, are not charged directly to the product, even when 
 the latter can be determined, unless the increased accuracy of the 
 records justifies the clerical work entailed. It follows, therefore, 
 that indirect costs are those which cannot be charged economically 
 or directly to the product. An example of a direct cost is the cost 
 of the raw material in a chair. Indirect costs arise from the fol- 
 lowing sources: 
 
 1. Indirect material — good examples of which are rags used to 
 
 wipe off chairs and tools; or new tools used to replace those 
 discarded. 
 
 2. Indirect labor — for instance, wages of foremen who super- 
 
 vise the employees in several departments where chairs are 
 made. 
 
 3. Fixed charges — depreciation, taxes, insurance, etc. 
 
 Adherence to the above cost classification adds to the accuracy 
 of the records for this reason: By charging items directly to the 
 cost units (when economical), the remaining costs (indirect costs) 
 are less than if certain items legitimately "direct" were treated as 
 indirect costs. Indirect costs are distributed over the product in 
 as accurate a manner as possible, but such charging is less accurate 
 than direct charging. For instance, raw material can be accurately 
 measured and charged directly against the chair. The depreciation 
 of the equipment used in manufacturing the chair cannot be deter- 
 mined with any measuring de\ice. It must be estimated. Con- 
 sequently the total depreciation of equipment is distributed over all 
 units of product (chairs) made. Any charging, therefore, which 
 reduces the distributable costs, thereby increases automatically the
 
 190 BUDGETARY CONTROL 
 
 accuracy cf the cost records. The growing observance of the princi- 
 ple of direct — that is to say correct — charging has done much to 
 improve the exactness of cost accounting.^ 
 
 It is the purpose of the present chapter to treat under 
 the heading of "manufacturing expenses " the items termed 
 "indirect costs" in the foregoing quotation. "Indirect 
 expenses," "burden," and "overhead" are other tenns by 
 which these expenses are known. 
 
 Components of Manufacturing Expense 
 
 The items which compose manufacturing expense will 
 vary in different businesses, depending on the nature of 
 their operations. The following are those which appear in 
 most cases: 
 
 1. Indirect material 8. Maintenance 
 
 2. Supplies 9. Depreciation 
 
 3. Indirect labor 10. Power 
 
 4. Supervision 11. Heat and light 
 
 5. Inspection 12. Small tools 
 
 6. Experimental work 13. Taxes 
 
 7. Repairs 14. Insurance 
 
 The foregoing items are sufficient to indicate the nature 
 of those which generally compose manufacturing expense. 
 The reader can probably supply other items of manufactur- 
 ing expense from his experience. Some accountants would 
 combine such items as "indirect labor," "supervision," and 
 "inspection." From the viewpoint of estimating their 
 amount, it is desirable to have them separate. 
 
 Classification of Manufacturing Expense 
 
 It is usually desirable that manufacturing expense be 
 classified by departments and that subclassifications be 
 maintained for each department. Detailed departmental 
 
 ' Jordan and Harris, Cost Accounting, page 23.
 
 THE MANUFACTURING EXPENSE BUDGET 19I 
 
 classifications are necessary as a basis for effective control. 
 The departmental classification makes possible the fixing 
 of responsibility, and the classification within the depart- 
 ment makes possible the meeting of the responsibility. It 
 also affords a more comprehensive basis for judging the 
 success with which the responsibility has been met. 
 
 To illustrate concretely, the X Manufacturing Company 
 has four departments and manufactures one commodity. 
 In 1 91 8 the unit cost of the commodity was $12, while in 
 1919 it was $15. In attempting to find the cause of the 
 increase, the first analysis will be to determine how much 
 of the total cost is material cost, how much is labor cost, 
 and how much is manufacturing expense. This analysis 
 shows that the manufacturing expense per unit was $3 in 
 1 91 8, and $4 in 1919. An analysis of the cost of manu- 
 facturing expense by departments for the two years shows 
 the following: 
 
 Year Dept. A 
 
 1918. $.80 
 
 1919 1 .20 
 
 This analysis shows that the principal increases in 
 manufacturing expenses are in Departments A and D. 
 The responsibility for the increase is fixed on specific de- 
 partments, but it is now necessary to determine whether 
 the increase is due to inefficiency of the departmental heads 
 or to causes over w^hich they had no control. To ascertain 
 this, it is necessary to examine the analysis provided by 
 the departmental accounts. 
 
 This examination shows that in Departments A and D 
 a large amount of miscellaneous supplies and indirect labor 
 is necessary. Owing to the increase in the price of supplies 
 and labor during the year 191 9, the manufacturing expense 
 of these departments was increased. If it is shown that 
 
 Dept. B 
 
 Dept. C 
 
 Dept. D 
 
 $.90 
 
 $.60 
 
 $.70 
 
 ■95 
 
 ■65 
 
 I .20
 
 192 BUDGETARY CONTROL 
 
 approximately the same quantity of supplies and labor was 
 used as previously but its price had greatly increased, the 
 departmental foreman cannot be held responsible. If, on 
 the other hand, it is found that the increase in manufactur- 
 ing expense in these departments was due to the use of an 
 increased quantity of supplies and labor per unit of product, 
 there is then circumstantial evidence of inefficiency on the 
 part of the departmental foreman, and he should be re- 
 quired to show cause for the condition. This simple 
 illustration serves to show the necessity for a detailed 
 analysis of the expenses of each major group if responsi- 
 bility is to be fixed and variations explained. 
 
 A proper classification of expenses is of importance both 
 from the viewpoint of accounting records and budget reports. 
 
 Determination of Manufacturing Expense Requirements 
 
 The estimate of manufacturing expense, like the esti- 
 mate of materials and of labor, is based on the estimate of 
 production. It is somewhat more difficult to correlate the 
 manufacturing expenses with the production, than it is to 
 correlate materials and labor with production. This is 
 due to two reasons: 
 
 I. The various items which go to make up the manu- 
 facturing expenses are secured from various sources and 
 their procurement is not centralized under one individual, 
 like materials and labor. For instance, the indirect mate- 
 rial is obtained by the purchasing agent, the indirect labor 
 by the personnel department, the taxes are paid by the 
 treasurer, the repairs made by the maintenance depart- 
 ment, and so on. This lack of centralized responsibility 
 makes it difficult to fix the duty for the preparation of the 
 manufacturing expense budget on those who are responsible 
 for the expenditures which result in the procurement cf the 
 "services" of which it is composed.
 
 THE MANUFACTURING EXPENSE BUDGET 193 
 
 2. Manufacturing expenses do not vary as a rule in 
 proportion to the variation in production. Usually they 
 do not increase or decrease as rapidly as production. This 
 is due to the fact that there are "fixed" charges which 
 are affected little if at all by the volume of production. 
 For instance, taxes and insurance on machinery will be 
 the same whether the machine is run at full or half capacity. 
 There are other charges such as depreciation and supervi- 
 sion which will be affected by the volume of production 
 but not in proportion. If production is sufficient to em- 
 ploy ten men in a department, it is necessary to have a 
 foreman, and the same foreman may be able to supervise 
 properly twenty men when production increases to the 
 point where they are needed. Because of this condition 
 it is impossible to estimate manufacturing expenses in lump 
 by means of the ratio between manufacturing expense and 
 production, if the production varies from one budget period 
 to another. 
 
 The cost accounting department is the one place where 
 all the items of manufacturing expense are shown. Its 
 records show what the manufacturing expenses of the 
 past periods have been and it is possible for it to prepare 
 on the basis of these records an estimate of what the manu- 
 facturing expenses will be. The estimate, of course, must 
 take into consideration the production program for the 
 period as shown by the estimate of production. To do this 
 properly the cost department should classify the manu- 
 facturing expenses as "fixed" and "variable." These 
 terms must be used with caution, for there are few if any 
 expenses which may be literally termed as "fixed." If 
 this classification is made, it will not be difficult to estimate 
 the fixed charges, but very careful attention must be given 
 to the effect of the production volume on the variable 
 charges. 
 
 13
 
 194 BUDGETARY CONTROL 
 
 It tends to simplicity and economy to have the estimate 
 of manufacturing expense prepared by the cost accounting 
 department. The chief objection to this procedure is that 
 this department is apt to place too much emphasis on the 
 statistics of past performance and too Httle emphasis on 
 the contemplated performance. One method of correcting 
 this difficulty is to have the cost department classify its 
 estimate so as to show the expenses to be incurred by each 
 unit or department, and then have each unit or department 
 approve that part of the estimate for which it is responsible. 
 For instance, the purchasing department could approve the 
 estimate on indirect materials, the personnel department 
 the estimate on indirect labor, the treasurer the estimate on 
 taxes and insurance, and so on. 
 
 It is, of course, possible to have each separate unit or 
 department make an estimate of that part of the manu- 
 facturing expense for which it is responsible, and then 
 have these combined to make up the complete estimate. 
 The separate estimates may be checked against the ac- 
 counting records to test their accuracy. This method 
 requires a great amount of care in getting the necessary 
 information needed by each department for making its 
 estimate and in seeing to it that each prepares the estimate 
 properly. When it is possible to do so, there are decided 
 advantages in having the estimate of manufacturing ex- 
 pense prepared by the staff of the production department, 
 since this department is responsible for its enforcement. 
 The only disadvantage of this procedure is that this 
 department often does not have the data to make possible 
 the preparation of an accurate estimate. 
 
 Distribution of Manufacturing Expenses 
 
 One of the most difficult problems with which engineers 
 and accountants have had to deal in the attempt to as-
 
 THE MANUFACTURING EXPENSE BUDGET I95 
 
 certain costs of manufactured product, is the allocation of 
 the manufacturing expenses to the various classes or units 
 of product. This problem gives rise to two questions: 
 
 1. What expenses should be allocated to the product? 
 
 2. What method should be employed in allocating these expenses? 
 
 For many years accountants as a whole assumed that 
 all manufacturing expenses should be allocated to the 
 product and therefore gave their undivided attention to the 
 answering of the second question. 
 
 A number of methods of allocating manufacturing ex- 
 penses were developed. These ranged from the simple 
 method of using a percentage on direct labor cost, to the 
 complex method of using a machine rate plus the "supple- 
 mentary" rate. The reader is doubtless familiar with 
 these various methods since they have been well explained 
 in many texts on cost accounting and articles in magazines.^ 
 
 The purpose of all these methods as originally developed 
 is to allocate as accurately as possible all the manufacturing 
 expenses of a period to the goods produced during that 
 period. During recent years engineers and accountants 
 have come to realize that it may not be desirable to allocate 
 all the manufacturing expenses to the product produced. 
 No doubt they were first led to see this by the fact that if 
 all expenses during a period of depression are charged to 
 the product produced during that period, the cost of the 
 product is exorbitant. It is easy to see that if a plant is 
 running at 60 per cent capacity and all the fixed charges 
 of the plant are allocated against the 60 per cent of normal 
 production, the costs will be greatly increased. If these 
 costs are used as a basis for establishing sales prices, the 
 
 ' Those readers who may desire a discussion of the various methods of distributing overhead 
 may well read one or more of thj following: Jordan and Harris, Cost Accounting; Nicholson 
 and Rohrbach, Cost Accounting; Scoville, Cost Accounting and Burden Application; Eggleston 
 and Robinson, Business Costs; Church, Manufacturing Accounts and Costs.
 
 196 BUDGETARY CONTROL 
 
 competitors are very apt to get the business; and as sales 
 fall off there will be a further decrease in production with a 
 further increase in cost, with the consequent increase in 
 sales price, which results in a decrease in sales, and so on 
 around the circle. 
 
 Faced by this situation, accountants and engineers real- 
 ized the necessity of developing some method of handling 
 manufacturing expenses which would prevent the charging 
 to product of expenses which were not the result of the 
 production of this product. To this end, predetermined or 
 standard rates were established by which the product was 
 charged only with the same amount of expenses which it 
 would have been charged if the plant was running at its 
 normal capacity. In the establishment of normal capacity 
 the production of past years when the plant was operating 
 under what was thought to be normal conditions was taken 
 as a basis. The manufacturing expense not absorbed by 
 the standard rates was charged direct to the profit and loss 
 account. Those who are interested in the historical de- 
 velopment of the use of the standard rate will be interested 
 in reading pages 397-399, "Cost Accounting," by Jordan 
 and Harris. 
 
 Relation of Standard Rates to Manufacturing Expense Budget 
 
 From the viewpoint of administration, the importance 
 of the standard rates for manufacturing expense is obvious. 
 These standard rates may also be of considerable significance 
 from the viewpoint of budgetary control. It has been 
 pointed out in the discussion of materials and labor, that 
 if standard rates have been set, it is only necessary to 
 multiply these by the quantity of finished goods called 
 for by the production budget to obtain the estimate of 
 materials or estimate of labor. If standard expense rates 
 have been set, a similar procedure may be followed in pre-
 
 THE MANUFACTURING EXPENSE BUDGET 197 
 
 paring the estimate of manufacturing expense. The 
 standard expense rate for each product may be multipHed 
 by the quantity of this product called for in the production 
 budget in order to obtain the estimated manufacturing 
 expense. If the product passes through two or more de- 
 partments, it will probably be necessary to use a different 
 rate for each department. It is obvious that the actual 
 expenses may be greater or less than the standard, and this 
 variation must be given consideration in preparing the 
 estimated statement of profit and loss and the financial 
 budget. 
 
 One objection to this method from the viewpoint of 
 administrative control, is that if the production varies in 
 quantity, the standard rate should be made to vary also. 
 In the establishment of standard costs it has been the 
 practice of accountants to select one or more periods during 
 which they think there has been normal production, and 
 use the costs of these periods as standard costs, or at least 
 to regard the production of these periods as standard pro- 
 duction and determine the standard costs on the basis of 
 the quantity of production. For the purpose of distribut- 
 ing the costs of production evenly over all periods and 
 thereby determining a uniform cost, there is decided merit 
 in this method. It would seem, however, from the view- 
 point of administrative control, that it would be much 
 more accurate to have the standard costs based on the 
 anticipated production of the period under consideration. 
 
 The manufacturer does not care so much to know how 
 his costs compare with what they should be if he produced 
 the quantity which he produced during some previous 
 period, as he desires to know: 
 
 I. At the beginning of the period, what his costs will be if he 
 manufactures what he plans to manufacture during the 
 period.
 
 198 BUDGETARY CONTROL 
 
 2. During the period, how his actual costs compare with what he 
 
 estimated they would be. 
 
 3. At the end of the period, why there is a variation between the 
 
 estimated and the actual, if such a variation exists. 
 
 It is not intended to imply that the use of standard rates 
 as a means of equalizing costs may not be desirable, but 
 only to emphasize that standard costs based on past pro- 
 duction may not give the manufacturer the infonnation 
 he most needs in judging the desirability of contemplated 
 plans or of controlling these plans after they are put into 
 operation. 
 
 Relation of Budget Program to Standard Rates 
 
 If the manufacturing expenses are allocated by means 
 of the "machine rate," the estimated activity of the plant 
 can be given effect in the establishment of the standard 
 machine rates. Mr, E. O. Sommer in Industrial Manage- 
 ment, January, 1920, discusses one method by which this is 
 done in the following quotation : 
 
 The object in establishing a machine hour rate is to determine 
 the cost of running a machine one hour. This can be done by: 
 
 1. Classifying and dividing the machines into units of like opera- 
 
 tion. 
 
 2. Estimating the percentage of activity at which the plant is 
 
 expected to operate. 
 
 3. Determining the operating expenses of each unit for a given 
 
 period. 
 
 In classifying machines, the department may be taken as a unit 
 if all the machines perform the same operation ; should, however, the 
 department include machines of unlike operation, we shall have to 
 go a step further and subdivide the department into various 
 machine groups, each machine in a group perfonning the same 
 operation. This subdivision may lead us so far as to consider a 
 single machine as a unit. 
 
 Thus, having classified the processing machines of the plant 
 into units, our concern is to collect all expenses which will be incurred
 
 THE MANUFACTURING EXPENSE BUDGET 199 
 
 in the operation of these individual units during a given period. 
 These expenses we may place into two main groups: 
 
 1. Comprising such items as can be directly charged against 
 
 certain units, as labor, floor space, current repairs, etc., 
 necessary for the operation of that unit. 
 
 2. Representing indirect expenses, which although they are 
 
 largely direct charges against the department, still cannot be 
 allocated to individual units, but are to be prorated on a suit- 
 able basis. 
 
 The percentage of acti\'ity, the third factor in the calculation 
 of predetermined rates, must be estimated with utmost care. If 
 we could assume that the plant will be able to work at and maintain 
 a 100 per cent activity, our task of calculating an hourly rate would 
 be a simple one. We would obviously divide the total working 
 hours of the week, or month, or year, into the total operating cost 
 for that period and arrive at a cost per hour. 
 
 Since, however, an activity of 100 per cent can hardly be realized, 
 a method must be found to ascertain the highest possible percentage 
 of activity (budget acti^ity) at which the management may expect 
 to keep the plant working. 
 
 Should the statement reveal that the plant will not be kept 
 operating at full capacity it will be the problem of the management 
 to investigate the cause of this condition and to find a way to bring 
 the activity to a normal level. Overequipment, decrease in the 
 demand for the product, or competition may account for reduced 
 activity. 
 
 Many expenses, as rent, depreciation, etc., accrue as time goes 
 on whether the machine be acti\e or idle, and the cost per hour will 
 naturally increase in the same proportion as the activity decreases. 
 To illustrate this, let us assume that these fixed overhead expenses 
 for a group of machines be $2,400 per year. Taking the year at 50 
 weeks of 48 hours each, or 2,400 working hours, the overhead would 
 be, at 100 per cent activity, $2,400 for 2,400 hours — $1 per hour; at 
 90 per cent activity, $2,400 for 2,160 hours — $i.il per hour; at 85 
 per cent activity, $2,400 for 2,040 hours — $1.18 per hour. 
 
 Should the budget activity for the ensuing period be 90 per cent, 
 it would be a serious error to distribute the operation cost on a 
 basis of 100 per cent activity. 
 
 Assume for example that the budget rate has been based on a
 
 200 BUDGETARY CONTROL 
 
 90 per cent activity and assume further that the actual activity 
 during a period be 90 per cent, all expenses then will be gradually 
 charged to the process, and the debit and credit side of the operating 
 account of this particular machine group will be in balance. 
 
 Should, however, the actual acti\ity fall below the percentage 
 used in the calculation of the machine rate (budget rate), there would 
 remain in the operating account a balance of imdistributed ex- 
 penses. This balance, which is due to curtailed production, 
 should not be debited to the production account either directly or 
 by increasing the budget rate, but be charged to profits. Any 
 increase over the budget activity would result in a credit balance 
 on the operation account and be a credit to profit and loss. 
 
 If a comparison of the actual and budget figures of the individual 
 cost factors should reveal that a fluctuation is due to change in 
 prices, a revision of the budget will be necessary and a new rate 
 must be determined. 
 
 A difference between the actual and budget activity would 
 indicate either an increase or decrease in the production. Since a 
 loss or gain due to fluctuations in the activity does not result from 
 the manner of operating a unit, any difference due to this cause 
 should be eliminated from the operation account. 
 
 This can be accomplished best by calculating an "idle time" 
 and "overtime" rate, which will represent the hourly cost of all 
 those charges which are incurred regardless of whether the machine 
 group is active or idle. We shall credit the operation account at 
 the "idle time" rate for the total idle hours in the budget period, 
 and charge an account called " Idle and Overtime." Inversely, we 
 shall debit the operation on account at the "overtime" rate for 
 the total active hours in excess of the budget hours, and credit the 
 "Idle and Overtime" account. A balance, left in this account at 
 the end of the budget period, which will then either show a loss due 
 to curtailed production or a gain due to increased activity, is closed 
 into the sales account. 
 
 The author does not intend to endorse the general 
 application of the particular method described in this 
 quotation, but the general principle it illustrates, that 
 standard rates should be related to the budget program, is 
 worth emphasis.
 
 THE MANUFACTURING EXPENSE BUDGET 201 
 
 Relation of Standard Rates to Volume of Production 
 
 It should of course be understood that in the setting of 
 standard rates based on estimated activity as explained in 
 the foregoing quotation, only the expenses which are prop- 
 erly applicable to the estimated production should be 
 included. 
 
 To accomplish this end the following procedure Is neces- 
 sary: 
 
 1. Determine the "normal" production of the plant. This of 
 
 course cannot be established with exactness. Generally speak- 
 ing, the normal production is that which would be accomplished 
 if the plant was operating so that the equipment as a whole 
 would be used at the greatest efficiency, at which it can reason- 
 ably be expected to be used. Normal production is usually 
 less than the maximum production. In determining normal 
 production, all parts of the equipment must be given careful 
 consideration. The old adage that "a chain is no stronger 
 than its weakest link" is approximately true of the equipment 
 of a plant. For instance, the melting department of a foundry 
 may be able to turn out sufficient melt to produce loo tons 
 of castings during a certain period, but if the moulding floor 
 is only large enough to make possible the moulding of 75 tons, 
 the normal capacity of foundry cannot exceed 75 tons. 
 
 2. Determine the manufacturing expenses which would be incurred 
 
 if the factory operated at normal capacity. 
 
 3. Determine the estimated production under the budget program 
 
 for the current period. 
 
 4. Determine the ratio of (3) to (i) and apply this ratio to (2), to 
 
 obtain the manufacturing expenses applicable to the current 
 period. Judgment will have to be used in doing this because 
 of the changing price level and other factorswhich may necessi- 
 tate modifications of this mathematical result. 
 
 5. On the basis of the result obtained in (4) and the estimated 
 
 activity of the current period, establish standard machine rates. 
 There is a difference of opinion as to what should be included 
 in the establishment of machine rates. It is not worth while 
 to enter into this discussion here.
 
 202 BUDGETARY CONTROL 
 
 Modification of the Standard Machine Rate Plan 
 
 The author fully realizes that there are many businesses 
 which will find it impracticable to follow the plan for estab- 
 lishing standard expense rates which has been outlined in 
 the foregoing discussion. Many manufacturing firms do 
 not find it expedient to establish machine rates at all. 
 Nevertheless the general principles developed by the fore- 
 going are applicable to all manufacturing firms, namely: 
 
 1. That the product of each period should be charged only with 
 
 the manufacturing expenses which contribute to its production, 
 and should not be burdened with the expenses arising from 
 unused capacity or idle time. 
 
 2. That a standard rate for charging the expense to the product 
 
 should be established and that the undistributed burden should 
 be charged directly to profit and loss. In case of production 
 above the normal, the excess should be credited to profit and 
 loss. 
 
 These principles can be applied regardless of the method 
 employed in the distribution of manufacturing expenses. 
 
 The "Miscellaneous" Expense Budget 
 
 In the discussion of the materials budget it was explained 
 that some businesses prepare a "stores" budget which in- 
 cludes both direct and indirect material, and in the discussion 
 of the labor budget it has been explained that sometimes a 
 "pay-roll" budget is prepared which includes both direct 
 and indirect labor. When this procedure is followed, two 
 of the large items of manufacturing expense are eliminated 
 from the manufacturing expense budget. In this case 
 there may be prepared a "miscellaneous" expense budget 
 which will include all the expenses other than indirect labor 
 and indirect material. 
 
 It is easier to prepare the miscellaneous expense budget 
 and to have the Indirect materials and labor included In the
 
 THE MANUFACTURING EXPENSE BUDGET 203 
 
 stores and pay-roll budget respectively. But It is doubtful 
 if this method gives as effective control of manufacturing 
 expenses. It is desirable that all manufacturing expense 
 be shown as a total and that standards be set up by which 
 to judge its amount. It is of course possible to set up these 
 standards independent of the budgets, but it is much more 
 effective if they are correlated so that each will check the 
 other. It is emphasized throughout this book that the 
 budgets should be prepared in terms of "units of responsi- 
 bility." The production department is responsible for all 
 the manufacturing expense and it is better that its total 
 amount be shown in one budget — the manufacturing expense 
 budget. 
 
 It is admitted that this procedure necessitates the 
 purchasing agent to make up an estimate of purchases for 
 the indirect materials included in the manufacturing expense 
 budget. Obviously the purchases of these materials will 
 not correspond with their consumption, and it is the latter 
 which is shown on the manufacturing expense budget. In 
 some cases the purchasing agent may find it necessary, in 
 order to secure an economical purchase, to buy at one 
 time sufficient to last for a considerable number of 
 periods. 
 
 For the purpose of the financial budget it is the disburse- 
 ments which are desired, but for the purpose of the esti- 
 mated balance sheet and estimated statement of profit and 
 loss the consumption is necessary. It is thought best, 
 therefore, to have the composite budget for manufacturing 
 expenses prepared, and to support this with the estimate of 
 purchases with the consequent disbursements. 
 
 Preparation of the Manufacturing Expense Budget 
 
 The method of preparing this budget has been indicated 
 by the preceding discussion. If it is assumed that the
 
 204 BUDGETARY CONTROL 
 
 original estimate of manufacturing expense is prepared by 
 the cost accounting department, a copy of it will be sent 
 by this department to each department responsible for 
 incurring expenditures under it. Each of these depart- 
 ments will indicate any changes which it thinks necessary, 
 and return the estimate with its approval to the cost de- 
 partment. The purchasing agent will attach to the esti- 
 mate of the cost department an estimate of purchases of 
 materials which are necessary to supply the indirect mate- 
 rials called for by the program. 
 
 The cost accounting department will prepare an esti- 
 mate for submission to the executive in charge of budgetary 
 procedure. On this estimate it will give effect to the 
 revisions which have been made by the various depart- 
 ments. If it does not approve of these revisions, it will 
 show both its estimates and the revisions, and make such 
 comments as it thinks appropriate. 
 
 If the original estimate is prepared by the production 
 department, it will follow the same procedure as outlined 
 above for the cost department. As previously explained, 
 it is desirable that the estimate be prepared by the produc- 
 tion staff, but it is more frequently prepared by the cost 
 department. 
 
 The executive in charge of budgetary procedure will 
 transmit the estimate received from the cost accounting 
 department or the production department to the budget 
 committee. He may accompany it with such comments 
 as he thinks appropriate. The budget committee will 
 consider the estimate of manufacturing expense in con- 
 nection with all the other estimates which it receives at the 
 same time, and will make any revisions it deems necessary. 
 It will transmit the estimate as approved to the executive 
 in charge of the budget procedure, who will transfer a copy 
 of it to each of the departments which are interested in its
 
 THE MANUFACTURING EXPENSE BUDGET 
 
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 206 BUDGETARY CONTROL 
 
 enforcement. In form the manufacturing expense budget 
 may be made as shown in Figure 1 6. 
 
 Control of Manufacturing Expense Budget 
 
 The cost accounting department will prepare monthly 
 reports showing a comparison between the actual and 
 estimated manufacturing expense. This report may be in 
 the form shown in Figure 17. The columnar headings on 
 this report are self-explanatory. 
 
 This report will be submitted to the executive in charge 
 of the budget procedure and will be transferred by him to 
 the budget committee. The committee will study this 
 report in connection with the other monthly reports, and 
 will make any revisions in the manufacturing expense budget 
 which it thinks are necessary as indicated by the reports. 
 Any changes it makes will be transmitted to the departments 
 concerned by the executive in charge of the budgetary 
 procedure. 
 
 In addition to the general report on the budget as a 
 whole, there should be prepared a separate report for each 
 department in the factory, showing a comparison between 
 the actual and standard performance. In case the general 
 report shows a wide variation between the actual and the 
 estimated expenditures, these detailed reports will provide 
 information which the executive in charge of the budget 
 procedure can use in explaining these variations to the 
 budget committee. 
 
 Review and Summary of Production Control 
 
 In Chapters IX to XIII, inclusive, an attempt has 
 been made to outline the procedure necessary to effect a 
 coordination of sales and production, and to prepare and 
 execute a production program. Previously in Chapters 
 V and VI the method by which the sales requirements
 
 THE MANUFACTURING EXPENSE BUDGET 207 
 
 are determined has been explained. In suminar>^ form 
 the procedure discussed in these chapters may be outlined 
 as follows : 
 
 I. Preparation of Sales Budget 
 
 1. Estimates prepared by sales units. 
 
 2. Revised by general sales office. 
 
 3. Revised by the production department in the light of production 
 
 possibilities and desirabilities. 
 
 4. Revised by the controller or other officer in the light of profit 
 
 possibilities. 
 
 5. Forwarded to the budget committee for final revision and 
 
 approval. 
 
 II. Preparation of "Production" Budgets 
 
 1. Finished Goods Budget: 
 
 (a) Estimate of finished goods requirements prepared by the 
 
 production department from the sales estimates. 
 
 (b) Revision and approval of finished goods estimates by the 
 
 budget committee. 
 
 (c) Enforcement of this budget through the means of the 
 
 balance of stores records operated under maximum and 
 minimum standards. 
 
 2. Materials Budget: 
 
 (a) Estimate of materials requirements prepared from tlu 
 
 finished goods estimate by the production department 
 (the duty of preparing this estimate is usually delegated 
 by the head of the production department to the 
 planning department). 
 
 (b) Estimate of material requirements, after approval by 
 
 the head of the production department, is transmitted 
 to the purchasing department and this department 
 prepares an estimate of the material purchases required 
 and the disbursements resulting therefrom. 
 
 (c) Estimate of materiais and purchases revised and approved 
 
 by the budget commi ttee. 
 
 (d) Enforcement of materials budget through the means of 
 
 the materials balance of stores records operated under 
 maximum and minimum standards.
 
 208 BUDGETARY CONTROL 
 
 3. Labor Budget: 
 
 (a) Estimate of labor requirements prepared from the finished 
 
 goods budget by the production department (the duty 
 of preparing this estimate is usually delegated by the 
 head of the production department to the planning 
 department). 
 
 (b) Estimate of labor requirements, after approval by the 
 
 head of the production department, is transmitted to 
 the personnel department and this department makes 
 an estimate of the cost of supplying this labor. 
 
 (c) Estimate of labor requirements and labor cost revised 
 
 and approved by the budget committee. 
 
 (d) Enforcement of the labor budget by the production 
 
 department with the assistance of the personnel de- 
 partment, through the agency of a centralized produc- 
 tion control system. 
 
 4. Manufacturing Expense Budget: 
 
 (a) Estimate of manufacturing expense requirements made 
 
 by cost accounting department or production depart- 
 ment. 
 
 (b) Estimate of manufacturing expense requirements ap- 
 
 proved by the production manager and the head of 
 the various departments responsible for the incurrence 
 of the expenditures for which it provides. 
 
 (c) Estimate as approved in (b) transmitted to budget com- 
 
 mittee for revision and approval. 
 
 (d) Enforcement of the estimate by the production de- 
 
 partment through the agency of a centralized control 
 system. 
 
 III. Monthly Reports for Control and Revision of Budgets 
 
 1. Report on finished stock budget as shown in Figure 8 (page 141 ). 
 
 2. Report on materials budget as shown in Figure 11 (page 161). 
 
 3. Report on labor budget as shown in Figure 13 (page 175). 
 
 4. Report on manufacturing expense budget as shown in Figure 17 
 (page 205). 
 
 IV. Monthly Revision of Budgets 
 
 I. Budget committee receives monthly reports on all departmental 
 estimates, including those outlined under (III).
 
 THE MANUFACTURING EXPENSE BUDGET 209 
 
 2. The committee considers these reports with reference to their 
 
 relation to each other and makes such revisions as are deemed 
 necessary. 
 
 3. Any revisions made in the budgets outhned in (II) will be com- 
 
 municated to the production department and the other de- 
 partments concerned. 
 
 It should be understood that the procedure given in 
 this outline is intended to be suggestive and not arbitrary. 
 Each firm must adopt a procedure to fit its particular needs. 
 It is thought that if the foregoing procedure is understood 
 properly, it will not be difficult to make the adaptations 
 required in any particular case. 
 
 14
 
 CHAPTER XIV 
 THE PURCHASES BUDGET 
 
 Relation of Purchases Budget to the Sales Budget 
 
 In the preceding chapters considerable attention has 
 been given to the method by which the manufacturer plans 
 a production program which will result in a proper coordi- 
 nation between production and sales. But the merchant 
 has a similar problem of coordination, which he can solve 
 only by formulating a purchasing program which will per- 
 form the same function for him as the production program 
 performs for the manufacturer. 
 
 The amount of goods which is to be purchased by a 
 merchant is determined primarily by his estimate of future 
 sales. Goods are purchased only to be sold, and sales can 
 be consummated only when goods are available for sale. 
 The general manager of a mercantile store is charged with a 
 double responsibility. He must maintain such stocks of 
 goods as will enable the store to fill customers' orders, and 
 at the same time he must avoid the accumulation of stock 
 beyond the sales demands, as such excessive accumulation 
 results in loss from tied up capital, and probably also from 
 the obsolescence and deterioration of the merchandise. 
 
 The general manager can meet this responsibility only 
 by anticipating sales demands and setting up as nearly as 
 possible a schedule of deliveries to stock which will satisfy 
 but not exceed these demands. 
 
 In merchandise planning, therefore, the first step is the 
 determining of the amount of future sales; the second step 
 Is the determining of the purchases necessary to meet these 
 sales; and the third step Is the setting up of a jnirchaslng 
 program which will coordinate the deliveries of purchases 
 
 210
 
 THE PURCHASES BUDGET 211 
 
 ^^Ith the sales deliveries required by the sales program. 
 The first step has been previously discussed. The second 
 and third will be dealt with in this chapter. 
 
 Determination of Purchases Requirements 
 
 The ideal purchases program, from the viewpoint of the 
 economical use of capital, would be one which provided for 
 the delivery to stock each day of the exact amount of mer- 
 chandise w^hich will be sold that day. Such a program is 
 not feasible for two reasons: 
 
 1. In a mercantile store, it is necessary to have some merchandise 
 
 on hand for display purposes. The customer desires an assort- 
 ment from which to select his purchases. This necessitates the 
 keeping on hand of a considerable quantity of merchandise. 
 The amount which must be kept is dependent on the extent of 
 the sizes, varieties, and grades of the merchandise which is 
 kept for sale. 
 
 2. It is impossible to estimate sales demands or to plan purchases 
 
 deliveries with sufficient accuracy to have the same amount 
 delivered each day as is sold on that day. To provide against 
 a failure to meet sales demands it is necessary to keep a cer- 
 tain amount of merchandise on hand, which is termed the 
 merchandise inventory. 
 
 The principal problem in merchandise planning is to 
 determine the size of the inventory which should be main- 
 tained, and to set up a purchases program which will schedule 
 deliveries to stock in such quantities and at such times as to 
 provide for its maintenance at this amount. The problem 
 of purchases requirements resolves itself, therefore, into a 
 problem of finished stock requirements. 
 
 The problem of setting up an estimate of finished stock 
 requirements necessitates : 
 
 1. An estimate of the sales that will be made of each kind and class 
 
 of goods. This estimate is provided by the sales program. 
 
 2, A statement of the inventory of finished goods that has proved 
 
 sufficient in meeting the sales requirements of preceding periods.
 
 212 BUDGETARY CONTROL 
 
 This Information is used as a basis for the preparation of 
 an estimate of the finished goods inventory requirements 
 throughout the coming selHng period. 
 
 Method of Determining Inventory 
 
 If inventory figures are to be available for prompt use in 
 the preparation of the purchases budget, it is necessary that 
 a definite method by which inventory is to be secured be 
 determined and the appropriate procedure for the enforce- 
 ment of this method be established. 
 
 There are three methods in current use by which inven- 
 tories may be obtained. These will be discussed under the 
 following headings: 
 
 1. Perpetual inventory 
 
 2. Estimated inventory 
 
 3. Physical inventory 
 
 Perpetual Inventory 
 
 All the information required in setting up a system of 
 finished goods stock requirements is contained in a merchan- 
 dise account that shows the quantities of each merchandise 
 item received at cost contra to the amounts of the item sold, 
 the sales being also computed at cost. The resulting bal- 
 ance shows the amount of each item of merchandise on hand 
 at cost. Such a merchandise account is commonly known 
 as a perpetual inventory. 
 
 If a perpetual inventory is maintained on the goods in 
 stock, it will show the cost of such goods as they are shipped 
 from the vendor, and will also show the value at cost of 
 goods shipped under sales invoices. The net figures in such 
 an inventory will indicate at all times the goods on hand. 
 
 It is possible to keep the inventory record in terms of 
 quantities rather than in terms of value, if desired. A form 
 of inventory record suitable for use in connection with raw
 
 THE PURCHASES BUDGET 213 
 
 materials is shown in Figure 9 (page 153). The record for 
 general merchandise is usually more simple than this form, 
 but the same principles govern its construction and use. 
 
 Estimated Inventory 
 
 The experience of merchants is that perpetual inven- 
 tories are often expensive in their operation. This is espe- 
 cially true where many small items are bought and sold, and 
 where the average turnover of the stock is high. Many mer- 
 chants content themselves with estimated inventories of 
 merchandise on hand, and these estimates are proven as to 
 their accuracy by actual inventory once or twice a year. 
 
 The estimated inventory is determined on the basis that 
 the actual inventory at the beginning of the period, plus 
 purchases for the period, plus the estimated gross profit 
 subtracted from the sales at sales price, equals the ending 
 inventory. The method of arriving at this formula will be 
 seen easily if the organization of the trading section of the 
 pro forma statement of profit and loss is considered. 
 
 It may be assumed that the trading section of the state- 
 ment of profit and loss of the Brown Mercantile Company 
 for the month of December appears as follows : 
 
 The Brown Mercantile Company 
 
 Statement of Profit and Loss 
 
 For Month Ended December 31, 192- 
 
 Sales $51,000.00 
 
 Inventory, December i $16,500.00 
 
 Purchases for month 34,100 .00 
 
 Total Merchandise in Stockroom during month $50,600.00 
 
 Inventory, December 31 13,200.00 
 
 Cost of Goods Sold 37,400 . 00 
 
 Gross Profit on Sales $13,600.00
 
 214 BUDGETARY CONTROL 
 
 From the foregoing statement, it is possible to prepare 
 the following equation : 
 
 Sales — Beginning I nventory — Purchases + Ending I nventory 
 = Gross Profit 
 
 Ordinarily when a statement of profit and loss is made, 
 the only unknown quantity is the gross profit, and it is 
 obtained by this equation. When it is desired to use this 
 formula for estimating the ending inventory, there are two 
 unknown quantities — the ending inventory and the gross 
 profit. One of these must be determined before the equa- 
 tion can be solved. This is accomplished by estimating the 
 gross profit. To make the estimate, the ratio of the average 
 gross profit to sales during the past periods is determined, 
 and this percentage is applied to the sales of the current 
 period to obtain the estimated gross profit for this period. 
 
 To illustrate, it is found that the average gross profit of 
 the Brown Mercantile Company during the past three 
 years has been 26.66 per cent of sales. It is thought that 
 the average gross profit of these years is indicative of the 
 gross profit of the month of December of the current year. 
 By taking this percentage of the sales for this month, the 
 estimated gross profit is calculated to be $ 1 3 ,600. By using 
 this figure, the equation given above can be stated as follows: 
 
 $51 ,000 — $16,500 — $34,100 + Ending Inventory = $13,600 
 
 By transposition and solving, the ending inventory is de- 
 termined to be $13,200. Since the gross profits on dif- 
 ferent lines of goods varies, it is necessary to perform the 
 foregoing calculation for each line of goods if an accurate 
 estimated inventory is to be obtained. 
 
 It should be evident that estimated inventories can be 
 only approximately correct. If the merchandise manager 
 has before him only estimated inventories as at the close of
 
 THE PURCHASES BUDGET 215 
 
 each month or fiscal period, he must use his judgment in 
 basing his actions on them. In any case frequent tests 
 should be made to verify the accuracy of the estimate. 
 
 Physical Inventories 
 
 In those businesses where it is not feasible to maintain a 
 perpetual inventory because of the cost involved, and where 
 it is impossible to obtain an accurate estimated inventory 
 because of the widely var>dng rates of gross profit, it may 
 be necessary to resort to actual inventories taken at fre- 
 quent intervals. This necessitates the taking of a physical 
 count of the goods on hand. 
 
 Some department stores take an inventory in certain 
 departments every two weeks. Such a check-up at frequent 
 intervals is especially desirable in the case of variety goods, 
 where fashion and styles play an important part. Practi- 
 cally all businesses take a physical inventory yearly, and 
 there is a decided tendency towards semiannual and quar- 
 terly inventories. It has been found that if a standardized 
 procedure for' the taking of inventories is properly worked 
 out, the task is not so great as it was formerly thought to be. 
 
 Relation of Inventory Planning to Statistics of Past Periods 
 
 In estimating inventory requirements it is necessary to 
 refer to the statistics of previous periods as sho\vn by the 
 accounting records. As to how many past periods should 
 be considered will depend on the circumstances of each case. 
 The statistics desired are those which will most nearly indi- 
 cate the probable condition of the current year. It may be 
 that conditions have changed so rapidly that it is deemed 
 wise to use only the statistics available for the preceding 
 period, or, on the other hand, the preceding period may be 
 considered as abnormal and may be disregarded entirely. 
 In some cases a weighted average of three or more past
 
 2l6 BUDGETARY CONTROL 
 
 periods is taken. In any case, the object is the same — to 
 obtain the statistics with reference to past operations which 
 will be most helpful in planning future operations. For 
 the sake of brevity in the following discussion, reference will 
 be made to the "past period" or "past periods" without 
 defining the length of this period, or periods, unless such 
 definition is necessary to make the meaning of the discus- 
 sion clear. 
 
 Determination of "Normal" Inventory 
 
 In the preceding discussion it has been explained that 
 the next step in merchandise planning after the sales esti- 
 mate is prepared , is to determine the ' ' average " or " normal ' ' 
 inventory which is necessary to meet sales demands. To 
 accomplish this it is necessary : 
 
 1. To determine the average inventory during past periods. 
 
 2. To determine the ratio of the average inventory of past periods 
 
 to the sales of those periods, that is, determine the merchan- 
 dise turnover of those periods. 
 
 3. To apply the turnover of past periods to the estimated sales of 
 
 the current period to obtain the average inventory for the 
 present period. 
 
 Determination of Inventory of Past Periods 
 
 If any rational control has been exercised over stock 
 investments during the past periods, inventory of stock on 
 hand must have been taken at frequent intervals. This 
 inventory may have been obtained by any of the methods 
 discussed in the preceding paragraphs. 
 
 If it was deemed necessary to know the value of the 
 stock on hand only at the beginning and the end of the 
 period a physical inventory may have been taken. If it was 
 deemed desirable to have the value of the stock on hand 
 at more frequent intervals, it is probable that either an 
 estimated inventory was determined at regular intervals or
 
 THE PURCHASES BUDGET 217 
 
 stock records established which made possible a perpetual 
 or continuous inventory. 
 
 It is apparent that the more frequently the inventory' 
 is determined, the more useful are the statistics obtained 
 thereby in determining average inventory and in planning 
 stock investment control. In any case the desire for 
 accuracy must be balanced against practicability. 
 
 Calculation of Turnover 
 
 Whatever method of taking inventory has been followed 
 during the past periods, it should be possible to determine 
 at least approximately the average inventory and the ratio 
 of the average inventory of each period to the sales for the 
 same period. In other words, the turnover for each of the 
 past periods can be determined. If the turnover computa- 
 tions are to be of value, it is necessary that care be exercised 
 to calculate them properly. 
 
 In practice it will be found that several methods are used in the 
 determination of merchandise turnover. There are in fact but two 
 methods of determining turnover accurately. They are as follows: 
 I. Di\'ide the cost of the goods sold during the year by the cost 
 of the average inventory of the year. For instance, a retail store 
 carries on the average a stock of goods the cost price of which is 
 $20,000 and makes during the year sales of $100,000 on which a gross 
 profit of twenty per cent is made. The cost of the goods sold is $80,- 
 000 and the turnover is four. 
 
 In other words, in this store, on an average, the articles sold re- 
 main in stock three months after they are purchased before they are 
 sold. It will, of course, be realized that it is rather dangerous to try 
 to determine the average turnover on all goods carried in stock. It 
 is more accurate to determine if possible the turnover for each kind 
 of goods, since the turnover varies on each kind. 
 
 2. The turnover may be determined by dividing the average in- 
 ventory for the year at sales price into the sales at sales price. For 
 instance, taking the illustration given above, where the average in- 
 ventory at cost is $20,000 and the sales for the year are $100,000 on 
 which an average gross profit of twenty per cent is made ; if the inven-
 
 2l8 BUDGETARY CONTROL 
 
 tory is taken at sales price, it will be seen that it will amount to 
 $25,000, and dividing the sales of $100,000 by $25,000, a turnover 
 of four will be obtained. 
 
 It will be seen that the same result is obtained as in the first case 
 where the inventory at cost is divided into the sales at cost. Either 
 method can be used, whichever is the more convenient.^ 
 
 The error is sometimes made of dividing the sales at 
 selling price by the inventory at cost. This obviously gives 
 a turnover larger than the actual one. 
 
 When a firm relies on a physical inventory taken once a 
 year, it may determine its average inventory by taking one- 
 half of the sum of the beginning and ending inventories. If 
 the sales of the business are subject to seasonal fluctuations, 
 this method will not give satisfactory results, since it does 
 not give effect to the fluctuations in inventory which must 
 inevitably result from the fluctuations in sales. The proper 
 method is to obtain the average of the monthly inventories. 
 
 Use of Turnover Figures 
 
 Turnover figures are very useful in merchandise control. 
 As Nystrom, in his "Economics of Retailing," very aptly 
 says: 
 
 One of the productive factors of a retail store is the capital in- 
 vested in its stock of goods. When this capital is borrowed for use in 
 the store, interest must be paid for it, and interest should be entered 
 as an expense charge in any case regardless of whether the manager of 
 the store borrows or supplies capital from his own funds. Efficiency 
 in its use depends upon its activity. By activity is meant the num- 
 ber of times it can be used over and over again in the course of a 
 year. Each complete use of the capital invested in merchandise is 
 known as a "turnover." If expenses and profits per sale remain 
 the same, the greater the number of turnovers within a year, the' 
 greater the net profit resulting. This fact has long been recognized. 
 There is an old maxim that expresses the idea exactly; "A nimble 
 sixpence is better than a slow shilling." 
 
 ' McKinsey, Bookkeeping and Accounting, Vol. I.
 
 THE PURCHASES BUDGET 219 
 
 From the viewpoint of our present discussion we 
 are interested in turnover primarily as a basis for determin- 
 ing inventory requirements. After the turnover of past 
 periods is calculated, it is necessary to give it careful consid- 
 eration before using it as a basis for merchandise planning. 
 Whether or not the turnover of past periods w^IU be used as a 
 basis for planning stock control for the current period, will 
 depend upon whether the average inventory of the past 
 periods is deemed to be satisfactory or not for the purpose. 
 
 It may be that the inventory during the past periods 
 was too large and the turnover too slow. Or it may be 
 that the inventory was too small for the volume of sales 
 which w^ere possible. 
 
 The merchandise manager may know that in the case 
 of many articles a much larger inventory was carried than 
 was necessary to meet the volume of sales, and he esti- 
 mates that a smaller inventory may be carried during the 
 coming year and the same volume of sales be obtained. 
 
 On the other hand, he may know of many articles the 
 sales of which could have been increased if a larger variety 
 or assortment had been carried, or if the goods desired by 
 the customer had always been on hand when called for. 
 He may rightly decide that the turnover of past periods 
 must be modified before it can be used as a basis in deter- 
 mining the average inventory to be maintained during the 
 current year. 
 
 The foregoing discussion indicates two facts of Impor- 
 tance in connection with inventory and turnover. First, it 
 indicates that it is unsafe to take average turnover, that is, 
 the average turnover of all lines carried, especially if goods 
 of many different varieties are carried in stock. As pre- 
 viously suggested, it is usually necessary to determine the 
 turnover of each different class of merchandise carried. 
 
 Secondly, it indicates the need for the intelligent consid-
 
 220 BUDGETARY CONTROL 
 
 eration of statistics with reference to past operations and 
 their modification in the light of past experience before they 
 are used as a basis of future plans. 
 
 Whether the turnover of the past periods is deemed 
 satisfactory or is modified as suggested above, a figure is 
 finally determined which is used in connection with the esti- 
 mated sales of the current period, to arrive at the average 
 inventory deemed necessary to meet these sales. The proc- 
 ess involved is illustrated by the following steps : 
 
 1. Sales for the past period $500,000 
 
 2. Average inventory for the past period $100,000 
 
 3. Turnover for the past period 5 
 
 4. Estimated sales for the current period $600,000 
 
 5. The estimated average inventory for the current period is $120,000 
 
 It is, of course, assumed in the foregoing illustration and 
 discussion that the inventory and sales are both stated at 
 the same price, either both at selling price or both at cost 
 price. 
 
 The Buying Budget 
 
 When the estimated inventory has been determined, it 
 is then necessary to make a schedule of deliveries and pur- 
 chases which will maintain this inventory. If the sales of 
 the period fluctuate to any great extent, it will probably be 
 necessary to determine the inventory desired at the begin- 
 ning of each month-. Then, to determine the deliveries to 
 stock which must be made during the month, it will be 
 necessary to add the estimated sales at cost for the month 
 to the estimated inventory at the end of the month, and 
 subtract the inventory at the beginning of the month. 
 
 It can be seen from the foregoing that the normal Inven- 
 tory, that Is, the inventory which it Is estimated will have 
 to be carried to meet the sales demands, may not be an 
 average or uniform inventory, but may fluctuate from
 
 THE PURCHASES BUDGET 
 
 221 
 
 month to month as the sales fluctuate owing to seasonal 
 demands, etc. It should also be realized that in many cases 
 it may be desirable to make the finished goods schedule in 
 terms of the number of items required rather than in terms 
 of value. 
 
 To illustrate.the preparation of a schedule of deliveries of 
 finished goods, it may be assumed that the New York De- 
 partment Store, which makes a specialty of high-grade 
 
 
 NEW YORK DEPARTMENT STORE 
 
 
 
 Furniture Department 
 
 
 
 X-Y PIANO 
 
 
 Month 
 
 Stock 
 Beginnings 
 
 Sales 
 
 Stock 
 End 
 
 Deliveries 
 to Stock 
 
 Memorandum 
 
 Nov. 
 
 16 
 
 su 
 
 li 
 
 32 
 
 Xmas season 
 begins Nov. 15 
 
 Dec. 
 
 U 
 
 21 
 
 10 
 
 n 
 
 Xmas season 
 ends Dec. 18 
 
 Jan. 
 
 10 
 
 17 
 
 15 
 
 22 
 
 Jan. Bargain 
 sales begin 
 Jan. 1920 
 
 Feb. 
 
 15 
 
 32 
 
 S 
 
 25 
 
 Bargain sale 
 ends Feb. 20 
 
 Figure i8. Schedule of Deliveries to Stock 
 
 pianos in its furniture department, desires to set up a sched- 
 ule of deliveries to stock of a certain grade of piano during 
 the months of November, December, January, and Feb- 
 ruary. Such a schedule may be in the form shown in 
 Figure i8. 
 
 A similar schedule of finished goods deliveries will need 
 to be prepared for each item of finished stock. If the sched-
 
 222 BUDGETARY CONTROL 
 
 ule is made in terms of value, the only difference will be the 
 method of stating the quantity in each column. 
 
 Responsibility for Preparation of Estimate of Purchases 
 
 As to the unit of the organization which should be held 
 responsible for the preparation of the estimate of pur- 
 chases, no arbitrary rule can be established. The nature, 
 size, and organization of the business must be considered in 
 each case. In so far as possible the purchases estimate, 
 like all other estimates, should be made by those who are 
 responsible for its enforcement. 
 
 In a business with branches which handle resale ma- 
 terial, the branch manager may make the purchases which 
 his branch needs, under the supervision and functional con- 
 trol of the general purchasing agent of the company. In 
 this case each branch manager should be held responsible for 
 making an estimate of the purchases of his branch. These 
 original estimates of the branch managers will be gone over 
 by the general purchasing agent, who will transmit them 
 with his approval to the executive in charge of the budgetary 
 procedure, who in turn will transfer them to the budget 
 committee for consideration and approval. 
 
 Although revisions may have to be made in the estimates 
 submitted by the branch managers, it is desirable that they 
 prepare these for two reasons: 
 
 1. They will take more interest in their execution if they are re- 
 
 sponsible for their preparation. If they receive an estimate 
 prepared by someone else, they may not feel the proper amount 
 of responsibility for any variations between the actual and 
 the estimated figures. 
 
 2. In the making of their estimates the branch managers must 
 
 study past operations and plan future ones. This study 
 and planning will be of much value to them; it will bring 
 to their attention many things which they would otherwise 
 not notice.
 
 THE PURCHASES BUDGET 223 
 
 In a department store the head of each department is 
 responsible for the preparation of the estimate of purchases 
 for his department. In preparing this, he may employ the 
 assistance of the various buyers in his department. After 
 being prepared, these departmental estimates will be ex- 
 amined by the merchandise manager, who will make such 
 revisions as he deems necessary. 
 
 In a business where all purchases are made by a central 
 purchasing department under the control of a general pur- 
 chasing agent, the estimate of purchases may be prepared 
 under his direction, but he will usually obtain the assistance 
 and advice of subordinates in its preparation, and his esti- 
 mate will be based on the estimated requirements submitted 
 by the various departments. 
 
 Whatever is the origin of the original estimate, it will be 
 transferred to the executive in charge of the budgetary pro- 
 cedure, and by him submitted to the budget committee for 
 consideration and approval. 
 
 Purchases Budget Control 
 
 The purchases budget provides a working program for 
 the current period. But this program is based on estimates 
 which, however carefully made, may prove inaccurate be- 
 cause of market conditions that could not be foreseen at 
 the time these estimates were made. If the estimates 
 prove incorrect, it is necessary to change as soon as possible 
 the plans which were based on them. If it is estimated that 
 the sales for the current year will be 25 per cent more than 
 they were for the past year, a purchases budget will provide 
 for a corresponding increase in purchases. But if at the 
 end of the first month the sales have not increased and mar- 
 ket conditions indicate that the anticipated increases will 
 not materialize, it would be very unwise to continue to fol- 
 low the original purchases budget. It is necessary, there-
 
 224 BUDGETARY CONTROL 
 
 fore, to have certain records and reports to make possible a 
 revision of the purchases budget throughout the year, if the 
 results during the year make such a revision necessary. 
 
