Edexcel A-Level Accounting: Budgeting (YAC11)

This guide teaches topic 2.4, Budgeting, from the Pearson Edexcel International Advanced Subsidiary/Advanced Level in Accounting (XAC11/YAC11) specification, Issue 2, September 2018. It covers learning outcomes 2.4.1 to 2.4.5. The topic sits in Unit 2 (Corporate and Management Accounting), so it is Unit 2 (A2) only: it is examined in the second unit of the full International A Level. Every business and figure below is made up; amounts are in dollars.

Course hub: Edexcel A-Level Accounting. Printable checklist: YAC11 topic checklist. For fast recall use the budgeting revision notes, then test yourself with the budgeting practice questions. To find your weak areas first, take a free 10-minute diagnostic.

Outcomes in this topic

Spec ref	What you need to do
2.4.1	Explain budgeting as a management tool for planning, forecasting and control
2.4.2	Describe the process of budget preparation
2.4.3	Prepare budgets for revenue, production, purchases, inventory, trade receivables, trade payables, capital and cash
2.4.4	Prepare a budgeted statement of comprehensive income and statement of financial position
2.4.5	Prepare flexible budgets for variations in activity level

The trade receivables and trade payables budgets follow the same logic as the ledger control accounts in the control accounts guide. Flexible budgets rely on the cost behaviour (fixed, variable, semi-variable) explained in the introduction to costing guide.

Budgeting as a management tool (2.4.1)

A budget is a plan for a future period, in money and often quantities, approved before the period starts. The specification names three roles.

• Planning. Managers decide in advance what the business will do: how much to sell, make and buy, how many staff it needs and which assets it will acquire.
• Forecasting. A budget turns predictions (demand, prices, how fast customers pay) into figures. A cash budget, for example, shows months ahead whether the bank account will go overdrawn.
• Control. Actual results are compared with the budget. Differences, called variances, point managers to the areas that need action.

Budgets also co-ordinate departments to one output level, communicate targets, give each budget holder clear responsibility and, if agreed and realistic, motivate staff.

The limits: a budget is only as good as its forecasts; preparing it takes management time; imposed or unrealistic targets demotivate; managers may pad cost estimates (budgetary slack); and a rigid budget can stop managers reacting to change.

The process of budget preparation (2.4.2)

1. Set objectives for the budget period, often one year split into months.
2. Form a budget committee and issue a budget manual. The committee co-ordinates the work. The manual sets out deadlines, formats and who is responsible for each budget.
3. Identify the principal budget factor. This is the factor that limits activity. It is usually sales demand, but it could be machine capacity, skilled labour or cash. Its budget is prepared first, because every other budget depends on it.
4. Prepare the functional budgets in order: revenue, then production, then purchases and inventory, then labour and overheads.
5. Prepare the trade receivables, trade payables, capital and cash budgets from the functional budgets.
6. Prepare the master budget: the budgeted statement of comprehensive income and budgeted statement of financial position.
7. Review, negotiate and approve. If the plan is unacceptable (say, an overdraft beyond the bank’s limit), budgets are revised. Budget holders should take part, because people work harder for targets they helped set.
8. Monitor. Compare actual results with the budget, flexed where activity has changed.

Revenue, production, purchases and inventory budgets (2.4.3)

The relationships you need:

Units to produce    = budgeted sales + required closing inventory - opening inventory
Materials used      = production x materials per unit
Purchases (units)   = materials used + closing materials - opening materials
Inventory budget    = opening + purchases (or production) - used (or sold) = closing

Worked example 1: Tarrant Kayaks Ltd

Tarrant Kayaks Ltd plans to sell 300 kayaks in February, 360 in March, 420 in April and 400 in May, at 250 each. Finished kayaks held at the end of each month should equal 25% of the next month’s sales. Each kayak uses 8 kg of polymer at 5 per kg. Polymer held at the end of each month should equal 25% of the next month’s usage. May production is planned at 400 kayaks. Both policies applied at the end of January.

