Question

A company has provided a sales budget for the next four months. It bases its production budget on the sales budget, and has a policy that each month's ending inventory of finished product must be equal to 25% of the following month's sales needs. The direct materials purchases budget is based on the production budget. The company's policy for each month's ending inventory of raw materials is that they must be equal to 10% of the following month's production needs for raw materials. Given this information, the company can prepare direct materials purchases budgets for how many months?

a. One
b. Two
c. Three
d. Four
e. Five

Answer 1

The company can prepare direct materials purchases budgets for three months based on its inventory policies.

Correct option is c.

Step-by-step explanation:

The company can prepare direct materials purchases budgets for three months.

According to the company's policy, the ending inventory of finished product must be equal to 25% of the following month's sales needs. This means that the production needs for each month are based on the sales needs of the following month. Similarly, the ending inventory of raw materials must be equal to 10% of the following month's production needs. Therefore, the company needs to prepare direct materials purchases budgets for three months in order to meet these inventory requirements.

For example, if the sales budget for Month 1 is 100 units, then the production budget for Month 1 would be 100 units as well. The ending inventory for Month 1 would be 25 units (25% of Month 2's sales needs), and the production needs for raw materials for Month 2 would be 10 units (10% of Month 2's production needs). This process continues for the next three months.