 A revision of purchase quotas to meet changing trade 
 conditions is not a simple task in the case of a department 
 store where quotas are made out months in advance on 
 thousands of different items. Perhaps the simplest way to 
 make changes on numerous quotas is to compute the per- 
 centage that the delivery quota for the month is to the esti- 
 mated sales for the month. Thus, if the estimated sales are 
 43 units and the delivery quota is 38 units, we may express 
 the quota as 88.3, so that if the actual sales are 51 units we 
 may permit, without being criticized, the delivery into stock 
 of 88.3 per cent of 51 units, or 45 units. For reasons that 
 are obvious, this percentage method does not give us a quota 
 that will result in the exact inventory at the end of the 
 month for which we originally planned. But this use of per- 
 centages is decidedly useful for revising large numbers of 
 quotas to meet discrepancies between estimated and actual 
 sales. 
 
 There should be prepared monthly for the use of the 
 executives responsible for the purchasing program and for 
 the budget committee, a report similar in form to Figure 19. 
 
 Interpretation of Illustration 
 
 The amounts given for each item or line of goods in the 
 first money column will be taken from the last revision of 
 the sales program. In columns (4) and (5) a comparison is 
 given between the delivery to stock quota on each item and 
 the estimated sales at cost for the item. It must be remem- 
 bered that estimated sales are taken at cost so that there 
 may be this comparison between sales at cost and purchase 
 quotas at cost. In column (6) a percentage of the quota to 
 sales at cost is shown for each item. The data for column
 
 THE PURCHASES BUDGET 
 
 225 
 
 
 nee In 
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 red or 
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 Quota 
 
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 Balai 
 Quo 
 
 Orde 
 Exce 
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 Taker 
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 CO 
 
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 Cen 
 uota 
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 Cost 
 
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 Q. 
 
 S ra ^ 
 
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 U 
 
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 TS 2 
 
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 E13StJ 
 
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 Z 
 
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 226 BUDGETARY CONTROL 
 
 (6) is not taken from the accounts, but is the result of divid- 
 ing estimated sales at cost into quotas. The actual sales for 
 the month shown in column (7) will be taken from the sales 
 as reported in the sales accounts of the month. From the 
 sales, as reported in the sales accounts, estimated gross 
 profit is subtracted. When actual inventory has been 
 taken at the end of the month, actual gross profits, as shown 
 by the accounts, should be subtracted. The revised quotas 
 given in column (8) may be made by applying the quota 
 percentage given in column (6) to actual sales at cost as 
 given in column (7) . The amounts of deliveries into finished 
 stock, as shown in column (9), will be taken from the pur- 
 chase accounts. The orders outstanding as shown in col- 
 umn (11) wnll be taken from an order register if a book 
 record of orders is maintained, or they may be found by 
 adding the unfilled orders on file. 
 
 If a monthly quota system is maintained on stock de- 
 liveries, the unfilled orders at the end of a month furnish 
 useful information to use as a basis for purchase control. 
 It may be that unfilled orders represent poor buying, or it 
 may be that they represent a lack of coordination of the 
 activities between the purchase and other departments of 
 the business. In any case, the reason for such unfilled 
 orders should be determined and such executive action 
 taken as is necessary to remedy the condition. 
 
 Use of Control Reports 
 
 Control reports are a necessity to the head buyer of a 
 store if the activities of the various assistant buyers are to 
 be coordinated so that they may all work towards a common 
 end. He makes use of purchase quotas and the subsequent 
 reports on these quotas for the unification of the plans of 
 his buying organization. The quota set up on article S485, 
 a shoe, is coordinated with the quotas set up on article H563,
 
 THE PURCHASES BUDGET 227 
 
 a silk stocking, because both the shoe and silk stocking are of 
 a certain color, shade, and quality, and are expected to 
 be sold together in many cases. In like manner, there 
 will be planning on quotas of staple articles with reference 
 to certain proposed bargain sales, and also on quotas of 
 certain specialties with reference to their use as liners. In 
 the same manner, quotas on various lines and variety of 
 goods are considered in connection with each other to the 
 end that a well-coordinated sales and purchase program may 
 be formulated. And then reports are made on these quotas 
 which serve as a means of correcting errors of judgment on 
 the original quotas and of detecting failures to execute prop- 
 erly the program based on these quotas.
 
 CHAPTER XV 
 THE PURCHASES BUDGET (Continued) 
 
 Disbursements for Purchases 
 
 The discussion in the preceding chapter has dealt 
 primarily with the method of securing a coordination be- 
 tween purchases and sales. This is essential, but in addi- 
 tion it is necessary to provide for the coordination of 
 purchases with finances. To do this it is necessary to 
 determine the monthly expenditures in payment of pur- 
 chases. 
 
 The finished goods budget shows the deliveries to stock. 
 From the viewpoint of financial requirements, it is necessary 
 to determine when the goods delivered are to be paid for. 
 The method of doing this will depend on the volume of 
 purchases to be made, and the terms on which they are to 
 be purchased. It may be necessary to classify all purchases 
 made by credit terms so as to obtain the data by means of 
 which an estimate can be made as to the amount of the 
 estimated purchases which will be made on such terms. 
 It will then be possible to estimate the disbursements which 
 will be made for the purchases made on each kind of terms. 
 
 To illustrate, if it is found that 50 per cent of the pur- 
 chases during the past three years have been on terms 2/10, 
 n/30, ancl that the payment is always made within the 
 discount period, it may be estimated that 50 per cent of 
 estimated purchases for the next period will be paid within 
 ten days after the receipt of the invoice. On this basis it 
 may be estimated that two-thirds of the merchandise pur- 
 chased on these terms which is to be delivered during the 
 next month, will be paid during that month, and that in 
 
 228
 
 THE PURCHASES BUDGET 229 
 
 addition it will be necessary to pay during the month for 
 one-third of the merchandise purchased on these terms 
 during the preceding month. 
 
 In the same manner, estimates can be made for dis- 
 bursements to be made in payment for merchandise pur- 
 chased on each class of terms. The errors which may arise 
 in making such estimates are apparent. There are a num- 
 ber of factors which influence their exactness. It is well 
 to remember, however, that cash receipts and disbursements 
 can never be estimated with absolute exactness. The cash 
 balance is maintained to provide for this inaccuracy in the 
 same way as the inventory of finished goods is carried to ' 
 provide for the inaccuracy of the sales and purchases esti- 
 mates. Further discussion of the method of estimating 
 disbursements will be found in Chapter XIX in connection 
 with the treatment of the financial budget. 
 
 Report on Disbursements for Purchases 
 
 As a means of controlling the disbursements for pur- 
 chases and of providing data for the financial budget, it is 
 well to have an estimate made as shown in Figure 20. 
 
 The form as given is premised on a budget period of 
 three months in length. It can of course be adapted for 
 use for a budget period of any length, but the longer the 
 period, the more inaccurate the estimates for the latter 
 part of the period are apt to be. In any case, it should be 
 revised monthly on the basis of the monthly reports, show- 
 ing actual sales, actual purchases, and actual disbursements. 
 
 Use of Estimate of Disbursements for Purchases 
 
 The report shown in Figure 20 provides information 
 which is of value not only in judging the advisability of the 
 contemplated purchasing program, but also the advisability 
 of the contemplated sales and financial programs. The
 
 230 BUDGETARY CONTROL 
 
 most important items of information which it shows are 
 the following : 
 
 1. The estimated deliveries to stock during the month. This can 
 
 be checked against the same item on the schedule of deliveries 
 to finished goods to determine the accuracy of the amount. 
 
 2. The estimated orders to be placed during the month. This 
 
 provides a check on the amount of orders which are to be 
 placed for future delivery. This enables the executives to 
 know the plans of the merchandise or purchasing department 
 so that they can curtail these plans if they deem this necessary. 
 It indicates to the treasurer the possible demand for funds for 
 the payment of vendors' claims. 
 
 3. It shows the estimated inventory at the end of the period. By 
 
 comparing this with the inventory at the beginning of the 
 period, it can be seen whether the purchasing program con- 
 templates an increase in inventory. If so, the reason for this 
 increase can be ascertained. It may of course be desirable for 
 the inventory to be increased for several reasons which are no 
 doubt apparentto the reader, but it is well forthe contemplated 
 increase to be called to the attention of the principal executives 
 for their approval. 
 
 4. It shows the disbursements to be made during the month for 
 
 purchases made during previous months. These are disburse- 
 ments which presumably must be met, since the contracts are 
 already made. This is useful information for the treasurer. 
 
 5. It shows the estimated disbursements for purchases made during 
 
 the month. This amount is of course subject to change in 
 case the estimated purchases are changed. 
 
 The estimate of purchase disbursements as a whole 
 provides information which is useful in estimating the 
 financial requirements of the contemplated sales program. 
 If such requirements are too great, a revision of the sales 
 program may be necessary. 
 
 Classification of Purchase Data for Control Purposes 
 
 The discussion in the preceding chapter has pointed out 
 the necessity for records and accounts for purchases, and
 
 THE PURCHASES BUDGET 
 
 231
 
 232 BUDGETARY CONTROL 
 
 the need for records and files for unfilled orders if informa- 
 tion is to be available for the preparation and control of 
 the purchase program. But this information must not 
 only be available, it must be available in such form as to 
 make this control comprehensive and not unduly burden- 
 some. For that, it is necessary that a proper classification 
 of purchase accounts and purchase orders be maintained. 
 The classification which is necessary for the preparation of 
 the monthly report shown in Figure 19 (page 225) is indi- 
 cated by the report itself. 
 
 For the purpose of this report the purchase accounts 
 must analyze the purchases into the same classes by which 
 they are shown on the purchases budget, and outstanding 
 orders must be classified in the same manner. For In- 
 stance, if the purchases budget states a separate quota for 
 twenty different types of purchases, there must be twenty 
 different accounts maintained with purchases, or some 
 supplementary record must be kept which provides for 
 such a classification if the monthly report shown in Figure 
 19 is to be used effectively. The outstanding orders must 
 also be subject to such a classification if the desired in- 
 formation for column (10) is to be obtained. But if this 
 report is to be properly interpreted after it is made, ad- 
 ditional information with reference to purchases made and 
 orders Issued Is necessary, and to obtain this information 
 other classifications must be maintained. 
 
 Classification of Purchase Invoices 
 
 Purchases, in addition to being classified to correspond 
 to the analysis shown on the purchases budget, may be 
 analyzed as follows: /' 
 
 1. By departments or units of responsibility 
 
 2. By terms of credit 
 
 3. By buyers
 
 THE PURCHASES BUDGET 233 
 
 In a business where there is any attempt toward func- 
 tional organization and control, both sales and purchases 
 are usually classified according to the units of organization 
 for responsibility. Expenses are classified similarly, and 
 consequently the efficiency of the functional managers can 
 be judged in terms of profit and loss. For instance, in a 
 department store the departmental managers are held 
 responsible for the operations of their departments, and 
 consequently the sales and purchases are analyzed by de- 
 partments so that departmental profit and loss can be 
 determined. In such a business the sales estimates and 
 purchasing estimates are usually made separately for each 
 department, so that the departmental analyses serve a 
 double purpose in that they serve not only as a check upon 
 the efficiency of departmental heads, but also as a basis for 
 the preparation and control of the departmental estimates. 
 In a business with branches, the responsibility for the 
 management of each branch is imposed on the branch 
 manager, and in order to determine his efficiency an 
 analysis of purchases, sales, and expenses by branches 
 is necessary. 
 
 In planning the financing of a firm's operations, it is of 
 considerable value to the financial executive to know the 
 terms on which the estimated purchases will be made. It 
 has been explained above that the terms of purchase must 
 be taken into consideration in the preparation of the esti- 
 mate of purchases. If that is done, the purchase invoices 
 may be analyzed by terms of credit so that statistics will 
 be available to show the purchases made on each kind of 
 terms. This analysis can then be used in estimating the 
 proportion of the total estimated purchases which will be 
 made on each kind of terms during the budget period. 
 Often this classification is not shown on the ledger accounts, 
 but only in a supplementary record. In a large business
 
 234 BUDGETARY CONTROL 
 
 where several analyses are to be made, it will probably be 
 obtained by a tabulating equipment. 
 
 Sometimes it is desirable to know the quantity of pur- 
 chases made by different buyers, and the purchase invoices 
 are analyzed accordingly. Such an analysis may be of 
 value in assigning quotas to buyers and keeping a check on 
 the amount purchased by different buyers or judging as to 
 the wisdom of continuing the services of particular buyers. 
 
 There may be various other classifications of purchases 
 under different circumstances, such as commodity classifi- 
 cation, classification by vendors, etc. The classification 
 shown on the purchase budget is usually by commodities 
 or by groups of commodities. 
 
 Classification of Unfilled Orders 
 
 The unfilled purchase orders, in addition to being classi- 
 fied according to the analysis shown on the purchases 
 budget, should be classified so as to show the following: 
 
 1. Month of delivery 
 
 2. Contract orders 
 
 3. Orders subject to cancellation 
 
 It should be apparent that it is quite important to know 
 the month of delivery of the goods for which orders are 
 outstanding. Without this information, it is Impossible 
 to determine the proper delivery dates of goods still to be 
 ordered. If orders are outstanding for goods to be delivered 
 six months hence, this can have no effect on purchases 
 necessary to satisfy the needs of the current month. The 
 time of delivery is also of value to the financial executive in 
 arranging for the payment of the goods delivered, and to 
 the operating superintendent in planning to store and 
 handle them. 
 
 It is also important in planning future deliveries to
 
 THE PURCHASES BUDGET 235 
 
 know the amount of contract orders, the period covered 
 thereby, and the extent to which deliveries under such 
 contracts are subject to shifting. It may be desirable to 
 speed up deliveries or to delay them, depending on the ex- 
 tent to which the sales program may exceed or fail to reach 
 the estimated program. 
 
 The amount of those orders that are subject to cancella- 
 tion Is also quite important, especially if It becomes neces- 
 sary to reduce the buying quota because of a failure of the 
 sales program to attain the estimated goal. 
 
 In order that the amount of each class of purchase 
 orders mentioned may be readily available, supplementary 
 records may be kept which classify the orders as issued and 
 show them as filled when goods are received. But if these 
 records are to be of the greatest service, they must be 
 accurate, and to this end periodical audits should be made 
 to test their accuracy. Oftentimes, because these records 
 are not a part of the general financial records, proper care 
 is not given to their operation and verification. 
 
 Relation of Purchasing Budget to Merchandise Policies 
 
 The discussion in the preceding chapter has explained 
 the method of determining the "normal " inventory and the 
 formulation of a purchasing program based on this inven- 
 tory. A brief consideration of the method employed in 
 determining the normal inventory will show that it rep- 
 resents what would be a satisfactory inventory under the 
 conditions of the preceding period. It should be apparent 
 to the reader that it is not always safe to assume that these 
 same conditions will continue during the current period. 
 Consequently the estimated average inventory, as deter- 
 mined by the method sho^vTl in the preceding chapter, may 
 be modified by a consideration of the anticipated market 
 conditions of the current period.
 
 236 BUDGETARY CONTROL 
 
 There are many considerations which may make such 
 modifications desirable. It may be thought desirable to 
 purchase a large amount of stock early in the period because 
 of an anticipated increase in price, or because it is anticipated 
 that there may be congested traffic later, or because of other 
 conditions. On the other hand, it may be thought desir- 
 able to let the resen^e stock fall below normal because of 
 an anticipated fall in the market price. The merits of this 
 procedure have been considered in Chapter X, in discuss- 
 ing the raw materials budget. 
 
 In some cases, changes in personnel of customers may 
 be expected to increase turnover, making a smaller inven- 
 tory possible. For instance, a large inflow of war workers 
 during the war period increased the sale of certain grades 
 of goods in some cases, and made a more rapid turnover 
 possible. On the other hand, an attempt to cater to a more 
 fastidious trade may tend to necessitate a large inventory 
 in order to provide the proper variety. 
 
 The foregoing are but a few of the many changes in 
 market conditions which may affect the purchasing pro- 
 gram. Comparisons of statistics of past years by lines of 
 goods, territories, and personnel of trade will help in de- 
 termining the modifications necessary to arrive at the 
 proper estimated inventory for the current period. 
 
 Use of Purchases Budget to Control Conditions of Stock 
 
 The purchases budget may be used in many ways td 
 assist in the control of various conditions of stock. If the 
 warehousing facilities are limited, the purchases budget, by 
 providing for a more or less uniform inventory, and conse- 
 quently uniform deliveries Into stock, will prevent the 
 arrival of stock to an amount greater than can be properly 
 stored. It can be seen readily that if there is not coopera- 
 tion between the purchasing department and the operating
 
 THE PURCHASES BUDGET 237 
 
 or warehouse department, very undesirable situations may 
 arise. 
 
 Again, if the purchases budget is properly made and is 
 faithfully followed, it will be possible to have a well-formu- 
 lated system of reserve and forward stocks, and there will 
 be little danger of the reserv' e stocks being exhausted when 
 it is necessary to replenish the forward stock. In some lines 
 of business, such as mail-order houses and wholesalers of 
 standard lines of clothing, this is a matter of prime im- 
 portance. 
 
 A properly controlled buying budget will eliminate the 
 necessity of making omissions or substitutions in filling 
 orders. The demands of the orders are anticipated in the 
 sales estimate and the correlated buying budget, and the 
 goods are on hand when the orders arrive. Such a budget 
 will also eliminate the need for holding unfilled sales orders 
 until goods are purchased with which to fill them. 
 
 In short, the purchases budget, like the sales budget, is 
 one of the connecting links between the various departments 
 and serves as a basis for coordination of all the activities of 
 the business. 
 
 Relation of Purchasing Program to Merchandise Policies 
 
 The purchasing program is but one part of the merchan- 
 dise program and in the formulation of the latter a number 
 of factors must be considered. Some of these factors are 
 external to the business organization, while others are mat- 
 ters of internal policy. Illustrations of the former were 
 given in the discussion of the relation of market conditions 
 to the purchases budget. Some of the most important 
 internal factors which must be given consideration in 
 merchandise planning are: 
 
 1. Sales 3. Turnover 5. Mark-downs 
 
 2. Inventory 4. Purchases 6. Expense
 
 238 BUDGETARY CONTROL 
 
 Each of these factors must be given careful consideration in 
 making the merchandise plans of each department, and 
 the policy of the firm with reference to each given proper 
 emphasis. 
 
 It may be said, by way of caution, that "external" and 
 "internal" factors which affect the merchandise plans are 
 closely related. Each may have an effect on the other. 
 For instance, the market conditions may be such that the 
 company may find it necessary to alter its usual policy with 
 reference to inventory, purchases, or expense. 
 
 Importance of a Consideration of Expense 
 
 In the preceding discussion it has been assumed that all 
 the plans of the business are based on the sales program. 
 It has been explained, however, that the sales program is 
 based not alone upon sales possibilities, but also upon 
 production or purchasing capacity, expense requirements, 
 and profit potentialities. As the expense factor is an im- 
 portant one in a mercantile business, it seems worth while 
 to emphasize again the importance of giving it very careful 
 consideration in forming the sales program and the relative 
 purchasing program. 
 
 It is important to see the anticipated expenses of each 
 department and to determine if the sales program is suffi- 
 cient to warrant the expenses planned. If that program is 
 not sufficient, it is necessary to plan either for an increase 
 in sales or for a decrease in expense. It is beneficial to the 
 department head to have the relationship between his sales 
 and expenses brought forcibly to his attention. After the 
 estimated expenses of the department are determined, it is 
 well to show the amount of sales which are necessary to 
 make possible the incurrence of these expenses with a 
 satisfactory margin of profit. 
 
 To make this calculation it is necessary to consider (i)
 
 THE PURCHASES BUDGET 
 
 239 
 
 DEPT.-lL 
 
 PRELIMINARY SIX MONTHS' PLANS 
 
 Period from JmU.2222 ,0 Jul£Li922 
 
 Retail Stock 
 On Hand at 
 Beoinnino ot Period- 
 Desired at 
 End of Period 
 
 Retail 
 
 Maximum Stock. 
 Minimum Stock. 
 
 Mark-Downs Allowed. 
 
 Initial Mark-Up Required 
 
 MONTH 
 
 SALES: 
 
 Last Year 
 Estimated 
 Result 
 
 Inventory 
 Last Year 
 Estimated 
 Result 
 
 TURNOVER: 
 
 Last Year 
 Estimated 
 Result 
 
 Purchases: 
 Last Year 
 Estimated 
 Result 
 
 Mark-Downs: 
 Last Year 
 Estimated 
 Result 
 
 EXPENSE: 
 
 Last Year 
 
 Estimated 
 % 
 Result 
 ?_ 
 
 Jan, 
 
 Feb. 
 
 Mar 
 
 April 
 
 May 
 
 June 
 
 TOTAL 
 
 REMARKS 
 
 Figure 21. Showing Merchandise Plan of Each Department of a 
 Department Store
 
 240 BUDGETARY CONTROL 
 
 the estimated sales, (2) the average mark-up, (3) the aver- 
 age mark-down, and (4) the expected profit. If we assume 
 that the estimated expenses of Department A are $7,000, 
 the average mark-up 40 per cent, the average mark-do\vn 
 2 per cent, and the expected profit 3 per cent, then the 
 necessary sales will be obtained by the following calculation : 
 
 $7,000 -^ [40% - (2%-l-3%)] = $20,000 
 
 If the sales program of Department A calls for sales of 
 less than $20,000, it must be revised or else the expense or 
 profit estimate must be revised. 
 
 If a merchandise plan is made based on a close correla- 
 tion between the sales, purchasing, and expense program, 
 there will be less likelihood of disappointments at the end 
 of the period. 
 
 Report on Merchandise Plan 
 
 The merchandise plan of each department of a depart- 
 ment store or wholesale house can be very effectively pre- 
 sented for executive consideration by the use of a report 
 made in the form shown in Figure 21. 
 
 The information shown on this report is self-explanatory. 
 It serves not only as a basis for formulating plans, but can 
 also be used as a means of checking their performance since 
 it provides for a comparison of the estimated and the 
 actual. If desired, sufficient space may be left in con- 
 nection with each section so that at the end of each 
 month revisions may be shown for each of the following 
 months. 
 
 It will of course be understood that this general report 
 will be supplemented by a number of detailed reports 
 which will serve to explain the summary figures shown on 
 it. If desired, this report may be so designed as to show 
 comparisons by percentages.
 
 THE PURCHASES BUDGET 24I 
 
 Review and Summary 
 
 In Chapters V and VI the formation and execution of 
 the sales budget has been discussed. In Chapters XIV and 
 XV an attempt has been made to outline the procedure 
 involved in the correlation of purchases with sales, and in 
 the preparation and execution of the purchases budget. 
 
 In summary form this procedure may be stated as 
 follows : 
 
 I. Preparation of Purchases Budget 
 
 First. An estimate of sales is made for the period. To recapitulate 
 wfiat has been said in a preceding chapter, this requires: 
 
 1. An analysis of the sales of preceding periods. The sales accounts 
 
 should furnish this analysis. But several analyses may be of 
 value in arri\-ing at the final sales program, and it may be 
 necessary to refer back to sales tickets or other vouchers for 
 data in making this analysis. Thus if the sales accounts lead 
 to a report of sales by lines of goods, it may be of value to refer 
 to analyses of sales by terms, by territories, etc. 
 
 2. Use of sales analysis comparisons in estimating sales under existing 
 
 or future trade conditions. 
 
 3. Revision of original sales estimates in the light of purchasing 
 
 possibilities, expense requirements, and profit potentialities. 
 
 4. Comparison of estimates of sales with actual sales accounts dur- 
 
 ing the period, and correction of first estimate as actual sales 
 accounts show errors of judgment in setting up the sales pro- 
 gram. 
 
 Second. An estimate of turnover for the period is made. To do this 
 requires : 
 
 1. Use of inventory accounts and sales accounts of past periods in 
 
 arriving at average turnover for each line of goods in com- 
 parable past periods. 
 
 2. Use of past average turnover in estimating probable turnover 
 
 under the existing or future trade conditions. 
 
 Third. Estimated average inventory for the coming period is computed 
 for each item or line of finished stock to be sold in the period. For control 
 purposes, these estimates are set up in schedules of finished stock inventory 
 
 16
 
 242 BUDGETARY CONTROL 
 
 requirements. As the period advances, comparisons are made between 
 schedules and the amounts shown by the inventory accounts, and the 
 schedules are corrected where errors of judgment are apparent through 
 such comparisons. 
 
 Fourth. A schedule of deliveries of finished stock is made. To be 
 effective as a basis for management control, this schedule or estimate of 
 deliveries should specify the amount of each line of goods that is to be 
 placed in stock each week or each month of the period. If the period 
 covers six months commencing on January i, the delivery quotas may be 
 computed as follows: 
 
 Estimated sales for the month of January at cost. 
 
 Plus inventory expected on January 31. 
 
 Less actual inventory on December 31. 
 
 Equals delivery into stock quota for the month of January. 
 
 Then for the month of February. 
 
 Estimated cost of sales for February. 
 
 Plus inventory expected on February 28. 
 
 Less estimated inventory on January 31. 
 
 Equals delivery into stock quota for month of February. 
 
 And so on for each of the six months. If the volume of sales is large and 
 fairly constant, as in a mail-order furniture line, such a monthly quota will 
 furnish reasonably close limits on purchases. But if the volume of the 
 sales in the line is subject to great seasonal variations, as in a department 
 store wall-paper line, a weekly quota should be set up for deliveries into 
 stock during rush seasons. 
 
 Fijth. An estimate of purchases which will satisfy the schedule of 
 finished goods deliveries is set up. This will show estimated orders to be 
 placed each month, estimated deliveries to be made, and estimated dis- 
 bursements to be made in settlement of vendors' claims. 
 
 Sixth. The schedule of finished goods deliveries and the estimate of 
 purchases is approved by the controlling executive authority with whom 
 final approval rests. 
 
 II. Reports Used in Preparation and Execution of Purchases 
 Budget 
 
 If it is assumed that the buying budget for 1922 is under consideration, 
 the name of each report with the money column headings of each which 
 would be used in its preparation and execution may be as follows:
 
 THE PURCHASES BUDGET 243 
 
 First. Weighted Average of Sales for three years for each class of 
 goods: 
 
 1. Sales for the year 1919. 
 
 2. Sales for the year 1 920. 
 
 3. Sales for the year 1921. 
 
 4. Arithmetical average. 
 
 5. Weighted average — to be used as a basis for the sales estimate. 
 
 Second. Sales program for the year 1922 for each item sold: 
 
 1. Weighted average for the three years preceding. 
 
 2. Per cent of 1922 estimated increases and decreases. 
 
 3. Sales estimate for 1922 on each item. 
 
 Third. Monthly Report of Actual Sales under sales program: 
 
 1 . Sales estimated for period to date. 
 
 2. Actual sales for period to date. 
 
 3. Per cent of increase or decrease of actual over estimated. 
 
 4. Add or deduct from sales program for the rest of the period. 
 
 Fourth. Estimated Average Inventory by Classes or Goods and Items: 
 
 1. Actual sales for 1919, 1920, 1921. 
 
 2. Less actual gross profit for 1919, 1920, 192 1. 
 
 3. 1919-1920-1921 sales at cost. 
 
 4. Rate of turnover on each item for 1919, 1920, 192 1. 
 
 5. Estimated sales for 1922. 
 
 6. Estimated gross profit for 1922. 
 
 7. Estimated sales at cost for 1922. 
 
 8. Estimated turnover rate for 1922. 
 
 9. Estimated average inventory for 1922. 
 
 Fifth. Estimate of Finished Goods: 
 
 1. Month. 
 
 2. Estimated inventory at beginning of the month. 
 
 3. Estimated sales at cost. 
 
 4. Estimated inventory at the end of the month. 
 
 5. Estimated deliveries to stock during the month. 
 
 6. Comments. 
 
 Sixth. Estimate of Purchases: 
 
 1. Item. 
 
 2. First month: 
 
 (a) Estimated inventory at beginning of month. 
 
 (b) Estimated deliveries to stock during the month.
 
 244 BUDGETARY CONTROL 
 
 (c) Estimated orders to be placed during the month. 
 
 (d) Estimated inventory at the end of the month, 
 
 (e) Estimated cash disbursements for purchases made during 
 
 previous months. 
 
 (f) Estimated cash disbursements for purchases made during 
 
 the current month. 
 3. Second month: 
 
 The same as for first month, and so continued for each month. 
 
 Seventh. Monthly Inventory Comparison Report: 
 
 1. Estimated sales. 
 
 2. Actual sales. 
 
 3. Per cent of increase or decrease. 
 
 4. Estimated average inventory. 
 
 5. Actual inventory. 
 
 6. Per cent of increase or decrease. 
 
 Eighth. Monthly Report on Quotas : 
 
 1. Estimated sales for month. 
 
 2. Estimated gross profit. 
 
 3. Estimated sales at cost. 
 
 4. Purchase quota. 
 
 5. Ratio of (4) to (3). 
 
 6. Actual sales for month. 
 
 7. Revised quota, per cent shown in (5) taken of actual sales shown 
 
 in (6). 
 
 8. Delivered into stock during the month — taken from the purchase 
 
 accounts. 
 
 9. Balance of quota not delivered or excess of quota d«livered. 
 
 10. Purchase orders outstanding under quota, not delivered. 
 
 11. Balance in quota not ordered or excess ordered over quota. 
 
 Ninth. Report on Merchandise Plans of Each Department: 
 This report may be made in the form in Figure 21.
 
 CHAPTER XVI 
 THE PLANT AND EQUIPMENT BUDGET 
 
 Need for Consideration 
 
 In every business there is need for certain equipment to 
 be used in carrying on its operations. The amount and 
 nature of this equipment depends on the size and the nature 
 of those operations. The professional firm needs little 
 equipment and very rarely owns the building in which it is 
 housed. The mercantile firm uses a limited amount of 
 equipment, depending on its size, and in many cases does 
 not own the building in which it operates. The manufac- 
 turing firm usually employs a large amount of equipment, 
 and in most cases owns the plant in which it carries on its 
 manufacturing operations. Consequently a large part of 
 the capital of most manufacturing firms is invested in their 
 plant and equipment. 
 
 It can be seen, therefore, that expenditures for plant 
 and equipment are most important in connection with an 
 industrial concern, but that they are of some significance in 
 the case of all businesses. The following discussion will be 
 devoted primarily to a consideration of the control of expend- 
 itures for the plant and equipment of a manufacturing 
 business, but the same principles will apply to the control of 
 expenditures for plant and equipment of any other type of 
 business. 
 
 Classification of Plant and Equipment Expenditures 
 
 The expenditures made in connection with the plant and 
 equipment of a business may be classified into the following 
 general groups: 
 
 245
 
 246 BUDGETARY CONTROL 
 
 1. Expenditures which are necessary to maintain the present plant 
 
 and equipment at its normal efficiency. No matter how care- 
 fully equipment is selected or how carefully it is used, certain 
 expenditures must be made from time to time to keep it in such 
 condition that it can be operated efficiently. Such expendi- 
 tures are called "repairs." 
 
 2. Expenditures which are made to replace with new equipment, 
 
 old equipment that is worn out and discarded. Regardless 
 of the amount spent in the way of repairs, equipment will 
 in time be in such a condition that it can no longer be 
 operated profitably. It is necessary to purchase new equip- 
 ment to take its place. Such expenditures are termed 
 replacements. 
 
 3. Expenditures in connection with present equipment which add 
 
 to its life or efficiency. For instance, a machine may be entire- 
 ly overhauled; old and worn parts are replaced by new ones, 
 ■ with the result that it will continue in use longer than was 
 originally estimated. Or a new patent may be added to the 
 machine which will not prolong its life but will increase its 
 efficiency during its life. Such expenditures are termed 
 "betterments." 
 
 4. Expenditures which are made to obtain new equipment which 
 
 does not replace other equipment but which represents an addi- 
 tion to the sum total of the equipment employed by the busi- 
 ness. As a business expands, it is necessary to secure addition- 
 al equipment to carry on the increased volume of business. 
 Expenditures for this purpose are termed "additions." 
 
 Treatment of Different Classes of Expenditures 
 
 From the viewpoint of both accounting and financial 
 management, the classes of expenditures explained in the 
 foregoing discussion are distinctly different and must be 
 recorded carefully to show properly their effect on the finan- 
 cial condition and operating efficiency of the business. A 
 proper record is necessary also for use as a basis in planning 
 and executing an effective control of these expenditures. 
 It will be necessary to discuss separately the method of 
 recording and reporting each class.
 
 THE PLANT AND EQUIPMENT BUDGET 247 
 
 Repairs 
 
 Repairs are usually considered as a current expense 
 of the business, which must be provided for out of the 
 income of the fiscal period in which they occur. This 
 is on the theory that repairs are necessitated because 
 of the operations of the period when they occur and 
 that consequently their cost should be borne by that 
 period. 
 
 In opposition to this theory it is sometimes urged that 
 repairs are not the result necessarily of the operations of the 
 period when they occur, but may be necessitated because, 
 in part at least, of the operations of previous periods. In 
 other words, the operations of one period may cause a ma- 
 chine to be so worn that it is almost ready to break down 
 at the end of the period, but the break with the consequent 
 repair may not actually occur until the beginning of the 
 next period. The customary practice assumes, however, 
 that repairs "even up" from period to period, since each 
 period suffers repairs caused in part by the operations of 
 previous periods, and in turn transfers "potential repairs" 
 to the next period. Consequently, it Is argued that the 
 cost of repairs tends to be approximately uniform from 
 period to period. 
 
 If, for any reason, the cost of repairs fluctuates to any 
 extent from period to period, and it is desired to distribute 
 their cost evenly, this may be accomplished by estimating 
 the average cost of repairs on the basis of past experience 
 and future plans, and setting up a reserve for repairs. 
 Under this method there will be charged to expense and 
 credited to a reserve for repairs an amount equal to the 
 estimated cost of repairs. As the repairs take place they 
 are charged to the reserve for repairs. 
 
 If standard rates for repairs are established, the prepa- 
 ration of the manufacturing expense budget is facilitated.
 
 248 BUDGETARY CONTROL 
 
 This procedure also assists in the estabHshment of standard 
 expense rates such as were discussed in Chapter XIII. 
 
 Replacements 
 
 The cost of replacements is not an expense of the period 
 when the replacement takes place, but is an expense of all 
 the periods during which the equipment which is replaced 
 has been used. If a machine costing $ i ,000 is purchased in 
 1 92 1, the year 1 921 should not bear the entire cost of the 
 new machine, neither should it bear the difference between 
 the cost and the scrap value of the old machine. Each of 
 the six years during which the machine has been used has 
 received a benefit from its use, and consequently, each of 
 the six years should be charged with a part of its cost. If 
 the scrap value of the machine is $100, the six years during 
 which the machine has been used must be charged with 
 $900 for its use. 
 
 As to whether each year should be charged an equal 
 amount, there is no unanimity of opinion. It depends 
 upon the method of "depreciation" that is adopted. It is 
 not deemed desirable at this time to enter into a discussion 
 of the different methods which may be employed. It is 
 important to see, however, that the estimated decrease in 
 value of the asset due to the operations of the business each 
 year must be charged against the income derived from these 
 operations. 
 
 Since the actual expenditures for any particular equip- 
 ment take place at one time, and not during each year of its 
 use, it is customary to credit the estimated depreciation of 
 each period to a reserve for depreciation account and to 
 debit an expense account for the same amount. When the 
 asset is sold or discarded, it is charged against the reserve 
 account. By this means the cost of equipment is charged 
 against the income of the periods which benefit from its use.
 
 THE PLANT AND EQUIPMENT BUDGET 249 
 
 The new equipment which is purchased to take the place of 
 the old is charged to the asset account. 
 
 Betterments 
 
 When betterments are made, future periods will be 
 benefited either through the increased efficiency of the 
 equipment concerned, or through its longer life, and hence 
 replacement costs are postponed. In either case, since 
 future periods are to receive the benefit of such better- 
 ments, they should bear the cost of the betterments. 
 Hence betterments are charged to asset accounts and are 
 not reflected in the expense accounts of the period in which 
 they are incurred. 
 
 It is often difficult to distinguish between a betterment 
 and a repair. In many cases an expenditure is partly one 
 and partly the other. To take a classic illustration, if a 
 wooden roof is replaced by a slate roof, so much of its cost 
 as would have been incurred if a wooden roof had been used 
 will be treated as a repair, while the excess of the cost of the 
 slate over a wooden roof will be treated as a betterment. 
 In case of doubt, it is the practice of accountants to be con- 
 servative and treat the expenditure as a repair. 
 
 Additions 
 
 Additions to plant and equipment are made for the bene- 
 fit of future periods. Hence their cost is not charged to the 
 period in which they are obtained but is distributed, by 
 means of the periodical depreciation charge, over the pe- 
 riods during which they are used. Consequently, additions 
 are a capital and not a revenue charge. 
 
 It must be realized, however, that as soon as additions 
 are secured they give rise to revenue charges, since a charge 
 for depreciation must be made at the end of each fiscal 
 period to provide for their replacement.
 
 250 BUDGETARY CONTROL 
 
 Capital vs. Revenue Charges 
 
 From the foregoing discussion it can be seen that from 
 the viewpoint of accounting, plant and equipment gives rise 
 to two kinds of charges: 
 
 1. Those which are made to maintain the present equipment. Re- 
 
 pairs and replacements are included in this group. These 
 may be termed " maintenance " costs. They must be included 
 in the periodical expense accounts; or to use technical termi- 
 nology, they are "charged against revenue." Many authori- 
 ties do not include provision for replacements (that is, the 
 periodical depreciation allowance) as an item of maintenance 
 cost. From the viewpoint of a maintenance budget, this in- 
 clusion is desirable and no difficulty arises if the definition 
 of maintenance precedes its use. 
 
 2. Those charges which represent an addition to the assets of the 
 
 business. Betterments and addition^ are included in this 
 group. These are termed "plant and equipment costs." 
 They are charged to the asset, or to use technical terminology, 
 they are "charged to capital." 
 
 Method of Handling Maintenance Charges 
 
 The preceding discussion has dealt with the method of 
 recording these two classes of charges. The following dis- 
 cussion will deal primarily with the method of exercising 
 control over their amount. 
 
 Maintenance charges on plant and equipment used in 
 production are a part of manufacturing expenses and should 
 be included in the manufacturing expense budget. This is 
 necessary in order to judge the effect of the contemplated 
 production program on the amount of the manufacturing 
 expense. It is also necessary in determining costs of manu- 
 facturing product and in the establishment of standard 
 rates. 
 
 It is desirable that the maintenance costs also be shown 
 on the plant and equipment budget, since this makes it 
 possible to obtain a comprehensive picture of the plant and
 
 THE PLANT AND EQUIPMENT BUDGET 251 
 
 equipment program as a whole. Their appearance on the 
 plant and equipment budget also facilitates the establish- 
 ment of appropriations for them. If the manufacturing 
 expense budget and the plant and equipment budget are 
 prepared by different units of the organization, which is 
 usually the case, the maintenance charges appearing on the 
 two budgets can be checked against each other, which will 
 tend to correct errors made by either party in making the 
 estimate. If there is a disagreement between the estimates 
 shown on the two budgets, this should be reconciled, if pos- 
 sible, by the parties responsible for it. If this cannot be 
 done, it will be necessary to submit the disagreement to the 
 budget committee for settlement. 
 
 It must of course be remembered that in preparing the 
 financial budget and also the estimated statement of profit 
 and loss, the cost of maintenance must be taken from only 
 one budget. 
 
 Requirements for Plant and Equipment Control 
 
 To exercise effective control over disbursements for 
 plant and equipment, three things are necessary : 
 
 1. There must be available data which will show results of past 
 
 operations and serve as the basis of future plans. 
 
 2. After all the available data have been considered, the plans which 
 
 have been formulated must be expressed in workable form by 
 means of a budget on plant and equipment. Sometimes two 
 budgets are made, one on maintenance costs and one on the 
 cost of betterments and additions. The requirements for each 
 are sufficiently similar to make their joint discussion possible. 
 
 3. After the budget is made, it is necessary to have records and re- 
 
 ports prepared which will make possible the control of such 
 expenditures and the enforcement of the budget plans. 
 
 Data Required as Basis of Control 
 
 The data required to serve as a basis for control of plant 
 and equipment expenditures may be classified as follows:
 
 252 BUDGETARY CONTROL 
 
 1. That which is obtained from the accounting and statistical rec- 
 
 ords with reference to past experience. 
 
 2. That which is obtained by a mathematical calculation based on 
 
 predetermined factors. 
 
 3. That which is determined by a consideration of future plans. 
 
 4. That which is obtained as a result of the investigation and study 
 
 of experts. 
 
 Accounting and Statistical Data 
 
 To make plans which will serve to control expenditures 
 for plant and equipment, it is necessary that a proper classi- 
 fication of the plant and equipment be made and that 
 proper records be maintained which reflect this classifica- 
 tion. This classification is necessary to make an accurate 
 estimate of plant and equipment expenditures. 
 
 To illustrate, in a manufacturing business the plant and 
 equipment expenditures will vary with the production pro- 
 gram. If production is to be increased it will be necessary 
 to do one or both of two things : ( i ) secure additional equip- 
 ment; (2) use present equipment more intensively. In 
 either case, additional expenditures will be incurred, and to 
 estimate accurately the amount of these expenditures it is 
 necessary to consider carefully the various kinds of equip- 
 ment used in production. 
 
 If additional equipment is to be secured It will be neces- 
 sary to determine the units of equipment used in the past 
 and the amount of production which has been accomplished 
 with this equipment. On this basis, the additional equip- 
 ment required to secure the increased production capacity 
 can be estimated. That the past production capacity may 
 be obtained accurately, a record of each unit of equipment 
 is necessary. 
 
 If the present equipment is to be used more intensively, 
 this win increase the maintenance cost, and an estimate of 
 this increase must be made. It should be obvious that a
 
 THE PLANT AND EQUIPMENT BUDGET 253 
 
 change in the production program will not affect all the 
 equipment of the business to the same extent. For instance, 
 it may be planned to increase the output of one department, 
 while the output of all the remaining departments is to re- 
 main the same. This increase in the output of one depart- 
 ment is very apt to increase the maintenance expense of 
 this department, and if the previous expense is shown sepa- 
 rately from that of all the other departments, a more accu- 
 rate estimate of the increase can be made. It will be 
 necessary, however, to know more than the total cost of the 
 maintenance of the department. The new program will 
 probably affect some units of equipment in the department 
 more than it will others. It is desirable, therefore, to have 
 records which will show each unit of equipment in the de- 
 partment, and the maintenance expense incurred on it. 
 This is accomplished by keeping a plant ledger. 
 
 Plant Ledger 
 
 A plant ledger is a record which contains an account with 
 each unit of plant and equipment. It serves as a subsidiary 
 record to the controlling account or accounts with plant and 
 equipment which are kept on the main ledger. The plant 
 ledger is usually kept on cards or loose-leaf sheets, each card 
 or sheet providing a record of one unit of equipment. The 
 size of this unit will vary, depending on conditions. There 
 may be a separate account for each machine, or if several 
 machines of the same pattern and size are purchased at the 
 same time, they may all be recorded in one account. 
 
 Each account in the plant ledger should show at least 
 three things: 
 
 1. The original cost of equipment and the date of purchase. 
 
 2. The amount of depreciation which has accrued on the equipment 
 
 to date. 
 
 3. Its present book value.
 
 254 
 
 BUDGETARY CONTROL 
 
 In addition the account may show the amount of the repairs 
 which have been made on the equipment to date. 
 
 It will be understood that the repairs entered on the 
 plant ledger account will not affect the value of the equip- 
 ment, since they are treated as an expense and are never 
 
 
 PLANT LEDGER 
 
 aker' 
 RMp 
 
 
 Our 
 Plant No. 
 
 Made M 
 Name of Item Bv 
 
 s Acct. 
 Nn. 
 
 Dept. 
 
 
 
 
 Indicate below whether machine 
 
 proper, accessories, foundation, 
 
 or additions, etc. 
 
 FIXED ASSETS 
 
 DEPRECIATION RESERVE 
 
 Detail 
 
 Total 
 
 Date 
 
 Rate 
 
 Annual 
 
 Total 
 
 
 
 
 
 
 
 
 Figure 22. Plant Ledger 
 
 added to the asset. It is useful to have them entered on the 
 plant ledger account for memorandum purposes, so that in 
 making future estimates it will be possible to obtain infor- 
 mation of the past costs of repairs, not only in total but also 
 by departments and by units. It is not within the province 
 of this discussion to treat of the accounting features in- 
 volved in the operation of a plant ledger, but it is necessary
 
 THE PLANT AND EQUIPMENT BUDGET 255 
 
 to emphasize its usefulness in making plans for the control 
 of maintenance cost. 
 
 Figure 22 shows a typical form of plant ledger. 
 
 Data Calculated from Predetermined Factors 
 
 Later chapters will show that the various departmental 
 estimates are combined for two purposes: 
 
 1. To determine the estimated cash receipts and the estimated cash 
 
 disbursements, and thereby formulate a financial budget. 
 
 2. To determine the estimated revenues and the estimated expenses, 
 
 and thereby formulate an estimated statement of profit and 
 loss. 
 
 In making all the departmental estimates, it should be 
 borne in mind that every business desires to formulate a 
 program which it is capable of financing and which will re- 
 sult in the greatest possible profit. A financial budget and 
 the estimated statement of profit and loss are the state- 
 ments which answer the two questions which are most sig- 
 nificant with reference to the budgetary program. And all 
 departmental estimates must be made so that these two 
 statements can be prepared. In the preparation of the es- 
 timated statement of profit and loss, the periodical deprecia- 
 tion charge is an important factor. Consequently it must 
 be given careful consideration in the preparation of the 
 plant and equipment budget. 
 
 All equipment wears out in time and its replacement 
 must be provided for. This provision is accomplished by 
 charging a certain amount to the expenses of each budget 
 period, and crediting a like amount to a reserv^e for depre- 
 ciation. The accounting technique involved in the opera- 
 tion of such a reserve account need not be dealt with here. 
 It is sufhcient at this time to see that the amount of such 
 depreciation is an important element of the expense of 
 operation and must be included in the plant and equipment
 
 256 BUDGETARY CONTROL 
 
 budget. In the calculation of the depreciation charge, three 
 things are considered : the original cost of the asset, its antici- 
 pated life, and its estimated scrap value. By subtracting 
 the scrap value of the asset from its original cost, it is possi- 
 ble to determine the cost of the use of the asset during its 
 period of life. This cost must be distributed over the period 
 of its life in such a way that each budget period will be 
 charged with its equitable share. 
 
 Distribution of Depreciation Cost 
 
 There is a difference of opinion as to how this cost should 
 be distributed. Some contend that each budget period 
 should be charged an equal amount; others contend that 
 the earlier period should be charged more than the later 
 periods, since the equipment is more efficient when it is new 
 and the cost of repairs is less, while, when it becomes older, 
 its efficiency decreases and the cost of repairs becomes 
 greater. Other methods are also suggested, but it is not 
 thought advisable to discuss them here. Whatever method 
 of determining the periodical charge is used, once adopted 
 it should be followed throughout the life of the equipment. 
 
 The determination of the periodical charge is, therefore, 
 merely a mathematical calculation. If it is decided to 
 charge each period a uniform amount, it is only necessary 
 to take the figures of past periods as a basis of the present 
 period budget charge. If some other method is followed, 
 the charge for the current period may be more or less than 
 that of the previous period, but it will be a uniform increase 
 or decrease and can be determined by a consideration of the 
 predetermined factors previously mentioned. 
 
 Effect of the Budget Program 
 
 The accounting and statistical records show the past 
 expenditures for plant and equipment, but as suggested by
 
 THE PLANT AND EQUIPMENT BUDGET 257 
 
 the preceding discussion, a change in the volume of produc- 
 tion affects both the maintenance charges and the charges 
 for additions and betterments. It is necessary, therefore, 
 to consider the effect of the budget program on each 
 of these. 
 
 There are many plans which may affect cost of mainte- 
 nance. If a large increase in production is planned, the 
 increased cost of maintenance arising from this increased 
 production must be estimated. If new methods of manu- 
 facture are to be employed, the consequent change in main- 
 tenance cost must be calculated. If new equipment is to 
 take the place of old, the maintenance cost will be affected. 
 If it is planned to inaugurate a policy of keeping the equip- 
 ment in better repair so as to make it more efficient and to 
 prolong its life, this change must be considered. These as 
 well as other factors affect the cost of maintenance, and all 
 these factors must be considered. 
 
 In considering the relation of maintenance cost to future 
 plans, various comparisons should be made. This is due to 
 the fact that some items of maintenance cost will vary in 
 proportion to certain factors, while others will vary in pro- 
 portion to different factors. To estimate these, it is neces- 
 sary to determine the ratio of the volume of production to 
 these costs during the past period or periods. By applying 
 this ratio to the estimated volume of production for the 
 current period, an estimate of these items of maintenance 
 expense for this period can be obtained. Some items of 
 maintenance cost will vary more nearly with the floor space 
 used than with the production volume. Therefore, the 
 ratio of floor space used in the past period to these items of 
 maintenance expense during the same periods will be ob- 
 tained, and this ratio applied to the estimated floor space of 
 the current period. Other items of maintenance costs may 
 vary in proportion to the number of units of equipment 
 
 17
 
 258 BUDGETARY CONTROL 
 
 which are used. Hence the amount of these items will be 
 increased as the number of the units of equipment are in- 
 creased. 
 
 In the same manner in which the general plans of the 
 business, as reflected in the departmental estimates, affect 
 the cost of maintenance, they determine the amount of new 
 equipment to be purchased. In a manufacturing business 
 the amount of equipment required is determined primarily 
 by the volume of production. If records are available 
 which show machine capacity, such as were discussed in 
 connection with the production budget, it is not difficult to 
 estimate the requirements of the increased production in 
 terms of number of machines or units of equipment. If 
 proper records are maintained, it is possible to estimate the 
 total requirements of the production program and the total 
 production capacity of the factory. By a comparison the 
 excess of requirements over capacity can be determined, 
 and from this the new equipment required can be calculated. 
 
 Information Obtained by the Investigation and Study of Experts 
 It is desirable that a periodical check be made on the 
 accuracy of the value of the plant and equipment as shown 
 by the records. If a plant ledger is maintained in the form 
 described in the preceding discussion, it is possible to obtain 
 the original cost, the accrued depreciation, and the repairs 
 incurred on each unit of plant and equipment. The depre- 
 ciation shown as accrued is only an estimate, however, and 
 the expenses which have been incurred may have been more 
 or less than those required to maintain the equipment in an 
 efficient condition. Unless some steps are taken to deter- 
 mine the accuracy of the estimated depreciation and the 
 sufficiency of the repairs which have been made, it may be 
 determined in the future that both the depreciation and the 
 repairs have been inadequate, and consequently there will
 
 THE PLANT AND EQUIPMENT BUDGET 259 
 
 be an unduly heavy charge against the earnings of future 
 years. 
 
 To avoid this it is desirable that a periodical inventory 
 or appraisal be made of plant and equipment and used as a 
 means of checking the plant ledger and as a basis for budg- 
 etary plans. By this means inaccuracies in depreciation 
 estimates and inadequate repairs can be discovered and 
 corrected. It is also possible that too liberal depreciation 
 may be allowed or too extensive repairs are being made. 
 Such appraisals will serve to disclose this. They will also 
 show when it is better to purchase a new machine rather 
 than repair an old one. 
 
 Although an appraisal of plant and equipment is quite 
 valuable to use in the way indicated in the preceding para- 
 graph, it must be used with discretion, especially if it is 
 made by professional appraisers. The viewpoint of the 
 professional appraiser is not always that of the accountant 
 or that of the financial executive. The appraiser tries to 
 determine the present value of the article he is appraising. 
 He is concerned with its original cost and past use, only as 
 they assist him in determining present value. As a con- 
 sequence, market fluctuations are apt to be reflected in his 
 appraisal. The accountant and financial executive, on the 
 other hand, are not interested in the market value of the 
 equipment. They are interested only in apportioning the 
 original cost and the cost of repairs over the periods which 
 will benefit from its use, in as equitable a manner as possible. 
 An increase in the market value of the asset does not increase 
 its life or its efficiency; neither does a decrease in its market 
 value decrease its life or its efficiency. 
 
 Because of these reasons, the value of the appraiser may 
 not agree with the book value, and yet the book record may 
 be satisfactory. The chief importance of the appraisal is 
 not the value which it places on the asset, but rather the
 
 26a BUDGETARY CONTROL 
 
 appraiser's estimate of the length of Hfe and efficiency of 
 the asset as reflected in the value placed on it. 
 
 The Plant Engineer 
 
 Many manufacturing companies have on their staff a 
 plant engineer, who is responsible for the production, use, 
 and maintenance of plant and equipment. As indicative of 
 the function of the plant engineer, the following responsi- 
 bilities may be mentioned : 
 
 1. The study of improved methods of factory construction. 
 
 2. The study of present factory layouts, and presentation for the 
 
 approval of the executive in charge of production, of proposals 
 for improvements based on costs involved and savings made. 
 
 3. The study of machinery, equipment, and tools, and the presenta- 
 
 tion for the approval of the executive in charge of production, 
 of proposals for changes, based on costs involved and savings 
 to be made. 
 
 4. The presentation of a periodical plant and equipment program, 
 
 based on studies made in collaboration with the works plan- 
 ning department and the works engineering department. 
 
 5. The presentation of the plant and equipment program to the 
 
 executive in charge of production, for approval and transmis- 
 sion to the budget committee. 
 
 6. The preparation of a periodical maintenance program as prepared 
 
 by the works maintenance department and detailed by the 
 works engineering department. 
 
 7. The presentation of the maintenance program to the executive 
 
 in charge of production, for approval and transmission to the 
 budget committee. 
 
 8. The supervision over the execution of the plant and equipment 
 
 and the maintenance programs as approved by the budget 
 committee. 
 
 Where there is an efficient plant engineer performing 
 the functions suggested in the above outline, the services of 
 professional appraisers can usually be dispensed with under 
 normal conditions.
 