Revenue budget: February 300 x 250 = 75,000; March 90,000; April 105,000. Quarter total 270,000.

Production budget (kayaks)

	February	March	April
Sales	300	360	420
Add closing finished goods	90	105	100
Less opening finished goods	(75)	(90)	(105)
Production	315	375	415

February’s opening inventory is 25% x 300 = 75, because January closed on the same policy.

Purchases budget (polymer). Usage is production x 8 kg: February 2,520, March 3,000, April 3,320, May 3,200.

	February	March	April
Usage (kg)	2,520	3,000	3,320
Add closing inventory (kg)	750	830	800
Less opening inventory (kg)	(630)	(750)	(830)
Purchases (kg)	2,640	3,080	3,290
Purchases at 5 per kg	13,200	15,400	16,450

Raw materials inventory budget (dollars)

	February	March	April
Opening inventory	3,150	3,750	4,150
Add purchases	13,200	15,400	16,450
Less issued to production	(12,600)	(15,000)	(16,600)
Closing inventory	3,750	4,150	4,000

In units, the finished goods inventory budget for February is 75 + 315 - 300 = 90 kayaks.

Trade receivables, trade payables, capital and cash budgets (2.4.3)

• Trade receivables budget: opening balance + credit sales - receipts - discounts allowed - irrecoverable debts = closing balance.
• Trade payables budget: opening balance + credit purchases - payments - discounts received = closing balance.
• Capital budget: the planned purchases and disposals of non-current assets, when they will be paid for or received, and how they will be financed (for example, a share issue, debentures or a loan).
• Cash budget: the planned receipts and payments of cash each month, and the closing bank balance month by month. It contains cash movements only: no depreciation, no irrecoverable debts, no discounts, and no accruals or prepayments.

Worked example 2: Velloran Cycles Ltd

Velloran Cycles Ltd wholesales bicycles. Its statement of financial position at 30 September 2026:

Fixtures: cost 80,000, accumulated depreciation 24,000   56,000
Inventory                                                18,000
Trade receivables (all from September sales)             41,000
Bank                                                      6,500
Trade payables (all for September purchases)            (22,000)
Net assets                                               99,500
Ordinary shares of 1 each                                70,000
Retained earnings                                        29,500

Budget for October to December 2026:

• Credit sales: October 45,000, November 50,000, December 56,000. All customers pay in the month after the sale and deduct a 2% cash discount.
• Credit purchases: October 28,000, November 32,000, December 36,600, paid in the month after purchase. Inventory at 31 December: 24,000.
• Wages 9,000 and general expenses 4,200 are paid each month.
• Insurance of 3,600 for the year to 30 September 2027 is paid in October.
• Capital budget: a delivery van costing 24,000 is paid for in November, financed by issuing 10,000 ordinary shares at 1.50 each in November.
• An interim dividend of 6,000 is paid in December.
• Depreciation: fixtures 10% a year on cost; van 25% a year on cost, from November.
• Ignore taxation.

Trade receivables budget

	October	November	December
Opening balance	41,000	45,000	50,000
Credit sales	45,000	50,000	56,000
Receipts (98%)	(40,180)	(44,100)	(49,000)
Discounts allowed (2%)	(820)	(900)	(1,000)
Closing balance	45,000	50,000	56,000

Trade payables budget

	October	November	December
Opening balance	22,000	28,000	32,000
Credit purchases	28,000	32,000	36,600
Payments	(22,000)	(28,000)	(32,000)
Closing balance	28,000	32,000	36,600

Cash budget

	October	November	December
Receipts from customers	40,180	44,100	49,000
Share issue	–	15,000	–
Total receipts	40,180	59,100	49,000
Payments to suppliers	22,000	28,000	32,000
Wages	9,000	9,000	9,000
General expenses	4,200	4,200	4,200
Insurance	3,600	–	–
Delivery van	–	24,000	–
Dividend	–	–	6,000
Total payments	38,800	65,200	51,200
Net cash flow	1,380	(6,100)	(2,200)
Opening balance	6,500	7,880	1,780
Closing balance	7,880	1,780	(420)

The forecast 420 overdraft gives management time to agree a facility or delay the dividend.

