How to Prepare a Production Budget
Making a production budget involves first determining the number of units projected to be sold. A production budget is usually given in either a monthly or quarterly layout. The production budget is most often prepared for a push manufacturing system.
Today, we want to go over production budget; what the production budget is. A production budget is the amount of product that will have to be manufactured or produced. In order to estimate this, you have to begin first with a sales budget, a per debt projection of how many units you’ll probably sell given the budget period.
The sales budget comes in first. We think we’re going to sell X units of our product over the coming fiscal year. You begin with that number, then you also factor in how much inventory we want left at the end of the budget period. You don’t want it to be zero, because if you’ve got no inventory, you might miss sales, and it might mess up your production later. You only have so much production capacity and you also don’t want huge amounts of inventory leftover, as that ties up resources, finances, storage space, and things like this. Projected sales, how much inventory we want on hand at the end, and then you also budget in factor in how many units we currently have on hand.
To give you an example, we have here a basic equation. Units produced = our projected sales + our desired ending inventory – our beginning inventory (how much we have on hand). In our example here, let’s say whatever it is that we’re manufacturing, projected sales are 1,200 units for the budget period. We’ll say 1,200 units for the first quarter maybe. We project to sell 1,200 units. We want 300 units left on hand at the end, and we’ve got 150 on hand right now.
Taking our equation here, 1,200 units is what we plan to sell. We want 300 at the end, so that’s a total of 1,500 units. We’ve already got 150 on hand, which leaves us with a remainder of 1,350. By looking at what we project to sell, what we want in inventory at the end, minus what we already have in inventory now, we arrive at the production budget we need to produce 1,350 units over the projected period.
Production budgets are always in terms of units manufactured, not in money. You can, underneath this, if you want more detail, talk about unit cost, the cost of depreciation, the cost of labor, and the cost of materials. Some of this can be very helpful in making a production budget, because you may say, “Hey, we’re going to have a spike in production or a need in this particular quarter. We want to make sure we have enough material on hand, enough manufacturing capacity, and enough storage capacity in order to meet that need.”
Projecting ahead in terms of materials cost, labor costs, spikes, needs, how much you can actually manufacture. Let’s say your manufacturing process can only churn out a certain number per month. In some months, you don’t want it to churn out full capacity, because you have a whole bunch of extra on your hand. At the same time, if you’ve got months coming up where you’re going to have more need than your capacity can supply, then you’ll factor that into the earlier months and produce extras to store up, so that when that need hits, you’ve got it ready to go and you can send it out.
The basic idea of a production budget, once again, is determining how many units to produce based on sales projections (what we think we’ll sell) plus the desired inventory at the end minus what we currently have on hand.