 CHAPTER XVII 
 
 THE PLANT AND EQUIPMENT BUDGET 
 
 (Continued) 
 
 Preparation of Plant and Equipment Budget 
 
 The preceding discussion explained in considerable 
 detail the data which serve as a basis for the preparation of 
 the plant and equipment budget. It is now necessary to 
 see how these data are formulated into a budgetary pro- 
 gram which serves as a means of controlling plant and 
 equipment expenditures. This involves a consideration of: 
 
 1. The contents of the plant and equipment budget. 
 
 2. The responsibility for its preparation. 
 
 3. The form in which it is made. 
 
 4. The manner in which it is used. 
 
 Contents of the Plant and Equipment Budget 
 
 The plant and equipment budget can be made to show 
 any information which the executives think is desirable for 
 their use. It is usually thought desirable that it contain 
 the following : 
 
 1. The value of present equipment at the beginning of the period. 
 
 2. The estimated depreciation and repairs on present equipment. 
 
 3. The estimated cost of new equipment which should show : 
 
 (a) Cost of factory equipment, and 
 
 (b) Cost of equipment for administrative and selling units of 
 
 the business. 
 
 4. Estimated depreciation and repairs on new equipment. 
 
 5. Total depreciation and total repairs on both old and new equip- 
 
 ment. 
 
 6. Value of total equipment at end of period. 
 
 261
 
 262 BUDGETARY CONTROL 
 
 Responsibility for Preparation of Plant and Equipment Budget 
 
 The executive in charge of production is responsible for 
 the preparation of the plant and equipment budget so far 
 as it relates to the factory. This responsibility he will dele- 
 gate to the plant engineer, who in turn will employ the 
 assistance of the works maintenance department and the 
 works engineering department. In calculating the depre- 
 ciation charges he will avail himself of the services of the 
 accounting department as well. The cost records will also 
 be of service in estimating the cost of repairs and construc- 
 tion of new equipment. The purchasing department will 
 assist in estimating the cost of new equipment which it is 
 planned to purchase. 
 
 In estimating the amount of equipment required it is 
 necessary to make use of the estimate of production, since 
 the quantity of production will affect the equipment re- 
 quirements. If a plant engineer is not employed, the plant 
 and equipment budget may be prepared by the staff of the 
 production manager or by the planning department. The 
 cost of repairs and depreciation will be estimated by the 
 cost accounting department in the estimate of manufactur- 
 ing expense, and this estimate may be used in preparing the 
 estimate of plant and equipment, but it is preferable that a 
 separate estimate be prepared by some unit of the produc- 
 tion department. 
 
 The office manager is responsible for the preparation of 
 the estimate of equipment for the administrative and selling 
 units. In its preparation he will employ the assistance of 
 the heads of the departments and executive units. Each of 
 these will submit a request to the office manager for the 
 equipment which he desires during the next budget period. 
 The office manager will consolidate these into one estimate 
 and transmit it with his recommendations to the executive 
 in charge of the budgetary procedure.
 
 THE PLANT AND EQUIPMENT BUDGET 
 
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 264 BUDGETARY CONTROL 
 
 The production manager will transmit the estimate of 
 manufacturing plant and equipment to the executive in 
 charge of the budgetary procedure, and the latter will 
 transmit it together with the estimate of the office manager 
 to the budget committee. After the committee has ap- 
 proved these estimates, they will be returned to the pro- 
 duction manager and the office manager, respectively. 
 
 Form of the Plant and Equipment Budget 
 
 No standard form for the plant and equipment budget 
 can be described, for its form will depend upon the method 
 employed in its preparation and use. Figure 23 is indicative 
 of the information that the budget should contain. A sep- 
 arate form may be used for factory equipment and for office 
 equipment, but the information desired in the two cases 
 Is sufficiently similar to make the same form satisfactory 
 in most cases. 
 
 In filling in columns (4) and (8) the plant engineer will 
 consult the works engineering department with reference 
 to the cost of repairs. The w^orks maintenance department 
 will supply information with reference to the amount of 
 repairs to be made. If the company produces its equip- 
 ment, the works engineering department will supply the 
 data needed for column (5). If the new equipment is to 
 be purchased from outside vendors, the purchasing agent 
 will supply these data. 
 
 Column (6) on the plant and equipment budget states 
 when the new equipment is desired. With this as a basis 
 the purchasing agent will state the terms on which the goods 
 will be purchased and show the date of payment. This 
 information is necessary for the preparation of the financial 
 budget. If the equipment is to be produced by the com- 
 pany, an estimate must be made of the disbursements 
 necessary for its production. The date given in column (6)
 
 THE PLANT AND EQUIPMENT BUDGET 265 
 
 is the date when the complete equipment is desired. It 
 may require a considerable period of time for its production. 
 During the process of its construction expenditures for 
 labor and possibly for materials will need to be made. 
 Under such circumstances, the estimated expenditures pre- 
 ceding the completion of the equipment must be determined 
 and allocated to the proper period for the purpose of the 
 financial budget. 
 
 Execution of the Plant and Equipment Budget 
 
 The budget for plant and equipment consists of an esti- 
 mate of the expenditures necessary for maintaining the 
 present equipment and the securing and maintenance of 
 the additional equipment demanded by the budget program. 
 Its approval is followed by the making of various appropria- 
 tions for the necessary amount to cover the cost of the vari- 
 ous items included in the budget. After these appropria- 
 tions are made, it is necessary to establish a procedure which 
 will effect their enforcement. This procedure usually 
 requires the following: 
 
 1. That expenditures under any appropriation be made only after 
 
 requisitions for these expenditures, accompanied by proper 
 estimates of cost, have been submitted and approved by the 
 proper authority. 
 
 2. That careful costs be kept on all work done under appropriations. 
 
 3. That reports be prepared showing a comparison between the 
 
 estimated and actual cost of all such work performed. 
 
 4. That reports be prepared monthly showing the status of all 
 
 appropriations. 
 
 Requisitions for Expenditures 
 
 It is customary to delegate to some official of the com- 
 pany the authority to grant expenditures under each ap- 
 propriation. In many cases the expenditures are divided 
 into two groups, known as "minor" and "major." For
 
 266 BUDGETARY CONTROL 
 
 instance, any expenditure of less than $ioo may be termed 
 a "minor" expenditure, and any expenditure of more than 
 $ioo may be termed a "major" expenditure. Tliehead of 
 the production department may be given the authority to 
 approve all minor expenditures for the production de- 
 partment, and the office manager to approve all minor 
 expenditures of the other departments. For the major 
 expenditures the approval of the budget committee may be 
 required. 
 
 That the proper executives may exercise effective con- 
 trol over the disbursements made under appropriations, it 
 is necessary that the disbursements be made only as a result 
 of a requisition or request on the part of the one desiring 
 that repairs be made or additional equipment secured. 
 When repairs or additions to plant or equipment are desired 
 by any department, the head of this department should 
 transmit a requisition to the production manager or the 
 office manager, as the case may be. 
 
 Such requests should be accompanied by an estirnate of 
 the cost of the repairs or additions. If equipment is to be 
 purchased from outside vendors, it is easy to obtain the 
 purchase cost and submit it with the requisition. If addi- 
 tions to plant or equipment are to be constructed by the 
 company, an estimate of the cost of the construction must 
 be made. 
 
 The estimate of the cost of repairs or construction which 
 is to be done by the company can be made in two ways. 
 If the business maintains an engineering department, this 
 department can be asked to make an estimate. A compe- 
 tent engineer learns by experience to estimate costs accu- 
 rately. His estimates should be checked by statistics of past 
 costs. If it is not possible or not desirable to have engineers 
 make the estimate, it can be made by the cost accounting 
 department, which will make the estimate on the basis of
 
 THE PLANT AND EQUIPMENT BUDGET 267 
 
 the statistics obtained from the records of previous costs. 
 These estimates may be erroneous if the one making them 
 is not trained in mechanics. If cooperation between the 
 accounting department and the engineering department is 
 secured, more accurate estimates will be obtained. 
 
 Costs of Construction and Repairs 
 
 If the requisition calls for construction of repairs or 
 equipment by the factory, there should be careful record? 
 kept of the cost of the construction. The method of de- 
 termining these costs is very similar to the m.ethod of 
 determining the cost of goods manufactured for sale. 
 Each requisition, after it has been approved, is given a 
 number, and a construction order is issued authorizing the 
 construction called for by the requisition. The construc- 
 tion order has the same number as the requisition. An 
 account is opened on the cost records for the construction 
 order and all costs incurred in the construction are charged 
 to this account. 
 
 It must be remembered that in arriving at the cost of 
 construction a business cannot derive a profit from work 
 done for itself. Hence no profit must be allowed on con- 
 struction work performed by the company for itself. It 
 may be possible that the company performs this work for 
 less than it can secure it from outsiders. This results in a 
 saving to the company, but it does not result in a profit. 
 
 Reports on Construction Costs 
 
 When a construction order is completed, a report is 
 made to the executive having supervision over the expendi- 
 tures for construction, showing the estimated cost and the 
 actual cost. If there is any considerable variance, it is 
 due to inaccurate estimates or excessive cost. With the 
 comparative figures available it is possible to determine the
 
 268 BUDGETARY CONTROL 
 
 cause of the variation. Unless such comparisons are made, 
 it is impossible to exercise any effective control over the 
 cost of construction work. 
 
 A copy of these reports should go to the controller or 
 head accountant, as well as to the production manager and 
 budget committee. This procedure will provide a com- 
 prehensive check on the costs of construction. 
 
 Report on Appropriations 
 
 To exercise effective control over the plant and equip- 
 ment budget, it is necessary to have periodical reports 
 which will make possible a comparison between the amount 
 appropriated for each class of expenditures and the actual 
 amount expended. A report should be made monthly, 
 giving this comparison. This report should provide the 
 information shown in Figure 24. 
 
 A report made in this form is of service not only to the 
 executive who is exercising control over the purchases and 
 construction of plant and equipment, but also to the finan- 
 cial executive. It shows the former the amount which he 
 has available for future construction, and the latter the 
 amount which he must plan to finance. The tenth column 
 gives the treasurer information of special value, since it 
 states the payments which must be made in the near future. 
 Column (13) shows the amount which may be diverted to 
 some other purpose in case of financial stringency. If the 
 budget committee receives this report each month, it can 
 exercise an effective control over all disbursements for plant 
 and equipment. 
 
 Reserve for Contingent Expenditures 
 
 It is usually not possible to estimate exactly each item 
 of plant and equipment cost which must be met during the 
 budget period. There will usually be need for expenditures
 
 THE PLANT AND EQUIPMENT BUDGET 
 
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 C70 BUDGETARY CONTROL 
 
 which cannot be foreseen. It is desirable to anticipate 
 these additional costs and include an item in the plant and 
 equipment budget of each period to cover them. Since 
 these additional costs vary in amount from period to period, 
 it is well to credit a reserve account for the amount provided 
 for them in each budget. When the costs are incurred, they 
 can be charged against the reserve. These additional costs 
 may be due to rising costs of material and equipment, labor 
 emergencies, accidents, increased production, and similar 
 causes. 
 
 By employing the method outlined above, these costs 
 can be taken care of when they arise. It is obvious that 
 this reserve has a limited use and must not be used as a 
 means of hiding excessive amounts paid for construction or 
 repairs during certain periods. If it is too large, it prevents 
 the control being exercised for which the plant and equip- 
 ment budget is Intended. 
 
 Use of Standardized Equipment 
 
 There is a modern tendency to use standardized equip- 
 ment throughout a business. Such standardization is 
 especially desirable for furniture, fixtures, and office equip- 
 ment. To that end businesses frequently select a standard 
 type of desk, standard typewriters, and standard calculat- 
 ing machines to be used in all offices. Any other type of 
 equipment which is in general use should be standardized, 
 if possible. Factory equipment should be standardized if 
 practicable. 
 
 There are several advantages In having standardized 
 equipment, among which the following may be mentioned : 
 
 I. By buying all equipment from one company, it may be possible 
 to obtain more favorable terms. At least such buying pre- 
 vents the purchasing of unduly expensive equipment by some 
 departments when less expensive equipment would do as well.
 
 THE PLANT AND EQUIPMENT BUDGET 271 
 
 2. It facilitates the purchasing of new equipment, since a requisi- 
 
 tion can be made for one unit of equipment and sent to the 
 general purchasing agent who knows what to purchase, from 
 whom to purchase, and the cost of the same. This eliminates 
 the preparation of specifications for the use of the purchasing 
 agent and relieves him of the task of obtaining quotations on 
 special types of equipment. 
 
 3. It facilitates the production of equipment which the company 
 
 produces for its use, since standard specifications can be 
 prepared and the necessary materials and tools can be pro- 
 cured in advance. It also facilitates the making of repairs, 
 since piece parts can be kept on hand, and mechanics will 
 become more skilled in making repairs. 
 
 4. It facilitates future planning, for it is only necessary to estimate 
 
 the number of units required and the cost can be easily 
 obtained. 
 
 5. It tends to promote the most economical use of equipment, since 
 
 equipment can be moved from one ofifice or one department to 
 another, thus preventing a probable surplus in one and a 
 shortage in another. 
 
 6. In case of equipment which requires technical skill to operate, 
 
 it facilitates the transfer of employees from one department to 
 another. 
 
 Review and Summary ^ 
 
 In the preceding pages, the procedure necessary for the 
 preparation and execution of the plant and equipment 
 budget has been outlined. In summary form, this proce- 
 dure is as follows: 
 
 I. Requirements for Control of Plant and Equipment: 
 
 1. A proper analysis of plant and equipment expenditures to 
 
 determine their classification and a record of them which will 
 show correctly their effect on the financial condition of the 
 business. 
 
 2. A proper control of the amount expended for plant and equip- 
 
 ment to the end that sufficient will be expended to provide a 
 
 ' In this brief summary no attempt is made to indicate the organization necessary for plant 
 and equipment control, this having been discussed in the preceding pages.
 
 272 BUDGETARY CONTROL 
 
 well-equipped and efficient plant, and at the same time pre- 
 vent the expenditures of more than is necessary to secure this 
 result. 
 
 II. Control of the Amount of Expenditures Required: 
 
 1. That data be available which will show results of past operations 
 
 and serve as the basis of future plans.. 
 
 2. That plans be formulated on the basis of these data and be ex- 
 
 pressed in workable form by means of a plant and equipment 
 budget. 
 
 3. That records be maintained and reports be made which make 
 
 possible the enforcement of the budget formulated. 
 
 III. Data Required as Basis of Control: 
 
 1. Those which are obtained from the accounting and statistical 
 
 records with reference to past experience. 
 
 2. Those which are obtained by mathematical calculations based 
 
 on predetermined factors. 
 
 3. Those which are determined by a consideration of future plans. 
 
 4. Those which are obtained as a result of the investigation and 
 
 study of experts. 
 
 IV. Plant and Equipment Budget Shows: 
 
 1. The anticipated repairs and estimated depreciation on the pres- 
 
 ent plant and equipment. 
 
 2. The estimated cost of new equipment including (a) cost of factory 
 
 equipment, and (b) cost of equipment for administrative and 
 selling units. 
 
 3. The anticipated repairs and estimated depreciation on the new 
 
 equipment to be secured. 
 
 V. Records and Reports for Control of Plant and Equipment 
 Budget Include: 
 
 1. Requisitions for all purchases of equipment and for all construc- 
 
 tion of equipment or repairs. 
 
 2. Estimates of cost of purchases or construction which accompany 
 
 the requisitions. 
 
 3. Records of the cost of all construction or repair work performed 
 
 by the company. 
 
 4. Reports showing a comparison of estimates and costs. 
 
 5. Reports showing a comparison of expenditures with budget 
 
 allotments.
 
 CHAPTER XVIII 
 THE EXPENSE BUDGETS 
 
 The Expense Problem 
 
 In the operation of a business it is necessary to incur nu- 
 merous expenditures which in accounting and business 
 practice are designated by the general term "expenses." 
 Expenses are incurred in connection with the operations of 
 all the functional departments of a business. In the secur- 
 ing of sales, expenses are incurred for salaries of salesmen, 
 wages of clerical help, postage, stationery, supplies, and 
 advertising. In the production of goods, heat, light, power, 
 supplies, and miscellaneous labor must be purchased. In 
 the maintenance of plant and equipment, repair and replace- 
 ment costs must be borne. In the general administration 
 of the business, expenses of various kinds are necessary. 
 
 Although many expenses are incurred in small amounts, 
 the sum total of all expenses in most businesses is sufficiently 
 large to absorb a large percentage of the returns from sales. 
 The amount of the expenses of a business is apt to deter- 
 mine whether it operates at a profit or a loss. Its sales and 
 its purchases are presumably made in a competitive market 
 where it has the same advantages as its competitors. In so 
 far as this is true, the gross profit of competing businesses 
 should tend to be the same. But the expense element in 
 different businesses varies widely, and in this fact lies to a 
 large extent the explanation of the wide variations in the 
 net profits. 
 
 Because expenses are incurred by all departments of a 
 
 business, are largely intangible in nature, and the individual 
 
 items are small, their control is difficult. They have a 
 
 tendency to increase constantly, and as they increase, the 
 
 18 273
 
 274 BUDGETARY CONTROL 
 
 profits of the business tend to decrease. To secure a con- 
 trol of expenses which is effective and yet not undulyburden- 
 some is one of the most important and difficult tasks of 
 business management. 
 
 Classification of Expenses 
 
 • One of the first steps in effecting a proper control of 
 expenses is the establishment of a proper classification or 
 grouping of them. It is obvious that administrative atten- 
 tion cannot be given to each separate item of expense, and 
 this fact necessitates that a classification be made which 
 will make possible the focusing of executive attention on 
 groups of related items. 
 
 Expenses may be classified in many ways, depending on 
 the purpose for which the classification is to be used. From 
 the viewpoint of administrative control the following classi- 
 fication is helpful : 
 
 1. Manufacturing expenses, or those which are incurred in the oper- 
 
 ation of the factory and the production of the commodity or 
 service which is offered for sale. 
 
 2. SelHng expenses, or those which are incurred in the marketing of 
 
 the product produced or purchased for sale. 
 
 3. Financial expenses, or those incurred in planning and controlling 
 
 the receipt, custody, and disbursement of funds. 
 
 4. Auxiliary expenses, or those incurred by the various auxiliary or 
 
 "service" departments of the business, such as the accounting 
 department, personnel department, purchasing department, 
 and office manager's department. 
 
 5. Executive expenses, or those which are incurred in the general 
 
 administration of the business and cannot be charged to any 
 of the foregoing groups. This group includes the expenses of 
 the general manager and his staff. 
 
 6. Corporate expenses, or those which are not incurred as a result of 
 
 the operations of any particular department, but which are 
 necessary that the business exist and operate as an entity. 
 Directors' fees and exjienses, capital stock tax, and income 
 taxes arc illustrations of such expenses.
 
 THE EXPENSE BUDGETS 
 
 275 
 
 This classification is different both In grouping and 
 terminology from the usual accounting classification of 
 expenses. The reasons for these differences will be explained 
 when each class of expense is discussed. 
 
 Relation of Expense Classification to Form of Organization 
 
 The foregoing classification of expenses will be more 
 readily seen If It Is considered In connection with the chart of 
 
 STAff ASSISTAKT 
 
 IN CHUMCOP 
 
 BUDGETARY 
 PROGRAM 
 
 PRESIDENT 
 
 AND 
 
 GENERAL MANAGER 
 
 STAFF ASSISTWn 
 
 TO 
 
 PRESIOCNT 
 
 VICE-PRESIDENT 
 
 IN CHARGE or 
 
 PRODUaiON 
 
 VICE-PRESIDENT 
 
 IN CHAROC OF 
 
 OPERATIONS 
 
 VICE-PRESIOEKT 
 
 IN CHARGE Of 
 SALES 
 
 VICE-PRESIDENT 
 
 IN CHARfiC or 
 
 FINANCE 
 
 General 
 Auditor 
 
 Personnel 
 Manager 
 
 Pirthas'mg 
 Agent 
 
 Office 
 Manager 
 
 Credit 
 Manager 
 
 Cashier 
 
 Figure 25. Organization Chart for a Manufacturing Business 
 
 a typical organization of a manufacturing business which is 
 shown in Figure 25. 
 
 It will be understood that the chart of organization 
 shown in Figure 25 is intended to be suggestive and not 
 arbitrary. Scarcely any two businesses will have the same 
 plan of organization. This is due to the differences in size, 
 volume, nature of operations, and nature of personnel. In 
 a mercantile business a merchandise department will take 
 the place of the production department sho^\'nInthe illustra- 
 tion. In many businesses there will not be a vice-president 
 in charge of operations to which some of the auxiliary de- 
 partments report. Where the administration of personnel
 
 276 BUDGETARY CONTROL 
 
 is regarded as a major function, the personnel manager may 
 be given a more prominent position than is indicated in this 
 chart. If the standards and record function is developed 
 properly, there may be a controller who will combine under 
 his jurisdiction several of the functions given in the fore- 
 going chart. 
 
 A form of organization which the author thinks is pref- 
 erable to that given in Figure 25 is shown in Figure 26. 
 The less preferable form is used as a basis for this discussion 
 for it more nearly corresponds to the situation found in 
 most medium-sized businesses. The primary purpose of 
 introducing a chart of organization at this time is to indicate 
 the desirability of classifying expenses to correspond with 
 the classification of administrative activities maintained by 
 a business as shown by its chart of organization. The 
 significance of this method of classification will be more 
 apparent as the discussion proceeds. 
 
 Direct and Indirect Expenses 
 
 There are some expenses which are incurred for the 
 benefit of only one department, and these can be charged 
 directly to that department. For instance, the salaries of 
 the sales clerks can be connected directly with the opera- 
 tions of the sales department and charged to selling expense. 
 The repairs on factory equipment can be connected directly 
 with the operations of the production department and 
 charged to manufacturing expenses. These are known as 
 "direct" expenses. 
 
 There are other expenses which are incurred for the 
 benefit of two or more departments and which cannot be 
 charged directly to the expenses of any one department. 
 For instance, the expenditures for light and heat are for tha 
 benefit of all the departments of a business. It is neces- 
 sary to allocate these expenditures to the various depart-
 
 THE EXPENSE BUDGETS 
 
 277
 
 278 BUDGETARY CONTROL 
 
 ments which are benefited by them. These are known as 
 "indirect" expenses. 
 
 The expenses which are here termed indirect expenses are 
 referred to by various names by writers and practitioners. 
 They are called "overhead," "burden," "non-productive," 
 and by other terms. The terminology of accounting and 
 business management is not standardized. It is impossible 
 to use terms which have a uniform meaning and usage. 
 The most that can be done is to define clearly those used 
 and to limit their use to the definition given. 
 
 Allocation of Indirect Expenses 
 
 In most businesses the indirect expenses are of sufficient 
 amount to make their allocation a matter of major impor- 
 tance if a proper classification of expenses is to be main- 
 tained, and accountants and industrial engineers have 
 given much thought to this problem of allocation. Two 
 questions arise from a consideration of the problem : 
 
 1. What expenses should be allocated and to what departments? 
 
 2. On what basis should the allocation be made? 
 
 In answering the first question it is necessary to consider the 
 purpose for which the allocation is being made; or to carry 
 the inquiry one step farther, it is necessary to know for 
 what purpose the data with reference to expenses are to be 
 used. 
 
 Allocation of Manufacturing Expenses 
 
 Most of the discussion of allocation of indirect expenses 
 in the past has dealt with the allocation of manufacturing 
 expenses to classes of product, or to specific "jobs" or order 
 lots. The purpose of this allocation is to obtain unit costs. 
 The problem here is one of intra-departmental distribution. 
 It is a question of distributing the total manufacturing ex- 
 penses over the total product produced so that each unit of
 
 THE EXPENSE BUDGETS 279 
 
 the product will bear its proportionate part of these expenses. 
 Sufficient consideration is given to this problem in the chap- 
 ter on the manufacturing expense budget. 
 
 There is some question as to what should be included 
 under manufacturing expenses, but this is not very im- 
 portant. Because of the attention given to factory costs 
 during the past few years, which has led to a careful consid- 
 eration of what elements should be included in the determi- 
 nation of those costs, there has developed a fairly uniform 
 opinion as to what expenses should be classified as manu- 
 facturing expenses. There are some items, such as interest 
 on investment and rent, which are yet the subject of con- 
 troversy. 
 
 Allocation of Commercial Expenses 
 
 Until recently there has been little attempt to apply the 
 principles of costs, as developed in connection with produc- 
 tion, to the determination of selling or "administrative" 
 costs. There has been much attention given to the unit 
 cost to produce, but little attention given to the unit cost to 
 market or the unit cost of "administration." There are 
 certain inherent difficulties which make the determination 
 of such unit costs quite difficult, and in some cases there may 
 be doubt of their usefulness. 
 
 As a consequence of the failure to develop "commercial " 
 costs, there has been much less attention given to the classi- 
 fication of "commercial" or non-manufacturing expenses, 
 than has been given to the distinction between manufac- 
 turing and non-manufacturing expenses. 
 
 Usually the "commercial " expenses which represent the 
 difference between gross profit on sales and net operating 
 profit, are grouped under the two general headings of "sell- 
 ing" and "administrative." All items which are not clearly 
 selling expense are usually placed under administrative
 
 28o BUDGETARY CONTROL 
 
 expense. In case of doubt with reference to any particular 
 item, it is placed in the latter group which consequently 
 comes to contain a great many items of a miscellaneous 
 nature. Subclasses may be maintained under each of the 
 major groups of selling and administrative expense, but 
 usually no great care is exercised in the allocating of expenses 
 between the subclasses. 
 
 As a consequence of these practices, there has been a 
 decided tendency to slight the question of allocating indirect 
 commercial expenses. When such allocation has been made, 
 it has frequently been on an unscientific basis. Depart- 
 ment stores and some few other businesses have broken 
 away from the traditional policy and given careful consid- 
 eration to the allocation of these expenses, but such a prac- 
 tice has been the exception rather than the rule. 
 
 Relation of Expense Allocation to Organization of Business 
 
 It can be seen from the foregoing discussion, that the 
 consideration of expense allocation has been confined largely 
 to manufacturing expenses and has here been limited in the 
 main to a consideration of their allocation as a basis for 
 unit costs. Unit costs are useful and desirable, but in the 
 desire to obtain them there has sometimes been a tendency 
 to overlook one of the important purposes of cost statistics. 
 It is not sufficient to know what costs are — In addition it is 
 necessary to control costs so that they will be as small as 
 possible. 
 
 In the modern business organization, control is exercised 
 through individuals who compose the organization. If con- 
 trol of expenses is to be effected through members of the 
 organization, it is necessary that they be classified so as to 
 show the responsibility for each class. If responsibility is 
 taken as the controlling factor In an expense classification, 
 each department will be charged with those expenses over
 
 THE EXPENSE BUDGETS 281 
 
 which the executive head of the department exercises con- 
 trol. In addition it may be charged with some items of 
 expense the amount of which is fixed or at least is beyond 
 the control of any officer. 
 
 To illustrate, the production department will be charged 
 for the supplies used in production, for these are under the 
 control of the production manager, and in addition it will be 
 charged with the depreciation on production equipment, 
 the estimated amount of which is determined in most cases 
 by others than the production manager. The depreciation 
 should be treated as a manufacturing expense, for it is a 
 direct result of the operations of the production department 
 and is necessary to the proper performance of the produc- 
 tion function. The production manager could not affect its 
 amount if the duty of determining it was left to him, for its 
 amount is determined by definite factors such as cost, scrap 
 value, and estimated life. 
 
 Expenses Which Should Not Be Allocated 
 
 As an illustration of the type of expenses which It seems 
 better not to allocate to a department, the salaries and 
 expenses of the president and his staff may be mentioned. 
 It is sometimes contended that as the president supervises 
 and directs all the departments of a business, his salary and 
 that of his staff should be allocated to the functional depart- 
 ments. For instance, a portion of these expenses should 
 be charged to selling expense. It seems that such a policy 
 is unwise, since such salaries are variable amounts, subject 
 to the wishes of the president and the board of directors and 
 are not directly or Indirectly under the control of the sales 
 department. If these salaries are increased, the sales ex- 
 pense will be Increased and the sales manager Is powerless to 
 prevent it. 
 
 The author can recall one case in which the compensa-
 
 282 BUDGETARY CONTROL 
 
 tlon of the sales manager was affected by the ratio of selling 
 expense to sales. After the passage of the income and 
 excess profits tax law of 191 7, the corporation increased the 
 salaries of some of its executives. The corporation is a 
 close one and certain of the executives are the principal 
 stockholders. Large salaries were thought to be better 
 than large profits. The sales manager had put forth an 
 unusual effort to increase his sales for the year 191 8 with 
 unexpected success. But when the increased salaries had 
 been allocated to the departments, the sales expense was so 
 increased that the bonus of the sales manager was smaller 
 than the year previous, despite the unprecedented increase 
 in sales. 
 
 It is admitted that the foregoing is an extreme case, but 
 it illustrates an important principle. If a department is 
 charged with variable expenses over which its executive 
 head and his assistants have no control, the value of the 
 departmental expense reports as a basis of administrative 
 control is largely destroyed. Expenses, like sales, produc- 
 tion, and purchases can be adequately controlled only when 
 estimates are made by those responsible for their amount 
 and these held responsible for the attainment of these esti- 
 mates. Such a procedure is greatly weakened if executives 
 are held responsible for expenses over which they do not 
 exercise control. 
 
 The first question asked with reference to expense 
 allocation may be answered by saying that no expense 
 should be allocated to a department if such allocation 
 will affect in a material way the fixing of responsibility 
 for the expenses of the department on its executive head. 
 There are of course cases where expediency will dictate 
 a variation from the application of the general principle, 
 but such variations should be permitted only for good 
 reasons.
 
 THE EXPENSE BUDGETS 283 
 
 Basis of Allocating Expenses 
 
 With reference to the basis of allocation, it is beyond the 
 province of this discussion to enter into any detailed dis- 
 cussion of this question. Cost accountants have given much 
 consideration to the allocation of manufacturing expenses 
 to factory departments and manufacturing orders. The 
 reader will find in the standard works on cost accounting 
 able discussions of the various methods employed. Much 
 less attention has been given to the proper basis for the allo- 
 cation of commercial expense, although, as already stated, 
 considerable has been done in this connection by depart- 
 ment stores. 
 
 The factory cost accountant in the early development of 
 factory costs found the easiest method of distributing manu- 
 facturing expenses to be on the basis of direct labor. In a 
 similar manner the mercantile cost accountant found the 
 easiest method of distributing commercial expenses to be on 
 the basis of sales. Consequently, sales have been used very 
 extensively by department stores as a basis for allocating 
 expenses to the various departments of the store. But the 
 factory cost accountant has found that the distribution of 
 expenses on the basis of labor olten gives incorrect results, 
 and the commercial cost accountant has found that the 
 distribution of commercial expenses on the basis of sales 
 may give results equally unsatisfactory. 
 
 To illustrate, one of the largest items of expense to be 
 allocated in a department store is advertising. Formerly 
 the usual method of allocating this to the various depart- 
 ments of the store was on the basis of sales. This practice 
 leads to two undesirable results. First, some departments 
 profited much more than others by the advertising, since it 
 was devoted to articles sold by some departments much 
 more than to articles sold by other departments. For in- 
 stance, the advertising of ladies' ready-to-wear clothing will
 
 284 BUDGETARY CONTROL 
 
 usually be much more extensive than the advertising of 
 groceries. Yet the sales of the grocery department may be 
 larger than the sales of the ladies* ready-to-wear department ; 
 hence, according to the system of allocation based on sales, 
 it may be charged more for advertising. This gives inac- 
 curate figures, and if the departmental heads are paid a 
 bonus on profits, it leads to an unfair chargef against the 
 profits of the head of the grocery department. Secondly, 
 if advertising is distributed on the basis of sales, each de- 
 partmental head will try to secure as much advertising as 
 possible, since he will feel that each of the other departments 
 must pay part of its cost which results in his department's 
 paying only a small part of the total. He naturally con- 
 cludes that he must certainly get more benefit from the 
 advertising than it costs him ; therefore he will request and 
 urge it. He will be the more apt to do this because he 
 knows every other department is seeking advertising, for 
 which his department must pay its proportionate part. 
 
 To be more concrete, the head of Department A may be 
 contemplating a certain amount of advertising of the arti- 
 cles sold by his department, which will cost $500. If the 
 entire $500 were to be charged against his department, he 
 might decide immediately not to request its expenditure. 
 If, however, there are ten departments and he knows that 
 on the basis of sales only $60 of the cost of the advertising 
 will be charged against his department, he will feel that it 
 must certainly be worth more than that to him; so he will 
 urge that it be done. The tendency, therefore, will be for 
 the ratio of advertising to sales to Increase constantly. Of 
 course, a capable advertising manager or merchandise man- 
 ager may check this tendency, but it will have to be guarded 
 against constantly with a strong probability that the adver- 
 tising will be larger despite this vigilance. 
 
 The brief consideration given to the method of allocat-
 
 THE EXPENSE BUDGETS 285 
 
 ing Indirect expenses affords a basis for the statement of the 
 general principle that care should be exercised to allocate 
 them In such a manner as to attain two results : 
 
 1. Greatest possible accuracy. 
 
 2. The fixing of responsibility in such a manner that those respon- 
 
 sible for the expense will desire to decrease and not to increase 
 it. 
 
 Selling and Manufacturing Expenses 
 
 The foregoing discussion has stated the general classifi- 
 cations or groups into w hich expense may be divided for 
 purposes of administrative control, and the general principles 
 which should govern the allocation of expenses between 
 these groups. It Is now necessary to discuss briefly the 
 contents of each of these groups. 
 
 The composition of selling expenses and manufacturing 
 expenses, and the method of exercising control of their 
 amount, have been discussed in connection with the selling 
 expense budget and the manufacturing expense budget re- 
 spectively. It is not necessary to discuss these classes of 
 expense further. They are included in the classification 
 given at the beginning of this chapter in order that the 
 reader might have a comprehensive picture of the expense 
 problem. 
 
 Financial Expenses 
 
 The financial department, of which the treasurer is 
 usually the executive head, incurs expenses In planning and 
 executing the financial program. In many cases the credit 
 and collection departments are under the control of the 
 treasurer, In which case the expense of maintaining these 
 departments will be treated as a financial expense. Finan- 
 cial expenses can usually be grouped under two major 
 classes: (i) office expense, and (2) credit and collection ex-
 
 286 BUDGETARY CONTROL 
 
 pense. The first will Include the salaries of the treasurer and 
 his assistants, including the cashier, and the cost of main- 
 taining his office. The latter will include the cost of the 
 services and supplies of the credit and collection department. 
 There has been a tendency in the past to place the cost 
 of maintaining the financial department under the general 
 heading of "administrative" expense. This tendency is 
 probably due to the fact that the president in many small 
 companies acts as treasurer. Even when a treasurer is 
 appointed, he is often regarded as assistant to the president. 
 It seems that, regardless of whether there is a separately 
 organized financial department, the financial function is of 
 sufficient importance to merit the showing of its costs as a 
 separate expense. This is particularly important from the 
 viewpoint of budgetary control where the aim is to have a 
 budget prepared for each functional department. 
 
 Auxiliary Expenses 
 
 The expenses which will be included in this group will 
 depend on the organization of each particular business. In 
 a business organized in accordance with the chart in Figure 
 25, the expenses incurred in maintaining the accounting, 
 personnel, office manager's, and purchasing departments will 
 be included in this group. In a business organized in accord- 
 ance with Figure 26, this group of expenses would not 
 appear, since there are no auxiliary departments. Instead, 
 there will appear the two major groups, controller's expense 
 and personnel expense. 
 
 Where the auxiliary departments exist, the expenses 
 charged to each department will include the cost of the serv- 
 ices and supplies used by the department. Sometimes the 
 expense of maintaining these departments is allocated to the 
 major departments of sales, production, and finance. From 
 the viewpoint of budgetary and administrative control it is
 
 THE EXPENSE BUDGETS 287 
 
 desirable, if these departments exist as separate units of 
 organization, that the expense of each be showTi as a separate 
 group, in order that the responsibility for this expense may 
 be placed on the executive head of the department. 
 
 Executive Expenses 
 
 The "executive" expenses should include those which 
 are incurred by the executives of the business who do not 
 devote their services to any particular department, but ren- 
 der service to all the departments in the way of direction and 
 super\dsion. This will include the salaries of the president 
 and his staff assistants and the cost of maintaining their 
 offices. Where a general office is maintained which is sepa- 
 rate and distinct from the functional departments, these 
 expenses are frequently termed "general office" expenses. 
 
 Unless care is taken to exercise control over such expense, 
 there is a tendency for it to increase unduly. One reason 
 for this tendency is that the president of the company is 
 usually vested with the control of the expenditures incurred 
 in the general office and it is somewhat difficult for him to 
 act as criterion of his own expense. It is desirable that the 
 amount of this expense be presented to the board of direc- 
 tors in such form that they can easily judge of its advisa- 
 bility. The board of directors is the immediate superior 
 of the president and therefore is the proper party to pass 
 on his expenses. 
 
 The need for presenting these expenses to the board of 
 directors for careful inspection is another argument against 
 allocating them to the various operating departments, since 
 this tends to obscure their amount and to prevent a careful 
 control of them. The treatment of these expenses as a 
 separate and distinct classification also facilitates their 
 budgeting in the same manner as the other expenses of the 
 business.
 
 288 BUDGETARY CONTROL 
 
 Corporate Expenses 
 
 "Corporate" expenses, as that term is used in this dis- 
 cussion, include those which must be incurred not because 
 of any functions which the corporation exercises, but be- 
 cause of its existence as a corporate organization and its rela- 
 tion as such an organization to governmental bodies and 
 parties outside the corporate organization. These expenses 
 comprise corporation fees paid to the state government, 
 capital stock taxes, directors' salaries and fees, expenses 
 connected with the maintenance of stock registers and divi- 
 dend records, and fees paid for professional counsel in con- 
 nection with appraisals, business reports and audits required 
 by creditors. The laws of most states impose on corpora- 
 tions obligations in the way of making reports, the main- 
 tenance of records, and the payment of fees. In the prepa- 
 ration of some of these reports, such as income tax returns, 
 and also in the preparation of reports to creditors, it may be 
 necessary to obtain professional counsel from attorneys, 
 accountants, and industrial engineers. These costs are 
 obtained for the benefit of the business as a whole and should 
 be shown as a special group. 
 
 In many businesses a general group of expenses known 
 as "administrative" expenses, is maintained, and in this 
 group are placed what in this discussion are classed as 
 (i) financial expenses, (2) auxiliary expenses, (3) executive 
 expenses, and (4) corporate expenses. In such cases the 
 items here termed "corporate" expenses are usually shown 
 under the heading of "general administrative expense." 
 This method does not provide for an effective control of 
 expense on the basis of responsibility, which we have pre- 
 viously seen is necessary for both administrative and 
 budgetary purposes. The terminology suggested in the 
 foregoing diccussion may not be the best possible, but 
 the general procedure outlined is one which will provide
 
 THE EXPENSE BUDGETS 289 
 
 a proper basis for effective administration of the expense 
 problem. 
 
 Relation of Stores Budget and Pay-Roll Budget on the Expense 
 Budgets 
 
 In previous chapters the stores and pay-roll budgets 
 have been discussed. When these budgets are prepared it 
 is possible to eliminate the departmental expense budgets, 
 with the exception of the manufacturing expense budget 
 and the possible exception of the general ofhce expense 
 budget and the selling and advertising expense budget. 
 The supplies used by each department will be included 
 in the stores budget, and the salaries of the employees will 
 be included in the pay-roll budget. 
 
 Both the advantages and disadvantages of this proce- 
 dure have been discussed in previous chapters and need not 
 be repeated here. 
 
 Budgetary Control of Expenses 
 
 To provide an effective control of the expenses of the 
 various departments as well as to provide the necessary data 
 for the financial budget, it is necessary to adopt a procedure 
 which contains the essentials of the following: 
 
 1. Before the beginning of each budget period, an estimate is pre- 
 
 pared by the executive head of each department or unit, show- 
 ing the anticipated expenses of this department or unit for the 
 next budget period. It is sent to the executive in charge of 
 the budgetary procedure. 
 
 2. All these estimates are used by the executiAe in charge of the 
 
 budgetary procedure, probably with the assistance of the 
 treasurer, in preparing a financial budget and an estimated 
 statement of profit and loss. 
 
 3. The estimates are submitted by the executive in charge of the 
 
 budgetary procedure to the budget committee or to the board 
 of directors, or to both, and after they are revised by the budget 
 
 19
 
 290 BUDGETARY CONTROL 
 
 committee or board of directors where deemed necessary, an 
 appropriation is made to meet the expenses called for by each 
 estimate. 
 
 4. The amount of each appropriation as determined by the budget 
 
 committee or by the board of directors, is communicated to the 
 executive responsible for the original estimate. 
 
 5. A monthly report is made to the budget committee or the board 
 
 of directors through the executive in charge of the budgetary 
 procedure, showing the status of each appropriation. 
 
 6. The original appro]iriation must not be exceeded by any depart- 
 
 ment without the permission of the budget committee or the 
 board of directors. 
 
 Responsibility for the Preparation of Expense Estimates 
 
 To insure the effective operation of the budgetary pro- 
 gram, it is necessary that definite responsibiHty for the 
 preparation and enforcement of the expense budgets be fixed. 
 The sales manager and the production manager will be re- 
 sponsible for the preparation of the estimate of selling and 
 advertising expense and the estimate of manufacturing 
 expense, respectively. Their responsibility in this connec- 
 tion has been explained in previous chapters. 
 
 The treasurer will be responsible for the preparation of 
 rhe estimate of expenses for the financial department. He 
 jvIU require the preparation of estimates by the head of 
 the credit and collection department and by the cashier, 
 which he will use in preparing the estimate for the whole 
 department. 
 
 The head of each of the auxiliary departments, such as 
 the accounting, personnel, purchasing, and office manager's 
 departments, will be responsible for the estimate of his de- 
 partment. He may employ assistants in its preparation 
 at his discretion, but the responsibility for its preparation 
 will rest upon him. 
 
 The president is responsible for the preparation of the 
 estimate of executive expenses. This duty he probably
 
 THE EXPENSE BUDGETS 29 1 
 
 will delegate to his staff assistant, and this assistant may 
 employ the aid of other officers in the office of the president. 
 The estimate of corporate expenses will be prepared by 
 the official designated by the president. This estimate may 
 be prepared by the secretary of the corporation, since he is 
 conversant with the relations which give rise to these ex- 
 penses. In some cases this estimate is prepared by the 
 treasurer; but if this practice is followed, care must be exer- 
 cised to keep the estimate entirely separate and distinct 
 from the estimate of expenses of the financial department 
 as prepared by him. 
 
 Form of Estimate 
 
 The work of the executives who are responsible for the 
 consideration of the departmental estimates is greatly fa- 
 cilitated if these estimates are presented in a form which 
 shows comparisons between the estimates and past expenses. 
 Usually it is desirable that the form provide at least the in- 
 formation called for by the columnar headings shown by 
 Figure 27. 
 
 By a consideration of the estimates when submitted in 
 this form, the executives can see whether an increase of 
 expenditures is called for, and if so, they can investi- 
 gate to see if this increase is justified. The estimates as 
 submitted by the various departments will show the salaries 
 to be paid to the employees of these departments and the 
 amount of supplies to be consumed during the budget period. 
 The supplies used by all the departments of the business are 
 usually purchased by a central purchasing department. 
 The purchasing agent buys these in the quantities which he 
 thinks are most economical, and consequently there may be 
 at any time a considerable inventory of supplies on hand. 
 The supplies consumed during any period, therefore, will 
 not correspond with the supplies purchased in that period.
 
 292 
 
 BUDGETARY CONTROL 
 
 After the departmental estimates are made, it Is neces- 
 sary that these be sent to the purchasing agent, who, on the 
 basis of the estimated consumption by the various depart- 
 ments, will estimate the purchases which must be made, 
 taking into consideration the terms on which these will be 
 
 EXPENSE BUDGET 
 
 ITEM 
 
 Expenses 
 for Past 
 Budget 
 Period 
 
 Estimated 
 
 Expenses 
 
 for Current 
 
 Period 
 
 Per Cent 
 
 of 
 Increase 
 
 or 
 Decrease 
 
 Average 
 Expense 
 for Past 
 
 Four 
 Periods 
 
 DISTRIBUTION 
 
 First 
 Month 
 
 Second 
 Month 
 
 Third 
 Month 
 
 Etc. 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 
 
 
 Figure 27. Expense Budget 
 
 secured, and will thus determine the disbursements for sup- 
 plies for each period. The estimated disbursements are 
 necessary as a basis for the preparation of the financial 
 budget. 
 
 Monthly Reports 
 
 To effect a proper control of the appropriations made for 
 each department, it Is necessary to have prepared monthly a 
 report which will show for each department a comparison 
 between the expenditures of the department to date and the
 
 THE EXPENSE BUDGETS 
 
 293 
 
 appropriation for expenses of the department. Usually 
 the accounting department prepares a report showing the 
 actual expenditures of each department, and the executive 
 in charge of the budgetary procedure prepares the report 
 showing a comparison of the expenditures with the appro- 
 priation. 
 
 A difficulty which may arise from this method is the 
 failure of the accounting department to prepare the monthly 
 
 MONTHLY REPORT ON EXPENSE APPROPRIATION 
 
 ITEM 
 
 Ns. of 
 Appro- 
 priation 
 
 Original 
 Amount 
 
 Addi- 
 tions 
 
 DeduC' 
 tions 
 
 Final 
 Amount 
 
 Cash 
 Dis- 
 bursed 
 
 Accounts 
 Payable 
 
 Undis- 
 bursed 
 Balance 
 
 
 
 
 
 ^ 
 
 
 
 
 
 " 
 
 
 
 
 
 
 
 
 
 Figure 28. Monthly Expense Appropriation Report 
 
 report in sufficient time to provide for a current check upon 
 the monthly expenditures of the departments. To be of 
 service, the budget committee should receive these com- 
 parative reports shortly after the end of the month. If 
 undue delay is caused by depending on the accounting de- 
 partment, it may be necessary to have each department
 
 294 BUDGETARY CONTROL 
 
 keep a special record of its expenditures and report these at 
 the end of the month to the executive in charge of the budg- 
 etary procedure. 
 
 It is desirable that the monthly report on departmental 
 expenses contain at least the inforrriation shown in Figure 28. 
 
 Review and Summary 
 
 In the preceding pages the procedure necessary for the 
 preparation and execution of the expense budgets has been 
 outlined. In summary form the procedure is as follows: 
 
 I. Classification of Expenses: 
 
 1. The setting up of an expense classification which corre- 
 
 sponds to the classification of activities maintained by 
 the business as shown by its organization chart. 
 
 2. The allocation of indirect expenses in such a manner as to 
 
 indicate the responsibility for their incurrence. 
 
 3. The establishment of subclassifications under the major 
 
 classes, which will enable the definite fixing of respon- 
 sibility and a comprehensive explanation of variations. 
 
 II. Preparation of Budgets: 
 
 1. The preparation of an estimate of the expenses of each 
 
 department for each budget period by the executive 
 heads of the department. 
 
 2. The transmission of this estimate to the budget committee 
 
 or the board of directors for consideration and approval. 
 
 3. The making of an appropriation by the budget committee 
 
 or the board of directors to meet the estimate as ap- 
 proved. 
 
 III. Control of Budgets: 
 . I. The preparation of a monthly report showing a comparison 
 
 between the actual and estimated expenditures. 
 2. The consideration of this report by the budget committee 
 or the board of directors, and the making of such re- 
 visions in the original appropriations as may be found 
 necessary.
 
 CHAPTER XIX 
 THE FINANCIAL BUDGET 
 
 Importance of Financial Planning 
 
 Financial planning is the essence of financial adminis- 
 tration. Without such planning the success of a business 
 is a matter of accident. Many businesses, especially small 
 ones, fail to plan ahead with reference to their finances and 
 to this fact many of the business failures are due. 
 
 The reports of the credit agencies show that the princi- 
 pal cause for failure of business firms is "lack of capital." 
 This lack of capital in many cases could have been prevented 
 if financial requirements had been estimated and plans made 
 in advance to meet these requirements. The failure of 
 these firms was due to the fact that they waited until the 
 capital was urgently needed before attempting to secure it, 
 and then they were unable to get it. In many cases its 
 urgent need arose from the undertaking of plans which were 
 beyond the capital capacity of the businesses and which 
 would not have been undertaken if the managers had known 
 in advance the financial requirements to which they would 
 give rise. 
 
 Mr. Walter H. Cottlngham, President of the Sherwin- 
 Williams Company, writing In the May, 1920 System, very 
 aptly says: 
 
 The small business does not raise additional funds easily. In 
 fact, no money is raised "easily" — it has to be bargained for. But 
 I think a part of the smaller man's difficulty may be traced to two 
 reasons. The first is a lack of planning ahead and of a consequent 
 scheduling of money requirements for at .east several years in ad- 
 vance. This carelessness naturally results in a panicky getting of 
 money, only when it is urgently needed. The second difficulty is in 
 
 295
 
 \ 
 
 296 BUDGETARY CONTROL 
 
 analogy : because he has not planned the owner has no clear, com- 
 prehensive idea of just what he can afford to pay for money and is 
 likely to insist upon too low a price until suddenly he finds himself 
 "up against it." Then he pays too high a price — if he gets the 
 money at all. 
 
 The foregoing quotation emphasizes the necessity of 
 financial planning for the small business, but its need in the 
 large business is no less imperative. The principles dis- 
 cussed in the following pages are applicable equally to the 
 small and the large business, although in discussing proce- 
 dure a business of sufhcient size to make expedient a func- 
 tional division of administrative duties is assumed. 
 
 Need for Financial Program 
 
 The operations of all the departments of a business 
 necessitate the use of services and supplies, and the pur- 
 chase of these necessitates the expenditure of funds. As 
 a result of the operations, a service or commodity is pur- 
 chased or produced, and this commodity or service is sold. 
 From these sales, funds are received either immediately or 
 at the expiration of the period of credit which is granted to 
 customers. The typical cycle may be stated as follows: 
 cash-supplies and services-sales-accounts receivable-cash. 
 
 It can be seen, therefore, that the operations of a busi- 
 ness result in the constant receipt and disbursement of funds. 
 These funds are in the form of cash or the equivalent. Since 
 a business cannot continue to operate unless it is able to 
 pay its obligations, it is necessary for Its operations to be 
 so planned that its cash receipts will be equal to its cash 
 disbursements. 
 
 The ideal financial program would be one which pro- 
 vided for the receipt each day of the same amount of cash 
 which must be disbursed on that day. It is impossible to 
 make plans which are sufificiently exact to make possible
 
 THE FINANCIAL BUDGET 297 
 
 such a schedule of receipts and disbursements, and so it is 
 necessary to maintain a "cash balarce" which will insure 
 against a discrepancy between the cash receipts and the 
 cash disbursements. The cash balance in financial opera- 
 tions serves a function similar to that performed by the 
 merchandise inventory in merchandise operations. 
 
 The custody of the cash receipts, the maintenance of 
 the cash balance, and the control of the cash disbursements, 
 are among the most important functions of a business. To 
 accomplish these functions it is necessary that the cash 
 requirements of a business be determined in advance and 
 that well-formulated plans be made for the satisfaction 
 of these requirements. 
 
 Long-Time vs. Short-Time Financial Planning 
 
 In the foregoing discussion it has been stated that a 
 business should follow a far-sighted policy and plan its 
 financial requirements several years in advance. This is 
 undoubtedly true, but it must be obvious that such long- 
 time plans can be made only in a general way and that they 
 will indicate the capital requirements only by setting up 
 certain maximum and minimum limits. For instance, a 
 manufacturing firm may plan on the expansion of its busi- 
 ness over a period of five years and estimate the additional 
 plant, equipment, and working capital which it will need 
 if the contemplated expansion is realized. It may secure 
 the authorization of sufficient stocks or bonds to provide 
 the maximum amount of capital required by its program, 
 and may take such steps as are possible to assure itself that 
 it will be able to issue these as capital is needed. But if its 
 program fails of realization, it will not issue all the stocks 
 and bonds authorized; or if conditions change so that 
 their issuance is impossible or unprofitable, it will curtail 
 its program.
 
 298 BUDGETARY CONTROL 
 
 On the other hand, a business can plan its immediate 
 capital needs with fair exactness, and it must estimate 
 these needs if it is to assure itself that the capital to meet 
 them will be available. It may be impossible for a business 
 to know exactly the capital it will need to finance the sales 
 which it expects to obtain three years hence, but it can 
 know quite definitely that if bank loans are falling due dur- 
 ing the next month which are in excess of its possible cash 
 receipts from customers, it must renew these loans or obtain 
 sufficient funds from other sources to pay them. 
 
 For the present we shall be interested in a consideration 
 of the short-time financial plans of a business. But the 
 general principles discussed are in the main applicable to 
 the planning for long-time capital needs. 
 
 Determination of Cash Requirements 
 
 In the past most business executives prepared their 
 estimates of financial requirements on the basis of the re- 
 quirements of previous years, taking into consideration 
 in a rough way such factors as the amount of business ex- 
 pected for the coming year, business conditions, and any 
 plans that may be under way for the extension of plant, 
 equipment, etc. The method by which these factors were 
 taken into consideration is perhaps not improperly to be 
 described as "expert guesswork" in the majority of cases. 
 The length of time for which any such estimate is made will 
 depend on the conditions in the particular line of business 
 in question, though six months and a year have been the 
 most usual periods. 
 
 Such a plan as this is about all that is possible where 
 a thoroughgoing departmental budget system has not been 
 established, under which each department makes up a for- 
 mal estimate of requirements and possible achievements, 
 all to be organized by the chief executive in consultation
 
 THE FIx\ANCIAL BUDGET 299 
 
 with the departmental heads, into a single consistent plan 
 for the budget period. Where such a budget system is in 
 existence, each departmental budget can be made to show, 
 among other things, the estimated cash requirements and 
 estimated cash receipts. 
 