Budgeted statement of comprehensive income and statement of financial position (2.4.4)

The budgeted statements use the accruals basis, so they differ from the cash budget. Insurance expense for the quarter is 3,600 x 3/12 = 900, leaving a prepayment of 2,700. Depreciation is 80,000 x 10% x 3/12 = 2,000 on fixtures and 24,000 x 25% x 2/12 = 1,000 on the van. Cost of sales = 18,000 + 96,600 - 24,000 = 90,600.

Velloran Cycles Ltd: budgeted statement of comprehensive income for the three months ending 31 December 2026

Revenue		151,000
Cost of sales		(90,600)
Gross profit		60,400
Wages	27,000
General expenses	12,600
Insurance	900
Discounts allowed	2,720
Depreciation	3,000	(46,220)
Profit for the period		14,180

The dividend is not an expense. It is deducted in the statement of changes in equity: retained earnings = 29,500 + 14,180 - 6,000 = 37,680.

Velloran Cycles Ltd: budgeted statement of financial position at 31 December 2026

Fixtures (80,000 - 26,000)		54,000
Delivery van (24,000 - 1,000)		23,000
Non-current assets		77,000
Inventory	24,000
Trade receivables	56,000
Prepayment	2,700
Current assets	82,700
Trade payables	36,600
Bank overdraft	420
Current liabilities	(37,020)
Net current assets		45,680
Net assets		122,680
Ordinary shares of 1 each		80,000
Share premium		5,000
Retained earnings		37,680
Total equity		122,680

Every closing figure comes from a budget above. Profit is 14,180, yet the bank falls by 6,920: the van, the dividend and higher receivables and inventory absorb the cash.

Flexible budgets (2.4.5)

A fixed budget is set for one planned level of activity. If actual activity differs, comparing actual costs with it is misleading, because variable costs should rise or fall with output. A flexible budget recalculates revenue and costs for the actual activity level:

• variable costs: actual units x budgeted cost per unit
• fixed costs: unchanged
• semi-variable costs: budgeted fixed element + actual units x budgeted variable rate

Worked example 3: Tolvane Mouldings Ltd

Tolvane Mouldings Ltd budgeted to make and sell 20,000 crates at 9 each. Per crate: direct materials 2.40, direct labour 1.60, variable overheads 0.50. Maintenance is semi-variable: 6,000 a month plus 0.20 per crate. Fixed overheads are 36,000. It actually made and sold 22,000 crates.

	Fixed budget (20,000)	Flexible budget (22,000)	Actual (22,000)	Variance
Revenue	180,000	198,000	195,800	2,200 A
Direct materials	48,000	52,800	54,120	1,320 A
Direct labour	32,000	35,200	34,650	550 F
Variable overheads	10,000	11,000	11,440	440 A
Maintenance	10,000	10,400	10,100	300 F
Fixed overheads	36,000	36,000	37,200	1,200 A
Profit	44,000	52,600	48,290	4,310 A

Against the fixed budget, profit looks 4,290 favourable and materials 6,120 adverse; both are distorted by volume. The extra 2,000 crates should have added 8,600 profit (52,600 - 44,000), but the business fell 4,310 short of what 22,000 crates should earn. Price averaged 8.90, not 9, and materials 2.46 a crate: these need investigating.

Common errors

• Including depreciation, discounts allowed or irrecoverable debts in the cash budget.
• Putting a dividend in the statement of comprehensive income.
• Using this month’s sales, not next month’s, for a closing inventory policy.
• Flexing fixed costs, or flexing all of a semi-variable cost.
• Charging a full annual prepaid payment as the period’s expense.

Official syllabus

Pearson Edexcel International Advanced Subsidiary/Advanced Level in Accounting (XAC11/YAC11) specification, Issue 2, September 2018 (first teaching September 2015), Pearson Education Limited. Unit 2: Corporate and Management Accounting, topic 2.4 Budgeting.