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Example 1
This A company manufactures a single product. Budgeted production (in units) for the first three months (M1,
M2 and M3) of next year is as follows:
M1 M2 M3
4,000 5,000 3,500
Each unit of production uses 3 kg of raw material costing $4 per kg. The budgeted raw material inventory at the end of each month is to be 10% of the following month’s production.
What are the budgeted raw material purchases for month M2 next year?
A $58,200
B $59,400
C $60,600
D $61,800
The correct answer was A. This question tested Section E2(b) in the Study Guide, which requires candidates to be able to prepare a materials purchases budget.
In month M2 the company would purchase 90% of its materials needs for that month and 10% of the requirements for month M3. So its materials purchases would be: [0.9×5,000 + 0.1×3,500] ×3×$4 = $58,200.My question: If you need 5000 units for the month, why would you purchase only 4500 units (that is 90% of 5000)?
Thus 4500, and in inventory you will have 350. In total 4850units. Wouldn’t your be short if you budgeted 5000 units?
Also, what is to be said on opening inventory here?Because the question says that at the end of each month they have inventory of 10% of the following months production, it means that at the end of M1 (start of M2) they have 10% of M2’s production in inventory. So they already have 500 units which is why they only need 4500 units to have enough for M2.
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