 It is important to bear in mind that all budgets, from 
 the point of view of executive control, fall roughly into two 
 classes, though the budget made by one department may 
 be composed of elements of both. One of these types is an 
 estimate of requirements for conducting the activities of 
 the department along the line proposed, that is, a requisition 
 for supplies, materials, labor, equipment, etc. After it is 
 approved it is in the nature of an allotment, that is, not to 
 be exceeded without permission. The various expense 
 budgets are good illustrations of this type. They request a 
 certain amount of ser\'ices and supplies to carry on the oper- 
 ations of the departments for which they are made. 
 
 The other type is a statement of the proposed accom- 
 plishments of the department, a tentative promise to de- 
 liver materials, services, etc., which, upon being accepted 
 as a part of the general plan of the business, comes to be a 
 quota to be attained. The sales budget, which states the 
 sales which the sales department agrees to secure, and the 
 production budget, which states the volume of production 
 which the production department promises to deliver, are 
 illustrations of this type. 
 
 That which from the point of view of one department is 
 a quota, from the point of view of another may be an allot- 
 ment, and it is through this dovetailing of quota and allot- 
 ment that a budget system seeks to coordinate the activities 
 of all the departments of an organization into a single 
 unified policy. For instance, the volume of finished goods 
 stated on the production budget is a quota for the pro- 
 duction department, but it is an allotment to the sales
 
 300 BUDGETARY CONTROL 
 
 department, since it states the goods which the latter has 
 for sale. The materials budget is an allotment to the 
 production department, since it states the materials it will 
 have available for use, but it is a quota for the financial 
 department, since it states the funds which the latter must 
 procure to meet the disbursements called for by the budget. 
 Applying this distinction to the financial budget, each 
 departmental estimate of cash requirements, when ap- 
 proved, comes to be an allotment of cash to that depart- 
 ment. In the same manner a departmental estimate of 
 cash receipts becomes a cash quota for that department. 
 In many businesses the sales estimate is the only one which 
 represents anticipated cash receipts. 
 
 Relation of Financial Budget to Departmental Budgets 
 
 Sometimes the financial budget is wrongly regarded as 
 a departmental budget. This may probably arise from 
 the fact that it is often prepared by the treasurer. From 
 the foregoing discussion it can be seen that this view is 
 clearly erroneous. The financial budget is not a budget 
 of the treasurer's department, but a combination of the 
 budgets of all the departments. The financial budget 
 must state the funds which are needed to finance all the 
 activities of a business, and these activities are stated in 
 the departmental budgets. 
 
 Some business firms have attempted to make a financial 
 budget without making careful departmental budgets. 
 In these cases the treasurer or controller prepares estimates 
 of cash receipts and disbursements based on past operations 
 and such contemplated changes of which he is cognizant. 
 This procedure has usually resulted in unsatisfactory re- 
 sults for two reasons : 
 
 I. The financial budget cannot be made accurately without the 
 use of the departmental estimates, for it is impossible for
 
 THE FINANCIAL BUDGET 301 
 
 the treasurer or controller to know accurately the plans of 
 all the departments. 
 2. It is necessary to control the activities of the various depart- 
 ments in order to enforce or carry out the financial budget, 
 and this can be done only through the departmental budgets. 
 It is obvious that if the disbursements of any department are 
 shown on the financial budget, a departmental budget must 
 be established so that the disbursements of this department 
 will not exceed the amount stated. 
 
 Determination of Cash Receipts 
 
 In estimating the cash receipts of a business, it is neces- 
 sary to determine all sources from which cash may be ob- 
 tained. The number and nature of these sources will de- 
 pend on the nature of the operations of the business. In 
 a mercantile or industrial business the principal source of 
 cash receipts is its sales. At the beginning of any budget 
 period there will be certain accounts receivable outstanding 
 from which funds will be received during the next budget 
 period, and there will be additional accounts receivable re- 
 sulting from the sales during the period from which col- 
 lection will be derived during the period. In a retail store 
 there will also be receipts from cash sales. 
 
 The method to be employed in estimating the receipts 
 from accounts receivable and sales depends on the number 
 of customers and the terms on which they are sold. In a 
 small business or in a business which has few customers, it 
 is possible to take each customer and estimate the amount 
 which will be obtained from the accounts receivable which 
 he owes at the beginning of the budget period, and also the 
 amount of the sales which will be made to him during the 
 budget period and the collections which will be made during 
 the period from the accounts receivable arising from these 
 sales. In a large business which has many customers, 
 this method is impracticable. In such a case the method
 
 302 BUDGETARY CONTROL 
 
 to be followed will be determined largely by the terms on 
 which the sales are made. 
 
 In a retail department store a considerable part of the 
 sales are for cash. The sales on account are due at the 
 end of the month and presumably are paid during the first 
 few days of the following month. In such a business it is 
 necessary to estimate separately the cash sales and the 
 sales on account. The records will show the ratio of cash 
 sales and account sales to total sales during the past, and 
 these ratios can be used in estimating the amount of the 
 total estimated sales which will be made on each of these 
 terms. The cash sales will result in cash receipts for the 
 month in which they are made, while the sales on account 
 will result in cash receipts during the following month. 
 In the case of the account sales, allowance must be made 
 for the bad debts and also for those accounts which will 
 not prove bad but will not be paid promptly. The amount 
 of both these accounts can be estimated on the basis of 
 past experience. 
 
 In some businesses sales are made on terms which re- 
 sult in the payment for all the sales of each month on the 
 same day. For instance, a customer is sent a statement 
 at the end of each month for his purchases during the month 
 and he pays on the fifteenth of the following month. In 
 such cases it is not difficult to estimate when the cash re- 
 ceipts from the sales will be obtained. 
 
 If a business sells on terms of i/io, n/30; 1/20, n/30, 
 etc., which result in the receipt of cash from accounts re- 
 ceivable throughout the month, it is necessary to resort to 
 ratios to estimate the cash receipts from estimated sales. 
 A study of past records will show in many businesses that 
 there is a fairly uniform ratio between sales and collections. 
 This ratio may vary during different months or seasons of 
 the year, and it may vary during different years owing to
 
 THE FINANCIAL BUDGET 303 
 
 trade and market conditions. But by careful study it is 
 often possible to obtain a ratio which is approximately 
 correct. 
 
 After the ratio of collections to sales for past periods is 
 obtained, it is applied to the estimated sales for each 
 month of the next period to determine the estimated cash 
 receipts for each month. The inaccuracies which may arise 
 from this method are apparent. It, of course, will be under- 
 stood that it is never possible to obtain exact estimates of 
 cash receipts or disbursements. We carry a cash balance 
 primarily to provide for these inaccuracies. 
 
 Because of the wide and unforeseen fluctuations in the 
 volume of sales during the past eighteen months, some 
 firms have found it impossible to use the ratio of sales to 
 collections as a basis of estimating their cash receipts. 
 Various other methods have been devised. One business 
 has found that they receive no cash receipts during the 
 month from sales made after the twentieth of the month. 
 Accordingly they add the estimated sales for the first 
 twenty days of the month to the accounts receivable out- 
 standing at the beginning of the month, and use the sum 
 as the basis of their estimate of cash receipts for the month. 
 Experience has shown that they can expect to collect a 
 fairly uniform percentage of this amount during the month. 
 
 Estimate of Cash Receipts Based on Lag of Collections on Sales 
 
 Another method of handling this problem is suggested 
 by Mr. Morris A. Copeland in the December, 1920 issue 
 of the Journal of Political Economy. At the author's re- 
 quest, Mr. Copeland has submitted the following statement 
 in explanation of this method : 
 
 One method of handling the problem is to calculate the average 
 turnover or collection period, and use this directly as a lag on sales. 
 The average turnover period of accounts receivable in fractions of a
 
 304 
 
 BUDGETARY CONTROL 
 
 year is the average of accounts receivable at the end of each month 
 divided by the amount of the collections for the year. In case this 
 should prove to be one-twelfth, the sales estimate for March 
 would be the collections estimate for April, etc. But if it were 
 twenty days, instead of a month, the collections for May would be 
 
 $200,000 
 1 150.000 
 
 
 
 
 
 
 
 / 
 
 7 
 
 
 
 
 
 
 _/ 
 
 
 
 
 
 
 
 / 
 
 / 
 
 
 
 
 /# 
 
 ?- 
 
 100.000 
 
 / 
 
 r~- 
 
 
 / 
 
 
 / 
 
 
 
 
 
 50,000 
 n 
 
 / 
 
 
 / / 
 
 / 
 
 
 
 
 
 
 
 5 u- 
 
 s =^ =i 
 
 Figure 29. Graph Showing Accumulated 
 Sales and Collections 
 
 approximately equal to the sales from April il to May 11, a figure 
 which cannot be obtained conveniently from the sales estimate if it 
 states the sales by calendar months. 
 
 Partly on this account and partly because the collections period 
 may vary from season to season, and is sure to vary according to 
 business conditions, the whole thing may be shown more easily 
 graphically. It is evident that if the collections period varies, the
 
 THE FINANCIAL BUDGET 305 
 
 collections for one month will not correspond to the sales during an 
 interval of equal length. For a good mathematical reason which 
 we need not go into here, it is best to show the sales and collection 
 in cumulative form, i.e., to show the total sales from January I to 
 each succeeding date. 
 
 Figure 29 illustrates the graphical method. The dates are 
 shown in the horizontal scale (Sundays and holidays should be 
 omitted) ; the amounts are shown on the vertical. This diagram is 
 based on the following data: 
 
 Estimated 
 Month Sales Estimate Collection 
 
 Period 
 
 December $50,000 
 
 January 35,ooo 
 
 February 25,000 
 
 March 20,000 
 
 April 25,000 
 
 May 30,000 
 
 June 30,000 
 
 20 days 
 
 30 
 
 
 28 
 
 
 35 
 
 
 30 
 
 
 25 
 
 
 20 
 
 
 $215,000 
 
 The estimated collection period is measured from the first of 
 each month, and is the horizontal distance from the sales graph at 
 that time to the collections graph. The collections graph isobtained 
 by connecting the right-hand ends of these horizontal lines. From 
 it we can read off the collections estimate for any month, as January 
 $37,500 and May $32,500. 
 
 Cash Receipts from Miscellaneous Sources 
 
 After the estimate of collections from sales is made, it 
 is necessary to determine whether cash may be received 
 from any other source. In many cases interest is received 
 on bank balances. If notes are taken from customers, 
 these will often bear interest. If stock or bonds of other 
 companies are owned by the company, the probable income 
 from dividends or interest must be considered. If a com- 
 pany maintains a restaurant for employees, cash receipts 
 will result therefrom. If a company owns houses which it 
 20
 
 306 BUDGETARY CONTROL 
 
 rents to employees, the cash receipts to be received from 
 these must be included. In some businesses there may be 
 other sources of income. In any case, all these sources 
 must be carefully considered and recorded in the estimate 
 of cash receipts. It is not difficult to estimate the cash 
 receipts from any of these sources. 
 
 It may be well to add a word of caution to the effect 
 that a careful distinction must be made between cash 
 receipts and accrued income. For instance, interest on 
 bonds owned may accrue in one period but not be paid 
 until a subsequent period. On the other hand, interest 
 may be received during one period which has accrued over 
 several past periods. It will be seen, therefore, that the 
 amount of interest and similar items recorded on the 
 financial budget during any period will In all probability 
 not agree with the amount of these same items as entered 
 in the financial records. 
 
 Estimating the Cash Receipts for Different Types of Business 
 
 In a professional firm the principal source of cash re- 
 ceipts is from the sale of services to clients, and an estimate 
 of the cash receipts from this source can be made in a 
 manner similar to that in which the estimate of receipts 
 from the sale of commodities is determined in a mercantile 
 firm. In this connection it must be remembered that an 
 engagement may not be completed until a considerable 
 time after it is sold, and if the engagement is not unduly 
 long the client may not be invoiced until it is completed. 
 It may also be worth mentioning that clients are often 
 dilatory in paying for professional services. Usually there 
 is no discount offered for prompt payment, nor even are 
 specific terms stated on the Invoices of professional firms. 
 Consequently a firm Is apt to postpone payment of the 
 Invoice for professional services and pay an invoice for
 
 THE FINANCIAL BUDGET 307 
 
 merchandise on which a discount is offered. These factors 
 must be considered in preparing the estimate of cash 
 receipts of a professional firm. 
 
 In a financial institution, such as a bank, the principal 
 sources of cash receipts are entirely different from those of 
 a mercantile or industrial firm, but the method of deter- 
 mining the amount of these in the two cases is not greatly 
 dissimilar. A bank derives its chief income from interest 
 on loans, and the amount of the receipts from this source is 
 not difficult to determine. The receipts from exchange, 
 investments, etc., are not difficult to estimate. Care must 
 be exercised here as in other businesses to distinguish care- 
 fully between accrued income and cash receipts. 
 
 In other types of businesses there are still other sources 
 of cash receipts, but if the general principles developed in 
 the foregoing discussion are kept in mind, it should not be 
 difficult to develop a procedure for making an estimate of 
 cash receipts for any type of business. 
 
 Form of the Estimate of Cash Receipts 
 
 In making up the estimate of cash receipts, a careful 
 record should be made of the amount estimated to be re- 
 ceived from each source. A form should be designed to 
 show the estimated receipts for each month of the budget 
 period as well as the total for the period. This enables the 
 budget committee to judge better the financial program 
 which is proposed, and enables the treasurer to see the cash 
 available each month, so that he can plan his cash dis- 
 bursements and loans. It also makes possible a check on 
 the financial program at the end of each month, since 
 the estimated receipts can be compared with the actual 
 receipts. These comparisons are valuable both in con- 
 trolling the present estimates and in the preparation of 
 future ones.
 
 3o8 
 
 BUDGETARY CONTROL 
 
 A simple form of the estim.ate of cash receipts is shown 
 in Figure 30. This form assumes a budget period of three 
 months in length. If a longer period is used additional 
 columns can be added. 
 
 ESTIMATED CASH RECEIPTS 
 For Quarter Ending March 31, 192 
 
 SOURCE 
 
 JANUARY 
 
 FEBRUARY 
 
 MARCH 
 
 TOTAL 
 
 Accounts Receivable: 
 Customers-Class A 
 Schedule No. 1 
 
 Customers-Class B 
 Schedule No. 2 
 
 Customers- Class C 
 Schedule No. 3 
 
 flotes Receivable: 
 Not Discounted 
 Schedule No. 4 
 
 Sales: 
 
 Customers-Class A 
 Schedule No. 5 
 
 Customers-Class B 
 Schedule No. 6 
 
 Customers-Class C 
 Schedule No. 7 
 
 Miscellaneous: 
 
 Income from Investments 
 Interest on Bank Balances 
 
 
 
 
 
 Total 
 
 
 
 
 
 Figure 30. Estimate of Cash Receipts 
 
 Determination of Cash Disbursements 
 
 It is necessary that an estimate of cash disbursements 
 be prepared to be used in connection with the estimate of 
 cash receipts in order to complete the financial budget. 
 To do this it Is necessary to prepare an estimate of the 
 expenditures necessary to carry on the operations of every 
 department of the business. A discussion of the various 
 departmental estimates has been given in previous chapters,
 
 THE FINANCIAL BUDGET 309 
 
 and the method of estimating the cash disbursements re- 
 quired by each has been explained. 
 
 A brief review of the discussion in the previous chapters 
 will be given here to show the relation of these estimates to 
 the estimate of cash disbursements. 
 
 Disbursements for Purchases of Mercantile Store 
 
 The principal disbursements of a mercantile business are 
 for merchandise. The purchases budget, if prepared In 
 the form explained In Chapters XIV and XV, will show the 
 following Information for each month of the budget period : 
 
 1. Inventory at beginning of month. 
 
 2. Estimated deliveries to stock during month. 
 
 3. Estimated orders to be placed during month. 
 
 4. Estimated inventory at end of month. 
 
 5. Estimated cash disbursements for purchases made during pre- 
 
 vious months. 
 
 6. Estimated cash disbursements for purchases made during the 
 
 month. 
 
 Items (5) and (6) will be added for each month and entered 
 in the estimate for cash disbursements. 
 
 It is usually easier to estimate the disbursements for 
 purchases than to estimate the receipts from sales. The 
 purchases are made in large quantities and consequently 
 there are fewer creditors than there are customers. A busi- 
 ness controls the payment of its liabilities and knows 
 whether it will take its discounts or wait until the end of 
 the credit period. It does not control the receipts from 
 customers and can judge what they will do only by what 
 the past indicates. After the purchasing department knows 
 the purchases which must be made to meet sales demands, 
 it should not have any particular difficulty in preparing the 
 purchases budget so that it will show the information stated 
 above.
 
 310 BUDGETARY CONTROL 
 
 Disbursements for Production Purposes by Manufacturing 
 Business 
 
 The principal disbursements of a manufacturing business 
 are for materials, labor, and manufacturing expenses. 
 The method of estimating the amount of each of these and 
 the form in which the estimate of each should be prepared, 
 has been discussed in the chapters on the materials, labor, 
 and manufacturing expense budgets. 
 
 In estimating the disbursements for materials, a proce- 
 dure similar to that followed In estimating the disburse- 
 ments for the finished goods of a mercantile firm Is necessary. 
 First, the materials which are to be purchased must be 
 determined, and then the date of payment for these pur- 
 chases must be calculated. 
 
 The disbursements for labor are ordinarily made dur- 
 ing the same period in which the labor is consumed. If 
 the estimate of disbursements Is made on the basis of cal- 
 endar months this may not be true, for labor may be paid 
 on a weekly basis. In this case there is apt to be an accrued 
 pay-roll at the end of the month which will need to be paid 
 d\iring the following month. Some firms use a four-week 
 period instead of a calendar month as the basis for both 
 their accounting and budgetary records. This procedure 
 eliminates the difficulty of accrued pay-roll but may give 
 rise to accruals for expenses for which invoices are rendered 
 on the basis of the calendar month. 
 
 A large part of the manufacturing expense will con- 
 sist of supplies which may be purchased in one period 
 and paid for during the next period. Consequently, the 
 disbursements for these must be determined In a manner 
 similar to the disbursements for materials and finished 
 goods. Indirect labor will also be included in the manu- 
 facturing expense estimate, and will usually be paid for 
 during the period in which It Is consumed. The re-
 
 THE FINANCIAL BUDGET 
 
 311 
 
 ESTIMATED CASH DISBURSEMENTS 
 For Quarter Ending March 31. 192 
 
 PURPOSE 
 
 January 
 
 February 
 
 March 
 
 Total 
 
 NOTES Payable 
 Accounts Payable 
 
 Outstanding, Jan. ) 
 
 Estimated Cash Dis- 
 bursements for 
 Purchases 
 
 Factory payroll 
 
 Department A 
 Department B 
 Department C 
 
 Factory Expense 
 
 Department A 
 Department B 
 Department C 
 
 DEPARTMENTAL EXPENSE 
 
 President's Office 
 Treasurer's Department 
 Auditor's Department 
 Purchasino Department 
 Office Manager's Department 
 Traffic Department 
 Sales Department 
 Production Department 
 
 NEW Equipment 
 Corporate 
 
 Taxes CNon-property) 
 Attorneys' Fees 
 Directors' Fees 
 Miscellaneous 
 
 TOTAL 
 
 Figure 3 1 . Simple Estimate of Cash Disbursements
 
 312 BUDGETARY CONTROL 
 
 marks with reference to direct labor are equally applicable 
 here. 
 
 In a manufacturing business there will be disbursements 
 for manufacturing plant and equipment, and in all busi- 
 nesses there will be disbursements for furniture and office 
 equipment. The preparation of the estimate for plant 
 and equipment has been discussed in Chapters XVI and 
 XVII. This estimate shows the plant and equipment 
 desired and the date when needed. The purchasing agent 
 will need to use this as a basis for estimating the date of 
 payment for the equipment purchased. 
 
 Disbursements for Expenses 
 
 After the expenditures necessary to obtain the goods 
 needed to supply the sales demands, and the disbursements 
 necessary to secure the required amount of plant and equip- 
 ment, are determined, it is necessary to estimate the dis- 
 bursements which must be incurred in operating the busi- 
 ness so as to secure the sales and deliver the goods to the 
 customers. This requires the preparation of an estimate 
 of selling expenses by the sales department, an estimate of 
 executive expenses by the general office, an estimate of 
 corporate expenses by the secretary or some other official 
 designated by the president, and an estimate of auxiliary 
 expenses by each of the service departments, such as the 
 personnel department, purchasing department, etc. 
 
 The content and form of the various expense estimates 
 have been discussed in Chapter XVIII. 
 
 Form of the Estimate of Cash Disbursements 
 
 In making up the estimate of cash disbursements, a 
 careful record should be made of the estimated amount to 
 be disbursed for each purpose. A form should be designed 
 to show the estimated disbursements for each month of the
 
 THE FINANCIAL BUDGET 313 
 
 MONTHLY REPORT ON ESTIMATED CASH DISBURSEMENTS 
 Month of December, 192 i 
 
 Estimated Disbursements at the General 
 
 Office: 
 
 General Office Pay- Roll $10,311 .45 
 
 General Office Building Rental 3.541 .67 
 
 Interest Payable on Notes 6,700.00 
 
 Interest Payable on Bonds 50,000.00 
 
 Dividends 25,000 .00 
 
 South X Real Estate Tax 48,800 .00 
 
 A State Tax 3,145.00 
 
 Equipment (General Office) 210.00 
 
 Other General Office Purchases, etc 6,425 .00 
 
 Advertising 6,41 1 .00 
 
 Eastern Division and X Works — Pay-Roll .... 133,166 .46 
 Eastern Division and X Works — Purchases 
 
 (except Pipe) 94,000 .00 
 
 X Branch Pay-RoU 10,500.00 
 
 Branch Pay-Rolls Paid from General Office 
 
 except X Branch 4,998 . 34 
 
 X Branch Purchases 14,500.00 
 
 Consigned Pipe Purchases 68,350.00 
 
 $486,058.92 
 
 To Western Division 75,000 .00 
 
 Estimated Disbursements at Western Divi- 
 sion AND Y Works 310,500 .00 
 
 Estimated Disbursements of Branches: 
 
 A Branch $36,500 .00 
 
 B Branch 30,000 .CO 
 
 C Branch 65,000.00 
 
 D Branch 25,000.00 
 
 156,500.00 
 
 Estimated Disbursements of M Company 
 OF Oregon: 
 
 Outside Purchases and Pay-Roil $75,000.00 
 
 To M Manufacturing Company 20,000.00 
 
 • 95,000.00 
 
 Estimated Disbursements of M Interna- 
 tional Company: 
 
 Outside Purchases and Pay-Roll $39,000.00 
 
 To M Manufacturing Company 80,000.00 
 
 119,000.00 
 
 Total $1 ,242,058 . 92 
 
 Figure 32. More Elaborate Estimate of Cash Disbursements
 
 314 BUDGETARY CONTROL 
 
 budget period as well as the total for the period. This 
 enables the budget committee to judge better the financial 
 program which is proposed and enables the treasurer to see 
 the cash required each month, so that he can make plans 
 to secure the necessary amount. It also makes possible 
 a check on the financial program at the end of each month, 
 since the estimated disbursements can be compared with 
 the actual disbursements. These comparisons are valuable 
 both in controlling the present estimates and in the prep- 
 aration of future estimates. 
 
 A simple form of the estimate of cash receipts is shown 
 in Figure 31. This form assumes a budget period of three 
 months in length. If a longer period is used, additional 
 columns can be added. 
 
 Estimating the Cash Disbursements for Different Types of 
 Businesses 
 
 In different types of businesses the method of estimating 
 the cash disbursements will vary somewhat because of the 
 different operations they perform, but the same general 
 procedure will be followed in preparing the estimate of 
 cash disbursements. 
 
 In a professional firm the principal item of disbursements 
 will be the salaries of the staff. The amount of these will 
 be easy to obtain. In addition there will be the disburse- 
 ments necessary for maintaining the office. These also 
 can be estimated easily. 
 
 In a financial institution, such as a bank, there will be 
 three principal items of disbursements: (i) the interest paid 
 on deposits, (2) the salaries of the employed staff, and (3) 
 the office expenses. None of these are difficult to estimate. 
 In estimating the cost of supplies used in the various offices 
 the same problems arise as in the estimating of the disburse- 
 ments for purchases of a mercantile or industrial firm.
 
 THE FINANCIAL BUDGET 315 
 
 In Other types of businesses there are still other purposes 
 for which disbursements must be made, but if the general 
 principles developed in the foregoing discussion are kept 
 in mind, it should not be difficult to develop a procedure for 
 making the estimate of cash disbursements for any of these. 
 
 Various Items Appearing on Estimate of Cash Disbursements 
 
 The estimate of cash disbursements shoMTi in Figure 31 
 is purposely made quite simple. In many businesses more 
 numerous items would appear on this estimate. As an 
 indication of some of the items which may appear on such 
 an estimate. Figure 32 shows the estimate of cash disburse- 
 ments of a large manufacturing firm for the month of 
 December, 1921. 
 
 The amounts have been changed since these are im- 
 material for our purposes. This company has two fac- 
 tories and seven branches. The classification of items 
 shown on the estimate is not the most desirable, but is the 
 one found most expedient by the company at its present 
 stage of development in financial control.
 
 CHAPTER XX 
 THE FINANCIAL BUDGET (Continued) 
 
 Relation of Financial Budget to Bank Loans 
 
 After the estimates of cash receipts and cash disburse- 
 ments are completed, a statement can be prepared showing 
 the relation of the estimated receipts to the estimated dis- 
 bursements. If the disbursements exceed the receipts, the 
 excess will usually be met by means of bank loans. If the 
 receipts exceed the disbursements, the excess will usually 
 be used in the reduction of bank loans contracted during 
 previous periods when the disbursements exceeded the 
 receipts. 
 
 In determining the amount of the loans necessary, or 
 vice versa, the cash balance at the beginning of the period 
 and the desired cash balance at the end of the period must 
 be taken into consideration. The amount of the cash 
 balance may be determined by what the firm has learned 
 by experience is a necessary minimum, or It may be deter- 
 mined by the minimum requirements of the banks. Banks 
 usually insist that the cash balance be maintained at a 
 certain percentage of the loans obtained from them. 
 Consequently, as the loans at a bank increase, the cash 
 balance must increase accordingly. 
 
 A simple form of statement which will provide the in- 
 formation suggested in the preceding discussion is shown in 
 Figure 33. 
 
 In this illustration it is assumed that the disbursements 
 are such that loans are required. If the opposite situation 
 exists, the last item on the summary will read "Loans to 
 be Liquidated," instead of "Loans Required." 
 
 316
 
 THE FINANCIAL BUDGET 
 
 317 
 
 Program for Bank Loans 
 
 On the basis of the estimated cash receipts (Figure 30, 
 page 308), the estimated cash disbursements (Figure 31, 
 page 311), and the summary of financial requirements 
 (Figure 33), it is possible to prepare a statement showing 
 the program to be followed with reference to bank loans. 
 The contents of such a statement is indicated by Figure 34. 
 
 A statement made in this form is useful to the president 
 and board of directors, since it shows them the effect of the 
 contemplated program on the bank indebtedness. If they 
 
 SUMMARY OF FINANCIAL REQUIREMENTS 
 For Quarter Ending March 31, 192_ 
 
 
 January 
 
 February 
 
 March 
 
 Total 
 
 Cash Balance at the 
 
 Beginning of Month 
 Receipts 
 
 Total 
 Disbursements 
 
 Excess of Disbursements 
 Cash BaTance a't'^Ehd of 
 Month 
 
 Loans Required 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Figure 33. Summary of Financial Requirements 
 
 approve the program as suggested, they may authorize the 
 treasurer to carry out its provisions. The treasurer, in 
 addition to this program, will need a more detailed state- 
 ment which will show him the exact dates on which addi- 
 tional funds must be obtained, with the consequent renew- 
 ing of notes, discounting of customers' notes, etc. 
 
 Preparation of Financial Budget 
 
 The various departmental estimates as sent to the exec- 
 utive in charge of the budgetary procedure provide the
 
 318 
 
 BUDGETARY CONTROL 
 
 data from which the estimates of cash receipts and cash 
 disbursements are prepared. Some of these estimates 
 provide information which can be transferred directly to 
 
 SUGGESTED PROGRAM FOR BANK LOANS 
 For Quarter Ending March 31, 1922 
 
 Situation at Beginning of Quarter: 
 
 Notes Payable $ 500,000 
 
 Notes Receivable Discounted 780,000 
 
 Total $1 ,280,000 
 
 Monthly Program: 
 January: 
 
 Renew $45,000 of $47,500 due 
 
 Reduction of Notes Payable for Month $ 2,500 
 
 Notes Receivable Discounted Matured 300,000 
 
 Total Reduction of Indebtedness to Bank $ 302,500 
 
 February: 
 
 Renew $75,000 of Notes falling due 
 
 Notes Receivable Discounted Matured $ 290,000 
 
 Total Reduction of Indebtedness to Bank $ 290,000 
 
 March: 
 
 Renew $60,000 of Notes falling due 
 
 Discount Notes of R. L. S. and J. J. S. for $71,000 
 
 Increase of Indebtedness $ 71,000 
 
 Notes Receivable Discounted Matured 100,000 
 
 Net Reduction for Month $ 29,000 
 
 Situation at End of Quarter: 
 
 Notes Payable $ 53 1 ,500 
 
 Notes Receivable Discounted 90,000 
 
 Total $ 62 1 ,500 
 
 Figure 34. Financial Program for Bank Loans 
 
 the cash estimates. For instance, the estimate of pur- 
 chases, If prepared in the manner suggested in Chapter XV, 
 will show the estimated disbursements for purchases for 
 each month. Other estimates show only the volume of
 
 THE FINANCIAL BUDGET 319 
 
 the operations of the department for which they are made 
 and an estimate must be prepared of the effect of these 
 operations on the cash balance. The sales budget is an 
 illustration of this type. It states the estimated sales 
 for the budget period, but there is a lag between the sales 
 and the collections therefrom, which necessitates that an 
 estimate of collections must be prepared, based on the sales 
 estimate. 
 
 In some cases the cash estimates are prepared by the 
 executive in charge of the budgetary procedure, while in 
 other cases they are prepared by the treasurer. Probably 
 the best plan is to have these officials cooperate in their 
 preparation. The executive in charge of the budgetary 
 procedure can easily obtain most of the items of disburse- 
 ment directly from the departmental estimates. The 
 treasurer will prepare an estimate of the disbursements of 
 his department. He also usually prepares the estimate of 
 collections, since he has available the data necessary for 
 its preparation. In some cases he makes the estimate of 
 disbursements for corporate expenses. 
 
 In any case, after the cash estimates are completed 
 they should be submitted to the treasurer for approval 
 before they are transferred to the budget committee. The 
 budget committee will consider these in connection with the 
 various departmental estimates and make any revisions 
 which it thinks necessary. After they are approved by 
 the budget committee they will be transferred by the 
 executive in charge of budgetary procedure to the depart- 
 ments concerned. 
 
 Control of Financial Budget 
 
 After the departmental estimates have been approved 
 by the budget committee, the departmental heads should 
 not be permitted to exceed their estimates without the
 
 320 BUDGETARY CONTROL 
 
 permission of the committee. At the end of each month a 
 report should be made to the budget committee, showing 
 a comparison between the estimated expenditures for each 
 department for the budget period and the actual ex- 
 penditures to date. This report enables the committee 
 to see the tendency in each department and makes it 
 possible for it to take measures to prevent undesirable 
 tendencies. 
 
 In the same manner a report should be made showing a 
 comparison between the estimated and the actual collec- 
 tions for the month, since collections are the principal 
 source of cash receipts. This report will be more useful if 
 it also shows comparisons between sales and collections. 
 The contents of such a report are indicated by Figure 35. 
 The percentages shown in this report, if obtained for a 
 number of periods, will be useful in estimating receipts from 
 collections for future periods. 
 
 It is important to emphasize that if effective control is 
 to be exercised over the financial budget, it is necessary to 
 control carefully the disbursements and receipts of the 
 separate departments, since, as previously explained, the 
 financial budget is but a combination of the departmental 
 budgets. 
 
 Monthly reports should be made showing a comparison 
 between the estimated receipts and the actual receipts from 
 all sources and the estimated disbursements and the actual 
 disbursements from all sources. These reports will be 
 submitted to the budget committee together with the other 
 budgetary reports. Simple forms for these monthly re- 
 ports of receipts and disbursements are shown in Figures 
 36 and 37. If revisions in the various departmental 
 budgets are made on the basis of the monthly reports re- 
 ceived by the budget committee, these revisions must be 
 given effect in the cash budget.
 
 THE FINANCIAL BUDGET 
 
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 322 
 
 BUDGETARY CONTROL 
 
 Length of Cash Period 
 
 Although the financial budget may be made for a quar- 
 ter, a half, or a whole year, it is necessary to make a com- 
 parison between the cash receipts and cash disbursements 
 over shorter periods of time than is represented by the 
 budget; otherwise there may be times during the period 
 
 MONTHLY REPORT ON CASH RECEIPTS 
 
 MONTH OF iq? 
 
 SOURCE 
 
 Amount 
 Received 
 
 Estimated 
 Receipts 
 
 Per Ceni 
 Increase 
 
 or 
 Decrease 
 
 Comments 
 
 
 
 
 
 
 Figure 36. Monthly Cash Receipts Report 
 
 when there will not be sufficient cash on hand to meet cur- 
 rent obligations. For instance, the cash receipts from ac- 
 counts receivable and miscellaneous sources from January i 
 to April I may exceed the cash disbursements for the same 
 period, but there may not be sufficient cash to meet cur- 
 rent demands at one or more times during that period. 
 The demand for cash is an imperative one and care must be 
 exercised to see that it is forthcoming at the time needed.
 
 THE FINANCIAL BUDGET 
 
 323 
 
 In the preceding discussion It has been assumed that 
 such comparisons will be made monthly. The estimated 
 receipts for each month are compared with the estimated 
 disbursements for the month, and the excess of disburse- 
 ments which must be financed determined. Usually this 
 procedure is satisfactory, but there may be cases where the 
 
 MONTHLY REPORT ON CASH DISBURSEMENTS 
 
 Month of 
 
 -192- 
 
 PURPOSE 
 
 Amount 
 Disbursed 
 
 Estimated 
 Disbursement 
 
 Decrease 
 
 COMMENTS 
 
 Figure 37. Monthly Cash Disbursements Report 
 
 receipts and disbursements fluctuate so violently that it is 
 necessary to have a comparison on the basis of ten- or 
 fifteen-day periods. In such businesses the fluctuating 
 demand for cash is usually satisfied by arranging a "re- 
 serve line" of credit at banks so that additional funds can 
 be obtained immediately at any time when they are needed.
 
 324 BUDGETARY CONTROL 
 
 Formulation of a Financial Program 
 
 In the foregoing discussion the procedure by which the 
 financial budget is prepared has been explained. It should 
 be apparent that this procedure can be effective only when 
 it is exercised as a part of a well-formulated financial pro- 
 gram. It is not only necessary to know what the financial 
 requirements of a business are, so that plans to meet them 
 can be made, but it is also necessary to know that these 
 requirements are what they should he. In other words, it is 
 desirable to know whether the financial program called for 
 by the financial budget is the one which will be the most 
 profitable to the business. A consideration of what con- 
 stitutes a proper financial program would necessitate a 
 discussion of the whole program of financial management 
 which is beyond the province of this discussion. 
 
 There are one or two phases of the financial program, 
 however, which are so vitally connected with the deter- 
 mination of cash requirements that it is worth while to 
 mention them here. 
 
 Constant and Variable Capital Requirements 
 
 Bankers have given considerable attention to the analy- 
 sis of the assets and liabilities of business firms in connec- 
 tion with the granting of loans. From the viewpoint of 
 credit granting, they have found it desirable to differentiate 
 between fixed assets and current assets, and between fixed 
 liabilities and current liabilities. This distinction is made 
 largely on the basis of turnover. An asset with a slow 
 turnover is termed a "fixed" asset, while one with a rapid 
 turnover is termed a "current" asset. Liabilities are 
 classified in the same manner. Since bankers have em- 
 phasized this classification in their relations with business 
 men, the latter have come to regard it as fundamental. 
 Many bankers have insisted on the use of the "rule-of-
 
 THE FINANCIAL BUDGET 325 
 
 thumb" financial standard of the "2 to I " ratio, and busi- 
 ness men have come to believe that so long as they succeed 
 in keeping their current assets twice their current liabilities, 
 they are successful financial managers. 
 
 The classification of assets and liabilities as current and 
 fixed is very useful in many cases, but it sometimes leads to 
 a confusion of thought. Because any particular piece of 
 merchandise will presently be converted into cash again, 
 it is felt that it is a less permanent form of investment than 
 a building. From the viewpoint of credit this is true, but 
 from the viewpoint of capital requirements it may not be so. 
 If a concern never allows its merchandise inventory to fall 
 below $20,000 that twenty thousand dollars is as truly a 
 permanent investment in the business as is the cost of the 
 longest-lived of its permanent assets. The same may be 
 true of current liabilities. Many concerns never pay off all 
 of their short-time loans at once. A business that always 
 owes at least $50,000 on short-time loans, though it may 
 clear up its account at each bank once a year, is obtaining 
 that much permanent capital on commercial loans. 
 
 From the viewpoint of financial administration, there is 
 a distinct difference between permanent assets and assets 
 which involve a permanent investment. During any partic- 
 ular period of time a given asset or liability, whether per- 
 manent or current, whether an accrued or a deferred item, 
 may vary in amount. The proprietorship may also change. 
 Of course the variations in different assets may not all be 
 in the same direction at the same time, so that some will 
 serve to offset others and the same is true of liabilities and 
 proprietorship. 
 
 For the purposes of financial requirements, what is of 
 primary importance are the changes in the totals. Usually 
 the total of each of these items fluctuates constantly. 
 These fluctuations may be due to seasonal operations, in
 
 326 BUDGETARY CONTROL 
 
 which case they are confined between certain maximum 
 and minimum Hmits. Or they may be due to the expan- 
 sion or contraction of the operations of the business, in 
 which case there may be a constant increase or decrease for 
 a certain period of time. Even here a minimum or maxi- 
 mum will sooner or later be reached. In the case of a 
 decrease a minimum will be reached below which the 
 business cannot continue to operate. In the case of an 
 increase or expansion of business, in time a state of diminish- 
 ing returns will be reached beyond which it will be unprof- 
 itable for the business to expand and consequently the 
 assets of the business will cease to increase. 
 
 The minimum total of assets of a business during the 
 period under consideration, such as a year, may be termed 
 the "constant" assets of that business, and the amount in 
 excess of this minimum may be termed the "variable" 
 assets. In analogous fashion, constant and variable lia- 
 bilities and proprietorship may be defined. Thus, if the 
 balance sheet of the King Manufacturing Company on 
 June I, 1 92 1, shows: 
 
 Assets $200,000 
 
 Liabilities 120,000 
 
 Proprietorship $80,000 
 
 and the lowest value for the total assets during the year is 
 $160,000, this will be the constant assets and also the con- 
 stant liabilities and proprietorship. The variable assets 
 will be $40,000 on June i, and this will be also the amount 
 of the variable liabilities and proprietorship. The varia- 
 tions in the proprietorship total taken by itself will not 
 ordinarily be large. It will usually Increase gradually 
 through an accumulation of profits and then drop off at 
 the time when dividends are paid. If the profits are left
 
 THE FINANCIAL BUDGET 327 
 
 in the business, there will be a permanent increase in the 
 proprietorship, and if losses are incurred there may be a 
 decrease. Proprietorship may be increased by a sale of 
 stock, but this occurs rarely in the life of any particular 
 business. 
 
 The assets of a business at all times are equal to the 
 proprietorship plus the liabilities. Since the proprietorship 
 in most businesses under normal conditions fluctuates but 
 little, it follows that the fluctuations in the assets usually 
 result in like fluctuations in the liabilities. In other words, 
 the variable assets tend to be offset by the variable liabili- 
 ties. To illustrate, by the foregoing example of the King 
 Manufacturing Company, it is evident that if the pro- 
 prietorship remains approximately at $80,000 throughout 
 the year and the assets are reduced to $160,000 at the time 
 of the "slack season" of the year, then the liabilities at 
 that time of the year will be reduced to $80,000. 
 
 The relation between the variable assets and the varia- 
 ble liabilities is significant in that it points out the relation 
 between the financial budget and the financial condition of 
 a firm as showTi by its balance sheet. An illustration will 
 make this clear. It may be assumed that the assets of the 
 King Manufacturing Company reach the minimum amount 
 of $160,000 on January i, and that they then gradually 
 increase until they reach the maximum amount of $200,000 
 on June l, after which they gradually decrease until the 
 minimum is reached again on January i. The increase in 
 assets between January i to June I will probably be shown 
 in the main by an increase in accounts receivable and mer- 
 chandise inventor>^ To carry the increase in these items 
 the firm will in all probability increase its borrowings from 
 banks, although some part of the increase in inventory 
 may be offset by an increase in accounts due to trade 
 creditors.
 
 328 BUDGETARY CONTROL 
 
 In so far as the increase in assets is offset by an increase 
 in bank loans, the financial budget during this period will 
 show an excess of disbursements over receipts, since it is to 
 meet such an excess that bank loans are contracted. 
 
 During the period from June I to January I , the accounts 
 receivable and merchandise inventory will be decreasing 
 and the bank loans will be decreasing likewise. During the 
 same period the financial budget will show an excess of 
 receipts over disbursements and with this excess the bank 
 loans are paid. 
 
 Relation of Financial Budget to the Business Cycle 
 
 The variable assets, and consequently the variable 
 liabilities, will increase during the busy season of a season- 
 able business, and will increase for all businesses during the 
 upward trend of the business cycle when the operations of 
 a business are expanding. They will decrease during the 
 dull season and during the downward trend of the business 
 cycle. In the same manner the financial budget should 
 normally show an increase of disbursements in proportion 
 to receipts during the busy season or upward trend of the 
 business cycle, and it should show the opposite condition 
 during the dull season and the downward trend of the 
 cycle. 
 
 Because of the non-liquid condition of the variable 
 assets, this "normal" condition may not exist during the 
 downward trend of the business cycle. For instance, dur- 
 ing the year 1 92 1 many firms were ' ' hard pressed " for funds 
 because their variable liabilities became due, and their 
 variable assets were not converted. In other words, it was 
 impossible to reduce their assets to the minimum when it 
 became desirable to reduce their liabilities. This condition, 
 however, does not offset the general principle that during 
 the downward trend of the cycle the cash receipts from the
 
 THE FINANCIAL BUDGET 329 
 
 operations of the business should exceed the disbursements 
 other than for bank loans and that this excess should be 
 used in paying these loans. The condition during 1921 
 merely indicates that because of inadequate planning ahead 
 many businesses were in such a condition when the down- 
 ward trend of the cycle came that they could not do what 
 the conditions of the times demanded. 
 
 Relation of Financial Budget to Estimated Financial Statements 
 
 The primary purpose of the foregoing discussion with 
 reference to variable assets and liabilities and the financial 
 budget is to show the close relationship between this budget 
 and the financial condition of the business as shown by its 
 balance sheet. The budget sets forth the results of the 
 contemplated operations of the business in terms of finan- 
 cial requirements. To interpret this budget properly and 
 to judge properly of its desirability, the executives should 
 have before them an estimated balance sheet showing the 
 anticipated financial condition at the end of the period for 
 which the budget is made. 
 
 But the purpose of the operations of a business is to 
 secure a profit. A contemplated program of expansion or 
 contraction, as shown by the financial budget and estimated 
 balance sheet, is desirable only if it will produce profitable 
 results. To determine whether this result will be achieved, 
 it is necessary to have an estimated statement of profit and 
 loss showing the anticipated results of the contemplated 
 program in terms of profit and loss. 
 
 The financial budget, the estimated statement of 
 profit and loss, and the estimated balance sheet, are the 
 three statements which show the goal towards which the 
 contemplated operations of the business, as reflected in the 
 departmental estimates, are leading. If these statements 
 are properly made and properly correlated, a basis for
 
 330 BUDGETARY CONTROL 
 
 sound and efficient management is laid. The latter two 
 statements will be discussed in the following chapters. 
 
 Difficult Problems in Preparing Financial Budget 
 
 The preparation of the financial budget is not an easy 
 matter. In most businesses, problems of considerable 
 magnitude and difficulty are encountered. Some of these 
 are inherent in the problem of financial control and some 
 are the result of circumstances which exist in particular 
 businesses owing to personnel or to the nature of the opera- 
 tions of the business. The nature of these problems has 
 been indicated to some extent in the previous discussion. 
 In order that it may not be thought that these difficulties 
 have been disregarded or minimized, it is desirable to sum- 
 marize them here. They may be stated as follows : 
 
 1 . The financial budget is a budget covering all the activities of the 
 
 business; therefore it requires the cooperation of all the 
 departments of the business. Without this cooperation it 
 is impossible to prepare an accurate budget or to enforce it 
 after it is prepared. 
 
 2. The cash receipts and the cash disbursements in many cases 
 
 are separated from the activities which produce the receipts 
 or cause the disbursements by a certain interval of time, and 
 it is difficult to estimate accurately the length of this interval. 
 For instance, the collections from sales are not made until 
 some time after the sales take place, and the payments for 
 purchases are not made until some time after the purchases 
 are contracted for. 
 
 3. The planning of finances is in most cases in the hands of the 
 
 principal executive of the company or of the treasurer who 
 acts as his confidential assistant. The financial methods 
 which these executives employ are regarded as highly con- 
 fidential. Consequently there is little or no exchange of 
 information between companies with reference to financial 
 methods, and no standardized i)rocedure has been developed. 
 In undertaking, therefore, the introduction of scientific
 
 THE FINANCIAL BUDGET 33I 
 
 financial planning, each firm is dependent largely on its own 
 experiences and resourcefulness. 
 4. The executives in charge of the financial operations of a business 
 are usually loath to delegate any duties with reference to them 
 to others, and hesitate to commit their plans to a definite form 
 for fear that they will be hampered in their freedom of action 
 and that important information may be divulged. 
 
 None of these difficulties Is Insurmountable, and for- 
 tunately the present tendency indicates a rapid removal of 
 the latter two and the development of scientific methods 
 of overcoming the first two. 
 
 Summary 
 
 In the preceding pages an attempt has been made to 
 outline the procedure necessary for the preparation and 
 control of the financial budget. In summary form this 
 procedure may be stated as follows: 
 
 1. Preparation of a Preliminary Estimate of Cash 
 Receipts. This requires the determination of the proba- 
 ble receipts from all sources. The principal source of cash 
 receipts is the collections from accounts receivable, and 
 the estimate of collections must be based on the estimate 
 of sales which has been prepared in the manner previously 
 explained. 
 
 2. Preparation of a Preliminary Estimate of Cash 
 Disbursements. This requires the determination of prob- 
 able disbursements needed to finance the operations of all 
 the departments of the business. Consequently the esti- 
 mate of disbursements must be based on the various de- 
 partmental estimates which h^ave been explained in previous 
 chapters. 
 
 3. Preparation of the Cash Budget. The prelimi- 
 nary estimates of cash receipts and disbursements explained 
 in (1) and (2) are submitted, together with all the other
 
 332 BUDGETARY CONTROL 
 
 estimates, to the budget committee. After the various 
 departmental estimates have been approved, the pre- 
 Hminary estimates of cash receipts and disbursements will 
 be revised, if necessary, to give effect to any changes made 
 in the departmental estimates by the budget committee. 
 After the revised cash estimates are approved, they con- 
 stitute a cash budget. 
 
 4. Preparation of the Financial Program. Based 
 on the preliminary estimates of cash receipts and disburse- 
 ments, there will be prepared a suggested financial program 
 which will indicate the financial procedure by which the 
 requirements of the proposed financial program are to be 
 met. This program will be revised, if necessary, to corre- 
 spond to the revised financial budget and will then con- 
 stitute the working program of the financial department. 
 
 5. Preparation of an Estimated Balance Sheet 
 AND Estimated Statement of Profit and Loss. These 
 financial statements, discussed in the chapters immediately 
 following, are studied in connection with the financial budg- 
 et to determine the effect of the contemplated financial 
 program on the financial condition and income of the busi- 
 ness.
 
 CHAPTER XXI 
 THE ESTIMATED BALANCE SHEET 
 
 The Need for Financial Statements 
 
 Business management can be exercised in a rational 
 manner only when it is based on accurate and comprehen- 
 sive information with reference to the operations of the busi- 
 ness which is to be administered. Not only must informa- 
 tion be available, but it should be in the form in which it 
 will be the most serviceable to the business manager. A 
 large part of the information used by the business executive 
 is in the form of statistical data, and experience has shown 
 that these data are most useful when presented by means of 
 reports which show them in a summarized and classified 
 form. Consequently, business men have long been accus- 
 tomed to using statistical reports. 
 
 The nature of these reports has been determined largely 
 by necessity. When the executive has found that he must 
 have certain information to carry on some activity which 
 it has been necessary to perform, he has devised, or has had 
 devised, a report which will provide him with this informa- 
 tion. The balance sheet and the statement of profit and 
 loss are the two reports with which the executive is most 
 familiar and which are most widely used. The reason for 
 the extensive use of these reports is not difficult to see if the 
 development of accounting records and reports is considered. 
 
 Balance Sheet 
 
 Every business finds it necessary in the course of its de- 
 velopment to borrow funds from banks and to purchase 
 merchandise on account. In the not distant past both 
 bank and merchandise creditors often granted credit on the 
 
 333
 
 334 BUDGETARY CONTROL 
 
 basis of the general reputation of the applicant and the in- 
 formation which they could obtain from him in an informal 
 manner. During recent years, however, they have found 
 it necessary to have more exact information and, to obtain 
 this, have required a formal report showing the financial 
 condition of the business. Consequently, the standard 
 form of balance sheet has been developed for their use. The 
 executive, being required to prepare this report for his 
 creditors, gradually learned to make some use of it himself. 
 
 Statement of Profit and Loss 
 
 For many years creditors satisfied themselves with the 
 information obtained from the balance sheet, but recently 
 they have found it expedient to ask for additional informa- 
 tion which will show the nature of the operations of the busi- 
 ness and the result of these operations. They hsLxe found 
 it desirable to have this information because they realize 
 that, though the balance sheet shows the financial condition 
 of the business at the time credit is requested, what the cred- 
 itor is primarily interested in is its financial condition at the 
 end of the period of credit. For instance, if a bank grants a 
 loan for three months, it desires to know that the business 
 will be able to pay the loan at maturity ; hence it is interested 
 to know its financial condition three months from now. 
 
 If it knows its present financial condition and the result 
 of Its past operations, it can estimate roughly the effect of 
 its future operations on its present condition and arrive at 
 an estimate of its financial condition three months in the 
 future. The standard form of the statement of profit and 
 loss has been designed to present to creditors and others the 
 information with reference to the past operations of the 
 business which they desire. Since the executive must pre- 
 pare it for the use of others, he has learned, as in the case of 
 the balance sheet, to use it for his own purposes.
 
 ESTIMATED BALANCE SHEET 335 
 
 Standard Forms of Financial Statements 
 
 The balance sheet and the statement of profit and loss 
 have become, therefore, the two standard reports which are 
 usually prepared by all businesses and which are used by 
 the creditors, stockholders, and executives of the business 
 in the making of decisions and the formulation of policies 
 with reference to the business. Through the influence of 
 national associations, such as the American Bankers' Asso- 
 ciation and the National Association of Credit Men, as well 
 as the writings and teachings of accountants, more or less 
 standard forms for these statements have been developed. 
 It is assumed that the form and content of these widely 
 used and orthodox statements are familiar to the reader. 
 
 Use of the Financial Reports 
 
 The standard form of balance sheet and the standard 
 form of statement of profit and loss show respectively the 
 present financial condition of a business and the results in 
 terms of profit and loss of its operations over a certain period 
 of time. This information serves two purposes: 
 
 1. It indicates the efficiency with which the business has been man- 
 
 aged during the past, and 
 
 2. It indicates the possible result of its future operations. 
 
 The second purpose of the information provided by the 
 financial reports has not been emphasized by writers and 
 practitioners, and yet a little thought will show that it is the 
 primary purpose for which this information is desired. It is 
 true that these reports are usually discussed in terms of past 
 results, but the principal purpose of studying past results is 
 to be able better to control future results. Just as the credi- 
 tor desires a statement of profit and loss, so that he can esti- 
 mate the changes in financial condition which will probably 
 take place as a result of the future operations for a certain
 
 336 BUDGETARY CONTROL 
 
 period of time — in the same manner the executive is prima- 
 rily interested in both the balance sheet and statement of 
 profit and loss in order that he may be able to judge whether 
 future operations will result in favorable changes in the 
 financial condition of the business. 
 
 It is true that both the creditor and the executive make 
 their estimates informally and incompletely. Neither one 
 may be conscious that he is making such an estimate at all. 
 His thought may proceed no farther than to reason that the 
 operations for the past period have resulted in a profit and a 
 favorable financial condition, and if the same policies are 
 followed during the next period, equally favorable results 
 will follow. If the results of the past period are undesirable, 
 he may try to locate the cause and determine some means to 
 remove it. If he succeeds in making changes which he 
 thinks will remove the difficulties of the past period, he may 
 assume that the results of the next period will be more satis- 
 factory without working out in detail what these results 
 will be. 
 
 For instance, the executive may find that his small profits 
 for the year are due to increased production cost, and that 
 the increased cost is the result of wasteful and inefiicient 
 methods of handling materials and supplies in certain depart- 
 ments of the factory. He changes the methods of these 
 departments so as to lower the cost of materials and supplies, 
 and assumes that as a result he will have a satisfactory profit 
 without determining just what the change in profits will be. 
 If he finds that the small profits are due to decreased sales, 
 and the decreased sales are due to the failure of salesmen in 
 specific territories, he may replace these salesmen with 
 those who are thought to be efftclent and estimate that as a 
 result of these changes favorable profits will be made. 
 
 In both of these cases the executive may carry his think- 
 ing a step farther. He may estimate the reduction in cost
 
 ESTIMATED BALANCE SHEET . 337 
 
 of materials which will be effected by the new methods, and 
 then calculate what the profits of the business will be for the 
 next fiscal period if the other results of operation are the 
 same as for the past period. In the same manner he may 
 estimate the increased sales which will be secured from the 
 changes in sales personnel and the consequent results in 
 profits. If he makes a number of changes and estimates 
 the results of each of these, he is led to make a more or less 
 detailed estimate of the result of future operations. 
 
 Need for Estimated Financial Statements 
 
 The foregoing discussion and illustrations should be suffi- 
 cient to show that the standard forms of balance sheet and 
 statement of profit and loss are used as a basis of planning 
 future operations and estimating the results of these opera- 
 tions. It should also be apparent that these plans and 
 estimates are usually made in a very informal manner, 
 and consequently are apt to be incomplete and inac- 
 curate. In fact, they are little more than "expert guess- 
 work." 
 
 In the discussion of the various departmental budgets, 
 it has been emphasized that if estimates are to be made 
 they will be most serviceable if they are prepared in a 
 systematic, complete, and formal manner. In pursuance 
 of this policy, it is desirable that there be prepared an 
 estimated balance sheet or "budget" of assets, liabilities, 
 and proprietorship, and an estimated statement of profit 
 and loss, or "budget" of income and expense, in the same 
 manner that there is prepared a budget of sales, purchases, 
 expenses, etc. 
 
 It is the purpose of the present chapter to discuss the 
 construction and use of the estimated balance sheet. The 
 estimated statement of profit and loss will be discussed in 
 the chapter immediately following. 
 22
 
 338 BUDGETARY CONTROL 
 
 Relation of the Departmental Estimates to the Estimated Finan- 
 cial Reports 
 
 The departmental estimates show the contemplated 
 operations of the several departments. The profits of the 
 company and its financial condition are dependent on these 
 operations. After the departmental estimates are prepared , 
 it is then necessary to prepare a preliminary estimated 
 balance sheet showing the effect of the contemplated pro- 
 gram on the financial condition of the business, and a pre- 
 liminary estimated statement of profit and loss showing the 
 result of the program in terms of profit and loss. 
 
 By studying these two statements and comparing them 
 with the statements at the beginning of the period, it is 
 possible to judge the desirability of the proposed program. 
 If the execution of the proposed program will lead to undesir- 
 able results, it will be necessary to revise the departmental 
 estimates. After these revisions are made, the preliminary 
 estimated financial reports should be revised, to give effect 
 to the changes in the departmental budgets. Although the 
 budget period may be three, six, or twelve months in length, 
 it is desirable that the estimated balance sheet and state- 
 ment of profit and loss be made so as to show the anticipated 
 results at the end of each month. Monthly comparisons 
 can be made, then, between the estimated and the actual 
 results. 
 
 In the following discussion the method by which the 
 estimated financial reports are made will first be considered, 
 and then the method by which they are studied to see if they 
 show the necessity of a revision in the departmental budgets 
 will be explained. 
 
 The Estimated Balance Sheet 
 
 To make the discussion of the preparation of the esti- 
 mated balance sheet more concrete, a simple balance sheet
 
 ESTIMATED BALANCE SHEET 339 
 
 NATIONAL MANUFACTURING COMPANY 
 BALANCE SHEET 
 December 31, 1921 
 
 Current Assets: 
 
 Cash ^ 48,000 
 
 Notes Receivable 80,000 
 
 Accounts Receivable $200,000 
 
 Less: Reserve for Bad Debts 4,000 
 
 Inventory: 
 
 Raw Materials % 40,000 
 
 Goods in Process 120,000 
 
 Finished Goods 560,000 
 
 196,000 
 
 720,000 
 
 Accrued Items 500 
 
 Total Current Assets §1,044,500 
 
 Fixed Assets: 
 
 Office Equipment $ 40,000 
 
 Less: Reserve for Depreciation. . . . 8,000 
 
 Machinery and Equipment . . ._ $200,000 
 
 Less: Reserve for Depreciation .... 40,000 
 
 Buildings $160,000 
 
 Less: Reserve for Depreciation .... 48,000 
 
 $ 32,000 
 160,000 
 112 ,000 
 
 Land 240,000 
 
 Total Fixed Assets . . , 544,ooo 
 
 Deferred Charges to Expense 27,000 
 
 Good-Will. . . __8o^ 
 
 Total Assets $1,695,500 
 
 Current Liabilities: 
 
 Notes Payable $ 100,000 
 
 Accounts Payable 150,000 
 
 Accrued Liabilities 10,000 
 
 Total Current Liabilities ^ 260,000 
 
 Fixed Liabilities: 
 
 Mortgages Payable $ 80,000 
 
 Bonds Payable 80,000 
 
 Total Fixed Liabilities 160,000 
 
 Proprietorship: 
 
 Capital Stock Outstanding $1,000,000 
 
 Surplus 275,500 
 
 Total Proprietorship i,275,500 
 
 Total Liabilities and Proprietorship $1.605,500 
 
 Figure 38. Balance Sheet
 
 340 BUDGETARY CONTROL 
 
 showing the financial condition of a business at the begin- 
 ning of a fiscal period will be given, and on the basis of as- 
 sumed departmental budgets an estimated balance sheet, as 
 of the end of the period, will be prepared. For the sake of 
 simplicity a budget period one year in length will be assumed, 
 and only the estimated balance sheet at the end of the year 
 will be given. The reader will understand that an estimated 
 balance sheet at the end of each month is desirable. 
 
 The balance sheet of the National Manufacturing Com- 
 pany as of December 31, 1921, is shown in Figure 38. 
 
 To show the preparation of the estimated balance sheet 
 as of December 31, 1921, it will be necessary to take each 
 item which appears on the balance sheet at the beginning of 
 the period and see the method by which the changes which 
 w^ill occur in it are determined. 
 
 Cash 
 
 The cash which it is estimated will be received from the 
 operations of the business during the budget period, will be 
 shown by the estimate of cash receipts (Figure 30, page 308) 
 which is prepared as part of the financial budget. The esti- 
 mate of cash receipts does not show the cash to be received 
 from bank loans, for the purpose of the estimate of cash re- 
 ceipts and disbursements is to show the loans required. The 
 amount of these loans can be determined from the financial 
 program (Figure 34, page 318), which is prepared on the 
 basis of the financial budget. The estimate of cash receipts 
 also does not show the cash which may be received from new 
 financing such as the sale of stock or bonds. The amount 
 of such cash must be obtained by a consideration of the 
 plans of the directors. 
 
 The estimated disbursements for operating purposes 
 can be obtained from the estimate of cash disbursements 
 (Figure 3 1 , page 311). The estimate of cash disbursements
 
 ESTIMATED BALANCE SHEET 34I 
 
 does not show the disbursements for paying bonds or retir- 
 ing long-term notes. Such disbursements can be easily de- 
 termined from the plans of the directors and the terms under 
 which the bonds or notes were issued. 
 
 After the estimated cash receipts from all sources and the 
 estimated cash disbursements for all purposes are deter- 
 mined, the estimated cash balance can be determined. 
 Although this is the method by which the estimated cash 
 balance is finally obtained, it is customary to decide what 
 cash balance is deemed necessary and use this in preparing 
 the summary of financial requirements (Figure 34, page 318), 
 from which the bank loans required are determined. Of 
 course, if the bank loans required as shown by the prelimi- 
 nary summary of financial requirements are larger than it is 
 thought desirable or possible to obtain, revisions are neces- 
 sary, and in making these revisions the estimated cash bal- 
 ance may be cut do\^m. 
 
 Based on the financial budget of the National Manufac- 
 turing Company, it is estimated that its cash balance on 
 December 31, 1922, will be $20,000. 
 
 Notes Receivable 
 
 To determine the amount of the notes receivable which 
 will be on hand at the end of the period, it is necessary to 
 consider the following: 
 
 (a) Notes receivable on hand at the beginning of the period. 
 
 (b) Estimated notes receivable which will be received in payment of 
 
 goods sold during the period. 
 
 (c) Estimated notes receivable which will be received in payment of 
 
 accounts during the period. 
 
 (d) Estimated cash receipts from notes receivable during the period. 
 
 It should be apparent to the reader that a-j-b-fc— d 
 equals the notes receivable on hand at the end of the period. 
 If a business has but a few customers, it will be possible to
 
 342 BUDGETARY CONTROL 
 
 determine the amount of b, c, and d by considering each 
 customer separately. If there are numerous customers, it 
 may be necessary to obtain the ratio between accounts re- 
 ceivable and notes receivable for the past several years, and 
 assume that this ratio will continue during the current year 
 if no changes in terms or of general business conditions are 
 anticipated. If new lines are to be introduced, which are to 
 be sold on different terms, or if business conditions are such 
 that clients are apt to give notes in payment of accounts in 
 greater quantities than usual, these facts must be considered, 
 and the estimated ratio between notes receivable and ac- 
 counts receivable revised accordingly. After this ratio is 
 determined, it will be applied to the estimated balance of 
 unpaid claims against customers at the end of the period to 
 obtain the estimated notes receivable outstanding. 
 
 The National Manufacturing Company sells several 
 classes of products. Some of these are sold on account, and 
 some are sold on terms which provide for the receipt of trade 
 acceptances and notes in payment. The tendency for the 
 past three years has been for an increase of the sales of the 
 latter in proportion to the former. The sales program for 
 the year 1922 calls for an increase in this tendency during 
 the next year. It is also anticipated that general business 
 conditions are such that more than the usual number of 
 notes will be received from customers in settlement of due 
 accounts. It is estimated that under these conditions the 
 notes receivable on hand on December 31 , 1922, will amount 
 to $120,000. 
 
 Accounts Receivable 
 
 The amount of the accounts receivable at the end of the 
 budget period is estimated in a manner very similar to that 
 employed in determining the amount of the notes receivable 
 as explained in the preceding paragraph. It is necessary to
 
 ESTIMATED BALANCE SHEET 343 
 
 consider (a) the balance outstanding at the beginning of the 
 period ; (b) the accounts receivable resulting from, the sales 
 during the period; (c) cash receipts from accounts receivable 
 during the period. It is apparent that a+b — c is equal to 
 the accounts receivable at the end of the period. 
 
 On this basis it is estimated that the accounts receivable 
 of the National Manufacturing Company on December 31, 
 1922, will be $180,000. 
 
 Reserve for Bad Debts 
 
 The reserv^e for bad debts at the beginning of the period 
 is 2 per cent of the accounts receivable, and it is estimated 
 that the same ratio will exist at the end of the year. Con- 
 sequently it is estimated that the reserve will be $3,600. 
 
 Inventories 
 
 The inventory of raw materials at the end of the period 
 can be obtained from the materials budget, since this budget 
 shows not only the deliveries to stock for each month, but 
 also the balance on hand at the end of each month. The 
 inventory of goods in process can be determined by a con- 
 sideration of the following: (a) inventory at beginning of 
 period ; (b) cost of the materials, labor, and manufacturing 
 expense put into process during the period ; (c) finished goods 
 transferred from factory to stock during the period. The 
 inventory of goods in process at the end of the period is 
 equal to a+b — c. The items in (2) will be obtained from 
 the estimate of raw material requirements, the labor budget, 
 and the manufacturing expense budget. Item (c) will be 
 obtained from the finished goods budget. 
 
 The inventory of finished goods can be obtained by a 
 consideration of the following: (a) inventory at the begin- 
 ning of the period ; (b) finished goods transferred from fac- 
 tory to stock during the period; (c) stock sold during the
 
 344 BUDGETARY CONTROL 
 
 period. The inventory of finished goods at the end of the 
 period is equal to a+b — c. Usually, in making up the esti- 
 mate of finished goods required, the inventory desired of 
 each separate item at the end of the period is estimated, 
 since this inventory constitutes a part of the requirements 
 for the period. If the inventory of the separate items 
 which it is planned to have is extended at cost price, the total 
 inventory can be obtained. In some cases it may be easier 
 to reduce the sales estimate by the amount of the average 
 gross profit and substitute the result in the equation given 
 above. Either method may be followed and approximate 
 accuracy obtained. 
 
 On the basis of the present inventories and the various 
 budgets, it is estimated that the inventories of the company 
 on December 31, 1922, will be as follows: 
 
 Raw materials $ 70,000 
 
 Goods in Process 230,000 
 
 Finished Goods 1,100,000 
 
 Total $1 ,400,000 
 
 Accrued Income 
 
 The chief source of accrued income is accrued interest 
 on notes receivable. The estimated increase in the amount 
 of the notes will cause a corresponding increase in the 
 amount of this item. Accordingly it is estimated to be 
 $1,000 on December 31, 1922. 
 
 Fixed Assets 
 
 The plant and equipment budget shows the following 
 for each class of fixed assets : (a) balance of asset and reserve 
 for depreciation accounts at the beginning of the period; 
 
 (b) estimated cost of assets to be acquired during the period ; 
 
 (c) estimated depreciation for the period on both old and 
 new assets; (d) balance of asset and depreciation accounts
 
 ESTIMATED BALANCE SHEET 345 
 
 at the end of the period. It is very easy, therefore, to obtain 
 from the plant and equipment budget the desired informa- 
 tion for the estimated balance sheet with reference to both 
 the fixed assets and the depreciation thereon. 
 
 From the plant and equipment budget it is estimated 
 that the fixed assets and reserv^es for depreciation of the 
 company on December 31, 1922, will be as follows: 
 
 Office Equipment $ 60,000 
 
 Less: Reserve for Depreciation 14,000 
 
 $ 46,000 
 
 Machinery and Equipment $280,000 
 
 Less: Reserve for Depreciation 100,000 
 
 180,000 
 
 Building $200,000 
 
 Less: Reserve for Depreciation 58,000 
 
 142,000 
 
 Land 240,000 
 
 Total Fixed Assets $608,000 
 
 Deferred Charges to Expense 
 
 The deferred charges to expense consist of organization 
 expenses, unexpired insurance, and prepaid interest. The 
 organization expenses disappear from the balance sheet, 
 since this is the last year of the period over which they are 
 being allocated. The unexpired insurance can be deter- 
 mined by a consideration of (a) the insurance which it is 
 planned to place during the year, and (b) the insurance un- 
 expired at the beginning of the year. The latter can be 
 obtained from the insurance policy record, while the former 
 must be obtained from the estimate on insurance. Usually 
 there is one officer who is responsible for all insurance con- 
 tracts. In many cases this responsibility is placed on the 
 treasurer. The responsible official will prepare an estimate 
 of the contracts to be made and their length of life. The 
 prepaid interest will arise largely from the notes of custom-
 
 346 BUDGETARY CONTROL 
 
 ers which are discounted. The amount of the notes to be 
 discounted can be determined from the financial program, 
 which is prepared in connection with the financial budget. 
 
 It is estimated that the deferred charges of the company 
 on December 31, 1922, will be $35,000. 
 
 Good-Will 
 
 The book value of the good-will will not change during 
 the year. 
 
 Notes Payable 
 
 The amount of the notes payable at the end of the year 
 will depend on the following : (a) notes payable at beginning 
 of the period; (b) notes issued in payment of merchandise; 
 (c) notes issued in payment of accounts; (d) notes issued to 
 bank for loans; (e) notes paid during the period. The 
 notes outstanding at the end of the period equal a+b + c+ 
 d — e. The notes to be issued to merchandise creditors in 
 payment for merchandise can be determined by a consid- 
 eration of the materials budget. This budget shows the 
 purchases to be made during the period, classified under at 
 least major groups or classes. Usually it is for only certain 
 classes of merchandise that notes are given or trade accept- 
 ances issued, and the amount of these classes of merchan- 
 dise which is to be purchased can be obtained from the ma- 
 terials budget. 
 
 If notes or trade acceptances are issued for part of the 
 purchases in different lines, it is then necessary to obtain 
 the ratio between the purchases made for notes and the total 
 purchases during past periods, and apply this percentage 
 to the estimated purchases for the current period. In most 
 businesses few, if any, notes are issued in payment of ac- 
 counts. If such notes are issued, it is necessary to obtain 
 the ratio between them and the total purchases on account,
 
 ESTIMATED BALANCE SHEET 347 
 
 and apply this ratio to the estimated purchases on account 
 for the current period. 
 
 The amount of the notes to be issued to banks can be 
 obtained from the financial program (page 318), prepared 
 in connection with the financial budget. The disbursements 
 made in the payment of notes payable are shoAvn in the 
 financial program and in the estimate of cash disbursements. 
 In addition to the notes discussed above, notes payable 
 may be issued to ofhcers, employees, and friends of a com- 
 pany. A separate estimate must be made of their amount. 
 On the balance sheet it is desirable to state the notes issued 
 for separate purposes and to different parties as separate 
 items. For the sake of brevity they will be stated as one 
 item in the present case. 
 
 The notes payable of the company as of December 31, 
 1922, will be $450,000, according to the estimate. 
 
 Accounts Payable 
 
 The amount of the accounts payable at the end of the 
 period will be determined from the following: (a) accounts 
 payable at the beginning of the period ; (b) purchases on ac- 
 count during the period; (c) payments made on account 
 during the period. The accounts payable at the end of 
 the period equal a+b — c. The amount of the purchases 
 on account will be obtained from the materials budget. 
 The amount of the payments on account will be obtained 
 from the estimate of cash disbursements. 
 
 The accounts payable of the company as of December 
 31, 1922, are estimated to be $200,000. 
 
 Accrued Liabilities 
 
 The principal items of accrued liabilities are accrued 
 interest on notes payable and accrued wages. Since the 
 company is planning to increase greatly the amount of its
 
 348 BUDGETARY CONTROL 
 
 notes payable, this will result in an increase in the accrued 
 interest. Since it also plans to increase very much its in- 
 ventory of finished goods, this will result in an increase in 
 production, with an enlarged labor force, which in turn 
 will probably result in a larger item of accrued wages. It 
 is estimated that the accrued wages and accrued interest 
 on December 31, 1922, will amount to $20,000. 
 
 Mortgages and Bonds Payable 
 
 The anticipated increase in fixed assets will necessitate 
 additional capital, and the treasurer recommends to the 
 board of directors that the mortgages on real estate be in- 
 creased by $40,000, and that $60,000 additional bonds be 
 issued. Accordingly the fixed liabilities of the company on 
 December 31, 1922, will be as follows: mortgages payable 
 $120,000, bonds payable $140,000. 
 
 Capital Stock 
 
 The enlarged operations which are planned for the year 
 will necessitate the procurement of additional capital. The 
 president and the treasurer recommend to the board of di- 
 rectors that $250,000 of additional stock be sold. The esti- 
 mated capital stock of the company on December 31, 1922, 
 therefore, will be $1,250,000. 
 
 Surplus 
 
 The amount of the surplus at the end of the period will 
 be determined from the following: (a) surplus at the begin- 
 ning of the period; (b) profits for the period; (c) dividends 
 to be declared. The surplus at the end of that period will 
 equal a+b — c. The profits for the period are determined 
 from the estimated statement of profit and loss. The 
 dividends to be paid will be determined by the board of 
 directors. Taking these factors into consideration it is esti-
 
 ESTIMATED BALANCE SHEET 349 
 
 mated that the surplus of the company on December 31, 
 1922, will be $170,000. 
 
 Interpretation of Estimated Balance Sheet 
 
 On the basis of the information given in the preceding 
 paragraphs, it is possible to construct a preliminary esti- 
 mated balance sheet for the National Manufacturing Com- 
 pany as of December 31 , 1922. The contents of this report 
 is shown in Figure 39. 
 
 As previously explained, the purpose of the preliminary 
 estimated balance sheet is to show the effect on the financial 
 condition of the business of the proposed plans for the next 
 period, as expressed in the departmental budgets. After it 
 is prepared, it is necessary to study it to see w^hether it 
 shows a desirable tendency, and, if it does not, revisions in 
 the budgets should be made, if possible, so as to remedy the 
 undesirable tendency. The easiest way to see the effect of 
 the proposed budgets is to show the estimated balance sheet 
 as of the end of the period in comparison with the actual bal- 
 ance sheet at the beginning of the period. This comparison 
 for the National Manufacturing Company is shown in 
 Figure 39. 
 
 The most significant comparisons shown by Figure 39 
 will be considered. 
 
 Cash 
 
 It is estimated that the cash balance at the end of the 
 year w411 be but slightly more than 40 per cent of the cash 
 balance at the beginning of the year. A decrease in the 
 cash balance is not in itself undesirable. In some cases it 
 may be desirable, for the cash balance at the beginning of 
 the period may have been too large. The important ques- 
 tion to determine is whether the cash balance at the end of 
 the year is sufficient. Although this question cannot be
 
 350 BUDGETARY CONTROL 
 
 answered definitely, since there are no definite standards by 
 which to judge the cash balance which a business should 
 have, there are indications that the estimated balance for 
 the company is too small. 
 
 In the first place the current liabilities are $760,000, and 
 it is safe to assume that these are maturing each day. The 
 current assets are also presumably being converted into 
 cash every day, but it is not difficult to conceive of a situa- 
 tion where the liabilities maturing on a particular day may 
 be more than the f imds received from current assets on that 
 day, plus a cash balance of $20,000. Then, of course, it is 
 impossible, or at least impractical, to pay out the total 
 cash balance. The primary purpose of the cash balance is 
 to take up the possible slack between cash receipts and cash 
 disbursements, and it is unwise to reduce this balance to too 
 small an amount, especially if, as in this case, the excess of 
 current assets over current liabilities is not large. 
 
 A more important indication of the inadequacy of the 
 estimated cash balance is the ratio between the cash balance 
 and the notes payable. The latter item is not analyzed, but 
 it is safe to assume that it is expected that a considerable part 
 of the notes outstanding on December 31, 1922, will be in 
 the hands of the bankers of the firm. Practically all banks 
 require that a customer maintain a bank balance which 
 bears a certain ratio to the loans made to the customer by 
 the bank. Many banks require that the balance shall be 
 20 per cent of the loans granted to the customer. If such a 
 cash balance is required by the bankers of this company, 
 its maximum bank loans on December 31, 1922, would be 
 $100,000. It is hardly to be conceived that less than one- 
 fifth of the notes issued by the firm are to bankers. 
 
 It is probable that the estimated balance sheet calls for 
 an impossible condition by planning for larger bank loans 
 than the cash balance will make possible. In any case a
 
 ESTIMATED BALANCE SHEET 
 
 351 
 
 COMPARATIVE BALANCE SHEET 
 
 FOB THE 
 
 NATIONAL MANUFACTURING COMPANY 
 
 ASSETS 
 1921 
 Current Assets: 
 
 Cash $ 48,000 
 
 Notes Receivable ' 80,000 
 
 Accounts Receivable $200,000 
 
 Lfss: Reserve for Bad Debts. 4,000 196,000 
 
 Inventories: 
 
 Raw Materials $ 40,000 
 
 Goods in Process 120,000 
 
 Finished Goods 560,000 720,000 
 
 Accrued Items 2,000 
 
 Total Current Assets $1,046,000 
 
 Fixed Assets: 
 
 Office Equipment $ 40,000 
 
 Leas: Depreciation 8,000 $ 32,000 
 
 Machinerv and Equipment $200,000 
 
 Less: Depreciation 40,000 160,000 
 
 Building $160,000 
 
 Less: Depreciation 48,000 112,000 
 
 Land 240,000 
 
 Total Fixed Assets 544,000 
 
 Deferred Chargss TO Expe-jse.. 24,000 
 
 Good- Will 80,000 
 
 Total Assets $1,694.000 
 
 LIABILITIES 
 
 Current Lubilities: 
 
 Notes Payable $ 100,000 
 
 Accounts Payable 150,000 
 
 Accrued Liabilities 10,000 
 
 Total Current Liabilities. . . $ 260.000 
 
 Fixed Lubilities: 
 
 Mortgages Payable $ 80.000 
 
 Bonds Payable 80.000 
 
 Total Fixed Liabilities 160,000 
 
 Proprietorship: 
 
 Capital Stock Outstanding $1,000,000 
 
 Surplus 274,000 
 
 Total Liabilities and Pro- 
 prietorship 1.274,000 
 
 Total Lubilities $1,694,000 
 
 $ 180,000 
 3,600 
 
 $ 20,000 
 120,000 
 
 176,400 
 
 $ 70,000 
 230,000 
 1,100,000 1.400,000 
 
 $1,717,400 
 
 60,000 
 
 14,000 $ 46,000 
 
 280,000 
 100,000 
 
 $ 200,000 
 58.000 
 
 180,000 
 
 142,000 
 240,000 
 
 608,000 
 
 35,OOo 
 80.000 
 
 $2,440,400 
 
 < 540.000 
 
 200.000 
 
 20.400 
 
 $ 760,400 
 
 $ 120,000 
 140,000 
 
 $1,250,000 
 170,000 
 
 260.000 
 
 1,420.000 
 $2,440,400 
 
 Figure 39. Comparative Balance Sheet, with Preliminary Estimate
 
 352 BUDGETARY CONTROL 
 
 business doing the volume of business which this balance 
 sheet indicates, should not at any time be in such a condi- 
 tion as to be unable to borrow more than $100,000 from its 
 banks. The estimated statement of profit and loss which 
 will be given later will confirm the inadequacy of this cash 
 balance. Revisions in the budgetary program which will 
 accomplish its increase will be discussed subsequently. 
 
 Notes Receivable and Accounts Receivable 
 
 The notes receivable show an estimated increase of 50 
 per cent, while the accounts receivable show a decrease. 
 This is rather an unusual situation, since an increase in the 
 volume of business should produce a corresponding increase 
 in both. In the preceding discussion of the method of de- 
 termining the amount of the notes receivable, it has been ex- 
 plained that the statistics of past periods show a tendency for 
 the sales for which notes are received in payment to increase 
 faster than the sales on account. There may be conditions 
 under which this tendency will not be regarded as undesir- 
 able, but usually notes received in payment of merchandise 
 are non-interest-bearing and are for a considerably longer 
 length of time than the usual credit period granted on open 
 account sales. Consequently the seller is reciuired to bor- 
 row funds with which to carry these notes or must discount 
 them to obtain funds. In either case the interest charge 
 must be borne by him which in turn reduces his profit. 
 Unless a higher sales price is obtained for goods sold on 
 notes, less profit is obtained usually than for goods sold on 
 account. 
 
 The estimated balance sheet shows such a radical change 
 in the ratio of accounts receivable to notes receivable, that a 
 careful examination should be made of the tendency shown 
 by the comparisons of past periods to see whether the tend- 
 ency for the notes receivable to increase more than in pro-
 
 ESTOIATED BALANCE SHEET 353 
 
 portion to the accounts receivable should be permitted to 
 continue, or whether strenuous efforts should be made to 
 correct it by enforcement of stricter credit terms or by plac- 
 ing more sales effort on other lines. 
 
 Inventories 
 
 The estimated inventories of December 31, 1922, are 
 almost twice what the inventories are at the beginning of the 
 year. The estimated increases in the inventories of raw 
 materials and goods in process are no doubt the result of the 
 estimated increase in production which is required to build 
 up and maintain the large increase in finished goods for 
 which the estimated balance sheet calls. Such an estimated 
 increase in finished goods may result from the following : 
 
 1. A large increase in sales may be estimated and this calls for an 
 
 increased inventory. Whether the increase called for is jus- 
 tified can be determined to some extent by considering the 
 turnover shown by the estimated statement of profit and loss, 
 and comparing this turnover with the turnover shown by pre- 
 vious statements. 
 
 2. It may be due to careless and inaccurate planning on the part of 
 
 the production department. This department may not esti- 
 mate accurately the required inventory of each item to be man- 
 ufactured, not basing this estimate on the estimate of sales, but 
 rather making a lump estimate of the inventory desired. 
 
 A very careful investigation should be made to see (i) 
 whether the estimated inventory is necessary in order to meet 
 the estimated sales; (2) whether it is possible to finance such 
 an inventory, even if it is necessary to meet estimated sales; 
 and (3) whether it is desirable to tie up so much capital in 
 inventory, with the consequent carrying charges and the 
 possibility of a large loss being incurred due to falling prices. 
 It may be found more profitable and better financial policy 
 to reduce sales and carry a smaller inventory. 
 
 23
 
 354 BUDGETARY CONTROL 
 
 There is usually great danger attendant on such a rapid 
 expansion as the increase in the inventories indicates that 
 this company is contemplating. It is also significant to 
 note that though the notes receivable and accounts receiva- 
 ble have increased less than 8 per cent, the inventory of fin- 
 ished goods has increased almost loo per cent. This would 
 seem to indicate that it is planned to increase the inventory 
 of finished goods faster than is required by the sales program, 
 since increased sales, without a change in terms or collection 
 methods, will result in an increase in the accounts receivable 
 and notes receivable. 
 
 A statement of the suggested procedure for the company 
 to follow in connection with its inventories will be postponed 
 until after the estimated statement of profit and loss is con- 
 sidered. 
 
 Fixed Assets 
 
 The estimated balance sheet shows a considerable increase 
 in office equipment, machinery and equipment, and build- 
 ings. In determining the propriety of these increases, it is 
 necessary to consider the following: 
 
 1. Whether the increases shown represent anticipated expenditures 
 
 which can properly be chargeable to the asset accounts. Care 
 must be taken to see that they do not represent estimated 
 appreciation on the assets or estimated expenditures for repairs 
 or replacements. If these increases are based on the plant 
 and equipment budget, it should be easy to determine their 
 accuracy. 
 
 2. Whether the estimated increases in these assets are necessary to 
 
 carry on the contemplated program of the year. 
 
 3. Whether, if they are necessary, it will be possible to finance them. 
 
 4. Whether it will be profitable to incur these increases in order to 
 
 carry on the contemplated program. 
 
 The estimated depreciation should be investigated to see 
 if it is calculated at the proper rate. The figures shown
 
 ESTIMATED BALANCE SHEET 355 
 
 would seem to be reasonable in view of the estimated in- 
 crease in assets. 
 
 Deferred Charges to Expense 
 
 The increase in the deferred charges would seem to be 
 reasonable in view of the estimated increase in value of the 
 assets on which insurance should be carried and the prob- 
 ability of an increase in prepaid interest. To determine the 
 desirability of the amount of the deferred charges to expense, 
 it is necessary to consider the advisability of incurring the 
 expenses which give rise to these charges. 
 
 Notes Payable and Accounts Payable 
 
 Turning to the liability side of the comparative balance 
 sheet, it will be noticed that a larger increase in the notes 
 payable is estimated. The notes payable of December 31 
 are estimated to be almost five and one-half times the 
 amount outstanding at the beginning of the year. An in- 
 crease in the accounts payable is also estimated, but this 
 increase is by no means in proportion to the contemplated 
 increase in notes payable. An analysis should be made to 
 show to whom it is planned to issue these notes. It is re- 
 garded as good financial management to borrow funds on 
 notes issued to banks and to use these funds to discount 
 accounts payable. An inspection of the item of purchases 
 discount on the comparative statement of profit and loss 
 which will be shown in Figure 40 (page 363), will ser\^e to 
 show whether this procedure is contemplated. If it is, the 
 estimated purchases discount should show a large increase 
 over the amount of last year. 
 
 There are indications that it is contemplated to con- 
 tract large bank loans in order to pay accounts payable 
 contracted to secure the large increase in inventories. If 
 this be true, there is considerable doubt of the advisability
 
 356 BUDGETARY CONTROL 
 
 of the contemplated large increase in bank loans. In the 
 first place, it is doubtful whether banks would loan the 
 amount called for by the estimated balance sheet on the 
 strength of the financial condition shown by this statement. 
 In the second place it is doubtful if the firm should contract 
 such a large amount of loans in order to carry large inven- 
 tories. If the inventories are not converted very rapidly, 
 the firm may be unable to meet the notes at maturity. 
 
 Fixed Liabilities 
 
 It is estimated that the bonds payable and mortgages 
 payable will both increase during the year. Presumably 
 the funds to be secured from these increases are to be used in 
 making the increase to the fixed assets. If the increases in 
 fixed assets are found to be justifiable, it may not be im- 
 proper to increase the fixed liabilities correspondingly. 
 However, the more desirable procedure is for a business to 
 increase its permanent assets out of profits. A rapidly ex- 
 panding business will often find this impossible, and if there 
 is assurance that a rapid expansion will be profitable, no 
 objection can be made to the procedure contemplated by 
 this company. 
 
 It must be remembered, however, that fixed liabilities 
 impose upon a business fixed charges w^hich must be met 
 if the business is to continue to operate, and that fixed 
 liabilities are not subject to rapid contraction as are current 
 liabilities. A business should therefore be cautious in 
 adopting a program which necessitates an Increase in its 
 fixed liabilities. 
 
 Capital Stock 
 
 The estimated balance sheet shows an increase in capital 
 stock of $250,000. This increase strengthens the indications 
 of the other comparisons that the company is embarking on
 
 ESTIMATED BALANCE SHEET 357 
 
 an extensive program of expansion. If its plans are depend- 
 ent on the sale of stock, it should be assured, before em- 
 barking upon its year's program, that the stock can be sold. 
 Otherwise it may find itself greatly embarrassed because 
 the estimated balance sheet shows that the company has 
 used practically every other available source of additional 
 capital. 
 
 Surplus 
 
 The estimated balance sheet shows a large decrease in 
 the surplus for the year. This decrease may result (a) 
 from a loss being incurred during the year; (b) from the pay- 
 ing of dividends in excess of the profits of the year. Either 
 condition indicates an undesirable situation. To incur a 
 loss is always undesirable. There are times when it may be 
 desirable to pay dividends from accumulated profits, but 
 the balance sheet of this company does not indicate such 
 a procedure is desirable for it. 
 
 In the first place, the surplus of the company is not large 
 in comparison to its capital stock. Secondly, the company 
 is planning to issue new stock and additional bonds to obtain 
 necessary capital. It is also planning to contract large 
 liabilities in the fonn of notes payable. Under such condi- 
 tions it is doubtful if it is expedient to use funds to pay 
 dividends which are declared from profits of preceding years. 
 
 Ratio of Current Assets to Current Liabilities 
 
 A final comparison which is of considerable significance 
 is that of the ratio of current assets to current liabilities. 
 On December 31, 1921, this ratio is slightly more than 4 to 
 I, while the estimated balance sheet of December 31, 1922, 
 shows a ratio of only 23^ to i . It can be seen, therefore, that 
 there is a decided decrease in this ratio. Although the 
 ratio on December 31, 1922, does not in itself appear unfa-
 
 358 BUDGETARY CONTROL 
 
 vorable, the tendency indicated by the decrease in this ratio 
 during the year is decidedly undesirable. If possible, 
 changes should be made to prevent this decided decrease in 
 this ratio. In any case, care must be exercised to see that 
 this tendency does not continue. 
 
 It is of course realized that no standard ratio of current 
 assets to current liabilities can be established. This ratio 
 will vary from business to business, and will vary in the same 
 business at different stages of the business cycle.
 
 CHAPTER XXII 
 
 THE ESTIMATED STATEMENT OF PROFIT 
 AND LOSS 
 
 Contents of the Estimated Statement of Profit and Loss 
 
 The estimated statement of profit and loss is prepared 
 in the same form as the periodical statement. Its contents 
 is classified into the following principal groups: 
 
 1. Returns from sales 
 
 2. Cost of goods sold 
 
 3. Operating expenses 
 
 4. Non-operating income 
 
 5. Non-operating expense 
 
 It is necessary to discuss briefly the method of estimating 
 the amount of each of these. 
 
 Returns from Sales 
 
 The estimated sales for the period are shown by the 
 sales estimate. The estimate shows the gross sales, and 
 for the purpose of the estimated statement of profit and 
 loss it is necessary to arrive at the net sales. This makes it 
 necessary to determine the amount of the sales returns and 
 sales allowances. An estimate of these can be made by ob- 
 taining their ratio to sales during past periods, and apply- 
 ing this ratio to the estimated sales for the current period. 
 If there are conditions which will affect this ratio during the 
 coming period, these will need to be given consideration. 
 
 The estimated sales and the estimated returns and 
 allowance of the National Manufacturing Company are 
 shown in the comparative statement of profit and loss 
 shown in Figure 40. 
 
 359
 
 36o BUDGETARY CONTROL 
 
 Cost of Goods Sold 
 
 In calculating the cost of goods sold of a manufacturing 
 business, several items have to be considered. These in- 
 clude the beginning and ending inventories of finished goods, 
 materials, and goods in process. In addition it is necessary 
 to know the purchases of materials, labor, and manufactur- 
 ing expense. The method of calculating the inventories 
 has been explained in the discussion of the estimated balance 
 sheet. The estimated purchases of materials, labor, and 
 manufacturing expense can be taken from the materials, 
 labor, and manufacturing expense budgets, respectively. 
 
 In a mercantile business the problem is much simpler 
 than in the manufacturing business. It is necessary to 
 consider only the beginning and ending inventories and the 
 purchases of finished goods. If a finished goods schedule 
 such as that discussed in Chapter XIV is prepared, all this 
 information can be taken directly from it. 
 
 The estimated cost of goods of the National Manufactur- 
 ing Company is shown in the comparative statement of 
 profit and loss given in Figure 40. 
 
 Operating Expenses 
 
 The amount of each class of expense can be obtained 
 from the various expense budgets. The only difficulty 
 which may arise in this connection is that the expense 
 classification shown by the expense budgets may not 
 correspond with that usually shown on the statement of 
 profit and loss. This is particularly true if the expense 
 budgets are made according to the classification of expenses 
 suggested in Chapter XVIII, For instance, under cor- 
 porate and financial expenses will be included items which 
 are often shown as non-operating expenses. 
 
 It is the author's belief that some such classification as 
 that suggested in the discussion of the expense budgets is
 
 ESTIMATED PROFIT AND LOSS 361 
 
 desirable for control purposes, and that it is preferable 
 that the estimated statement of profit and loss show the 
 same classification. If desirable a different classification 
 may be shown on the financial statements submitted for 
 public use. 
 
 The statement presented below shows the estimated 
 expenses of National Manufacturing Company, classified 
 under the principal headings suggested in Chapter XVIII. 
 The expense estimates will supply the supporting data to 
 make possible a judgment as to the propriety of these 
 amounts. 
 
 Non-Operating Income 
 
 The non-operating income can be obtained by simple 
 calculations based on the information contained in the 
 various budgets. For instance, the purchases discount can 
 be estimated by applying the ratio of purchases discount to 
 the total purchases of previous years, to the estimated pur- 
 chases of the current year. Interest earned can be cal- 
 culated on the basis of the sales estimate and the ratio of 
 interest received to sales during preceding years. This 
 method is based on the assumption that the terms of sales 
 and rate of interest on notes receivable will remain the same. 
 Contemplated • changes in policy must be given effect in 
 making these estimates. 
 
 Such changes are contemplated by the National Manu- 
 facturing Company, which accounts for a decrease in the 
 amount of these items on its estimated statement of profit 
 and loss, as shown in Figure 40. 
 
 Non-Operating Expense 
 
 If the expense classification previously suggested is 
 maintained, there will not be many items under non-operat- 
 ing expense. Those that are shown here can be easily
 
 362 BUDGETARY CONTROL 
 
 estimated. For instance, if it is desired to show sales dis- 
 count as a non-operating expense, its amount can be esti- 
 mated by applying the ratio of sales discount to the total 
 sales during previous years, to the estimated sales of the 
 current year. 
 
 Interpretation of the Estimated Statement of Profit and Loss 
 
 The most convenient and effective way to show the 
 effect of the proposed budgets on the profits of the business 
 is to show the estimated statement of profit and loss as 
 of the end of the period, in comparison with the actual 
 statement of profit and loss at the beginning of the period. 
 The statement of profit and loss of the National Manu- 
 facturing Company as of December 31, 1921, and its esti- 
 mated statement of profit and loss as of December 31, 1922, 
 are shown in Figure 40. The most important comparison 
 shown by the statements will be considered. 
 
 Sales 
 
 The estimated sales show an increase of 50 per cent. 
 This in itself looks very favorable, but the result of these 
 sales in terms of profit and loss must be considered before a 
 final conclusion can be made. 
 
 Turnover 
 
 The merchandise turnover for the year 192 1 is 3.4, while 
 for the year 1922 it is estimated to be only 2.5. This 
 comparison shows a decided decrease in the rate of turnover 
 which should be given careful consideration. The relation 
 of this decrease in turnover to the inventories will be ex- 
 plained later in this discussion. 
 
 Gross Profits on Sales 
 
 The gross profits on sales In 192 1 are approximately 123^ 
 per cent of sales, while the estimated gross profits for 1922
 
 ESTIMATED PROFIT AND LOSS 
 
 363 
 
 COMPARATIVE STATEMENT OF PROFIT AND LOSS 
 
 rOR THE 
 
 NATIONAL MANUFACTURING COMPANY 
 
 
 19 
 
 21 
 
 $1,600,000 
 16,000 
 
 19 
 
 40,000 
 962,000 
 
 22 
 
 $2,400,000 
 24,000 
 
 $2,376,000 
 
 
 
 Net Sales 
 
 
 $1,584,000 
 $ 
 
 Cost op Goods Sold: 
 
 . . $ 18,000 
 
 $ 932,000 
 
 1,130,000 
 
 700,000 
 
 Purchases 
 
 . . 600,000 
 
 S 618,000 
 40,000 
 
 $1,002,000 
 70,000 
 
 
 
 
 $ 578,000 
 625,000 
 575,000 
 
 
 
 
 Manufacturing Expense 
 
 
 $1,778,000 
 50,000 
 
 $2,762,000 
 120,000 
 
 Work in Process, December 31 
 
 
 $1,828,000 
 120,000 
 
 $2,882,000 
 230,000 
 
 
 
 $1,708,000 . 
 240,000 
 
 $2,652,000 
 560,000 
 
 
 
 
 
 $1,948,000 
 560,000 
 
 $3,212,000 
 1,100,000 
 
 Cost of Goods Sold 
 
 
 $1,388,000 
 
 $2,112,000 
 
 Gross Profit on Sales 
 
 Operating Expenses: 
 Selling Expenses 
 
 
 $ 196,000 
 
 $ 264,000 
 
 $ 44,000 
 30,500 
 25,000 
 18,000 
 10,500 
 
 $ 85,000 
 47,500 
 41,500 
 23,000 
 19,000 
 
 
 
 
 
 
 
 
 
 $ 128,000 
 
 $ 68,000 
 
 24,800 
 
 $ 216,000 
 
 
 
 $ 48,000 
 20.800 
 
 
 
 
 
 $ 92,800 
 31,000 
 
 $ 68,800 
 53,600 
 
 
 
 Net Income 
 
 
 $ 61,800 
 
 $ 15,200 
 
 
 .. 
 
 Figure 40. Comparative Statement of Profit and Loss, with 
 Preliminary Estimate
 
 364 BUDGETARY CONTROL 
 
 are only 1 1 per cent of sales. This indicates that the esti- 
 mated production cost of goods sold increases faster than 
 the estimated sales price of sales. Or if falling prices are 
 anticipated, it may be estimated that the sales price will 
 fall faster than the production cost. This may be a situa- 
 tion which is unavoidable, but careful scrutiny should be 
 made to determine some means by which it may be remedied. 
 The tendency indicated by this comparison is a dangerous 
 one, and one which is apt to occur if there is not close co- 
 operation between sales and production departments. 
 
 Ratio of Selling Expenses to Sales 
 
 The selling expenses are .027 of sales for the year 1921, 
 but according to the estimated statement of profit and loss 
 are to be .035 for the year 1922. This shows that though 
 the sales are expected to increase, the proposed marketing 
 plans are such that it will cost more to secure each dollar 
 of sales than during the last year. An analysis of the sales 
 expense will probably show that this increase is due to the 
 estimated extra cost of salesmen's salaries and expenses and 
 of advertising. It may be planned to incur these increased 
 expenses to obtain additional business and build up good- 
 will for the company. It may be proper to increase these, 
 but the tendency for such expenses to increase faster than 
 sales increase is a dangerous one, and care should be taken 
 that it does not continue too long. 
 
 Operating Expenses 
 
 The total operating expenses for 1921 are 8 per cent of 
 sales, while for the year 1922, it is estimated that they will 
 be 9 per cent. Although this increase is not large it shows 
 an undesirable and a dangerous tendency, and a careful 
 examination should be made to see if it is possible to change 
 this condition before the budgets are approved.
 
 ESTIMATED PROFIT AND LOSS 365 
 
 Net Operating Profit 
 
 The net operating profit for 192 1 is 4 per cent of sales, 
 while it is estimated to be but 2 per cent of sales for the 
 year 1922. It is also estimated to be smaller in amount in 
 1922 than in 1 92 1. This is the most discouraging informa- 
 tion shown on the comparative statement of profit and loss. 
 When it is estimated that the sales will increase 50 per cent, 
 it is decidedly unsatisfactory to find an estimated decrease 
 in net profit. It may of course be found that some of the 
 expenses to be incurred during the coming year are expected 
 to result in increased business during future years. If this 
 be true, there may be some excuse for the unprofitable 
 showing, but a careful examination should be made to 
 ascertain if this is the situation. 
 
 Non-operating Expense 
 
 It is estimated that there will be a large increase in the 
 non-operating expenses for the year. This increase is 
 probably due to the anticipated increase in interest result- 
 ing from the additional bonds and notes which are to be 
 issued, and the increase in the amount of the mortgages 
 payable. 
 
 Net Income 
 
 The estimated net Income for 1922 is approximately 
 one-fourth of the net income for the year previous. This 
 indicates that the proposed program for the year is not a 
 proper one, since a 50 per cent increase in volume of busi- 
 ness leads to a 75 per cent decrease in net income. 
 
 Relation of Estimated Balance Sheet to Estimated Statement of 
 Profit and Loss 
 If the comparative balance sheet given in Chapter 
 XXI is studied in connection with the comparative state-
 
 366 BUDGETARY CONTROL 
 
 ment of profit and loss shown in this chapter, a few signifi- 
 cant indications are shown : 
 
 1. The comparative statement of profit and loss con- 
 firms the indications of the comparative balance sheet that 
 a large increase in business is contemplated. It shows that 
 the budgets are all based on a policy of expansion, 
 
 2. The comparative balance sheet shows a large antici- 
 pated increase in inventory of finished goods and an increase 
 which is much larger proportionally than the anticipated 
 increase in sales, as shown by the comparative statement of 
 profit and loss. Whereas it is estimated that the sales will 
 increase 50 per cent, it is estimated that the inventory of 
 finished goods will increase almost 100 per cent. The 
 comparative statement of profit and loss shows a decrease 
 in the merchandise turnover. It is hard to conceive of 
 conditions which would necessitate such a change in the rate 
 of turnover in one year. These comparisons show rather 
 conclusively that the proposed production program is out 
 of harmony with the sales program and should be cut down. 
 
 3. The comparative balance sheet shows an estimated 
 decrease in surplus of $104,000. The comparative state- 
 ment of profit and loss shows a profit for the year of $15,200. 
 It is evident, therefore, that it is planned to pay dividends 
 which will necessitate the distribution of a considerable part 
 of the accumulated surplus. The financial condition of the 
 business, as shown by the comparative balance sheet, 
 indicates that such a procedure would be unwise. 
 
 Revision of Departmental Estimates 
 
 It is very probable that a study of the estimated balance 
 sheet and the estimated statement of profit and loss would 
 lead to a revision of the departmental estimates on which 
 these statements are based. This revision is necessary for 
 three reasons:
 
 ESTIMATED PROFIT AND LOSS 367 
 
 1. The estimated balance sheet shows that the contemplated pro- 
 
 gram for the year will result in the firm's showing an unsatis- 
 factory financial condition at the end of the year. 
 
 2. The estimated statement of profit and loss shows that the con- 
 
 templated program will result in an unsatisfactory profit for 
 the year. 
 
 3. The financial budget shows that the financial requirements of 
 
 the proposed program would probably be larger than the 
 firm could finance. As already pointed out, the financial 
 condition of the firm, as shown by its estimated balance sheet, 
 does not warrant the procurement of the quantity of loans for 
 which the balance sheet calls. 
 
 Some of the revisions which may possibly be made are : 
 
 1. The sales program will be scrutinized very carefully to determine 
 
 if all the sales for which it calls can be made profitably. If 
 not, those which are not profitable will be eliminated. 
 
 2. The sales program will also be examined to see if it is not possi- 
 
 ble to increase sales to be made on short-term credit and to 
 reduce those made on long-term credit. Any possible changes 
 will be made. 
 
 3. The estimated inventory of finished goods will be cut down to 
 
 be in harmony with the sales program. This will result in 
 a decrease in the production program, with a consequent 
 decrease in labor, materials, and manufacturing expense cost. 
 
 4. If possible, the plant and equipment program will be cut down. 
 
 This will be all the more possible because of the decrease in the 
 production program. 
 
 5. The proposed dividend may be passed. 
 
 6. The operating expense estimates will be reauced, if possible, so 
 
 that the ratio of operating expenses to sales will not be in 
 excess of the previous >'ear, and, if possible, so that it will be 
 smaller. 
 
 7. Based on the foregoing revisions, the financial budget will be 
 
 revised. 
 
 Preparation of the Estimated Financial Reports 
 
 The preceding discussion has indicated the method by 
 which the estimated balance sheet and statement of profit
 
 368 BUDGETARY CONTROL 
 
 and loss are prepared and the manner In which they may 
 be interpreted. In order to make the discussion as concrete 
 as possible, assumed statements were taken and an interpre- 
 tation of these made. It should be evident to the reader 
 that such an interpretation may lead to erroneous con- 
 clusions when taken by itself. The foregoing case is given to 
 indicate the method by which statements should be analyzed 
 rather than to emphasize the value of the particular conclusions 
 drawn from the analysis. 
 
 There may be a difference of opinion with reference to 
 the placing of the responsibility for the preparation of the 
 estimated statements. It is necessary to use the various 
 departmental estimates in their preparation, and the execu- 
 tive in charge of the budgetary procedure is the only one 
 to whom all these come automatically. A saving of time 
 results, therefore, if this executive is held responsible for 
 their preparation. After they are completed he may well 
 submit them to the controller and the treasurer for con- 
 sideration and suggestions. 
 
 The executive in charge of the budgetary procedure will 
 prepare preliminary estimated financial statements and 
 submit them to the budget committee at the time he sub- 
 mits the departmental estimates and the estimates of cash 
 receipts and disbursements. After the budget committee 
 has approved the departmental estimates, he will revise 
 the estimated financial statements to give effect to the 
 changes which have been made in the departmental 
 budgets. 
 
 Control of the Estimated Financial Statements 
 
 The estimated financial statements, like all other esti- 
 mates, must be compared with results obtained at frequent 
 intervals, if effective control is to be exercised over their 
 use. Both the estimated balance sheet and the estimated
 
 ESTIMATED PROFIT AND LOSS 
 
 369 
 
 statement of profit and loss should be compared at the end 
 of each budget period with the actual balance sheet and 
 actual statement of profit and loss as of that date. This 
 comparison will be more significant if the actual financial 
 statements at the beginning of the year are included. 
 
 NATIONAL MANUFACTURING COMPANY 
 Actual and Estimated Balance Sheet as of the Dates Stated 
 
 
 Actual 
 Dec. 31. 1921 
 
 Estimated 
 Dec, 31, 1922 
 
 Actual 
 Dec. 31, 1922 
 
 Current Assets 
 Deferred Charges 
 Fixed Assets 
 Intangible Assets 
 
 Total Assets 
 
 Current Liabilities 
 Fixed Liabintfes 
 Defierred Credits 
 
 Total Liaibiirties 
 Propi1etors;hip 
 
 Total LfabilTties and 
 Proprietorship 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Figure 41. Comparison of Actual and Estimated Balance Sheets 
 
 A report showing proper comparisons for the balance 
 sheet may be made in the form shown in Figure 41. 
 
 A similar report can be made on the statement of profit 
 and loss in the form shown in Figure 42. 
 
 24
 
 370 BUDGETARY CONTROL 
 
 The reports shown in Figures 41 and 42 should be pre- 
 pared by the executive in charge of the budgetary proce- 
 dure and submitted to the budget committee at the time 
 the other budget reports are transferred to it. 
 
 The "General Budget" 
 
 Both practitioners and writers sometimes refer to the 
 "general budget." The estimated balance sheet and esti- 
 mated statement of profit and loss is the most convenient 
 form in which to prepare the general budget. These state- 
 ments show the effect of the pr^i^oseS-^rogram, as expressed 
 In the departmental estimates, on the financial condition 
 and earnings of the firm, and this is the information which 
 the executives and board of directors need in order to 
 judge the advisability of the contemplated plans. 
 
 If the budget committee and the board of directors 
 study carefully the financial budget and the estimated 
 financial statements, together with departmental estimates 
 which support these, they should have no difificulty in secur- 
 ing the information necessary for effective administrative 
 control. 
 
 Branch and Division Budgets 
 
 Where a business has branches, divisions, or subsidiary 
 companies, it may desire to have separate budgets prepared 
 for each. In this case separate sales estimates, production 
 estimates, plant and equipment estimates, etc., may be 
 prepared for each unit and these may be consolidated to 
 form a financial budget and estimated financial statements 
 for each. 
 
 The estimates of each unit will be submitted separately 
 to the budget committee, and in addition they will be com- 
 bined to form the estimates for the company as a whole. 
 This procedure enables the budget committee and board of
 
 ESTIMATED PROFIT AND LOSS 
 
 371 
 
 NATIONAL MANUFACTURING COMPANY 
 Actual and Estimated Statements of Profit and Loss as of the Dates Slated 
 
 
 
 Actual 
 1921 
 
 Estimated 
 1922 
 
 Actual 
 1922 
 
 GROSS Sales 
 
 Returns and allowances 
 
 Net Sales 
 
 Cost of goods Sold 
 
 GROSS Profit on sales 
 
 operating Expenses 
 Sellino Expenses 
 Financial Expenses 
 Executive Expenses 
 Corporate Expenses 
 
 Total Operating Expenses 
 NET Operating Profit 
 Non-operating Income 
 Gross income 
 Non-operating Expense 
 Net Income 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 Figure 42. Comparison of Actual and Estimated Statements of Profit and Loss
 
 372 BUDGETARY CONTROL 
 
 directors to judge better the contemplated program, since 
 they can pass judgment on each unit separately. It also 
 facilitates the enforcement of the estimates, since responsi- 
 bility for the variations between the estimated and the 
 actual can be definitely fixed. 
 
 Summary 
 
 The purpose of the foregoing discussion is to explain 
 and illustrate the use of the estimated balance sheet and 
 estimated statement of profit and loss in business planning 
 and administration. More particularly it attempts to show 
 their relation to the general budgetary plans of the business. 
 The development of the use of financial reports as a basis 
 of management may be divided into three stages : 
 
 1. Business men learned to use the balance sheet which shows them 
 
 where they are at a specific date. 
 
 2. They learned to use the statement of profit and loss which shows 
 
 them how they got to where they are. 
 
 3. They are just now learning to use the estimated balance sheet 
 
 and estimated statement of profit and loss which shows them 
 where they are going and how they are to get there. 
 
 The slow growth of the use of the estimated balance 
 sheet and estimated statement of profit and loss has no 
 doubt been due in part to the attitude maintained by public 
 accountants that the function of the accountant is to make 
 statements showing the results of past operations, and not 
 to prophesy as to what will happen in the future. This 
 attitude is due probably to the realization that, since they 
 are not connected with the business, they have no control 
 over its future operations, and therefore cannot safely pre- 
 dict their result. They feel that such statements on their 
 part might be used to mislead the public and this would 
 react to their disfavor. Although the public accountant 
 may be justified in this attitude because of the particular
 
 ESTIMATED PROFIT AND LOSS 373 
 
 relations existing between him and his client, this in no 
 way detracts from the value of the estimated financial 
 statement as a basis of managerial control. 
 
 The bookkeeper has also failed to prepare estimated 
 financial reports because he makes up his reports from the 
 accounts, and the accounts do not reflect the decisions of 
 the executives of the company with reference to results 
 expected. 
 
 No doubt in the not distant future both the accountant 
 and the business man will come to realize that all financial 
 statements are but estimates, and although estimates of 
 past results as shown by the standard balance sheet and 
 statement of profit and loss may be more exact, estimates 
 of future results may be equally useful.
 
 CHAPTER XXIII 
 MANUAL OF BUDGETARY PROCEDURE 
 
 Need for Manual 
 
 As shown by the discussion in the preceding chapters, 
 the procedure involved in the preparation and execution of 
 the various departmental budgets is a comprehensive and 
 complex one. It requires the cooperation of the various 
 functional executives, and a very definite coordination of 
 the activities of the functional departments. The success 
 of the budgetary program is dependent on this cooperation 
 and coordination. If any part of the procedure fails, it dis- 
 rupts the remainder. 
 
 For these reasons it is desirable that the budgetary pro- 
 cedure be very carefully worked out and reduced to written 
 form, so that all executives and employees concerned may 
 be fully cognizant of it. This can be most easily done by 
 the preparation of a manual on budgetary procedure. 
 
 Contents of Manual 
 
 The contents of a manual on budgetary procedure will 
 vary from business to business, depending on the volume 
 and nature of the operations performed and upon the 
 organization by which the operations are carried on. In 
 a manufacturing business it is usually desirable that the 
 manual discuss the following: 
 
 1. Organization for Budgetary Control 
 
 2. The Sales Budget 
 
 3. The Production Budget 
 
 4. The Labor Budget 
 
 5. The Manufacturing Expense Budget 
 
 374
 
 MANUAL OF BUDGETARY PROCEDURE 375 
 
 6. The Materials Budget 
 
 7. The Plant and Equipment Budget 
 
 8. The Expense Budgets 
 
 9. The Financial Budget 
 
 10. The Estimated Financial Statements 
 
 Illustration of Manual 
 
 To show concretely the possible contents of a manual 
 on budgetary procedure, there is given below the manual 
 of a manufacturing company. The company has sales of 
 about $6,000,000 a year. Part of the product of the com- 
 pany is sold direct to the consumer, while the remainder is 
 sold to merchants. Branches are used to market part of the 
 goods. 
 
 The president, who is also treasurer, does not reside in 
 the city where the company is located but maintains an 
 active interest in its affairs. The assistant treasurer is gen- 
 eral manager; the other principal executives are the sales 
 manager and works manager. The assistant to the general 
 manager serves as office manager and head of the account- 
 ing and statistical departments. The company's accounting 
 period is four weeks and its budget period is three accounting 
 periods. 
 
 I. Organization for Budgetary Control 
 
 1. The President 
 
 The President of the Company is to have direct control of all matters 
 pertaining to the budgetary program. All officers to whom authority is 
 delegated in this manual are acting as his agents and are responsible to him 
 for the proper performance of the duties delegated to them. In all cases 
 of disagreement between departments with reference to the coordination of 
 estimates, the decision of the President will be final. 
 
 2. The General Manager 
 
 The General Manager will be the representative of the President in all 
 matters pertaining to the budgetary program and will have such authority 
 in connection therewith as the President may see fit to delegate to him.
 
 376 BUDGETARY CONTROL 
 
 In all matters so delegated, the decision of the General Manager will have 
 the same authority as that of the President. 
 
 3. The Budget Committee 
 
 The General Manager, the Works Manager, and the Sales Manager 
 will constitute a Budget Committee which will have supervision of the 
 budgetary program. The Assistant to the General Manager will be secre- 
 tary of this committee. 
 
 Under the authority and direction of the President, the Budget Com- 
 mittee is to consider all departmental estimates and to make such changes 
 and revisions as it may think desirable. No estimate is to be effective until 
 it has received the approval of the Budget Committee. The Committee 
 will receive all estimates from the Assistant to the General Manager and 
 will transmit the estimates as approved by it to him. In case the Budget 
 Committee cannot agree with reference to any estimate, the question in 
 dispute is to be submitted to the President and his decision will be final. 
 
 In the consideration of the departmental estimates, the Budget Com- 
 mittee may call on departmental heads to explain the reasons for the varia- 
 tions in their estimates from the estimates of past periods. 
 
 The Committee will receive through the Assistant to the General Man- 
 ager periodic reports showing comparisons of the performance for the past 
 period with the estimated performance of that period. On the basis of 
 these reports, it may make revisions in the budgets for the remainder of 
 the budget period, if it deems such revisions necessary. 
 
 4. The Assistant to the General Manager 
 
 Under the authority and direction of the General Manager, the Assist- 
 ant to the General Manager will have general control and supervision over 
 the preparation and execution of the budgetary program. His general 
 duties are outlined in the several sections of this manual. 
 
 These duties may be summarized as follows: 
 
 (i) To receive from the departmental heads the periodic estimates 
 as provided for in this manual. 
 
 (2) To prepare from these estimates (a) estimate of cash receipts, 
 
 (b) estimate of cash disbursements, (c) estimated balance 
 sheet, and (e) estimated statement of profit and loss. 
 
 (3) To transmit all the estimates to the Budget Committee with 
 
 such recommendations as he may think necessary. 
 
 (4) To receive from the Budget Committee the estimates as ap- 
 
 proved and to transmit these to the departmental heads.
 
 MANUAL OF BUDGETARY PROCEDURE 377 
 
 (5) To receive periodic reports prepared by the operating depart- 
 
 ments or the accounting department showing the depart- 
 mental performance for the month. 
 
 (6) To transmit the periodic reports to the Budget Committee 
 
 showing the comparison between the estimated performance 
 and the actual performance for the period for each depart- 
 ment, and to make such recommendations as he may deem 
 necessary. 
 
 (7) To transmit to departmental heads any revisions in the original 
 
 estimates w'hich have been made by the Budget Committee. 
 
 (8) To recommend to the General Manager and to the Budget 
 
 Committee such changes in the budgetary procedure as he 
 may deem desirable. 
 
 He has the implied authority to do all things which are necessary to the 
 proper performance of these duties. 
 
 5. The Departmental Heads 
 
 The executive heads of the various departments are responsible for the 
 preparation of the estimates of their departments at the time and in the 
 manner prescribed in this manual. They are also responsible for the prep- 
 aration of the reports called for in this manual. Any recommendations 
 which any departmental executive desires to make with reference to changes 
 in budgetary procedure will be transmitted in writing to the Assistant to 
 the General Manager. It will be referred by him to the Budget Committee 
 for consideration. 
 
 The responsibility for the preparation of the departmental estimate and 
 the periodic report is in each case placed upon the head of the department. 
 He may employ his assistants in their preparation at his discretion, but the 
 responsibility rests on the executive head in each case. 
 
 II. The Sales Budget 
 
 I . Preparation of Sales Estimate 
 
 The Sales Manager will prepare for each budget period the estimate of 
 the sales for that period. In the preparation of this estimate he will take 
 into consideration: 
 
 (i) The sales of past periods 
 
 (2) The present market conditions 
 
 (3) The contemplated plans and policies of the business for future 
 
 periods
 
 378 BUDGETARY CONTROL 
 
 2. Form of Estimate 
 
 The estimate of sales will be made in such form as to show the antici- 
 pated sales to : 
 
 (i) Hospitals 
 (2) Merchants 
 
 It will also show the anticipated sales of each principal grade of goods 
 sold. The first classification is necessary in order that the financial budget 
 may be made, since the sales to hospitals are of different terms than the 
 sales to merchants. The second classification is necessary in order that 
 production may be planned so as to have on hand the proper quantity of 
 the different grades. A form to be used in the submission of the sales esti- 
 mate will be provided by the Assistant to the General Manager. 
 
 3. When Submitted 
 
 The Sales Manager will transmit the sales estimate with his approval 
 to the Assistant to the General Manager on or before the first day of the 
 third week preceding the beginning of the budget period. 
 
 4. Procedure by the Assistant to the General Manager 
 
 The Assistant to the General Manager will transmit a copy of the 
 sales estimate to the Works Manager within two days after the receipt of 
 the original estimate from the Sales Manager. He will transmit the origi- 
 nal estimate, together with all the other estimates called for in this manual, 
 to the Budget Committee on or before the first day of the first week preced- 
 ing the beginning of the budget period. 
 
 5. Approval by the Budget Committee 
 
 The Budget Committee will make such revisions as it thinks necessary 
 in the sales estimate, and will transmit the revised estimate with its ap- 
 proval to the Assistant to the General Manager within two days after it 
 receives this estimate. In making its revisions the Budget Committee will 
 make specific changes of particular amounts instead of making a percent- 
 age revision of the estimate as a whole. 
 
 6. Transmission to the Selling Department 
 
 The Assistant to the General Managerwill transmit the revised estimate 
 to the Sales Department immediately upon its receipts from the Budget 
 Committee. This estimate as revised and approved by the Budget Com- 
 mittee will constitute the budget of the sales department for the next budget
 
 MANUAL OF BUDGETARY PROCEDURE 379 
 
 period. Copies of this estimate should be sent by the Sales Department to 
 the Manager of each branch, indicating the quota of the branch based on 
 this estimate. 
 
 7. Periodic Report from the Statistical Department 
 
 At the end of each period the statistical department will send to the 
 Assistant to the General Manager a report showing the s;iles made during 
 the period. This report will be forwarded on or before the fifth working 
 day of the period following the period for which it is made. 
 
 8. Periodic Report to the Budget Committee 
 
 On or before the tenth day of each period, the Assistant to the General 
 Manager will transmit to the Budget Committee a report showing a com- 
 parison of the estimated and actual sales for the past period. He will ac- 
 company this report with any recommendations which he may think de- 
 sirable. 
 
 9. Revision of Sales Budget by Budget Committee 
 
 On or before the twelth day of the period, the Budget Committee will 
 consider the report recei\-ed from the Assistant to the General Manager, 
 and will make such changes as it deems desirable in the sales budget for 
 the remainder of the budget period. These changes \vill be communicated 
 to the sales department by the Assistant to the General Manager on or be- 
 fore the fifteenth day of the period. 
 
 III. The Production Budget 
 I. Estimate OF Finished Goods 
 
 On or before the third day of the third week preceding the beginning of 
 the budget period, the Works Manager will receive from the Assistant to 
 the General Manager the estimate of sales prepared by the Sales Manager. 
 Based on this estimate the Works Manager will prepare an estimate of the 
 finished goods which must be produced in the next budget period to meet 
 sales demands. In making this estimate the estimated inventory of fin- 
 ished goods on hand at the beginning of the period and the desired inven- 
 tory of finished goods at the end of the period will be taken into consid- 
 eration. The requirements of the sales department for the period plus the 
 estimated inventory at the end of the period, minus the estimated inven- 
 tory at the beginning of the period, will equal the estimated production of 
 finished goods for the period.
 
 38o BUDGETARY CONTROL 
 
 2. Transmission to the Assistant to the General Manager 
 
 The Works Manager will transmit the estimate of production as pre- 
 pared under the preceding section, to the Assistant to the General Manager 
 within one week after the receipt of the sales estimate from the Assistant 
 to the General Manager. 
 
 3. Approval by the Budget Committee 
 
 The Assistant to the General Manager will transmit the estimate 
 of production to the Budget Committee on or before the first day of 
 the first week preceding the beginning of the budget period. He may ac- 
 company this estimatewith such suggestions or recommendations as he may 
 think desirable. The Budget Committee will make such changes as it may 
 deem desirable in the estimate, and return it with the Committee's approval 
 to the Assistant to the General Manager within two days after its receipt 
 by the Committee. The Assistant to the General Manager will imme- 
 diately transmit it to the Works Manager. 
 
 4. Periodic Report from the Production Department 
 
 At the end of each period, the Works Manager will send to the Assist- 
 ant to the General Manager a report showing the production for the period. 
 This report will be forwarded on or before the fifth working day of the' 
 period following the period for which it is made. 
 
 5. Periodic Report to the Budget Committee 
 
 On or before the tenth day of each period, the Assistant to the General 
 Manager will transmit to the Budget Committee a report showing a com- 
 parison of the estimated with the actual production for the past period. 
 He will accompany this report with any recommendations which he may 
 think desirable. 
 
 6. Revision of Production Budget by Budget Committee 
 
 On or before the twelfth day of the period, the Budget Committee will 
 consider the report received from the Assistant to the General Manager 
 and will make such changes as it deems desirable in the production budget 
 for the remainder of the period. These changes will be communicated to 
 the Works Manager by the Assistant to the General Manager. 
 
 IV. The Labor Budget 
 I . Estimate of Labor Cost 
 
 On or before the tenth day preceding the beginning of the budget period, 
 the Works Manager will send to the Assistant to the General Manager an
 
 MANUAL OF BUDGETARY PROCEDURE 381 
 
 estimate of the cost of factory labor for each month of the next budget period. 
 This estimate will be based on the estimate of production which is pre- 
 pared by the production department in the manner indicated in Section 1 1 1 
 of this manual. The Works Manager will be assisted by the Employment 
 Department in the preparation of this estimate. The estimate of labor 
 cost will be made on a form provided by the Assistant to the General Man- 
 ager. It will have the following columnar headings: 
 
 (i) Department 
 
 (2) Same period last year 
 
 (3) Average for last four budget periods preceding the one during 
 
 which the budget is prepared 
 
 (4) Estimated cost for this period 
 
 (5) Distribution: 
 
 (a) First period 
 
 (b) Second period 
 
 (c) Third period 
 
 Columns (2) and (3) will be filled in by the Assistant to the General 
 Manager prior to sending the form to the Works Manager. 
 
 2. Approval by the Budget Committee 
 
 On or before the first day of the first week preceding the beginning of 
 the budget period, the Assistant to the General Manager will transmit the 
 estimate of labor costs as prepared by the Works Manager to the Budget 
 Committee, with such recommendations as he may deem necessary. The 
 Budget Committee will make such changes as it may deem expedient, and 
 return the estimate with its approval to the Assistant to the General Man- 
 ager within two days after its receipt by the Committee. 
 
 The Assistant to the General Manager will return the estimate of labor 
 cost as approved by the Budget Committee, to the Works Manager imme- 
 diately upon its receipt from the Committee. 
 
 3. Periodic Report on Labor Costs 
 
 On or before the eighth day of each period, the Works Manager will 
 send to the Assistant to the General Manager a report showing the cost of 
 factory labor for the preceding period. The Assistant to the General Man- 
 ager will supply the form for the submission of this report. 
 
 On or before the tenth day of the period, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing a com- 
 parison between the estimated labor costs for the past period and the actual 
 costs as reported by the Works Manager. If the Budget Committee de-
 
 382 BUDGETARY CONTROL 
 
 sires to make any recommendations to the Production Department with 
 reference to labor cost during the remainder of the budget period, these 
 recommendations will be communicated to the Works Manager through 
 the Assistant to the General Manager on or before the twelfth day of the 
 period. 
 
 V. Manufacturing Expense Budget 
 
 1. Estimate of Manufacturing Expense 
 
 On or before the tenth day preceding the beginning of the budget period, 
 the Works Manager will send to the Assistant to the General Manager an 
 estimateofmanufacturingexpenseforeach month of the nextbudgetperiod. 
 In preparing this estimate he will be assisted by the cost accounting 
 department. This estimate will be based on the estimate of production 
 which is prepared by the production department in the manner indicated in 
 Section III of this manual. The estimate of manufacturing expense will 
 be made on a form provided by the Assistant to the General Manager. It 
 will have the following columnar headings: 
 
 (i) Department 
 
 (2) Same period last year 
 
 (3) Average for last four budget periods preceding the one during 
 
 which the budget is prepared 
 
 (4) Estimated cost for this period 
 
 (5) Distribution: 
 
 (a) First period 
 
 (b) Second period 
 
 (c) Third period 
 
 Columns (2) and (3) will be filled in by the Assistant to the General 
 Manager prior to sending the form to the Works Manager. 
 
 2. Approval by the Budget Committee 
 
 On or before the first day of the first week preceding the beginning of 
 the budget period, the Assistant to the General Manager will transmit the 
 estimate of manufacturing expense as prepared by the Works Manager to 
 the Budget Committee, with such recommendations as he may deem neces- 
 sary. The Budget Committee will make such changes as it may deem 
 expedient and return the estimate with its approval to the Assistant to the 
 General IVIanager within two days after its receipt by the Committee. 
 
 The Assistant to the General Manager will return the estimate of man- 
 ufacturing expense as approved by the Budget Committee to the Works 
 Manager immediately upon its receipt from the Committee.
 
 MANUAL OF BUDGETARY PROCEDURE 383 
 
 3. Periodic Report on Manufacturing Expense 
 
 On or before the eighth day of each period, the Accounting Department 
 will send to the Assistant to the General Manager a report showing the 
 manufacturing expense for the preceding period. The Assistant to the 
 General Manager will supply the form for the submission of this 
 report. 
 
 On or before the tenth day of the period, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing a com- 
 parison between the estimated manufacturing expenses for the past period 
 and the actual costs as reported by the Accounting Department, If the 
 Budget Committee desires to make any recommendations to the Produc- 
 tion Department with reference to manufacturing expense during the re- 
 mainder of the budget period, these recommendations will be communi- 
 cated to the Works Manager through the Assistant to the General Manager 
 on or before the twelfth day of the period. 
 
 VI. The Materials Budget 
 I . Estimate of Cost of Purchases 
 
 The Works Manager will prepare an estimate of the materials required 
 for each budget period. This estimate will be based on the estimate of 
 production prepared by the Works Manager as outlined in Section III of 
 this manual. The Works Manager will transm.it the estimate of materials 
 required to the Assistant to the General Manager on or before the tenth day 
 preceding the beginning of the budget period. The Assistant to the Gen- 
 eral Manager will transmit the estimate immediately to the General Pur- 
 chasing Agent. On receipt of the estimate of raw materials requirements, 
 the General Purchasing Agent will prepare an estimate of purchases to be 
 made during the budget period. The General Purchasing Agent will make 
 this estimate on the form supplied by the Assistant to the General Manager, 
 which will contain the following columnar headings: 
 
 (1) Item 
 
 (2) First Period : 
 
 (a) Estimated inventory at beginning of period 
 
 (b) Estimated purchases 
 
 (c) Estimated inventory at end of period 
 
 (d) Estimated cash disbursements for purchases made during 
 
 this period 
 
 (e) Estimated cash disbursements for purchases made in pre- 
 
 vious periods
 
 384 BUDGETARY CONTROL 
 
 (3) Second Period: 
 
 (a) Estimated inventory at beginning of period 
 
 (b) Estimated purchases 
 
 (c) Estimated inventory at end of period 
 
 (d) Estimated cash disbursements for purchases made dur- 
 
 ing this period 
 
 (e) Estimated cash disbursements for purchases made during 
 
 previous period 
 
 (4) Third Period: 
 
 (a) Estimated inventory at beginning of period 
 
 (b) Estimated purchases 
 
 (c) Estimated inventory at end of period 
 
 (d) Estimated cash disbursements for purchases made during 
 
 this period 
 
 (e) Estimated cash disbursements for purchases made in 
 
 previous periods 
 
 The General Purchasing Agent will transmit this estimate to the Assist- 
 ant to the General Manager on or before the last day of the second week 
 preceding the beginning of the budget period. 
 
 2. Approval By the Budget Committee 
 
 The Assistant to the General Manager will at once transmit the esti- 
 mate of purchases to the Budget Committee. The Budget Committee will 
 make any changes it may deem necessary, and return the revised estimate 
 with its approval to the Assistant to the General Manager within two days 
 after its receipt by the Budget Committee. The Assistant to the General 
 Manager will send the estimate of purchases as approved by the Budget 
 Committee to the Purchasing Agent immediately upon its receipt from the 
 Budget Committee. 
 
 3. Periodic Report on Purchases 
 
 At the end of each period, the Assistant to the General Manager will 
 make a report to the Advisory Committee showing the actual purchases 
 of the period compared with the estimated purchases and the actual inven- 
 tory at the end of the period compared with the estimated inventory at the 
 end of the period. 
 
 This report will be submitted to the Budget Committee on or before the 
 tenth day of the period. If the Budget Committee desires to make any 
 changes in the purchases budget for the remainder of the budget period,
 
 MANUAL OF BUDGETARY PROCEDURE 385 
 
 it will communicate its directions to the General Purchasing Agent through 
 the Assistant to the General Manager on or before the twelfth day of the 
 period. 
 
 VII. Plant and Equipment Budget 
 
 1 . Estimate of Plant and Equipment Cost 
 
 On or before the tenth day preceding the beginning of the budget period, 
 the Works Manager will send to the Assistant to the General Manager an 
 estimate of the expenditures for plant and equipment for each month in 
 the next budget period. This estimate will be submitted on a form pre- 
 pared by the Assistant to the General Manager. 
 
 2. Approval by Budget Committee 
 
 On or before the first day of the first week preceding the beginning of 
 the budget period, the Assistant to the General Manager will transmit the 
 estimate of plant and equipment expenditures as prepared by the Works 
 Manager to the Budget Committee, with such recommendations as he may 
 deem necessary-. The Budget Committee will make such changes as it may 
 deem expedient, and return the estimate with its appro\al to the Assistant 
 to the General Manager within two days after the receipt of the estimate 
 by the Committee. The Assistant to the General Manager will immedi- 
 ately transmit the estimate as approved by the Budget Committee to the 
 Works Manager. 
 
 3. Periodic Report on Plant and Equipment Expenditures 
 
 On or before the eighth day of each period, the Accounting Depart- 
 ment will send to the Assistant to the General Manager a report show- 
 ing the expenditures for plant and equipment during the past period. 
 The Assistant to the General Manager will supply the form for this 
 report. 
 
 On or before the tenth day of the period, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing a com- 
 parison between estimated plant and equipment expenditures for the past 
 period and the actual expenditures as reported by the Accounting Depart- 
 ment. If the Budget Committee desires to make any recommendations 
 to the Production Department with reference to plant and equipment ex- 
 penditures during the remainder of the budget period, these recom- 
 mendations will be communicated to the Works Manager through 
 the Assistant to the General Manager on or before the fifteenth day of 
 the period. 
 25
 
 386 BUDGETARY CONTROL 
 
 4. Estimate of Furniture and Fixtures Required by General 
 
 Offices 
 On or before the fifteenth day preceding the beginning of the budget 
 period, the head of each department will submit to the General Manager an 
 estimate of expenditures for Furniture and Fixtures during the next budget 
 period. The General Manager after consultation with the General Pur- 
 chasing Agent will make such revisions as he deems necessary and transfer 
 the estimate with his approval to the Assistant to the General Manager on 
 or before the tenth day preceding the beginning of the budget period. 
 
 5. Approval by the Budget Committee 
 
 On or before the first day of the first week preceding the begmning of the 
 budget period, the Assistant to the General Manager will transmit the esti- 
 mate of furniture and fixtures as required by the general ofiices to the Budget 
 Committee with such recommendations as he may deem necessary. The 
 Budget Committee will make such changes as it may deem expedient and 
 return the estimate with its approval to the Assistant to the General Man- 
 ager within two days after its receipt by the Committee. 
 
 The Assistant to the General Manager will return the estimate of furni- 
 ture and fixtures to the heads of the various departments immediately upon 
 its receipt by him from the Budget Committee. 
 
 6. Periodic Report on Furniture and Fixtures 
 
 On or before the tenth day of the period, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing a com- 
 parison between the estimated expenditures for furnitures and fixtures for 
 the general offices for the past period and the actual expenditures as sub- 
 mitted by the Accounting Department, If the Budget Committee desires 
 to make any recommendations to the departmental heads with reference to 
 furniture and fixture costs for the general ofiices for the remainder of the 
 budget period, these recommendations will be communicated to the de- 
 partmental heads through the Assistant to the General Manager. 
 
 VIII. The Expense Budgets 
 
 I. Control of Departmental Expense 
 
 In order to provide an effective control of the expenses of the various 
 departments, as well as to provide the necessary data for the quarterly 
 cash budget, the following procedure is prescribed for all departments and 
 executive units of the business:
 
 MANUAL OF BUDGETARY PROCEDURE 387 
 
 (i) Before the beginning of each budget period, an estimate will be 
 prepared by the executi\e head of each department or unit 
 showing the anticipated expenses of this department or unit 
 for the next budget period, and sent to the Assistant to the 
 General Manager. 
 
 (2) These estimates will be submitted by the Assistant to the Gen- 
 
 eral Manager to the Budget Committee and after being re- 
 vised by it where deemed necessary, an appropriation will be 
 made to meet the expenses called for by each estimate. 
 
 (3) The amou nt of the appropriations, as determined by the Budget 
 
 Committee, will be communicated to the executive respon- 
 sible for the original estimate by the Assistant to the General 
 Manager. 
 
 (4) A monthly report will be made to the Budget Committee 
 
 through the Assistant to the General Manager, showing the 
 status of each of these appropriations. 
 
 (5) The original appropriation will not be exceeded without per- 
 
 mission of the Budget Committee. 
 
 2. Classification of Departments and Units 
 
 For the purpose of expense control the various departments and units 
 may be classified as follows: 
 
 A. Administration 
 
 (i) General Manager's Office 
 
 (2) Credit Department 
 
 (3) Purchasing Department 
 
 (4) Accounting Department 
 
 (5) Statistical Department 
 
 (6) Stenographic Department 
 
 (7) Personnel Department 
 
 B. Selling 
 
 (i) General Office 
 
 (a) Office of the Sales Manager 
 
 (b) Advertising and Sales Promotion 
 (2) Direct Sales Units 
 
 (a) Each Sales Office 
 
 C. Production 
 
 (i) Office of the Works Manager 
 
 (2) Subsidiary Production Departments
 
 388 BUDGETARY CONTROL 
 
 3. Procedure for the Preparation of Expense Budgets 
 
 The procedure to be followed in the preparation and control of the ex- 
 pense budgets of the various departments and executive units given in the 
 foregoing outline will be as follows: 
 
 Group A. Administration 
 
 (1) Preparation of Estimate 
 
 On or before the fifteenth day preceding the beginning of the budget 
 period, the executive head of each of the departments listed under 
 Group A will submit to the Assistant to the General Manager an 
 estimate of the expenses of this department during the next budget 
 period. The form to be used in the submission of the estimates will 
 be provided by the Assistant to the General Manager and will con- 
 tain the following columnar headings: 
 
 (i) Department 
 
 (2) Same period last year 
 
 (3) Average for last four budget periods preceding the one dur- 
 
 ing which the budget is prepared 
 
 (4) Estimated cost for this period 
 
 (5) Distribution: 
 
 (a) First period 
 
 (b) Second period 
 
 (c) Third period 
 
 Columns (2) and (3) will be filled in by the Assistant to the General 
 Manager prior to sending the form to the executive head of each 
 department. 
 
 (2) Approval by the Budget Committee 
 
 On or before the first day of the first week preceding the beginning of 
 the budget period, the Assistant to the General Manager will submit 
 the estimate of the expenses of the departments listed in Group A 
 as prepared by the executive heads of the departments, to the Budget 
 Committee with such recommendations as he may deem necessary. 
 The Budget Committee will make such changes as it may deem 
 necessary, and return the estimate with its approval to the Assistant 
 to the General Manager within two days after the receipt of the 
 estimate by the Committee.
 
 MANUAL OF BUDGETARY PROCEDURE 389 
 
 The Assistant to the General Manager will return immediately the 
 estimates as approved by the Budget Committee to the executive 
 heads of departments listed under Group A. 
 
 (3) Periodic Report 
 
 On or before the eighth day of each period the Accounting Department 
 will send to the Assistant to the General Manager a report showing 
 the expenses for the past period for each of the departments listed 
 under Group A. The Assistant to the General Manager will supply 
 the form for the submission of this report. 
 
 On or before the tenth day of the month, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing 
 the comparison between estimated expenses for each of the depart- 
 ments under Group A for the past period and the actual expenses as 
 submitted by the accounting department. If the Budget Com- 
 mittee desires to make any recommendations to the executive heads 
 of the departments with reference to their expenses during the re- 
 mainder of the budget period, these recommendations will be com- 
 municated to the executive heads through the Assistant to the 
 General Manager. 
 
 Group B, Sales 
 
 (i) Preparation of Estimates 
 
 On or before the tenth day preceding the beginning of the budget period, 
 the Sales Manager will transmit to the Assistant to the General 
 Manager an estimate of the expenses of his department including: 
 
 (a) The expenses of himself and staff 
 
 (b) The expenses of the direct selling units 
 
 (c) The expenses of the advertising and sales promotion depart- 
 
 ment 
 
 This estimate will be submitted on a form provided by the Assistant to 
 the General Manager. 
 
 (2) Approval by the Budget Committee 
 On or before the first day of the first week preceding the beginning of 
 the budget period, the Assistant to the General Manager will sub- 
 mit the estimate of the expenses of the departments listed under 
 Group B as prepared by the Sales Manager, to the Budget Com- 
 mittee with such recommendations as he may deem necessary. The
 
 390 BUDGETARY CONTROL 
 
 Budget Committee will make such changes as it may deem neces- 
 sary and return the estimate with its approval to the Assistant to the 
 General Manager within two days after the receipt of the estimate 
 by the Committee, 
 The Assistant to the General Manager will return immediately the esti- 
 mates as approved by the Budget Committee, to the Sales Manager. 
 
 (3) Periodic Report 
 
 On or before the eighth day of each period the Accounting Department 
 will send to the Assistant to the General Manager a report showing 
 the expenses for the past period for each of the divisions of the de- 
 partment listed under Group B. The Assistant to the General 
 Manager will supply the form for the submission of this report. 
 
 On or before the tenth day of the period the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing 
 the comparison between estimated expenses for each of the depart- 
 ments under Group B for the past period and the actual expenses as 
 submitted by the Accounting Department. If the Budget Com- 
 mittee desires to make any recommendations to the Sales Manager 
 with reference to the expenses of his department during the re- 
 mainder of the budget period, these recommendations will be com- 
 municated to the Sales Manager through the Assistant to the Gen- 
 eral Manager, 
 
 Group C. Production 
 
 (i) Preparation of Estimate 
 
 On or before the tenth day preceding the beginning of the budget period, 
 the Works Manager will submit to the Assistant to the General 
 Manager an estimate of the expenses of his department. The ex- 
 pensesshownon thisestimatewillbeexclusiveof the expenses shown 
 on the estimate of manufacturing expenses prepared as directed 
 under Section V. This estimate will be submitted on a form pro- 
 vided by the Assistant to the General Manager. 
 
 (2) Approval by the Budget Committee 
 On or before the first day of the week preceding the beginning of the 
 budget period, the Assistant to the General Manager will submit 
 the estimate of the expenses of the Production Department as pre- 
 pared by the Works Manager, to the Budget Committee with such 
 recommendations as he may deem necessary. The Budget Com-
 
 MANUAL OF BUDGETARY PROCEDURE 39 1 
 
 mittee will make such changes as it may deem necessary and return 
 the estimate with its approval to the Assistant to the General Man- 
 ager within two da}s after the receipt of the estimate by the Com- 
 mittee. 
 The Assistant to the General Manager will return immediately the esti- 
 mate as approved by the Budget Committee to the Works Manager. 
 
 (3) Periodic Report 
 
 On or before the eighth day of each period, the Accounting Department 
 will send to the Assistant to the General Manager a report showing 
 the expenses for the past period of the Production Department. The 
 Assistant to the General Manager will supply the form for the sub- 
 mission of this report. 
 
 On or before the tenth day of the month, the Assistant to the General 
 Manager will transmit a report to the Budget Committee showing 
 the comparison between estimated expense for the Production De- 
 partment for the past period and the actual expenses as submitted 
 by the Accounting Department. If the Budget Committee desires 
 to make any recommendations to the Works Manager with refer- 
 ence to the expenses of his department during the remainder of the 
 budget period, these recommendations will be communicated to 
 the Works Manager through the Assistant to the General Manager. 
 
 IX. The Financial Budget 
 
 I. Preliminary Estimates of Cash Receipts and Cash Disburse- 
 ments 
 The Assistant to the General Manager, working in conjunction with 
 the Assistant Treasurer, will prepare a preliminary estimate of cash receipts 
 and a preliminary estimate of cash disbursements for each budget period 
 based on the following: 
 
 (i) The estimates submitted by the various departments. 
 
 (2) An estimate of the disbursements for taxes, insurance, and 
 
 other items which are under the control of the Assistant 
 Treasurer. 
 
 (3) Estimate of the collections from accounts receivable outstand- 
 
 ing at the beginning of the period. 
 
 (4) Estimate of the disbursements on accounts payable outstanding 
 
 at the beginning of the period.
 
 392 BUDGETARY CONTROL 
 
 The Assistant to the General Manager will transmit these preliminary 
 estimates of cash receipts and cash disbursements to the Budget Committee 
 on or before the first day of the first week preceding the beginning of the 
 budget period. This will enable the Budget Committee to consider the 
 financial requirements of the various estimates submitted to it. 
 
 2. Revision of Preliminary Estimates 
 
 After the departmental estimates have been approved by the Budget 
 Committee, the Assistant to the General Manager will revise the prelimi- 
 nary estimates of cash receipts and cash disbursements giving effect to the 
 revisions in the departmental estimate which were made by the Budget 
 Committee. The revised estimates will be submitted to the Treasurer on 
 or before the third day preceding the beginning of the budget period. 
 
 3. Periodic Reports 
 
 Periodic reports will be submitted to the Budget Committee showing a 
 comparison between estimated receipts and actual receipts and estimated 
 disbursements and actual disbursements. If the Budget Committee desires 
 to revise other budgets because of the financial condition, these revisions 
 will be submitted to the departments concerned by the Assistant to the 
 General Manager. The revisions made in the financial budget will be 
 communicated to the Treasurer. 
 
 X. Preliminary Estimated Financial Statements 
 
 1. Preliminary Estimates of Financial Condition and Results of 
 
 Operation 
 
 The Assistant to the General Manager will prepare from the departmen- 
 tal budgets an estimated balance sheet showing the estimated financial 
 condition at the end of each accounting period during the budget period. 
 He will also prepare in the same manner an estimated statement of profit 
 and loss showing the anticipated results of the operations for each period. 
 
 The Assistant to the General Manager will transmit these preliminary 
 estimates to the Budget Comnnttee on or before the first day of the first 
 week preceding the beginning of the budget period. This will enable the 
 Budget Committee to consider these at the same time that it is considering 
 the departmental estimates. 
 
 2. Revision of Preliminary Estimates 
 
 After the departmental estimates have been approved by the Budget 
 Committee, the Assistant to the General Manager will revise the prelimi-
 
 MANUAL OF BUDGETARY PROCEDURE 393 
 
 nary estimated financial statements giving effect to the changes made by the 
 committee in the dei)artmental estimates. 
 
 3. Periodic Reports 
 
 Periodic reports will be submitted to the Budget Committee by the 
 Assistant to the General Manager, showing a comparison between the 
 actual and the estimated financial statements. These reports will be sub- 
 mitted at the same time as the other budgetary reports. 
 
 Comments on Manual — Manual Confined to Interdepartmental 
 Procedure 
 It win be noticed that the manual is confined to the pro- 
 cedure involved in the interdepartmental relations arising 
 from the budgetary program. It does not outline in detail 
 the procedure to be followed by each department in the 
 preparation of its estimate or the carrying out of its 
 budget. Since the manual is to be placed in the hands 
 of all of the executives, it is not thought worth while to 
 encumber it with the detail of departmental procedures. 
 It is thought better that these be issued as departmental 
 orders. 
 
 Central Control of Estimates 
 
 It is important to notice that the manual requires the 
 estimates of all departments to be submitted to the budget 
 committee at one time (on or before the first day of the first 
 week preceding the beginning of the budget period) ; the 
 consideration and approval of these estimates within two 
 days after their receipt ; and the return of the approved esti- 
 mates to the departmental heads immediately upon their 
 approval. 
 
 This enables the budget committee to have before it, at 
 one time, the estimates of all the departments and units of 
 the company, and provides a central control of all the ac- 
 tivities of the business. The monthly reports which are to
 
 394 BUDGETARY CONTROL 
 
 be submitted to the budget committee provide a means of 
 control over the execution of the budgets. 
 
 Authority of Budget Committee 
 
 It will be noted that the budget committee is given au- 
 thority to pass on estimates. Although the manual does 
 not so state, the financial budget and the estimated balance 
 sheet and statement of profit and loss are submitted to the 
 board of directors at the beginning of each budget period. 
 
 Dates for Submission of Estimates and Reports 
 
 It will be noticed that particular attention is given to the 
 dates on which reports and estimates are submitted. This 
 is especially important, as otherwise there will be a lack of 
 coordination in the budgetary procedure. For instance, the 
 production department cannot prepare the finished goods 
 estimate until it receives the sales estimate ; the purchasing 
 department cannot prepare the estimate of purchases until 
 it receives the estimate of materials requirements ; and the 
 assistant to the general manager cannot prepare the 
 estimated financial statements until he receives all the esti- 
 mates. These illustrations show that if one department is 
 tardy in the preparation of its estimate or report, the entire 
 program Is delayed as a consequence. 
 
 Chart of Budget Procedure 
 
 A manual prepared In the form of the foregoing example 
 contains a considerable amount of detail and it Is some- 
 what difficult to obtain a comprehensive view of the pro- 
 cedure as a whole. 
 
 A chart prepared in the form shown in Figure 43, enables 
 the executives to see the relationship between the various 
 budgets and the duties of each executive with reference to 
 each budget.
 
 A. ! 
 
 C. 
 
 D. 
 
 E. 
 
 F. SI 
 
 G. AC 
 
 H. PI
 
 e 
 
 A. SALES MANAGER 
 
 SALES 
 BUDGET 
 
 from B^wi^or u«ror<J irjlh'diiy"iXr 
 
 PRODUCTION 
 
 BUDGET 
 
 PAYROLL 
 
 BUDGET 
 
 STORES PURCHASE 
 
 BUDGET 
 
 MATERIAL 
 BUDGET 
 
 PLANT AI'JD EQUIP- 
 MENT BUDGET 
 
 MISCELLANEOUS 
 EXPENSE BUDGET 
 
 FINANCIAL 
 BUDGET 
 
 
 pay-roll w B on or bufon- lOtb day 
 3. Kwolvo rovteed Pay-roll Bud- 
 
 
 
 
 
 B. WORKS MANAGER 
 
 rsf i»rpS«x?'K'i 
 
 ,„.:. .:.;;:i::; 
 
 '" ""■ '",',.'.". t«l Pay-roll 
 
 1 ..IPay-roUBud- 
 
 ;il:i_ r- 
 
 ssliaSuiip'sS""'' "" 
 
 3. B« Malbs Manaorh. 3. 8m Aau:* MANAOiii; 
 
 
 C. GENERAL MANAGER 
 
 
 
 1. Estiinatfd aOmlnUtrattvf 
 
 precMlng buduvl pirlod. 
 
 2. H«clv(! approvi-d Pay-roU 
 
 art«r close of porlod. 
 
 
 
 
 I. Itpvlw anil apprvvD niimaui 
 
 D. BUDGET COMMITTEE 
 
 2. ticcolve ooroparlBon of estl- 
 
 K— TOfMjrt any rnvUlons Id l'n> 
 ductlon UudBc* to 11 on or before 
 
 3 days atwr receipt flroin E — 
 3. Recolvo comparison of tsti 
 
 day atlcr clu«> of period. 
 
 i.lia««B from E— ropon any roil 
 sluiiit In Stor-> lurclia&t Oudgit 
 t F on or bi-foro IZtb day after 
 
 diij" afWr receipt troai E— rituru 
 
 or i« foro I2tli day aftw doso of 
 period 
 
 
 -;:■ ■-"'^^"'^-^^ 
 
 E, ASSISTANT TO THE 
 GENERAL MANAGER 
 
 l. Stil)nilt cony of aHtlcIpaltd 
 Mi™ to 11 wllltln 3 days aruir 
 
 ^"'■2 ()ruViiul <»tlii)Ato to D on or 
 1,.(..r<; tli<- IM day of 1st wwU 
 
 1. Rwwlvp and irsnsmll txi\- 
 
 iDB bU<lK4!t p<t1u(1. 
 
 2. Recdvp ■ approved Produc- 
 tion Budget from D and transmit 
 
 1. Bccdvo and rransniit -^ 
 bavdA pay-roll to 1> ■>ri r 
 
 aclual' pay-roil Ui li ..n 
 
 bofOro ISth day aflor doso of 
 
 ;:,S 
 
 PMI ^ 
 
 1 
 
 F. STATISTICAL DEPT. 
 
 1. IteiKirt of actual sales fur the 
 uorklnR (lay afior close of pvrlixl. 
 
 
 
 
 
 
 1 
 
 0. ACCOUNTING DEPT. 
 
 
 
 E on or bcforo Stb day aKtr i^Ioso 
 of period. 
 
 
 ^^{-"■■"' - 
 
 1. Keiion actual «|wndUitf«. 
 fot plani and i^iOpmeut (o B on w 
 
 a^SSS»'"" "''"'■'■■■■■ 
 
 
 H. PURCHASING AGENT 
 
 
 
 
 
 :£" , ■ 
 
 
 
 
 FIGURE 4.^- CHART OF BUDGET PROCEDURE 
 
 O
 
 MANUAL OF BUDGETARY PROCEDURE 395 
 
 The chart is prepared from the manual given in this 
 chapter with a few modifications. It w^U be noticed that 
 the chart calls for a "stores purchased " budget and a "mis- 
 cellaneous expense" budget, instead of a manufacturing ex- 
 pense budget and departmental expense budgets. It also 
 omits the procedure for the preparation of the estimated 
 financial statements.
 
 CHAPTER XXIV 
 
 ADMINISTRATIVE REPORTS 
 
 Need for Administrative Reports 
 
 The previous chapters have emphasized the need for the 
 collection of data to serve 
 
 1. As the basis of formulating plans of operation, and 
 
 2. As the basis of enforcing plans which have been adopted. 
 
 This information is most serviceable when it is presented in 
 a summarized and classified form by means of properly de- 
 signed reports. 
 
 Reports should be used by all the executives and em- 
 ployees of a business. We usually think of reports in con- 
 nection with the general ofhcers, for their actions are based 
 largely on reports and the reports which they receive are of a 
 formal nature. Nevertheless, all employees except those 
 engaged in routine manual tasks are receiving reports daily. 
 These reports may come to them as business forms on which 
 they perform certain tasks and then transmit them to others. 
 They are nevertheless reports in the sense in which that 
 term is used in this discussion. 
 
 Classification of Administrative Reports 
 
 The reports used in administrative control may be clas- 
 sified broadly into the following groups: 
 
 I. Reports showing present financial condition. The standard 
 form of balance sheet with its various subsidiary schedules 
 is used for this purpose. This is the oldest and most widely 
 used of administrative reports. The reasons for its origin 
 and extensive use have been explained in a preceding chapter. 
 396
 
 ADMINISTRATIVE REPORTS 397 
 
 2. Reports showing the results of past operations in terms of ex- 
 
 pense and income. The various forms of expense and income 
 analyses, and the standard form of statement of profit and 
 loss, with subsidiary schedules, are used for this purpose. Next 
 to the standard form of balance sheet, these are the reports 
 most widely used. For internal control they are used more 
 widely than the balance sheet and are decidedly more 
 serviceable. 
 
 3. Reports showing pertinent information which is necessary for the 
 
 daily actions of executives and employees. These reports may 
 consist of a statement for the treasurer, showing the accounts 
 payable falling due on a current day; of a report to the collec- 
 tion manager, showing accounts thirty, sixty, and ninety days 
 past due; of a report to the sales manager, showing the slow- 
 moving items of stock; and various other reports of a similar 
 nature. These reports are not so widely discussed as the 
 standard financial statements, yet they serve a very vital 
 function in the internal administration of a business. 
 
 4. Reports showing anticipated results of future operations. These 
 
 reports include estimates of sales, estimates of purchases, 
 estimates of production, estimates of financial condition, esti- 
 mates of income, expense, and net profit, and similar reports. 
 These estimates serve as a basis for future plans in the manner 
 explained in preceding chapters. 
 
 5. Reports shoVing a comparison between the actual performance 
 
 and the estimated or standard perfomiance. Such reports 
 make possible the enforcement of budgets and provide data 
 which serve as a means of revising the budgets when this is 
 found necessary. 
 
 Essentials of Executive Reports 
 
 In the foregoing discussion administrative reports have 
 been defined broadly to include the reports used by all the 
 executives and employees of a business. But in every busi- 
 ness it is desirable to prepare some formal reports for the 
 use of the principal executives only. In contradistinction 
 to the broad group of administrative reports, these may be 
 termed "executive " reports. During the remainder of this
 
 398 BUDGETARY CONTROL 
 
 chapter we shall be concerned primarily with the latter 
 group, although most of the discussion is equally applicable 
 to the general group. 
 
 Since executive reports are intended to serve as a basis 
 for the formulating of executive decisions, which in turn 
 result in executive actions, it is expedient that they be made 
 so as to present accurate and comprehensive information 
 and to present it in such form that correct judgments can 
 be formed with as little sacrifice of effort as possible. If this 
 end is to be attained, executive reports must have the fol- 
 lowing characteristics : 
 
 First, they should present summarized information. 
 Details should be eliminated as much as possible. Each 
 report should show a few essential items of information. 
 They should be constructed so as to show variations between 
 the standard performance and the actual performance. In 
 case of significant variations, the executive should receive an 
 explanation of the cause from the controller or some other 
 official designated for this purpose. If the executive re- 
 ceives a few condensed reports he will be able to study care- 
 fully each report. Details are of value only to explain 
 variations. Many details serve only to confuse. 
 
 Second, executive reports should show the following: 
 
 1. Actual performance for the current period. 
 
 2. Comparison of the performance of the current period with the 
 
 estimated or standard performance for the period. 
 
 3. Comparison of the current performance with the performance of 
 
 past periods. 
 
 4. Comparison of the current performance with the results of the 
 
 performance. 
 
 Actual Performance 
 
 Each executive should know at frequent intervals what 
 the performance has been of his own department and of each 
 of the other departments the activities of which affect the
 
 ADMINISTRATIVE REPORTS 399 
 
 activities of his own department. Reports presenting in- 
 formation of this kind have long been in use and Httle more 
 need be said here with reference to them than to emphasize 
 the following: 
 
 1 . That care must be taken that these reports be made accurately. 
 
 2. That they be sufficiently comprehensive to serve as a basis for 
 
 proper action. 
 
 3. That they should be made promptly. 
 
 4. That they are more effective if modified so as to include the 
 
 comparisons indicated by the following discussion. 
 
 Estimated Performance 
 
 Most if not all executives will admit the need of a state- 
 ment of the current performance, but many do not realize 
 the importance of establishing estimates of performance 
 and comparing the actual with the estimated. The dis- 
 cussion in the preceding chapters has emphasized the im- 
 portance of preparing budgets and using them as control 
 devices. The reports which are used in preparing and con- 
 trolling these budgets have been discussed in connection 
 with each of them. In addition to these reports it is de- 
 sirable that the effect of the budgetary program should 
 be shown on all the executive reports. This can be done 
 most easily ty designing these reports so that they will show 
 a comparison between the estimated and the actual per- 
 formance. 
 
 By way of emphasis it is worth while to state the follow- 
 ing benefits to be derived from the establishment of the 
 estimates : 
 
 1 . In order to make the estimates it will be necessary for 
 the executives responsible for them to study past perform- 
 ance and to consider future possibilities. This study will 
 undoubtedly increase the efficiency of these executives. 
 
 2. The estimates will set up a goal for attainment. They 
 will constitute a "bogie" which the executives will try to
 
 400 BUDGETARY CONTROL 
 
 attain. A comparison between the actual and the estimated 
 will provide a check on the activities of the executives and 
 will ser\^e as an incentive towards the attainment of the 
 estimated. 
 
 3. A study and comparison of the estimates will make 
 possible a better coordination of the activities of the various 
 functional departments, since each department can deter- 
 mine from the estimates the plans of other departments and 
 guide its activities accordingly. 
 
 4. The preparation and use of the estimates will make 
 possible the elimination of much detail in the reports to the 
 executives. Details instead of being presented for the con- 
 sideration of the executives each month, will be presented 
 in the original estimates when they are presented for execu- 
 tive approval. After the estimates have been considered 
 and approved, it will not be necessary for the executive to 
 receive detailed reports during the period covered by the 
 estimates. If he receives a summary report which shows a 
 comparison between the results attained and the estimate, 
 it will be sufficient. Executives should consider details with 
 reference to operations before the operations take place rather 
 than after they are performed. Of course, if variations be- 
 tween the estimated and the actual are shown by the reports, 
 they may ask for sufficient detail to explain the changes. 
 
 Past Performance 
 
 Although past performance alone is not a satisfactory 
 standard by which to judge current performance, a com- 
 parison between current performance and past performance 
 is very useful in that It shows whether the tendency is desira- 
 ble or undesirable. If statistics with reference to past per- 
 formance and current performance are compiled by means 
 of reports for a considerable number of periods, very useful 
 data will be available for use in making future estimates.
 
 ADMINISTRATIVE REPORTS 401 
 
 Results of Performance 
 
 Whenever possible, a comparison should be made be- 
 tween performance and results. For instance, selling ex- 
 pense may be compared with sales; gross profits and net 
 profits with sales; volume of production with cost of pro- 
 duction ; and various other comparisons which will occur to 
 the reader. These comparisons should be shown not only 
 for the current period but also for past periods, so that 
 tendencies may be easily seen. Comparisons of this nature 
 make it possible to obtain a true perspective of results. 
 Obviously increased sales are desired only when increased 
 profits will result. 
 
 Illustration of Reports 
 
 It is obviously impossible to discuss and illustrate all 
 the various reports which may be used in executive control. 
 These will vary in number and form from business to busi- 
 ness. 
 
 Some of these reports have been illustrated in previous 
 chapters. For instance, in Chapters XXI and XXII the 
 estimated balance sheet and estimated statement of profit 
 and loss with the proper comparisons were illustrated. In 
 earlier chapters reports showing a comparison between the 
 actual and estimated performance were shown. 
 
 In the present discussion it is thought sufficient to illus- 
 trate a few of the reports which may be used in sales and 
 production control. Using these as types and applying 
 the general principles given in the foregoing discussion, the 
 reader should be able to design reports to fit any particular 
 needs. 
 
 Sales Reports 
 
 The reports which may be used in sales control are too 
 numerous to mention. They will vary greatly from busi- 
 
 26
 
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 BUDGETARY CONTROL 
 
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 ADMINISTRATIVE REPORTS 
 
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 404 BUDGETARY CONTROL 
 
 ness to business depending on the volume of sales, nature of 
 product sold, and method of marketing. But it is thought 
 that in every business the principal executives of the busi- 
 ness should have reports which show the following : 
 
 1. Volume of sales 
 
 2. Selling expenses 
 
 3. Net profits 
 
 4. Inventory of finished goods 
 
 Typical reports for each of these will be illustrated. 
 
 Monthly Report on Volume of Sales 
 
 If a business markets its product through branches or 
 divisions, this report will show the total sales of each selling 
 unit for the current period compared with the estimated 
 sales and the sales of previous periods. If the sales are all 
 made from a central office, it may show the same compari- 
 sons for sales territories, or it may show the sales classified 
 by groups, departments, or products. In any case the com- 
 parisons should be the same. 
 
 A typical form for this report is shown in Figure 44. 
 This report is designed for the use of a manufacturing com- 
 pany marketing its product partly through division sales 
 offices and partly through sales branches. This report 
 shows useful comparisons for each selling unit and in addi- 
 tion provides a means of comparing the results attained by 
 the different units. 
 
 Monthly Report on Selling Expenses 
 
 If a business markets its product through divisions or 
 branches, a monthly report should be made to show the 
 total selling expense of each selling unit with a comparison 
 of this expense with the sales obtained. If the sales are 
 made from a central sales department, this report may show 
 the same comparisons by territories. If selling expenses
 
 ADMINISTRATIVE REPORTS 
 
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 406 BUDGETARY CONTROL 
 
 are allocated to lines of product, the report may be made to 
 show the result of this allocation. In a department store it 
 may show sales and expenses by departments. In this 
 latter case judgment must be used in interpreting the re- 
 port, for it is to be expected that the ratio of expense to sales 
 will vary between departments which sell different kinds 
 of goods. 
 
 A typical form for this report is shown in Figure 45. 
 The report provides a means of: 
 
 1. Checking actual expenses against estimated expenses. 
 
 2. Comparing the ratio of expenses to sales during the current and 
 
 past periods. This comparison is of especial importance, as 
 increases and decreases in selling expenses are of significance 
 only in comparison with the results obtained. 
 
 3. Comparing the ratio of expenses to sales in different selling units. 
 
 This comparison is significant in judging the efficiency of 
 branch executives. 
 
 Monthly Report on Net Profits 
 
 This report may show net profits of selling units, terri- 
 tories, departments, or by lines of goods. In a business 
 marketing its product through branches or division offices, 
 it shows the net profits made by each selling unit and 
 the ratio of net profits to sales with the proper com- 
 parisons. 
 
 A typical form for this report is shown in Figure 46. 
 This report affords a means of: 
 
 1 . Checking actual net profits against estimated net profits. 
 
 2. Comparing the ratio of net profits to sales during the current 
 
 year with the same ratio for the past year. This comparison 
 is a very important one, since it is not an increase of sales, but 
 an increase of profits that is the goal. 
 
 3. Comparing the ratio of profits to sales in different selling units. 
 
 This comparison is important in judging the efficiency of 
 the management of the various units.
 
 ADMINISTRATIVE REPORTS 
 
 407 
 
 
 
 
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 BUDGETARY CONTROL 
 
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 ADMINISTRATIVE REPORTS 
 
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 4IO BUDGETARY CONTROL 
 
 Monthly Stock Report 
 
 This report should show the total inventory in stock 
 classified according to the major groups maintained for 
 sales and inventory. It should show the comparisons indi- 
 cated by form in Figure 47. 
 
 It is desirable that a standard or estimated inventory be 
 determined which can be used as a means of judging the size 
 of the inventory on hand. It is important that careful 
 consideration be given to turnover figures; so it is well to 
 have them shown on the periodical reports. If the turn- 
 over for each quarter is shown this should be sufficient. 
 
 Production Reports 
 
 The reports which may be used in production control 
 are too numerous to mention. They will vary greatly from 
 business to business, depending on the volume of production, 
 the nature of the production process, and the organization 
 by which the production is carried on. But it is thought 
 that in every business the executives should have reports 
 which show the following : 
 
 1. Summary of Orders Received, Shipments, Production, and 
 
 Shortage or Surplus 
 
 2. Summary of Operations 
 
 3. Unit Costs 
 
 4. Factory Inventories 
 
 Monthly Summary of Orders Received, Shipments, Production, 
 and Shortage or Surplus 
 
 This report shows the orders received, the shipments, 
 the production and the unfilled orders for the current period 
 and for past periods, in such form that comparisons can 
 be easily made. Each of these items will be classified 
 according to the major groupings maintained for sales, 
 production, and inventory. It is preferable that it be
 
 ADMINISTR-^TIVE REPORTS 41I 
 
 made in terms of physical units rather than in terms 
 of value. 
 
 A typical form for this report is shown in Figure 48. As 
 indicated by the illustration, totals are shown at the bot- 
 tom of the form so that the totals of the groups can be com- 
 pared. If a company has two or more factories a separate 
 report will be made for each factory. 
 
 If desired, a separate report can be prepared for each of 
 the items which appear on the combined report, that is, 
 orders received, shipments, production, and unfilled orders. 
 Each of these reports should show the following compari- 
 sons: 
 
 1. Group (name or number) 
 
 2. This month 
 
 3. Estimated this month 
 
 4. Per cent of increase or decrease 
 
 5. Last month 
 
 6. Per cent of increase or decrease 
 
 7. Same month last year 
 
 8. Per cent of increase or decrease 
 
 9. Total to date this year 
 
 10. Total to date last year 
 
 11. Per cent of increase or decrease 
 
 The additional information which these subsidiary reports 
 provide is evident. 
 
 Monthly Summary of Operations 
 
 It is desirable that both the production and other execu- 
 tives of the company should have a comprehensive picture 
 of the factory operations for each period. A possible form 
 for a report which will provide this is shown in Figure 49. 
 The purpose of the data shown in this report is apparent. 
 
 In some cases the classification of cost elements shown in 
 the first column will need to be changed. It can be made to 
 suit the needs of each case.
 
 412 
 
 BUDGETARY CONTROL 
 
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 BUDGETARY CONTROL 
 
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 ADMINISTRATIVE REPORTS 415 
 
 Monthly Report on Unit Costs 
 
 This report shows the volume of production as well as 
 the unit costs. The volume of production is significant in 
 comparing unit costs, since the quantity produced may 
 affect the unit costs. 
 
 A typical form for this report is shown in Figure 50. In 
 the illustration the volume of production is stated in terms 
 of tons, and pounds are used as the basis of stating unit costs. 
 In many businesses it would be necessary to use other units 
 for both of these. 
 
 Monthly Report on Factory Inventories 
 
 This report shows the total inventories carried at the 
 factory with appropriate comparisons. The classification 
 of inventory will depend on the nature of the product manu- 
 factured, but should always indicate clearly the inventories 
 of (i) raw materials, (2) work in process, and (3) finished 
 goods. It should also show plant and equipment in process 
 as a separate item. It is preferable that both the physical 
 amount and the value of the inventories be stated. 
 
 A possible form of this report is shown in Figure 51. 
 
 Varied Kind of Reports 
 
 It is desired to emphasize once more that the few reports 
 Illustrated in this chapter are intended to be suggestive only. 
 These few are given primarily for the purpose of showing 
 concretely the application of the principles discussed in the 
 first part of this chapter. The reports needed for any par- 
 ticular business can be designed only after a careful study 
 of its operations and of its organization and administrative 
 methods.
 
 CHAPTER XXV 
 
 ADVANTAGES AND LIMITATIONS OF BUDGET- 
 ARY CONTROL 
 
 Advantages of Budgetary Control 
 
 Why Discussion Is Postponed 
 
 In most texts on accounting, cost accounting, auditing, 
 and similar subjects, the authors explain at the beginning of 
 their texts the advantages to be derived from the applica- 
 tion of the methods which they are to discuss. This un- 
 doubtedly is good propaganda, but it is the author's impres- 
 sion that the reader can better understand the advantages 
 of any administrative procedure or device after he under- 
 stands its nature and its method of operation. Conse- 
 quently, he has deemed it expedient to postpone the discus- 
 sion of the advantages of budgetary control until the end of 
 the text. The advantages which are thought to be most 
 significant vJ^ill now be discussed. 
 
 Coordination of Sales and Production 
 
 Goods can be sold only when produced, and they should 
 be produced only when they can be sold. To obtain sales 
 orders which cannot be filled leads to loss in several ways, of 
 which the following are the most apparent: 
 
 1 . It causes the incurrence of unnecessary expenses in getting orders 
 
 which cannot be filled. 
 
 2. It causes the expense of recording the orders when received. 
 
 3. It causes the expense of answering the inevitable complaints of 
 
 the customers who fail to receive the goods when promised. 
 416
 
 advy\ntages and limitations 417 
 
 ' 4. It causes the expense of reversing the entries made for the order 
 when the customer finally cancels it. 
 5. It incurs the ill-will of the customer, which may result in the 
 loss of his trade in the future when it may be needed. 
 
 On the other hand, the production of goods in excess of 
 sales orders leads to even more undesirable results, of which 
 the following are the most important: 
 
 1. It ties up capital in unsalable goods, with the consequent cost 
 
 incurred in securing the capital. 
 
 2. It ties up capital which may be needed badly in carrying on other 
 
 operations, and in some cases the loss of the use of this capital 
 may result in serious financial embarrassments. 
 
 3. It results in the procurement of goods which may physically de- 
 
 teriorate or become obsolete before they can be sold. 
 
 If a sales estimate is prepared, and this estimate is 
 approved by the production department and used as a basis 
 of its program, these difficulties can in the main be elimi- 
 nated. Any disagreement between the sales and production 
 departments is settled by the budget committee, which is 
 qualified to render impartial judgment. 
 
 What is said here with reference to the coordination of 
 sales and production in a manufacturing business, applies 
 equally to the coordination of sales and purchases in a mer- 
 cantile business. 
 
 Formulation of a Profitable Sales and Production Program 
 
 The sales department does not always desire to sell the 
 goods which can be produced to the best advantage, and 
 the production department does not always prefer to pro- 
 duce the goods for which there is the most ready and prof- 
 itable market. If left to itself each department will follow 
 the line of least resistance. 
 
 There has long been an argument as to whether the sales 
 or production department should exercise the greater influ- 
 
 27
 
 4l8 BUDGETARY CONTROL 
 
 ence in deciding the commodities which a business produces 
 and offers for sale. Production executives often contend 
 that the production department should decide what it is best 
 equipped to produce and that the sales department should 
 then be instructed to find a market for these products. On 
 the other hand, sales executives often contend that it is the 
 function of the production department to serve the sales 
 department and to produce the goods which the latter can 
 sell. 
 
 A little consideration will show that neither of these 
 views is correct. It is the function of each of these depart- 
 ments to serve the business as a whole to the end that as 
 much profit as possible may be made. The hundreds of idle 
 factories in the country e\cn in normal times is a testimonial 
 to the fallacy of attempting to produce without a proper 
 consideration of the market, and the many discarded ma- 
 chines of factories still operating, as well as the hundreds of 
 items sold at a loss, is evidence of the impropriety of trying 
 to change the production program to meet the passing 
 whims of the sales department. 
 
 A proper coordination of sales and production, not only 
 from the viewpoint of quantity, but also from the viewpoint 
 of profit, is essential. The production equipment should 
 be as flexible as possible so that changes can be made to 
 meet market conditions, but a certain amount of standard- 
 ization is essential to well-regulated production, and the 
 sales department by proper effort can do much to in- 
 crease the sales of those lines which can be produced most 
 efficiently. 
 
 Although it is usually convenient for the sales depart- 
 ment to take the first step in the budgetary process, the 
 sales estimate must be gone over from the viewpoint of the 
 production possibilities, profit potentialities, and financial 
 requirements.
 
 ADVANTAGES AND LIMITATIONS 419 
 
 Coordination of Sales and Production Programs with Finances 
 
 No sales and production progrc.m, regardless of its 
 profit potentialities, is desirable if its financial requirements 
 cannot be met by the particular firm under consideration. 
 It is necessary that careful consideration be given to the 
 financial requirements of all plans contemplated. As stated 
 m Chapter II, a lack of coordination between sales and pro- 
 duction will lead to a loss, but a lack of coordination between 
 sales, production, and finance will lead to bankruptcy. 
 
 It must be remembered, however, that the capital pos- 
 sibilities of a firm may be materially affected by the length 
 of time which is available for planning to meet require- 
 ments. If the financial requirements of the contemplated 
 program are known for a sufficient length of time prior to its 
 initiation, capital may be secured which would not be obtain- 
 able on short notice. 
 
 The budgetary program, therefore, is especially signifi- 
 cant in financial planning and financial planning is the 
 essence of financial administration. 
 
 Proper Control of Expenses 
 
 A proper control of expenses is necessary to profitable 
 operations. The purchase and sales prices of commodities 
 are usually determined largely by competition. The dif- 
 ference between the expenses incurred and the gross profit 
 determines the margin of net profit. To secure an effective 
 control of expenses and yet not to affect the volume of 
 profitable operations is one of the most important and diffi- 
 cult tasks of management. 
 
 If the estimated expenses of each department are sub- 
 mitted for the consideration of a central budget committee, 
 composed of the principal executives of the company, and 
 the departments are limited in their expenditures to the 
 amount of the appropriations made by the budget commit-
 
 420 ■ BUDGETARY CONTROL 
 
 tee after consideration of the departmental estimates, an 
 effective method of control is available. 
 
 Formulation of a Financial Program 
 
 The demand for capital is an imperative one. When 
 funds are needed their procurement cannot be long delayed. 
 To insure that it will be possible to secure them when needed, 
 it is necessary to determine in advance the amount required 
 and the time when required, so that plans may be made for 
 their procurement. 
 
 It is possible to do this in a systematic way only when 
 comprehensive and accurate statements of the plans of all 
 the departments are available, so that estimates of cash re- 
 ceipts and disbursements which will result from these plans 
 can be made and a program formulated for the procurement 
 of any excess of disbursements over receipts. 
 
 Coordination of All the Activities of the Business 
 
 The previous discussion has emphasized the close rela- 
 tionship between the activities of all the departments of a 
 business. This relationship is so close that no one depart- 
 ment can carry on its activities properly without a consid- 
 eration of the activities of one or more of the other depart- 
 ments. Neither can the executive^ of a business judge 
 properly the past or contemplated activities of any one de- 
 partment independently of the activities of the other depart- 
 ments. 
 
 To make possible the formulation of k^ well-balanced 
 program for the business as a whole, it is essential that the 
 plans of all the departments be presented for executive con- 
 sideration and that the plans of the several departments be 
 modified, if necessary, in order to bring about coordination. 
 This can best be accomplished by the submission of formal 
 estimates to a budget committee, and the formulation of
 
 ADVANTAGES AND LIMITATIONS 42 1 
 
 these into a budgetary program, which will be enforced and 
 controlled in some such manner as that discussed in the pre- 
 ceding chapters. 
 
 The Limitations of Budgetary Control 
 
 ITeetHor Consideration 
 
 It is as essential that the limitations of budgetary con- 
 trol be understood as that the benefits which may be derived 
 from it be realized. Unless this be true the following re- 
 sults are apt to happen: 
 
 1. Too much will be expected from the budgetary program, and 
 
 when it fails to fulfil expectations it may be thought useless 
 and abandoned. 
 
 2. Too much reliance may be placed on its operation which may 
 
 result in too little emphasis on other methods of administrative 
 control. 
 
 3. It may be followed blindly which may bring results more detri- 
 
 mental than those which arise from its absence. 
 
 Important Limitations 
 
 The most important and significant limitations of budg- 
 etary control are the following : 
 
 1. The budget program is based on estimates. Esti- 
 mates cannot be made which are entirely accurate, and con- 
 sequently they must be used with judgment and not fol- 
 lowed arbitrarily. It is also necessary that provision be 
 made for frequent revisions of these estimates as actual 
 performance shows variations from the estimated perform- 
 ance. 
 
 2. Budgetary plans will not execute themselves. After 
 budgets are prepared, every possible effort must be made to 
 equal or exceed them. Detail plans must be made for their 
 attainment and these plans must be enforced rigidly. 
 
 3. Budgetary control cannot take the place of admin-
 
 422 BUDGETARY COxNTROL 
 
 istration. It is not Its purpose to deprive executives of the 
 necessary freedom of action which Is essential to progressive 
 management. Its purpose Is to provide the information 
 on which administrative decisions and administrative con- 
 trol are based. 
 
 4. Budgetary control cannot be perfected immediately. 
 The procedure called for by the budgetary program is 
 usually new to executives and it takes time to train them to 
 make and use properly estimates of future operations. Too 
 much should not be expected at the beginning of budgetary 
 control. In many cases it is desirable to install budgetary 
 control gradually so that the executives may be educated to 
 its needs and purposes. 
 
 Summary 
 
 The advantages to be derived from budgetary control 
 may be stated in outline form as follows : 
 
 1. Coordination of Sales and Production: 
 
 (a) By estimating sales possibilities and planning production 
 
 to produce the goods necessary to meet these pos- 
 sibilities. 
 
 (b) By limiting the production to the amount necessary to 
 
 meet probable sales demands as shown by the sales esti- 
 mate, thus preventing an excess of inventory of finished 
 product. 
 
 2. Formulation of a Profitable Sales and Production Pro- 
 
 gram: 
 
 (a) By determining the lines of goods most desirable for a 
 
 well-rounded sales program and adapting production, in 
 so far as is consistent with the following paragraph, to 
 produce the necessary quantity of these lines. 
 
 (b) By determining the lines of goods most desirable for a 
 
 well-rounded production program and planning sales, in 
 so far as is consistent with the preceding paragraph, to 
 sell the amount of these lines necessary to secure eco- 
 nomical production.
 
 ADVANTAGES AND LIMITATIONS 423 
 
 3. Coordination of Sales and Production with Finances: 
 
 (a) By considering the contemplated sales and production 
 
 programs in terms of financial requirements and revising 
 these programs, if necessary, to reduce the financial 
 requirements to correspond to the financial program 
 which is deemed possible and desirable. 
 
 (b) By determining the financial requirements of the sales 
 
 and production programs as revised in the manner pre- 
 scribed in the preceding paragraph, and planning to se- 
 cure funds to meet these requirements. 
 
 4. Proper Control OF Expenditures: 
 
 (a) By requiring the preparation by each department head of 
 
 an estimate of the expenditures of his department during 
 the budget period. 
 
 (b) By requiring the submission of these estimates to the 
 
 budget committee for consideration and approval. 
 
 (c) By the prohibition of any expenditures in excess of the 
 
 departmental estimates without the permission of the 
 budget committee. 
 
 (d) By requiring the submission of monthly reports showing a 
 
 comparison between the actual expenditures for the 
 month and the estimated. 
 
 5. Formulation of a Financial Program : 
 
 (a) By the estimating of cash receipts for each month 
 
 based on the sales program and the estimate of col- 
 lections. 
 
 (b) By the estimating of cash disbursements for each 
 
 month based on the production, purchasing, plant and 
 equipment, and departmental expense budgets. 
 
 (c) By determining the excess of disbursements over receipts 
 
 and the preparation of a financial program which will 
 secure funds to provide for this excess. 
 
 6. Coordination of All the Activities of the Business-. 
 
 (a) By the preparation by each department of an estimate of 
 
 its activities during the budget period. 
 
 (b) By the study of these departmental estimates by the 
 
 departmental executives and the budget committee.
 
 424 BUDGETARY CONTROL 
 
 (c) By the modification of the activities of each department 
 
 to the end that they coordinate with the activities of 
 each other department. 
 
 (d) By the preparation of an estimated balance sheet and 
 
 an estimated statement of profit and loss showing the 
 anticipated results of the operations provided for by the 
 budgetary program. 
 
 (e) By the formulation of plans and policies which will make 
 
 possible the attainment of the estimated results as 
 shown by the estimated financial reports prepared as 
 directed in the preceding paragraph. 
 
 The limitations of budgetary control may be stated in 
 outline form as follows: • 
 
 1. The budgetary program is based on estimates. 
 
 2. Budgetary plans will not execute themselves. 
 
 3. Budgetary control cannot take the place of administration. 
 
 4. Budgetary control cannot be perfected immediately.
 
 CHAPTER XXVI 
 
 BUDGETARY CONTROL FOR NON-COMMERCIAL 
 ENTERPRISES 
 
 Scope of Previous Chapters 
 
 The discussion in the preceding chapters has been con- 
 fined to a consideration of the use of budgetary control in 
 the administration of the commercial or profit-seeking enter- 
 prise. This has been done for the following reasons : 
 
 1. It is for such enterprises that budgetary control is most urgently 
 
 needed at the present time. 
 
 2. The development of budgetary control in connection with such 
 
 enterprises has been very slow and standard methods have not 
 been formulated. 
 
 3. The literature dealing with the application of budgetary control 
 
 of these enterprises is limited. There is considerable litera- 
 ture dealing with the various parts of the budgetary procedure, 
 but so far as the author is aware this text is the first attempt 
 to discuss the budgetary process as a whole. On the other 
 hand, there is a considerable body of literature dealing with 
 budgetary control of non-commercial enterprises. 
 
 For these reasons it is thought that this text will best 
 serve its purpose by emphasizing the possible uses of budget- 
 ary control by the commercial enterprise and the possible 
 methods by which its installation by such businesses may be 
 effected. It is well to see, however, the other uses which 
 may be made of it. 
 
 Varied Uses of Budgetary Control 
 
 Budgetary control has long been practiced by govern- 
 mental units, educational institutions, and similar organiza- 
 tions. Religious, social, and charitable institutions, such 
 
 425
 
 426 BUDGETARY CONTROL 
 
 as churches, Y. M. C. A.'s, and social service agencies, are 
 accustomed to prepare budgets, although in some cases they 
 are not carefully prepared nor rigidly enforced. There has 
 been a considerable body of literature produced treating of 
 its use for these purposes and this literature is readily avail- 
 able to the reader. 
 
 Although it is not thought worth while to enter into a 
 detailed discussion of budgetary control for non-commer- 
 cial enterprises, a brief description is given in this chap- 
 ter of its use in connection with governmental units and 
 educational institutions, with the hope that some benefit may 
 be obtained by a comparison between the methods employed 
 in these cases and those suggested for commercial enter- 
 prises in the preceding chapters. 
 
 Budgetary Control for Governmental Units 
 
 A possible procedure to be followed in the formulation 
 and execution of a budget for a city, state, or national gov- 
 ernment, stated in outline form, is as follows: 
 
 1 . Some time before the beginning of the fiscal year each 
 department prepares an estimate of its expenditures for the 
 year. For Instance, in a state government, the State De- 
 partment, the Treasury Department, the Department of 
 Justice, etc., will prepare such an estimate. The depart- 
 ment head will base his estimate on the estimates submitted 
 by the bureau chiefs within his department. 
 
 2. The head of the department will transmit this esti- 
 mate with his approval to some official, usually the Treas- 
 urer, Comptroller, Director of Finance, or Director of the 
 Budget, who is designated by the law to receive the separate 
 estimates and formulate them into a combined estimate for 
 all departments. For brevity, we shall refer to this execu- 
 tive as the Director of the Budget in the following discussion. 
 
 3. The Director of the Budget, prepares an estimate of
 
 NON-COMMERCIAL ENTERPRISES 427 
 
 the revenue for the fiscal year. He then submits a report 
 to the chief executive (the Mayor, Governor, or President) 
 showing a comparison of the estimated expenditures with 
 the estimated revenues. ■ - 
 
 4. The chief executive, and in many cases a Board of 
 Review, Board of Estimate and Review, or Cabinet, con- 
 sider the estimates received from the Director of the 
 Budget. The departmental heads may be called into con- 
 ference to give reasons for any increases requested by their 
 departments. 
 
 5. If the estimated expenditures exceed the estimated 
 revenues, one of the following must be done: 
 
 (a) Expenditures may be reduced. This invoh'cs a decrease in the 
 
 estimates of one or more departments. The Chief Executive 
 or his advisory board must decide which of the departmental 
 estimates should be decreased. 
 
 (b) Revenue may be increased. This necessitates the devising of 
 
 new methods of taxation or the increasing of the present 
 rates of taxation. 
 
 (c) Additional funds may be secured from loans. This results in 
 
 an increase of the indebtedness of the government. 
 
 6. The chief executive transmits the budget as approved 
 by him to the legislative body responsible for transforming 
 it into law. He may accompany it with recommendations 
 with reference to methods of raising new revenue if this is 
 necessary, or with reference to the decrease of taxes if this 
 is possible. 
 
 7. The proposed budget is considered by the legislative 
 body and such changes made as it deems fit. Usually the 
 changes permitted are limited by law. In some cases the 
 legislative body is given authority to decrease and strike 
 out items, but cannot increase or add items. 
 
 8. When the budget is approved by the legislative body, 
 it becomes the working program for all the departments for
 
 428 BUDGETARY CONTROL 
 
 the fiscal period. No department is permitted to exceed 
 its budget allowance without a special dispensation of the 
 legislative body. In some cases there is an "emergency 
 fund" included in the budget and put at the disposal of 
 the chief executive. He may make allowances from this 
 fund to departments which in his opinion are in need 
 of additional funds. The amount of this fund is usually 
 small. 
 
 9. Proper records are kept that all expenditures of each 
 department may be charged against its budget or "appro- 
 priation." Periodic reports are made to a representative of 
 the chief executive, showing a comparison between estimated 
 expenditures and actual expenditures. 
 
 It will be understood, of course, that the procedure 
 stated in the foregoing outline is intended to be indicative 
 only. The procedure varies somewhat in different govern- 
 mental units. 
 
 Budgetary Control of the National Government 
 
 The "Budget and Accounting Act," which establishes 
 budgetary control for the federal government, was approved 
 by the President on June 10, 1921. The complete act is 
 given in Appendix A. The most important features of this 
 act for our purposes are the following: 
 
 1 . It places the final authority and responsibility for the 
 preparation and enforcement of the budget in the Presi- 
 dent who is the chief executive of the administrative divi- 
 sion of the government. 
 
 2. It sets up a Budget Bureau which is responsible for 
 the preparation and enforcement of the budgetary procedure. 
 The executive head of this bureau is termed the Director of 
 the Budget, and reports directly to the President. In this 
 sense he may be termed a staff assistant to the President. 
 In so far as the President delegates to him authority in the
 
 NON-COMMERCIAL ENTERPRISES 429 
 
 enforcement of the budget, he acts as an executive assistant 
 instead of a staff assistant. 
 
 3. It sets up a budget officer in each bureau who is re- 
 sponsible for preparing the original estimate for his bureau. 
 This results in placing the responsibility for initiating each 
 budget on the unit which is responsible for its per- 
 formance. 
 
 4. It prescribes that each bureau chief will consider the 
 budget as prepared by his budget officer and after he has 
 approved it transmit it to the department chief. The de- 
 partment head revises the estimates of the bureaus if he 
 thinks this is necessary, and then combines these to make 
 the estimate of his department. 
 
 5. It prescribes that each department head will transmit 
 the estimates of his department to the Director of the 
 Budget. The latter will revise the departmental estimates 
 if necessary, and will then combine these to make the com- 
 plete estimate on expenditures. He will transmit this to- 
 gether with the estimate of revenues to the President, who 
 will make any changes which he thinks necessary and sub- 
 mit them with his approval to Congress. 
 
 6. It creates a Comptroller General who is responsible 
 for the form of the records and the procedures of the various 
 departments, and for exercising control over the disburse- 
 ments made under the appropriations which are made in 
 response to the budget. 
 
 It can be seen from the foregoing that the act sets up in 
 general terms the procedure to be followed in the prepara- 
 tion and enforcement of the national budget. 
 
 Budgetary Control of State Governments 
 
 The budgetary procedure of the several states varies to a 
 considerable degree. The modem tendency is towards a 
 more complete and comprehensive planning of financial
 
 430 BUDGETARY CONTROL 
 
 Operations than that formerly employed. In recent years 
 there has been some tendency towards a classification of the 
 administrative activities of the state on a functional basis, 
 and the creation of functional departments to carry on these 
 activities. In those few states which have followed this 
 plan there is usually created a department of finance in 
 which is vested inter alia the responsibility for the prepara- 
 tion and enforcement of the budget. 
 
 Appendix B gives an extract from the "Administrative 
 Code " of the state of Ohio, which was approved by the Gov- 
 ernor of the State on April 26, 1921. This extract shows 
 the duties of the Department of Finance as defined in the 
 law. This extract is interesting not only from the view- 
 point of budgetary control, but also from the viewpoint of 
 administrative control in general. 
 
 Budgetary Control for Educational Institutions 
 
 Budgetary procedure will vary somewhat as between 
 the small college and the large university, and it will be 
 slightly different in the endowed institution from that of the 
 institution supported by public funds. 
 
 To indicate briefly the principal considerations Involved 
 in the adoption of a procedure for an educational institution, 
 a state university will serve our purpose. 
 
 Budgetary Control for University 
 
 The president of the university is responsible for the 
 preparation of the annual budget and its submission to the 
 board of trustees for approval. In its preparation he may 
 employ various subordinates. The subordinates which 
 may be employed and the procedure which they may fol- 
 low in performing their tasks may be understood better by 
 considering separately (a) the estimate of income, and (b) 
 the estimate of expenditures.
 
 NON-COMAIERCIAL ENTERPRISES 43 1 
 
 The Estimate of Income 
 
 The income of a state university may be derived from 
 the following sources : 
 
 1 . United States land grants 
 
 2. Student fees 
 
 3. Departmental sales 
 
 4. Gifts 
 
 5. Appropriations 
 
 The income to be derived from United States land grants 
 is not difficult to determine, for it is usually fairly uniform 
 in amount. The income from student fees is dependent on 
 the number of students enrolled. Since the attendance of 
 a state university almost invariably increases each year, it 
 is not difficult to determine the minimum amount of this 
 item of income. It is, of course, impossible to determine 
 the exact amount to be received from this source. 
 
 Departmental sales arise chiefly from sales of the school 
 of agriculture, and the income from this source must be 
 based on an estimate of the quantity of product and services 
 offered for sale and the probable price to be obtained for 
 them. Possible sales of all departments and colleges must 
 be considered. The income from gifts is ordinarily not 
 large and is usually restricted in its uses; so it has little 
 effect on the general budget. 
 
 The income from appropriations cannot be determined 
 until after the action of the legislature. The university 
 ordinarily requests appropriations for sufficient amounts to 
 meet the excess of disbursements over receipts as shown 
 by its budget. In most cases more is requested than is 
 obtained, and this necessitates a reduction in the original 
 estimate of expenditures. 
 
 The business manager or comptroller can best make the 
 estimate of income. He may consult other executives In its 
 preparation. After its completion he will transmit it to the
 
 432 BUDGETARY CONTROL 
 
 president, who will combine it with the estimate of expend- 
 itures to form the budget which he submits to the board of 
 trustees. 
 
 Estimate of Disbursements 
 
 The expenditures of a university may be grouped broadly 
 as follows: 
 
 1. General Administration, including the salaries of "business" 
 
 employees and clerical and stenographic assistants in all de- 
 partments. 
 
 2. Physical Plant Operation and Maintenance 
 
 3. Capital Additions 
 
 4. Teaching and Research 
 
 (a) Library 
 
 (b) Supplies 
 
 (c) Instruction 
 
 General Administrative Expenses 
 
 The estimate of general administrative expense will 
 be prepared by the controller. As a basis for this estimate 
 he will receive an estimate from each department and ad- 
 ministrative unit. The controller will indicate such revi- 
 sions as he thinks are necessary and transmit the combined 
 estimates to his superior officer, which may be the president 
 or the business manager. In any case the president will 
 make such revisions as he thinks are necessary and submit 
 the estimate with his recommendations to the board of 
 trustees. 
 
 Physical Plant Operation and Maintenance 
 
 The superintendent of buildings and grounds will pre- 
 pare the original estimate for expenditures for physical 
 plant operation and maintenance. In its preparation he 
 will be assisted by the purchasing agent, who will indicate 
 the cost of materials and supplies needed by the program.
 
 NON-COMMERCIAL ENTERPRISES 433 
 
 If the university has a plant engineer he may also assist in 
 the preparation of the estimate. 
 
 This estimate will be transmitted to the business man- 
 ager who makes such revisions as he thinks necessary and 
 transfers it to the president, who treats it likewise and sub- 
 mits it to the board of trustees. 
 
 Capital Additions 
 
 The additions to property are usually made as the result 
 of appropriations which are granted for the procurement or 
 construction of specific property. Usually the president 
 presents a building program to the board of trustees, and if 
 it is adopted an attempt is made to secure appropriations 
 for the construction of the buildings called for by the pro- 
 gram. 
 
 In many cases the program covers a period of several 
 years but indicates the buildings which are most urgent. 
 Appropriations may be requested in the order indicated by 
 the program. In presenting the program to the board of 
 trustees and later to the legislature, it is necessary to show 
 estimates of cost. These estimates may be prepared by the 
 university architect in cooperation with the university en- 
 gineer and the purchasing agent. In some cases outside 
 counsel may be employed to make these estimates. 
 
 After appropriations are secured, contracts will be let for 
 construction and the controller and business manager will 
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 Teaching and Research 
 
 The expenditures under this heading may be subdivided 
 to show separately the cost of the following : 
 
 1. Maintenance of library 
 
 2. Supplies and equipment 
 
 3. Instruction 
 
 28
 
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 436 BUDGETARY CONTROL 
 
 The director of the Hbrarles will prepare an estimate of 
 the cost of maintaining the library. He will also make an 
 estimate of the cost of the necessary additions based on the 
 requests of departments. In some cases there is a faculty 
 committee which supervises such expenditures and passes 
 on these requests. In some universities there are vari- 
 ous other committees which pass on various kinds of 
 expenditures. 
 
 After the estimate is prepared it will be transmitted to 
 the president, who will submit it to the board of trustees for 
 approval. 
 
 The estimate of supplies required by each department 
 will be prepared by the head of each department and trans- 
 mitted by him to the business manager, who will trans- 
 mit it to the president, who will transmit it to the board of 
 trustees. 
 
 In the preparation of the estimate of Instruction cost 
 for a university, a procedure similar to the following may 
 be used : 
 
 1. An estimate will be prepared by each department showing the 
 
 salaries recommended for each member thereof. A very 
 useful form for the pre^paration of this estimate is shown in 
 Figure 52. 
 
 2. The budget as prepared by the department will be forwarded by 
 
 the head of the department to the dean of the college of which 
 the department is a part. 
 
 3. The budget as approved by the dean of the college will be trans- 
 
 ferred to the budget committee. This committee may be com- 
 posed of the deans of all the colleges. If the university has a 
 functional organization, it will be composed of the staff ofhcers 
 in the office of the president. The president will be chairman 
 of the committee. 
 
 4. The budget committee will consider carefully the budget of each 
 
 department and of each college. When necessary it may call 
 into conference the heads of departments and deans of the 
 colleges. In the consideration of the separate budgets it will
 
 NON-COMMERCIAL ENTERPRISES 437 
 
 have in mind the budget of the university as a whole, which it 
 will prepare from the separate budgets. 
 
 5. After the budget has been approved by the budget committee, 
 
 it will be transmitted to the president of the university. The 
 president will submit the budget to the board of trustees with 
 such recommendations as he may deem desirable. 
 
 6. If it is desired to make any revisions in the original budget, the 
 
 same procedure will be followed as in the making of the original 
 budget. 
 
 In the departmental salary budget (Figure 52a, b, c), 
 Section I Is useful in that it shows the "class hours" re- 
 quired to carry the desired program. It serves as a basis 
 for estimating the required teaching staff. Column (5) 
 of this section must be equal to column (2) of Section II, 
 and column (2) of Section III. Section II is useful In 
 showing the disposition of instructors* time. If the budget 
 committee studies this section In connection with Section 
 I, it can judge intelligently the claims of departments for 
 additions to staff. Sections III and IV serve as a basis 
 for the preparation of the financial budget. 
 
 Budgetary Procedure 
 
 A definite procedure should be established for the prepa- 
 ration of all the foregoing budgets, so that they will all reach 
 the president at the proper time and he can transmit them 
 to the board of trustees at the same time. 
 
 Summary 
 
 No attempt has been made In this chapter to discuss a 
 complete procedure for the preparation and execution of 
 the budget of a non-commercial organization. To do this 
 would require a separate volume. Neither is it intended 
 to offer the procedures briefly outlined in this chapter as 
 those which can be adopted in toto by any particular or- 
 ganization, although the procedures given are adapted
 
 438 BUDGETARY CONTROL 
 
 from those with which the author is famiUar. It is in- 
 tended that this chapter be only suggestive of methods 
 employed by non-commercial enterprises in seeking ad- 
 ministrative control through the operation of a budgetary 
 system.
 
 APPENDIX A 
 
 THE BUDGET AND ACCOUNTING ACT 
 
 Following is the law, approved by the President June 
 lo, 192 1, which establishes budgetary control for the fed- 
 eral government. 
 
 An Act to provide a national budget system and an independent audit 
 of Government accounts, and for other purposes. 
 
 Title I — Definitions 
 
 Section i. This Act may be cited as the "Budget and Accounting 
 Act, 1921." 
 
 Sec. 2. When used in this Act — 
 
 The terms "department and establishment" and "department or estab- 
 lishment" mean any executive department, independent commission, 
 board, bureau, ofifice, agency, or other establishment of the Government, 
 including the municipal government of the District of Columbia, but do not 
 include the Legislative Branch of the Government or the Supreme Court 
 of the United States; 
 
 The term "the Budget" means the Budget required by section 201 to 
 be transmitted to Congress ; 
 
 The term "Bureau" means the Bureau of the Budget; 
 
 The term "Director" means the Director of the Bureau of the Budget; 
 and 
 
 The term "Assistant Director" means the Assistant Director of the 
 Bureau of the Budget. 
 
 Title II — The Budget 
 
 Sec. 201. The President shall transmit to Congress on the first day of 
 each regular session, the Budget, which shall set forth in summary and in 
 detail : 
 
 (a) Estimates of the expenditures and appropriations necessary- in his 
 judgment for the support of the Government for the ensuing fiscal year; 
 except that the estimates for such year for the Legislative Branch of the 
 Government and the Supreme Court of the United States shall be trans- 
 
 439
 
 440 APPENDIX 
 
 mitted to the President on or before October 1 5th of each year, and shall 
 be included by him in the Budget without revision; 
 
 (b) His estimates of the receipts of the Government during the ensuing 
 fiscal year, under (i) laws existing at the time the Budget is transmitted 
 and also (2) under the revenue proposals, if any, contained in the Budget; 
 
 (c) The expenditures and receipts of the Government dijring the last 
 completed fiscal year; 
 
 (d) Estimates of the expenditures and receipts of the Government dur- 
 ing the fiscal year in progress; 
 
 (e) The amount of annual, permanent, or other appropriations, includ- 
 ing balances of appropriations for prior fiscal years, available for expendi- 
 ture during the fiscal year in progress, as of November i of such year; 
 
 (f) Balanced statements of (i) the condition of the Treasury at the end 
 of the last completed fiscal year, (2) the estimated condition of the Treas- 
 ury at the end of the fiscal year in progress, and (3) the estimated condi- 
 tion of the Treasury at the end of the ensuing fiscal year if the financial 
 proposals contained in the Budget are adopted; 
 
 (g) All essential facts regarding the bonded and other indebtedness of 
 the Government; and 
 
 (h) Such other financial statements and data as in his opinion are 
 necessary or desirable in order to make known in all practicable detail the 
 financial condition of the Government. 
 
 Sec. 202. (a) If the estimated receipts for the ensuing fiscal year con- 
 tained in the Budget, on the basis of laws existing at the time the Budget 
 is transmitted, plus the estimated amounts in the Treasury at the close of 
 the fiscal year in progress, available for expenditure in the ensuing fiscal 
 year, are less than the estimated expenditures for the ensuing fiscal year 
 contained in the Budget, the President in the Budget shall make recom- 
 mendations to Congress for new taxes, loans, or other appropriate action 
 to meet the estimated deficiency. 
 
 (b) If the aggregate of such estimated receipts and such estimated 
 amounts in the Treasury is greater than such estimated expenditures for 
 the ensuing fiscal year, he shall make such recommendations as in his opin- 
 ion the public interests require. 
 
 Sec. 203. (a) The President from time to time may transmit to Con- 
 gress supplemental or deficiency estimates for such api)ropriations or ex- 
 penditures as in his judgment (i) are necessary on account of laws enacted 
 after the transmission of the Budget, or (2) are otherwise in the public 
 interest. He shall accompany such estimates with a statement of the 
 reasons therefor, including the reasons for their omission from the Budget.
 
 THE BUDGET AND ACCOUNTING ACT 44I 
 
 (b) Whenever such supplemental or deficiency estimates reach an 
 aggregate which, if they had been contained in the Budget, would have 
 required the President to make a recommendation under subdivision (a) of 
 section 202, he shall thereupon make such recommendation. 
 
 Sec. 204. (a) Except as otherwise provided in this Act, the contents, 
 order, and arrangement of the estimates of appropriations and the state- 
 ments of expenditures and estimated expenditures contained in the Budget 
 or transmitted under section 203, and the notes and other data submitted 
 therewith, shall conform to the requirements of existing law. 
 
 (b) Estimates for lump-sum appropriations contained in the Budget 
 or transmitted under section 203 shall be accompanied by statements show- 
 ing, in such detail and form as may be necessary to inform Congress, the 
 manner of expenditure of such appropriations and of the corresponding 
 appropriations for the fiscal year in progress and the last completed fiscal 
 year. Such statements shall be in lieu of statements of like character now 
 required by law. 
 
 Sec. 205. The President, in addition to the Budget, shall transmit to 
 Congress on the first Monday in December, 192 1, for the service of the 
 fiscal year ending June 30, 1923, only, an alternative budget, which shall be 
 prepared in such form and amounts and according to such system of classi- 
 fication and itemization as is, in his opinion, most appropriate, with such 
 explanatory notes and tables as may be necessary to show where the 
 various items embraced in the Budget are contained in such alternative 
 budget. 
 
 Sec. 206. No estimate or request for an appropriation and no request 
 for an increase in an item of any such estimate or request, and no recommen- 
 dation as to how the revenue needs of the Government should be met, shall 
 be submitted to Congress or any committee thereof by any officer or em- 
 ployee of any department or establishment, imless at the request of either 
 House of Congress. 
 
 Sec. 207. There is hereby created in the Treasury Department a 
 Bureau to be known as the Bureau of the Budget. There shall be in the 
 Bureau a Director and an Assistant Director, who shall be appointed by the 
 President and receive salaries of $10,000 and $7,500 a year, respectively. 
 The Assistant Director shall perform such duties as the Director may desig- 
 nate, and during the absence or incapacity of the Director or during a va- 
 cancy in the office of Director he shall act as Director. The Bureau, under 
 such rules and regulations as the President may prescribe, shall prepare for 
 him the Budget, the alternative Budget, and any supplemental or deficiency 
 estimates, and to this end shall have authority to assemble, correlate, re-
 
 442 APPENDIX 
 
 vise, reduce, or increase the estimates of the several departments or estab- 
 lishments. 
 
 Sec. 208. (a) The Director, under such rules and regulations as the 
 President may prescribe, shall appoint and fix the compensation of attor- 
 neys and other employees and make expenditures for rent in the District 
 of Columbia printing, binding, telegrams, telephone service, law books, 
 books of reference, periodicals, stationery, furniture, office equipment, 
 other supplies, and necessary expenses of the office, within the appropria- 
 tions made therefor. 
 
 (b) No person appointed by the Director shall be paid a salary at a 
 rate in excess of $6,000 a year, and not more than four persons so appointed 
 shall be paid a salary at a rate in excess of $5,000 a year. 
 
 (c) All employees in the Bureau whose compensation is at a rate of 
 $5,000 a year or less shall be appointed in accordance with the civil-service 
 laws and regulations. 
 
 (d) The provisions of law prohibiting the transfer of employees of execu- 
 tive departments and independent establishments until after service of 
 three years shall not apply during the fiscal years ending June 30, 1921, and 
 June 30, 1922, to the transfer of employees to the Bureau. 
 
 (e) The Bureau shall not be construed to be a bureau or office created 
 since January I, 1916, so as to deprive employees therein of the additional 
 compensation allowed civilian employees under the provisions of section 6 
 of the Legislative, Executive, and Judicial Appropriation Act for the 
 fiscal years ending June 30, 1921, and June 30, 1922, if otherwise entitled 
 thereto. 
 
 Sec. 209. The Bureau, when directed by the President, shall make a 
 detailed study of the departments and establishments for the purpose of 
 enabling the President to determine what changes (with a view of securing 
 greater economy and efficiency in the conduct of the public service) should 
 be made in (i) the existing organization, activities, and methods of busi- 
 ness of such departments or establishments, (2) the appropriations there- 
 for, (3) the assignment of particular activities to particular services, or 
 (4) the regrouping of services. The results of such study shall be embodied 
 in a report or reports to the President, who may transmit to Congress such 
 report or reports or any part thereof with hie recommendations on the mat- 
 ters covered thereby. 
 
 Sec. 210 The Bureau shall prepare for the President a codification of 
 all laws or parts of laws relating to the preparation and transmission to 
 Congress of statements of receipts and expenditures of the Government and
 
 THE BUDGET AND ACCOUNTING ACT 443 
 
 of estJmates of appropriations. The President shall transmit the same to 
 Congress on or before the first Monday in December, 1921, with a recom- 
 mendation as to the changes which, in his opinion, should be made in such 
 laws or parts of laws. 
 
 Sec. 211. The powers and duties relating to the compiling of esti- 
 mates now conferred and imposed upon the Division of Bookkeeping and 
 Warrants of the office of the Secretary of the Treasury are transferred 
 to the Bureau. 
 
 Sec. 212. The Bureau shall, at the request of any committee of either 
 House of Congress having jurisdiction over revenue or appropriations, 
 furnish the committee such aid and information as it may request. 
 
 Sec. 213. Under such regulations as the President may prescribe, (i) 
 every department and establishment shall furnish to the Bureau such in- 
 formation as the Bureau may from time to time require, and (2) the Di- 
 rector and the Assistant Director, or any employee of the Bureau when 
 duly authorized, shall, for the purpose of securing such information, have 
 access to, and the right to examine, any books, documents, papers, or rec- 
 ords of any such department or establishment. 
 
 Sec. 214. (a) The head of each department and establishment shall 
 designate an official thereof as budget officer therefor, who, in each year 
 under his direction and on or before a date fixed by him, shall prepare the 
 departmental estimates. 
 
 (b) Such budget officer shall also prepare, under the direction of the 
 head of the department or establishment, such supplemental and deficiency 
 estimates as may be required for its work. 
 
 Sec. 2 1 5. The head of each department and establishment shall revise 
 the departmental estimates and submit them to the Bureau on or before 
 September 15 of each year. In case of his failure so to do, the President 
 shall cause to be prepared such estimates and data as are necessary to 
 enable him to include in the Budget estimates and statements in respect 
 to the work of such department or establishment. 
 
 Sec. 216. The departmental estimates and any supplemental or de- 
 ficiency estimates submitted to the Bureau by the head of any department 
 or establishment shall be prepared and submitted in such form, manner, 
 and detail as the President may prescribe. 
 
 Sec. 217. For expenses of the establishment and maintenance of the 
 Bureau there is appropriated, out of any money in the Treasury not other- 
 wise appropriated, the sum of $225,000, to continue available during the 
 fiscal year ending June 30, 1922.
 
 444 APPENDIX 
 
 Title III — General Accounting Office 
 
 Sec. 301. There is created an establishment of the Government to be 
 known as the General Accounting Office, which shall be independent of the 
 executive departments and under the control and direction of the Comp- 
 troller General of the United States. The offices of Comptroller of the 
 Treasury and Assistant Comptroller of the Treasury are abolished, to take 
 efifect July i, 1921. All other offiicers and employees of the office of the 
 Comptroller of the Treasury shall become officers and employees in the 
 General Accounting Office at their grades and salaries on July 1 , 192 1 , and 
 all books, records, documents, papers, furniture, office equipment and other 
 property of the office of the Comptroller of the Treasury shall become the 
 property of the General Accounting Office. The Comptroller General is 
 authorized to adopt a seal for the General Accounting Office. 
 
 Sec. 302. There shall be in the General Accounting Office a Comp- 
 troller General of the United States and an Assistant Comptroller General 
 of the United States, who shall be appointed by the President with the 
 advice and consent of the Senate, and shall receive salaries of $10,000 and 
 $7,500 a year, respectively. The Assistant Comptroller General shall per- 
 form such duties as may be assigned to him by the Comptroller General, 
 and during the absence or incapacity of the Comptroller General, or during 
 a vacancy in that office, shall act as Comptroller General. 
 
 Sec. 303. Except as hereinafter provided in this section, the Comp- 
 troller General and the Assistant Comptroller General shall hold office for 
 fifteen years. The Comptroller General shall not be eligible for reappoint- 
 ment. The Comptroller General or the Assistant Comptroller General 
 may be removed at any time by joint resolution of Congress after notice 
 and hearing, when, in the judgment of Congress, the Comptroller General 
 or Assistant Comptroller General has become permanently incapacitated or 
 has been inefficient, or guilty of neglect of duty, or of malfeasance in office, 
 or of any felony or conduct involving moral turpitude, and for no other 
 cause and in no other manner except by impeachment. Any Comptroller 
 General or Assistant Comptroller General removed in the manner herein 
 provided shall be ineligible for reappointment to that office. When a 
 Comptroller General or Assistant Comptroller General attains the age of 
 seventy years, he shall be retired from his office. 
 
 Sec. 304. All powers and duties now conferred or imposed by law 
 upon the Comptroller of the Treasury or the six auditors of the Treasury 
 Department, and the duties of the Division of Bookkeeping and Warrants 
 of the Office of the Secretary of the Treasury relating to keeping the per-
 
 THE BUDGET AND ACCOUNTING ACT 445 
 
 sonal ledger accounts of disbursing and collecting officers, shall, so far as 
 not inconsistent with this Act, be vested in and imposed upon the General 
 Accounting Office and be exercised without direction from any other officer. 
 The balances certified by the Comptroller General shall be final and con- 
 clusive upon the executive branch of the Go\ernment. The revision by 
 the Comptroller General of settlements made by the six auditors shall be 
 discontinued, except as to settlements made before July i, 192 1. 
 
 The administrative examination of the accounts and vouchers of the 
 Postal Ser\'ice now imposed by law upon the Auditor for the Post Office 
 Department shall be performed on and after July I, 192 1, by a bureau in 
 the Post Office Department to be known as the Bureau of Accounts, which 
 is hereby established for that purpose. The Bureau of Accounts shall be 
 under the direction of a Comptroller, who shall be appointed by the Presi- 
 dent with the advice and consent of the Senate, and shall recei\e a salary of 
 $5,000 a year. The Comptroller shall perform the administrative duties 
 now performed by the Auditor for the Post Office Department and such 
 other duties in relation thereto as the Postmaster General may direct. The 
 appropriation of $5,000 for the salary of the Auditor for the Post Office 
 Department for the fiscal year 1922 is transferred and made available for 
 the salary of the Comptroller, Bureau of Accounts, Post Office Department. 
 The officers and employees of the Office of the Auditor for the Post Office 
 Department engaged in the administrative examination of accounts shall 
 become officers and employees of the Bureau of Accounts at their grades and 
 salaries on July I, 1921. The appropriations for salaries and for contingent 
 and miscellaneous expenses and tabulating equipment for such office for 
 the fiscal year 1922, and all books, records, documents, papers, furniture, 
 office equipment, and other property shall be apportioned between, trans- 
 ferred to, and made available for the Bureau of Accounts and the General 
 Accounting Office, respectively, on the basis of duties transferred. 
 
 Sec. 305. Section 236 of the Revised Statutes is amended to read as 
 follows: 
 
 "Sec. 236. All claims and demands whatever by the Government of 
 the United States or against it, and all accounts whatever in which the 
 Government of the United States is concerned, either as debtor or creditor, 
 shall be settled and adjusted in the General Accounting Office." 
 
 Sec. 306. All laws relating generally to the administration of the de- 
 partments and establishments shall, so far as applicable, govern the General 
 Accounting Office. Copies of any books, records, papers, or documents, 
 and transcripts from the books and proceedings of the General Accounting 
 Office, when certified by the Comptroller General or the Assistant Comp-
 
 446 APPENDIX 
 
 troller General under its seal, shall be admitted as evidence with the same 
 effect as the copies and transcripts referred to in sections 882 and 886 of the 
 Revised Statutes. 
 
 Sec. 307. The Comptroller General may provide for the payment of 
 accounts or claims adjusted and settled in the General Accounting Office, 
 through disbursing officers of the several departments and establishments, 
 instead of by warrant. 
 
 Sec. 308. The duties now appertaining to the Division of Public 
 Moneys of the Office of the Secretary of the Treasury, so far as they relate 
 to the covering of revenues and repayments into the Treasury, the issue of 
 duplicate checks and warrants, and the certification of outstanding lia- 
 bilities for payment, shall be performed by the Division of Bookkeeping 
 and Warrants of the Office of the Secretary of the Treasury. 
 
 Sec. 309. The Comptroller General shall prescribe the forms, sys- 
 tems, and procedure for administrative appropriation and fund accounting 
 in the several departments and establishments, and for the administrative 
 examination of fiscal officers' accountsand claims against the United States. 
 
 Sec. 310. The offices of the six auditors shall be abolished, to take 
 effect July I, 1921. All other officers and employees of these offices except 
 as otherwise provided herein shall become officers and employees of the 
 General Accounting Office at their grades and salaries on July I, 1 921. All 
 books, records, documents, papers, furniture, office equipment, and other 
 property of these offices, and of the Division of Bookkeeping and War- 
 rants, so far as they relate to the work of such division transferred by sec- 
 tion 304, shall become the property of the General Accounting Office. The 
 General Accounting Office shall occupy temporarily the rooms now occu- 
 pied by the office of the Comptroller of the Treasury and the six auditors. 
 
 Sec, 311. (a) The Comptroller General shall appoint, remove, 
 and fix the compensation of such attorneys and other employees in the 
 General Accounting Office as may from time to time be provided for by 
 law. 
 
 (b) All such appointments, except to positions carrying a salary at a 
 rate of more than $5,000 a year, shall be made in accordance with the civil- 
 service laws and regulations. 
 
 (c) No person appointed by the Comptroller General shall be paid a 
 salary at a rate of more than $6,000 a year, and not more than four persons 
 shall be paid a salary at a rate of more than $5,000 a year. 
 
 (d) All officers and employees of the General Accounting Office, 
 whether transferred thereto or appointed by the Comptroller General, 
 shall perform such duties as may be assigned to them by him.
 
 THE BUDGET AND ACCOUNTING ACT 447 
 
 (e) All official acts performed by such officers or employees specially 
 designated therefor by the Comptroller General shall have the same force 
 and effect as though performed by the Comptroller General in person. 
 
 (f) The Comptroller General shall make such rules and regulations as 
 may be necessary for carrying on the work of the General Accounting 
 Office, including rules and regulations concerning the admission of 
 attorneys to practice before such office. 
 
 Sec. 312. (a) The Comptroller General shall investigate, at the seat 
 of government or elsewhere, all matters relating to the receipt, disburse- 
 ment, and application of public funds, and shall make to the President 
 when requested by him, and to Congress at the beginning of each regular 
 session, a report in writing of the work of the General Accounting Office, 
 containing recommendations concerning the legislation he may deem neces- 
 sary to facilitate the prompt and accurate rendition and settlement of ac- 
 counts and concerning such other matters relating to the receipt, disburse- 
 ment, and application of public funds as he may think advisable. In such 
 regular report, or in special reports at any time when Congress is in session, 
 he shall make recommendations looking to greater economy or efficiency in 
 public expenditures. 
 
 (b) He shall make such investigations and reports as shall be ordered 
 by either House of Congress or by any committee of either House having 
 jurisdiction over revenue, appropriations, or expenditures. The Comp- 
 troller General shall also, at the request of any such committee, direct 
 assistants from his office to furnish the committee such aid and informa- 
 tion as it may request. 
 
 (c) The Comptroller General shall specially report to Congress every 
 expenditure or contract made by any department or establishment in any 
 year in violation of law. 
 
 (d) He shall submit to Congress reports upon the adequacy and effec- 
 tiveness of the administrative examination of accounts and claims in the 
 respective departments and establishments and upon the adequacy and 
 effectiveness of departmental inspection of the offices and accounts of fiscal 
 officers. 
 
 (e) He shall furnish such information relating to expenditures and ac- 
 counting to the Bureau of the Budget as it may request from time to 
 time. 
 
 Sec, 313. All departments and establishments shall furnish to the 
 Comptroller General such information regarding the powers, duties, activi- 
 ties, organization, financial transactions, and methods of business of their 
 respective offices as he may from time to time require of them ; and the
 
 448 APPENDIX 
 
 Comptroller General, or any of his assistants or employees, when duly au- 
 thorized by him, shall, for the purpose of securing such information, have 
 access to and the right to examine any books, documents, papers, or records 
 of any such department or establishment. The authority contained in this 
 section shall not be applicable to expenditures made under the provisions 
 of section 291 of the Revised Statutes. 
 
 Sec. 314. The Civil Service Commission shall establish an eligible 
 register for accountants for the General Accounting Office, and the exami- 
 nations of applicants for entrance upon such register shall be based upon 
 questions approved by the Comptroller General. 
 
 Sec. 315. (a) All appropriations for the fiscal year ending June 30, 
 l922,for the offices of the Comptroller of the Treasury and the six auditors, 
 are transferred to and made available for the General Accounting Office, 
 except as otherwise provided herein. 
 
 (b) During such fiscal year the Comptroller General, within the limit 
 of the total appropriations a\ailable for the General Accounting Office, may 
 make such changes in the number and compensation of officers and em- 
 ployees appointed by him or transferred to the General Accounting Office 
 under this Act as may be necessary. 
 
 (c) There shall also be transferred to the General Accounting Office 
 such portions of the appropriations for rent and contingent and miscella- 
 neous expenses, including allotments for printing and binding, made for the 
 Treasury Department for the fiscal year ending June 30, 1922, as are equal 
 to the amounts expended from similar appropriations during the fiscal 
 year ending June 30, 192 1, by the Treasury Department for the offices of 
 the Comptroller of the Treasury and the six auditors. 
 
 (d) During the fiscal year ending June 30, 1922, the appropriations and 
 portions of appropriations referred to in this section shall be available for 
 salaries and expenses of the General Accounting Office, including pa>'ment 
 for rent in the District of Columbia, traveling expenses, the purchase and 
 exchange of law books, books of reference, and for all necessary miscella- 
 neous and contingent expenses. 
 
 Sec. 316. The General Accounting Office and the Bureau of Accounts 
 shall not be construed to be a bureau or office created since January 1,1916, 
 so as to deprive employees therein of the additional compensation allowed 
 civilian employees under the provisions of section 6 of the Legislative, 
 Executive, and Judicial Appropriation Act for the fiscal year ending June 
 30, 1922, if otherwise entitled thereto. 
 
 Sec. 317, The provisions of law prohibiting the transfer of employees 
 of executive departments and independent establishments until after serv-
 
 THE BUDGET AND ACCOUNTING ACT 449 
 
 ice of three years shall not apply during the fiscal year ending June 30, 
 1922, to the transfer of employees to the General Accounting Office. 
 
 Sec. 318. This Act shall take effect upon its approval by the Presi- 
 dent: Provided, That sections 301 to 317, inclusive, relating to the General 
 Accounting Office and the Bureau of Accounts, shall take effect July I, 
 1921. 
 
 Approved, June 10, 1921. 
 
 29
 
 APPENDIX B 
 
 ADMINISTRATIVE CODE FOR THE STATE 
 OF OHIO 
 
 Department of Finance 
 
 Sec. 154-28. The department of finance shall have power to exercise 
 control over the financial transactions of all departments, offices and insti- 
 tutions, except the judicial and legislative departments, as follows: 
 
 (1) By prescribing and requiring the installation of a tmiform system of 
 accounting and reporting, as to accruals of revenue and expenditures neces- 
 sary in certifying that funds are available and adequate to meet contracts 
 and obligations. 
 
 (2) By prescribing and requiring uniform order and invoice forms and 
 forms for financial reports and statements, and by requiring financial re- 
 ports and statements. 
 
 (3) By requiring itemized statements of expenditures proposed for any 
 specified future period to be submitted to the department, and by approv- 
 ing or disapproving all or any part of such proposed expenditures. 
 
 (4) By requiring orders, invoices, claims, vouchers or payrolls to be 
 submitted to the department, where such submission is prescribed by law 
 or where the governor shall deem such submission necessary, and by ap- 
 proving or disapproving such orders, invoices, claims, vouchers or payrolls. 
 
 (5) By supervising and examining accounts, the expenditures and re- 
 ceipts of public money and the disposition and use of public property, in 
 connection with the administration of the state budget. 
 
 (6) By prescribing the manner of certifying that funds are available 
 and adequate to meet contracts and obligations. 
 
 (7) By prescribing uniform rules governing forms of specifications, 
 advertisements for proposals, opening of bids, making of awards and con- 
 tracts, governing purchases of supplies and performance of work. 
 
 (8) By reporting to the attorney general for such action, civil or crimi- 
 nal, as the attorney general may deem necessary all facts showing illegal 
 expenditures of the public money or misappropriation of public property. 
 
 (9) By prescribing rules and regulations for carrying into effect any or 
 all of the other powers herein granted. 
 
 450
 
 ADMINISTRATIVE CODE FOR OHIO 45 1 
 
 No provision of law authorizing or requiring any department, office, or 
 institution to keep accrual, encumbrance or cost accounts or to exercise fiscal 
 management and control over or with respect to any institution, activity 
 or function of the state shall be so construed as to exclude such department, 
 office or institution from the control of the department of finance herein 
 specified, but the power of the department of finance herein provided for 
 shall apply and relate to such accounts and reports of all such departments, 
 offices and institutions. 
 
 Sec. 154-29. As used in section 154-28 of the General Code: 
 
 "Order" means a copy of a contract or a statement of the nature of a 
 contemplated expenditure, a description of the property or commodity to 
 be purchased or service to be performed, other than services of officers 
 and regular employes of the state, and per diem of the national guard, and 
 the total sum of the expenditures to be made therefor if the same is fixed 
 and ascertained, otherwise the estimated sum thereof. 
 
 "Invoice" means and includes estimates or contracts, or a statement 
 showing delivery of the commodity or performance of the service described 
 in the order, and the date of the purchase or rendering of the service, or a 
 detailed statement of the things done, material supplied or labor furnished, 
 and the sum due pursuant to the contract or obligation. 
 
 "Voucher" means the order and invoice as herein defined ; and where- 
 ever in the General Code the word "voucher" is used it shall be held to 
 have the meaning herein defined. 
 
 " Public money " shall have the meaning defined in section two hundred 
 and eighty-six of the General Code. 
 
 All orders and invoices shall specify the appropriation account from 
 which they are payable. 
 
 Sec. 154-30. If any requirement of the department of finance re- 
 specting the submission of statements of proposed expenditures, or orders, 
 invoices, claims, vouchers or payrolls is not complied with, or if any state- 
 ment of proposed expenditures, or any order, in\oice, claim, voucher or 
 payroll is submitted to and disapproved in whole or in part by the depart- 
 ment of finance, the department shall have authority to notify the auditor 
 of state thereof, and such auditor shall not issue any warrants on the 
 treasury in payment of such expenditure, claim or voucher. 
 
 The department of finance may certify to the auditor of state any order 
 or statement of proposed expenditures approved by it, and direct the proper 
 appropriation account or accounts to be charged therewith, or with the 
 estimated amount thereof, in which event the sinn so certified shall be a 
 prior charge on such appropriation account or accounts, available only for
 
 452 APPENDIX 
 
 the payment of invoices issued against such order, or expenditures within 
 such statement, until the final invoice therefor is filed with the auditor of 
 state, or until the department of finance shall certify that such order and 
 the obligation recited therein have ceased to be an obligation against the 
 state, or such proposed expenditures have been made or abandoned in whole 
 or in part. 
 
 Whenever any commodity or service included in such order or statement 
 so certified is delivered or performed, or whenever any payment is due upon 
 any contract or obligation covered thereby, an invoice shall be filed with 
 the auditor of state therefor. The total of all invoices issued against any 
 such order shall not exceed the sum of such order or the estimated sum 
 appearing on such order. 
 
 Sec. 154-31. The department of finance shall : 
 
 (1) Prepare and report to the governor, when requested, estimates of 
 the income and revenues of the state, and devise new fomis of revenue for 
 the state; 
 
 (2) Prepare and submit to the governor biennially, not later than the 
 first day of January preceding the convening of the general assembly, state 
 budget estimates; 
 
 (3) Publish, from time to time, for the information of the several de- 
 partments and of the general public, bulletins of the work of the depart- 
 ment; 
 
 (4) Investigate duplication of work of the departments and the effi- 
 ciency of the organization and administration of departments, and formu- 
 late plans for the further coordination of departments. 
 
 Sec. 154-32. In the exercise of any of the powers mentioned in section 
 154-28 of the General Code, the department of finance shall have the power 
 to compel the attendance and testimony of witnesses, to administer oaths 
 and to examine such persons as it may deem necessary, and compel the 
 production of books and papers. The orders and subpoenas issued by the 
 department in pursuance of the authority in it vested by this section may 
 be enforced, on the application of the director of finance, by any court of 
 common pleas by proceedings in contempt therein as provided by law. 
 
 Sec. 154-33. In the preparation of state budget estimates the direc- 
 tor of finance shall, not later than the fifteenth day of September in the 
 year preceding the regular session of the general assembly, distribute to all 
 departments, oifices and institutions of the state government, the blanks 
 necessary for the preparation of budget estimates, which shall be in such 
 form as shall be prescribed by the director of finance, to procure, among 
 other things, information as to the revenues and expenditures for the two
 
 ADMINISTRATIVE CODE FOR OHIO 453 
 
 preceding fiscal years, and appropriations made by the previous general 
 assembly, the expenditures therefrom, encumbrances thereon, and the 
 amounts unencumbered and unexpended ; an estimate of the revenues and 
 expenditures of the current fiscal year, and an estimate of the revenues and 
 amounts needed for the respective departments, ofhces, and institutions 
 for the two succeeding fiscal years for which appropriations have to be 
 made. Each department, office and institution shall, not later than the 
 first day of November, file in the ofifice of the director of finance its esti- 
 mate of receipts and expenditures for the succeeding biennium. Such 
 estimate shall be accompanied by a statement in waiting giving facts and 
 explanations of reasons for each item of expenditure requested. The 
 director of finance may in his discretion make further inquiry and in- 
 vestigation as to any item desired. He may approve, disapprove or alter 
 the estimates, excepting those for the legislative and judicial departments 
 of the state government. Such estimates as revised by him shall con- 
 stitute the state budget estimates which the department of finance is 
 required by this chapter to submit to the governor. 
 
 Sec. 154-34. Thegovernorshall,assoonaspossibleandnot later than 
 four weeks after the organization of the general assembly, submit a pro- 
 posed state budget in the form of an appropriation bill or bills and a state- 
 ment showing the amounts recommended by him to be appropriated to the 
 respective departments, offices and institutions and for all other public pur- 
 poses, the estimated revenues from taxation, the estimated revenues from 
 sources other than taxation, and an estimate of the amount required to be 
 raised by taxation. 
 
 Sec. 154-35. Each department, office and institution of the state 
 government, other than the legislative and judicial departments thereof, 
 shall, before any appropriation to such department becomes available for 
 expenditure, prepare and submit to the department of finance an estimate 
 of the amount required for each specific purpose within the appropriation, 
 or items of appropriation, as made by the general assembly, and accounts 
 shall be kept and reports rendered to the department of finance showing 
 the expenditure for each such purpose. The department of finance shall 
 exercise such control over items of appropriation accounts created by the 
 general assembly, with respect to changes and adjustments therein within 
 the general scope of a specific appropriation, as may be committed to it by 
 any act making appropriations, and shall in general exercise such control 
 over the expenditure of appropriations, in addition to that specifically pro- 
 vided for in this chapter, as may be so committed to it. 
 
 Sec. 154-36. The papers, statements and copies thereof required by
 
 454 APPENDIX 
 
 section 270-6 of the General Code to be filed in the office of the president of 
 the "Sundry Claims Board" therein provided for shall be hereafter de- 
 livered to and filed in the office of the department of finance, and such de- 
 partment shall discharge all the duties provided for in said section of the 
 General Code with respect to the filing, delivery and preservation of such 
 papers, statements and copies thereof. The director of finance shall in- 
 clude all claims allowed by the "Sundry Claims Board " in the state budget 
 estimates. 
 
 Sec. 154-37. The department of finance shall succeed to and exercise 
 all powers and perform all duties vested by sections one thousand eight 
 hundred and forty-six and one thousand eight hundred and forty-seven of 
 the General Code jointly in the secretary of state and the auditor of state, 
 which said powers are hereby transferred to and vested in said department. 
 
 The department of finance shall succeed to and exercise all powers of the 
 state purchasing agent in the office of the secretary of state, and the secre- 
 tary of state and auditor of state with respect to the purchase of supplies 
 and equipment required for the use and maintenance of state officers, 
 boards and commissions, the commissioners of public printing and the 
 supervisor of public printing, and shall exercise all powers and perform all 
 duties as to purchases heretofore vested in the Ohio board of administra- 
 tion under the provisions of section one thousand eight hundred and forty- 
 nine of the General Code. Wherever powers are conferred or duties im- 
 posed upon any such departments, offices or officers with respect to the 
 matters and things herein mentioned, such powers and duties shall be con- 
 strued as vested in the department of finance. In addition to the powers so 
 transferred to it, the department of finance shall have power to purchase 
 all other supplies, material and equipment for the use of the state depart- 
 ments, offices and institutions, excepting the military department and in- 
 stitutions, administered by boards of trustees, and, excepting as to such 
 department and institutions, to make contracts for and superintend the 
 telephone and telegrai)h ser\ice for the state departments, offices and in- 
 stitutions. So far as practicable, the department of finance shall make all 
 purchases under authority of this chapter from the department of public 
 welfare in the exercise of the functions of said department in the manage- 
 ment of state institutions. 
 
 Sec. 1 54-38. The tax commission of Ohio shall be a part of the depart- 
 ment of finance for administrative purposes, in the following respects: The 
 director of finance shall be ex officio the secretary of said commission, shall 
 succeed to and perfomi all of the duties of the secretary of said commission, 
 and shall exercise all powers of said secretary as provided by law; but such
 
 ADMINISTRATIVE CODE FOR OHIO 455 
 
 director may designate any employe of the department as acting secretary 
 to perform the duties and exercise the powers of secretary of the commis- 
 sion. All clerical and other agencies for the execution of the powers and 
 duties vested in said tax commission of Ohio shall be deemed to be in the 
 department of finance, and the employes thereof shall be deemed to be 
 employes in said department and shall have and exercise all authority 
 vested by law in the employes of such commission. But the tax com- 
 mission of Ohio shall have direct supervision and control over, and power of 
 appointment and removal of, such employes whose positions shall be desig- 
 nated by the governor as fully subject to the authority of such commission.
 
 APPENDIX C 
 A TRUST COMPANY BUDGET SYSTEM 
 
 By Stuart H. Patterson, Comptroller of the 
 Guaranty Trust Company of New York 
 
 The Guaranty Trust Company has received a number of requests for an 
 explanation of its budget system for expenses. Thinking that possibly 
 other of its correspondents might desire to utilize this method, the following 
 brief description of the system has been prepared. 
 
 The first step in this matter is to make a careful classification of the va- 
 rious expenses, so that it will be possible to locate readily any differences 
 between the budget allowance and the actual expenditures. The second 
 step is to estimate carefully the probable expenditure under each classifi- 
 cation, by months, for the coming year; and after the estimates have been 
 duly approved by the Executive Officers, to distribute them by months on 
 an Appropriation Sheet, the notations being made thereon in pencil. 
 
 The purpose of preparing the Appropriation Sheet in pencil is to permit 
 changes to be made from time to time during the year, either because of 
 additional appropriations, or because some appropriation, say, for adver- 
 tising, may not be expended until a later month than was anticipated, and 
 consequently the appropriation should be carried along until such time as 
 the expenditure actually takes place. The amounts should be distributed 
 as well as possible over the probable months the expenditures will take 
 place, with a notation on the budget to "carry along" such item, that is, 
 to carry it along as an appropriation until required. As soon as a month 
 is closed, the appropriations applicable to that month are inserted in ink. 
 
 Each month the appropriations are carried from the Appropriation 
 Sheet to the Expense Statements, and entered opposite the actual 
 expenditures under each classification. 
 
 The Expense Statements are divided into a Monthly Statement and a 
 Cumulative Statement from January i to the end of the month just closed. 
 The Cumulative Statement carries a memorandum column of the budget 
 for the entire year for each classification. With this arrangement the state= 
 ment shows at all times the amount each department or classification may 
 spend, and, should the budget exceed its limit during one month, the lee- 
 way that exists for making up tlie deficiency i:i some other month. 
 
 456
 
 A TRUST COMPANY BUDGET SYSTEM 457 
 
 The budget system is really very simple, but it is effective in indicating 
 the probable expenses for a year before the expenditures are incurred, in- 
 stead of giving an unsatisfactory review of them after the year is closed. 
 This system also promotes economies which might otherwise be overlooked. 
 
 A copy of the instructions regarding the 1919 Budget, which were sent 
 to Department Heads, follows: 
 
 1919 Budget 
 It is desired that the budget for conducting the business for the year 1919 
 shall be in the hands of the Managing Committee by December i, 191 8, and 
 the Officers in charge of all departments are requested to have the figures 
 carefully prepared by that date and delivered to Mr. 
 
 In preparing the budget each department shall show separately by 
 months the amounts of salaries, suppers, postage and stationery, and other 
 items. They shall also show the details which go to make up the "other 
 items. " 
 
 An illustration of the budget form is as follows: 
 
 Budget Statement of Department 
 
 FOR Year 191 9 
 
 Other 
 
 Salaries Suppers Postage Stationery Items 
 
 January $1,950 $ 5.00 $40.00 $80.00 $35.00 
 
 February l,950 5 00 40.00 80.00 35 00 
 
 March 1,950 10.00 40.00 80.00 3500 
 
 April 1,950 5.00 50.00 80.00 3500 
 
 May 1,950 5.00 40.00 80.00 3500 
 
 June 1,950 10.00 50.00 80.00 35 00 
 
 July 1,950 5.00 40.00 80.00 3500 
 
 August 1,950 5.00 40.00 80.00 3500 
 
 September i,950 10.00 50.00 80.00 35 00 
 
 October i,950 5.00 40.00 80.00 3500 
 
 November i,950 5.00 40.00 80.00 3500 
 
 December i,950 10.00 50.00 80.00 3500 
 
 $23,400 $ 80.00 $520.00 $960.00 $420.00 
 Detail of Other Items 
 
 Repairs to coin wrapping machine $ 60 .00 
 
 Rental of Telautograph machines 210.00 
 
 Inspection of adding machines 12 .00 
 
 Photostatic expenses 1 20 . 00 
 
 Repairs to money truck 1 2 . 00 
 
 $414.00
 
 458 APPENDIX 
 
 Each department should keep a copy of its budget, and if during the 
 year it becomes necessary to expend money for some item not included in 
 the budget, it should be the duty of the Officer in charge of such department 
 to see that an additional appropriation be granted before the expenditure is 
 incurred. 
 
 Requests for additional appropriations should be made to the Comp- 
 troller in writing on the form prepared for that purpose, together with a 
 memorandum showing why the additional expense is necessary. The 
 Comptroller has authority to grant such additional appropriations but 
 should he decline to approve any appropriation either because he believes 
 it to be unnecessary, or because he thinks the matter should have the atten- 
 tion of the Officers Meeting, it may be presented to the Officers Meeting 
 through the Vice-President responsible for the operation of the department 
 making the request.
 
 A TRUST COMPANY BUDGET SYSTEM 
 
 459 
 
 Guaranty Trust Company of New York «=^ "" ' 
 
 Summary of Expenses for Month of 192 
 
 
 a^t... 1 .^,«3 
 
 'st7"o«bT 
 
 ss 
 
 ■IPBNSIB 
 
 APPfiO- 
 
 '"o^™ 
 
 BAMSUOHTH 
 LAST TUB 
 
 EXPENSE OF SECURING 
 BUSINESS 
 
 New BasiaeaB Department 
 
 See Sheet 2 
 Publicity Department 
 
 See Sheet 2 
 Bond Department 
 
 See Sheet 2 
 5lh Ave. Office 
 
 See Sheet E 
 Madison Ave. Office 
 
 See Sheet 6 
 
 1. Officen' Salaries 
 
 2. " Lunches 
 
 3. Foreign Representatives 
 
 4. General Traveling after 
 
 Business 
 
 5. General Entertaining 
 0. Library 
 
 7. Income Tax DepL 
 
 ». 
 
 EXPENSE OF TRANS- 
 ACTING BUSINESS 
 
 ClTBRSNT OPKBATINa 
 
 Main Office See Sheet 3 
 6th Ave. Office See Sheet S 
 Madison Ave. Office 
 
 See Sheet 6 
 
 FlUD BI POUCT 
 
 Main Office See Sheet 3 
 5th Ave. Office See Sheet 6 
 Madison Ave. Office 
 
 See Sheet 6 
 
 Main Office ■ See Sheet 4 
 Slh Ave. Office See Sheet 6 
 Madison Ave. Office 
 
 BeeSheete 
 
 310. Officers' Salariea 
 
 311. " Lunchu 
 
 Main Office See Sheet 4 
 Sth Ave. Office See Sheet 6 
 Madison Ave. Office 
 
 See Sheet e 
 
 TOTAL EXPENSES 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 
 
 
 1 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 
 i 
 
 
 1 i 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 1 
 
 1 
 
 
 
 
 
 
 
 
 
 
 ^ 
 
 i 
 
 
 
 
 1 
 
 
 i 
 
 
 
 
 
 
 
 
 
 
 1 r- 
 
 
 - 
 
 
 1 
 
 L 
 
 1 1 
 
 
 
 
 
 
 
 
 
 L 
 
 BEMABKS
 
 460 
 
 APPENDIX 
 
 Expenses of Securing Business Month of 
 
 SHEET No.t 
 192 
 
 NEW BUSINESS 
 
 30. SalnruB 
 
 31. Addjtjoul Wu Com- 
 peiuatioD 
 
 32. Supprn 
 
 33. Sutionery i Suppliel 
 
 34. PoetMO 
 
 35. TravelmgEipenMoN.Y, 
 
 Meu 
 . Telegranu & Telephooe 
 Tolls 
 
 37. EotertsinmeDt 
 
 38. Other Eipeosn 
 Out of Town Men 
 
 3». Stlai 
 
 40. 
 
 a. 
 
 Rent 
 
 ExpenflOB 
 Travel mg 
 
 ToUl 
 
 PUBLICITY 
 
 60. Salaries 
 
 ei. Additional Wu Com- 
 pensation 
 
 62. Suppers 
 
 63. Stationery A Supplies 
 
 64. Postase 
 
 65. Traveling Expenses 
 68. Printing 4 Circulare 
 67. Telegrams <1 Telepbon 
 
 Tolls 
 . Entertainment 
 . Other Expenses 
 
 70. Advertising in PublicE 
 
 tions 
 
 71. General Advertising i 
 
 Publicity 
 72. 
 73. 
 74. 
 
 ToUl 
 
 BOND DEPARTMENT 
 
 100. Trading Div. 
 
 101. Distributing Di». 
 
 102. City Salesmen 
 
 103. UuUide Dealers 
 
 104. Municipal Div. 
 
 105. Special Sales Div. 
 
 106. Cforreepondence Div. 
 
 107. Executive Secretaries 
 103. Corporation 4 Neo Busi- 
 
 nos Div. 
 
 109. Administration 
 Accounting, 4c. 
 
 110. Undistributed Salaries 
 
 113. Statistical 
 
 114. Investigation Div. 
 
 115. Outside Investigations 
 
 & ExaminatioDB 
 
 U9. Out of Town Offices- 
 Rent 
 Salaries 
 Private Wires 
 Traveling 
 Expenses 
 
 121. 
 
 122. 
 
 123. 
 
 124. Suppers 
 
 125. Additional War Com- 
 pensation 
 
 126. Tdepbone Tolls— Tele- 
 
 grams & Cables 
 
 127. etationery 4 Supplies 
 
 128. Circuisrs 4 Printed 
 
 Matter 
 
 129. Postage 
 
 130. Traveling Expenses 
 
 131. Entertainment 
 
 132. Advertising 
 
 133. Stock Ticker
 
 A TRUST COMPANY BUDGET SYSTEM 
 
 461 
 
 Expenses of Transacting Business — Main Office Month of 
 
 CUKRENT OPERATING 
 Dmpartmxnt 
 
 160. AecouDtiDg 
 
 161. Ai;a)yBis 
 
 162. Auditing 
 
 163. Anbives 
 
 164. Bookifepiiig 
 
 165. CollcctioD 
 
 166. Telle™ 
 
 167. Coupon 
 ' ■, Crwfit 
 
 16». Chief Clerk's 
 
 170. Emergency 
 
 171. General Fsgea 
 
 172. Filing 
 
 173. Loan 
 
 174. Mailing 
 
 175. Measengere 
 
 176. Reorganisation 
 
 177. RegiatratioD 
 
 178. Securitin 
 
 179. Stenographers— General 
 
 180. Secretaries— Executive 
 
 181. Supply Dept Operating 
 
 182. Special OSeen and 
 Watchmen 
 
 183. Stock Bookkeeping 
 
 Undistributed ToUi 
 , Trust 
 , Vault 
 
 . Exprenage & Mail la- 
 Foreign Department 
 
 SJaria 
 
 Suppera 
 
 Travel 
 
 Telegrama, Cables & 
 •Tel. Calls 
 
 Postage d Express 
 
 6tationery it SuppUi 
 
 197. eundries 
 
 Ml 
 »& 
 MS. 
 
 S'- 
 
 MS. 
 Mill 
 110. 
 311. 
 212. 
 313. 
 
 Total 
 
 Fixm 8T PoUCT 
 
 230. Resident Attorney 
 
 231. Legal dfcProreasioaal Fees 
 
 232. Directors & Committee 
 Fees . 
 
 233. Examinations & Eleo- 
 
 234. Insurance Liability it 
 Fire 
 
 235. Fidelity Bonds 
 336. Dimng Room 
 237. Customer' Check Books 
 
 free 
 
 23». 
 340. 
 241. 
 M3. 
 Ml. 
 M«. 
 
 to.
 
 462 
 
 APPENDIX 
 
 Expenses of Transacting Quainess — Main Office (Continued) Month of 
 
 SHEET Ko. 4 
 192 
 
 208. 
 
 Rent — 140 Broadway 
 Salaiies 
 Elec. Current 
 . Stcim 
 
 Materiala & Repairt 
 Taies, Real Eetat« 
 Water 
 
 fiurslar AtanD 
 Other Items 
 Postage & Stationery 
 
 270. Rents Reeei»ed 
 
 271. Other N. Y. Rentals 
 
 272. Stock 4 News Tickers 
 
 273. Drinking Water i Ice 
 
 274. Laundry A Towels 
 
 275. Clearing House & Fed. 
 Reserve Charges 
 
 276. N. Y. 4 Other Banking 
 Dept. Fees 
 
 277. Furniture and Fi^rt 
 
 Undritributed Items; 
 
 Stationery 4 Books 
 Supplies Other Than 
 Stationery 
 Postage 
 Suppers 
 282. Traneling Incident to 
 
 Current Business 
 233. Loss 00 Obsolete SU- 
 
 284. General 
 28i. Ne» Furniture, Fiitures 
 4 Equipmejlt 
 
 286. Alt<retl0lu 
 287. 
 
 NON PRODUCTIVE 
 
 EXPENSES 
 
 320. OSoeni4ClerksonWi 
 Duty 
 
 321. Pensions 4 DonstioQS to 
 Employees 
 
 322. Educational 
 
 323. Guaranty Club 
 
 324. Subsoriptions. Duea, etc. I 
 
 325. Welfare Dept. 
 320. Medical Bupplin 4 Ez-| 
 
 aminations 
 
 327. Liberty Loan Eipenses [ 
 
 328. Additional Compensa- 
 tion a/0 War 
 
 329. 
 330.
 
 A TRUST COMPANY BUDGET SYSTEM 
 
 463 
 
 Guaranty Trust Company of New York «=^ "- ' 
 
 Summary of Expenses for January 1st to 192 
 
 B&UBOa 
 
 
 
 POSTACn 4IfD 
 
 imu 
 
 Torcu. 
 
 ■ZFS^fBBB 
 
 appao- 
 
 PBunom 
 
 rOBTX&K 
 
 LaRTVaa 
 
 
 BXPEjreE OF SBCURINO 
 
 BUSINESS 
 Ntw BnnnoB Ocpartmoit 
 
 Sm Sheet 8 
 PubliotT Dtputment 
 
 ^8«, Sheet 8 
 
 See Sheet 8 
 SthAmOfllee 
 
 See Sheet 11 
 Msdnni kn. OSoe 
 
 Sea Sheet 12 
 
 1. Offlcera' Sslarie* 
 
 2. " LuDchee 
 
 3. Fottign ReprceeDtatirei 
 
 4. Oenerel Traielinj; aflei 
 
 BuBiDeas 
 8. OeDcnl EDtertalniiig 
 
 6. Library 
 
 7. Income Toi Dept. 
 
 a. 
 
 EXPENSE or TRANS 
 
 ACTING BUSINESS 
 
 CoBntrrr OpBiuTfNa 
 
 Main Office See Sheet S 
 
 SthAve. OlBoe See Sheet II 
 
 Madiaol Ato. OEce 
 
 See Sheet 12 
 
 FixlD ei PoLicf 
 Main Office See Sheet « 
 5th Ave. Office See Sheet 11 
 MadiMD Are. Office 
 
 See Sheet 12 
 
 OvnHMD 
 Main Office See Short 10 
 Sth Ave. Office See Sheet 1 1 
 MadisoD Atc. Office 
 
 See Sheet 12 
 
 310.0IBem'Salariea 
 31L ■• LuDche* 
 
 Noil ftmamn EipimM 
 Main Office See Shnjl 10 
 6th Atc. Office See Sheet 1 1 
 Madiion Ave. Office 
 
 See Sheet 12 
 
 TOTAL EXPENSES 
 
 
 
 
 
 
 r 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 1 1 
 
 
 1 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 1 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 ~i 
 
 
 
 
 
 
 
 
 
 
 
 -|— 
 
 
 
 
 
 
 1 
 
 
 1 1 
 
 
 
 
 
 
 
 
 
 1 1 1 
 
 
 1 
 
 
 REMARKS: 
 Non: Sheeta 9, 10, 1 1 and 1 2 are the aame u abeeta 2 ta 6, eioept th&t tbe oolumna an hsaJsd the aame m 
 ebwt 7.
 
 464 APPENDIX 
 
 Request for Appropriation 
 
 Authority is hereby requested for an increase of 
 -in the budget for the- 
 
 Department, Classification No . beginning 
 
 192 , for the following reasons: 
 
 Date 192 Signed by- 
 Request granted for $ 
 
 Comptroller.
 
 A TRUST COMPANY BUDGET SYSTEM 
 
 465 
 
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 II 1 
 
 1 
 
 — ^ . 
 
 II 
 
 II 
 
 1 
 
 II 
 II 
 
 1 
 
 
 z 
 
 1 II i 
 
 1 II 
 
 1 
 
 \^ 
 
 _ — 
 
 \ 
 
 1 
 1 
 
 II 1 ■ 
 
 1 
 
 II 
 II 
 
 
 — 
 
 z 1 
 
 1 ^ 
 
 1 
 
 1 z 
 
 
 =■ 
 
 January 
 
 February 
 
 March 
 
 April 
 
 May 
 
 June 
 
 July 
 
 1 September 
 1 October 
 November 
 December 
 
 1 
 
 January 
 
 February 
 
 March 
 
 April 
 
 May 
 
 July 
 
 August 
 
 Septemb^^r 
 
 October 
 
 November 
 
 December 
 
 Total 
 
 1 
 
 January 
 February 
 March 
 April 
 
 June 
 July 
 
 September 
 October 
 
 December 
 
 1 
 
 30
 
 INDEX 
 
 Accounting, 
 
 data and statistics, 252-253, 272 
 department, 40, 66, 262, 293, 389 
 methods, 189, 194, 249 
 period, length of, 34, 310 
 Advertising, 
 
 appropriation, 107, 112 
 
 report, 11 7-12 1 
 budget, 106-123 
 
 control of, 1 19-123 
 
 form of, 1 1 8- 1 20 
 
 preparation of, 116-118 
 cost, calculating, 108-111, 364 
 expenditures report, 122 
 purpose, I12-114 
 purpose vs. method of, 115 
 vs. selling expense, 106, 283-284 
 
 B 
 
 Balance sheet, 
 
 accounts payable, 347, 355 
 assets, fixed, 344-345. 348, 354, 356 
 based on estimates, 7, 50, 203, 329 
 bonds payable, 348, 356 
 capital stock, 348, 356-357 
 cash estimate, 340-341, 350 
 comparative, 351 
 deferred charges, 345, 355 
 estimated, 333-358, 3^'0 
 estimated and actual compared, 
 
 369 
 forms, 339, 351, 369 
 good- will, 346 
 income, accrued, 344 
 inventories, 343-344, 353-354 
 liabilities, accrued, 347 
 liabilities, fixed, 356 
 mortgages payable, 348, 356, 365 
 
 Balance sheet — Continued, 
 
 notes payable, 346-347, 350, 355, 
 357 
 
 notes receivable, 341-342, 352 
 
 preparation of, 332, 340 
 
 ratio of current assets to current 
 liabilities, 357-358 
 
 reports, use of financial, 335-337 
 
 standard forms, 335-372 
 
 surplus, 348, 357, 366 
 Bank loans, 
 
 financial program for, 318 
 Board of directors, 
 
 authority of, 21-24 
 
 budgetary control by, 7, 48, 52-53, 
 63, 287, 370 
 
 budgets submitted to, 23, 53 
 
 periodic reports to, 8, 24, 50, 290 
 Budget act, 
 
 federal, 439-449 
 
 state (Ohio), 450-455 
 Budgetary control, 
 
 advantages of, 416-424 
 
 as coordinating several depart- 
 ments, 3, 12, 299, 416-423 
 
 chart of procedure, 394 (insert) 
 
 defined, 3-1 1 
 
 educational institutions, 430 
 
 essential features, 8 
 
 federal law, defined, 439 
 
 governmental units, 426-427 
 
 installed, 28-53, 422 
 
 limitations of, 421-424 
 
 manual on, 42, 374-395 
 
 modern tendency toward, lo-ii 
 
 need for, 12-27,' 54 
 
 non-commercial enterprises, 425- 
 438 
 
 organization for, 43-53, 375 
 
 467
 
 468 
 
 INDEX 
 
 Budgetary control — Continued, 
 
 period, length of, 29, 34-36, 85, 308, 
 
 310, 314. 338, 375 
 popular conception of, 4 
 program for, 35, 41, 419, 421 
 purposes, 12, 27, 35 
 state governments, 429-430 
 state university, 430-437 
 trust company, 456-465 
 Budgets, (See also 'Tstimates"; also 
 various classes of budgets under 
 their own headings) 
 committee, 
 
 duties of, 7, 47-49, 204, 266, 378, 
 
 380, 394, 419-423 
 members, 7, 47, 376 
 periodic reports to, 8, 51, 187, 
 204, 224, 264, 268, 2' o, 293, 
 320, 368, 3-3 
 controlling sales, 80-81 
 departmental, contents of, 7-8, 298, 
 
 300 
 governmental, direct control of, 
 
 45-47, 444-449 
 governmental, types of, 439-443, 
 
 450-455 
 priority list used in, 83 
 revised, 81, 206, 208-20), 224, 294, 
 
 319, 332, 338- 348, 366-367 
 state university, 430-437 
 system of, 11, 46, 299 
 trust company, 456-465 
 types of, 9-10, 70, 140, 202, 207-208 
 Business activities, 
 administrative, 25 
 coordinating, 13-17, 58-59, 299, 
 
 420-423 
 interdependence of, 13, 54 
 types of information needed on, 26, 
 
 65 
 Business control, 
 
 executive corporate group, 21 
 general ofificers', 24-25 
 junior executives', 25-26 
 owner's, 21 
 
 Capital, 
 
 additional, 6, 23, 295, 317, 348 
 
 requirements, analyzed, 324-328 
 Cash, 
 
 disbursements, 308-315 
 
 receipts, 301-308 
 Chart, 
 
 budget procedure, 394 (insert) 
 
 graphic, accumulated sales and col 
 lections, 304 
 
 organization, 
 corporation, 21 
 
 manufacturing business, 275, 277 
 Collections, 
 
 and sales chart (graphic), 304 
 
 period, 303-305 
 
 report, monthly, 321 
 Comparative balance sheet, 351, 36 j 
 Comparative profit and loss state- 
 ment, 363, 371 
 Corporation organization chart, 21 
 Credit, 
 
 building up bank, 32 
 
 "reserve line," at bank, 323 
 
 Department store, 
 
 departmental merchandise plan, 239 
 Disbursements, cash, 308-315 
 
 E 
 
 Employees, 
 
 cooperation with, 41-42 
 
 demand for, 59 
 
 desirable working conditions, 178- 
 
 179 
 housing of, 171, 182, 306 
 transferring, 271 
 welfare, per capita cost, 183 
 Equipment (See "Plant and equip- 
 ment") 
 Estimated and actual balance sheets, 
 
 compared, 369 
 Estimated and actual profit and loss 
 statement, compared,. 371
 
 INDEX 
 
 469 
 
 Estimates, (See also "Budgets") 
 as working program, 7, 8, 48 
 central control of, 393, 421 
 comparing, 6, 19, 307, 369, 400 
 departmental, 5,40-41, 50, 173,204, 
 
 223, 233, 255, 258, 291, 300, 312, 
 
 319, 331. 338, 366-367, 421 
 in terms, 67 
 items used in, 68-69 
 "key" items in, 69-70 
 responsibility for preparing, 36-38, 
 
 71-72, 223, 262, 290, 312 
 selling expense, need of, 88, 312 
 Executive, 
 chief, 24, 47, 375, 427 
 control, centralized, 20-21 
 control, decentralized, 18, 19, 26, 
 
 192 
 cooperation needed, 17, 41-42, 374 
 departmental, duties of, 37, 52, 61, 
 
 377 
 general manager, 375 
 
 assistant to, 376-377, 378, 380, 394 
 in charge of budgetary procedure, 
 
 7, 39, 44, 49-51, 177, 204, 262, 
 
 289, 293, 317, 319, 368 
 junior, duties of, 25-26 
 periodic reports by, 8, 24, 176 
 staff assistant as, 50-53 
 Expense, 
 administrative, 274, 279, 287-288, 
 
 388 
 allocation and business organiza- 
 tion, 280-281 
 allocation basis, 283-285 
 auxiliary, 274, 286, 312 
 budgets, 273-294, 299, 312, 360, 
 365,386-391,459-463 
 
 control of, 289-290, 294, 387-391, 
 419-423 
 
 form of, 291-292 
 classified, 274-276, 294 
 commercial, allocating, 279-280,283 
 corporate, 274, 288, 291, 312 
 direct, 276-278 
 
 Expense — Continued, 
 
 financial, 285-286, 291 (See also 
 "Finances") 
 
 indirect, 276-278, 285 
 
 manufacturing (See " Manufactur- 
 ing expense") 
 
 "miscellaneous," budget of, 202- 
 203,395 
 
 not to be allocated, 281-282 
 
 problems, 273 
 
 reports, monthly, 292-294 
 
 salesmen's, 94, 100 
 
 shipping, 95, 97, 98, loi 
 
 welfare, 185 
 
 Factory (See "Production") 
 Federal Budget Act, 439-449 
 Finances, 
 
 accounts receivable, 301, 303-305, 
 
 322, 328, 342-343, 352, 354 
 bank loans, 316-319, 325, 328, 334, 
 
 340, 346, 350, 356, 367 
 budget, 295-332, 340, 367, 391-392 
 
 control of, 319-321 
 
 preparing, 264, 317-319, 330-332 
 
 vs. business cycle, 328-329 
 
 vs. department budgets, 300, 301 
 cash balance, 297, 303, 316, 349-352 
 cash disbursements, 
 
 form of estimate of, 312-314, 347, 
 
 391 
 items for, 315 
 
 methods of estimating, 314-315. 
 331,340 
 cash period, length of, 322-323 
 cash receipts, 
 basis of, 303-305 
 determining, 301-303, 305, 331, 
 
 391 
 sources of, 305-307, 322 
 collection period, 303-305 
 collections, estimate of, 319 
 debts, allowance for bad, 302, 343 
 expenses, disbursements for, 312
 
 470 
 
 INDEX 
 
 Finances — Continued, 
 
 methods of, 32, 301-303, 330 
 planning, 16, 65, 88, 233, 295-297, 
 
 324, 330, 420, 423 
 planning, long-time vs. short-time,. 
 
 297-298 
 purchases, 
 
 merchandise, 309 
 
 production purposes, 310-312 
 requirements, determining cash, 
 
 298-300, 324 
 requirements of, 77-78, 228, 274, 
 
 295.317,418 
 statements, preliminary estimates 
 
 of, 392-393 
 Finished goods (See " Production") 
 Forecasting, 
 
 based on statistics, 83 
 
 defined, 3 
 
 I 
 
 Industrial engineering, 
 
 defined, 3 
 Inventory, (See also "Material") 
 
 estimated, 213-215, 220, 230, 
 241, 360, 410 
 
 method of determining, 212, 216, 
 219 
 
 "normal," 216, 220, 235 
 
 periodical, 259 
 
 perpetual, 212-217 
 
 planning, statistics of past periods 
 in, 215-216 
 
 physical, 215-218 
 
 report, monthly, 407-409, 414 
 Invoice, 
 
 purchase, classified, 232-234 
 
 Labor, 
 
 budget, 165-177, 208, 380, 382 
 control of, 177 
 form of, 176 
 preparation of , 173-176 
 report, monthly, 175 
 
 Labor — Continued, 
 
 cost, 174, 176, 265, 310, 381 
 indirect, a manufacturing expense, 
 
 173,189,310 
 pay-roll, 
 
 budget of, 171-173, 202 
 objections against budget of, 
 
 172 
 vs. expense budgets, 289 
 requirements, analyzing, 166-168 
 requirements vs. production and 
 
 labor policies, 169-171 
 standard rates, 168 
 
 purposes of, 169 
 turnover, determining, 184 
 Law, budget, 
 federal, 439-449 
 state (Ohio), 450-455 
 Ledger, plant, 253-255, 258 
 
 form, 254 
 Loans, bank, 
 
 financial program for, 318 
 
 M 
 
 Manual on budget procedure, 42, 374- 
 
 395 
 Manufacturing business, organization 
 
 chart, 275, 277 
 Manufacturing expense, (See also 
 " Production") 
 budget, 188-209, 208, 250, 300, 310, 
 
 382-383 
 
 control of, 206 
 
 preparation of, 203-206 
 
 report, monthly, 205 
 classified, igo-192 
 defined, 189-190, 274 
 depreciation as, 28 1 
 distribution of, 194-196, 202, 256, 
 
 276,278-279,285 
 estimated, 188, 197, 206, 382 
 machine rates, idle ami o\-ertinie. 
 
 200 
 machine rates, modified, 202 
 packing cost as, 96
 
 INDEX 
 
 471 
 
 Manufacturing expense — Continued, 
 requirements determined, 192-194 
 standard rates in, 188, 196-198 
 method of establishing, 198-200 
 vs. production, 201 
 Market, 
 
 analysis, 61-63 
 
 conditions aflecting budget period, 
 
 33 
 fluctuations affecting sales, 85 
 Materials, (See also "Labor") 
 basis of inventory control, 151 
 budget, 154-164, 207, 310, 346, 383- 
 
 385 
 
 control of, 163-164 
 
 form of, 160-163 
 
 preparation of, 158-160 
 
 report, 161 
 
 vs. purchasing policy, 155-157 
 estimate, need for, 145, 159, 168 
 requirement, by commodities, 145 
 requirement, by ratios of former 
 
 peri6ds, 147-148 
 requirements r5. inventory, 149-151 
 standard rates, 148, 158 
 stores balance, sheet, 153 
 stores budget, 1 57, 202 
 stores vs. expense budgets, 289 
 
 N 
 
 Non-commercial enterprises, budget 
 system, 425-438 
 
 Officers, 
 
 general business, list of, 25 
 Ohio, 
 
 administrative code for, 450-455 
 Operations, summary of, monthly, 41 1 
 Orders, 
 
 purchases, 230, 232 
 
 implied, classification of, 234, 410 
 Organization charts, 
 
 corporation, 21 
 
 manufacturing business, 275, 277 
 
 Planning, 
 
 business operations, 3-4, 329 
 
 classified, 3 
 
 department, 7-8, 136, 159, 166, 173, 
 
 262 
 equipment and personnel, 15 
 estimates needed for, 27, 55, 210 
 Plant and equipment, 
 additions, 246, 249, 257 
 betterments, 246, 249, 257 
 budget, 245-272, 345, 385-386 
 
 contents of, 261, 264, 272 
 
 form, 263 
 
 preparing, 261-362, 31a 
 
 report, 269 
 charges, capital vs. revenue, 250 
 charges, maintenance, 250-251, 253, 
 
 257 
 construction, costs of, 267-268 
 depreciation, 248, 255-256, 258, 261, 
 
 345.354 
 
 engineer, functions of, 260, 262, 264 
 
 equipment, use of standard, 270-271 
 
 expenditures, 
 
 classified, 245-246, 266 
 data controlling, 251-253, 272 
 requisitions for, 265-267, 272 
 reserve account, 268-270 
 
 experts, information by, 258-260 
 
 plant ledger, 253-255, 258 
 form, 254 
 
 repairs, 246-247, 254, 256, 258, 261, 
 267, 273 
 
 replacements, 246, 248, 273 
 
 vs. volume of production, 256-258 
 Procedure, budgetary, 
 
 budgets, branch and division, 370- 
 372 
 
 chart, 394 (insert) 
 
 dates for submission of estimates 
 and reports, 394 
 
 disadvantage of decentralized, 44- 
 
 45 
 first steps towards, 28-29
 
 472 
 
 INDEX 
 
 Procedure, budgetary — Continued, 
 
 "general budget," 370 
 
 interdepartmental, manual for, 393 
 
 manual on, 42, 374-395 
 
 modern tendency towards, lO-ii 
 
 outlined, 5-8 
 
 plant and equipment, executing 
 budget of, 265, 271-272 
 
 supervisor for, 5-6, 49 
 Production, (See also "Manufactur- 
 ing") 
 
 basis of inventory control, 130-131 
 
 ^budget, 124-144, 379-380 
 
 preparation of, 139-140, 307 
 relation of to sales budget, 124 
 
 calculating, 134-135 
 
 capacity vs. sales estimate, 125-127 
 
 control 1)5. policies, 124-125 
 
 control, review and summary of, 
 206-209 
 
 cost, 136-138 
 
 economical run, 133-134 
 
 estimate, inventory schedule and, 
 128-130 
 
 finished goods budget, 207, 228 
 report, 141, 407-409 
 
 inventories, monthly report, 414 
 balance of stores sheet, 153 
 
 items, 69, 86, 146, 167 
 
 maintaining uniform, 17 
 
 margin of safety, 132-133 
 
 period, 31, 131 
 
 reducing, 6 
 
 requirements determined, 73, 127, 
 258 
 
 special orders, control of, 138-139 
 
 unit costs and volume of produc- 
 tion, report, 413 
 
 vs. sales, 14-15, 75, 416-417, 422 
 form of estimate, 73 
 Profit, 
 
 estimated, 75, 87, 362 
 
 gross, on sales, 362-364 
 
 maximum gross, 76 
 
 net operating, 365, 405 
 
 Profit and loss, 
 
 balance sheet, relation to, 266-267 
 causes of, 15-16 
 comparative form, 363, 371 
 cost of goods sold, 360 
 expenses, 
 
 non-operating, 361 
 
 operating, 360-361, 364, 367 
 income, non-operating, 361, 365 
 manufacturing expense, as, 196, 200 
 net income, 365 
 notes receivable, 361 
 reports, control of financial, 368- 
 
 370 
 sales, returns from, 359 
 statement, 213, 251, 255, 289, 329, 
 
 332-334. 338. 348, 352, 359-373 
 
 contents of estimated, 359, 365 
 
 preparing estimated, 367-368 
 Purchases, 
 budget, 210-227 
 
 control of, 223-227 
 
 report, 225 
 
 vs. merchandise policy, 235-238 
 data, classified, 230-235 
 deliveries to stock, 220-222, 226, 
 
 228, 230, 236, 242 
 estimate, preparing, 222, 232, 242, 
 
 292,309 
 inventory, types of, 212-216 
 payments for, 228-230, 309-312 
 
 form of estimate, 231 
 requirements, 211 
 vs. sales, 210, 310 
 
 Receipts, 
 
 additional, 6 
 
 estimated, 78, 307-308 
 Records, 
 
 accounting, 34, 40 
 
 departmental, 8 
 
 finished goods, 135 
 
 materials, 152-155 
 
 objections to studying past, 1 ;-20
 
 INDEX 
 
 473 
 
 Records — Continued, 
 
 plant ledger, 253-255 
 
 supplementary, importance of, 233 
 Reports, 
 
 administrative (See "Reports, ad- 
 ministrative, below") 
 
 advertising appropriation, monthly, 
 121 
 
 advertising expenditures, 122 
 
 cash disbursements, 323 
 
 cash receipts, 322 
 
 collections, 321 
 
 comparative, 27, 34, 40, 163, 187, 
 293,320,400 
 
 construction cost, 267 
 
 control, use of, 102-105, 226-227, 
 272, 294 
 
 expense appropriation, 293 
 
 finished stock, 141-144 
 
 from sales units, 81 
 
 inventories, 414 (See also "stock" 
 below in this list) 
 
 labor budget, monthly, 175-176 
 
 manufacturing expense, 205 
 
 materials, 161 
 
 merchandise plan, 240 
 
 net profits, 405 
 
 operations summary, 41 1 
 
 plant and equipment appropria- 
 tions, 269 
 
 purchases, 225, 229, 232 
 
 responsibility for, 38-39, 262, 370 
 
 sales, 402 
 
 selling expense, 103,403 
 
 statistical, 333 
 
 stock, 407 
 
 comparative, 408, 409 
 
 unit cost and volume of production, 
 
 413 
 used in purchases budget, 242-244 
 welfar" expense, monthly, 185 
 Reportsf administrative, 396-415 
 classified, 396-397 
 essentials of executive reports, 397- 
 
 401 
 
 Reports, administrative — Continued, 
 factory inventories, 415 
 information, 
 
 actual performance, 398 
 
 estimated performance, 399-400 
 
 past performance, 400 
 needed, 396 
 
 net profits, monthly, 406 
 operations, monthly summary of, 
 
 412 
 production control, 410-415 
 sales control, 401-404 
 selling expense, monthly, 404 
 stock, monthly, 410 
 summary, monthly comparative, 
 
 410-412 
 types of, 401-415 
 unit costs, 415 
 vs. executive, 397 
 
 Salary budget, state university, 434- 
 
 435 
 Sales, 
 
 analysis, 63-64 
 
 anticipated, 57-59, 132 
 
 budget, 54-86, 207, 241, 299, 377- 
 
 379 
 campaign, 87 
 data, classified, 66-67 
 estimate, 
 
 manufacturing business, 59-60, 
 
 67,74 
 mercantile business, 58, 301-302 
 need for, 55-56 
 
 revision of, 75-78, 82, 224, 379 
 threefold basis of, 60-65, 4^8 
 vs. inventory requirements, 72- 
 
 74,213 
 expense (See "Selling expense," be- 
 low) 
 information, 54-55, 65-67 
 items, 68-69, 76, 85 
 office expense, 92-93, lOo, 273, 364 
 orders vs. shipments, 82
 
 474 
 
 INDEX 
 
 Sales — Continued, 
 
 planning, 3 
 
 problems, 84-86 
 
 program, 78-80, 184, 211, 230, 238, 
 417,419,422 
 
 reducing, 6, 353 
 
 report, 402 
 
 vs. collections, 302-303 
 chart (graphic), 304 
 
 vs. plant and equipment, 15, 59 
 Selling expense, 
 
 allocation of "drayage," 96 
 
 budget, 87-105 
 form, 103 
 
 preparation of, 101-102 
 report, 403 
 
 classified, 91 
 
 controlling, 88-50, 389 
 
 defined, C0-91, 274 
 
 distributed, 276, 283, 285 
 
 method of estimating, 99-101 
 
 ratio to sales, 364, 406 
 Shipping, 
 
 breakage in, 98 
 
 expense, analysis of, ^ 7 
 
 expense, packing and, 95, 98, loi 
 State Budget Act (Ohio), 450-455 
 State university budget system, 430- 
 
 437 
 Stock, 
 
 deliveries to, 221 
 
 finished (See "Inventories," "Pro- 
 duction") 
 Stockholders, 
 authority, 22, 27 
 limit of direct business control, 22- 
 
 23 
 
 ownership vested in, 21 
 
 Stores (See "Materials") 
 
 Summary of operations, monthly, 41 1 
 
 Transportation , 
 
 freight out, expense of, 96-97 
 warehouses and branch depots, 98 
 Turnover, 
 
 inventory and, 218-220 
 merchandise, 
 
 calculation of, 217-218 
 estimating, 241 
 rate of, 362-366 
 period, length of, 30-31 
 Trust company budget system, 456- 
 465 
 
 U 
 
 Unit costs and volume of production, 
 
 report, 413 
 University budget system, 430-437 
 
 Volume of production and unit costs, 
 report, 413 
 
 W 
 
 Welfare expense, 
 budget, 178-187 
 
 control of, 186-187 
 
 form, 185 
 
 preparation of, 186 
 
 report, form, 185 
 classified, 179, 186 
 estimating, 181-185 
 per capita cost method, 182-184 
 vs. departmental expenses, 1 80-1 81 
 vs. labor cost, 178
 
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