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Operational and tactical planning

the process of determining the specific objectives and means by which strategic plans will be achieved. Tactical plans are short term and cover periods up to 18 months.


Single use plans

Tactical plans are also called single use plans because they are developed to apply to specific circumstances during a specific time frame.


Annual budget

an annual budget is a type of single use tactical plan. Budgets translate the strategic plan and implementation into a period specific operational guide. Placing responsibility for achievement of strategic goals in the hands of managers promotes routine accomplishment of strategy as part of the manager's job function.


Budget policies

1. Formal budget policies
2. Management participation
3. budget guidelines
- evaluation of current conditions
- management instructions


Standards and benchmarking

1. Ideal standards - perfect efficiency and effectiveness, forward looking
2. Currently attainable standards - work performed by employees with appropriate training and experience but without extraordinary effort
3. Authoritative standards - set exclusively by management
4. Participative standards - set by both managers and the individuals who are held accountable


Master budgets

- annual business plan documents specific short term operating performance goals for a period, a year or less,
- communicates the criteria for performance
- called: static budget, annual business plans, profit planning or targeting budgets
- useful in manufacturing settings that require coordinating of financial and operating budgets


Components of master budgets

- operating budget and financial budget prepared in anticipation of achieving a single level of sales volume for a specified period
- Pro forma financial statements - the ultimate output of the annual business plan is a series of pro forma financial statements
- pro forma financial statements are supported by schedules that reflect the underlying operating assumptions that produce those statements.


Limitations of master budgets

1. Confined to one year at a single level of activity
2. Reporting output


Mechanics of master budgeting

1. Operating budgets - established to describe the resources needed and the manner in which those resources will be acquired. Include:
- sales budgets
- production budgets
- selling and admin budgets
- personal budgets
2. Financial budgets
- pro forma financial statements
- cash budgets


Sales budget

- foundation of the entire budget process
- anticipated sales of the org
- first budget prepared and it drives the number of units required by the production budget


Sales forecasting and budgeting

- sales budget based on the forecast
- sales forecast derived from input received from numerous org resources and staff opinion


Factors affecting sales forecasting and budgeting

1. Past patterns and budgeting
2. Sales force estimates
3. General economic conditions
4. Competitors' actions
5. Changes in the firm's prices
6. Changes in product mix
7. Results of market research studies
8. Advertising and sales promotion plans


Operating budgets - Production budget

- prepared for each product or each department based on the amount that will be produced
- made up of the amounts spent for direct labor, direct materials, and factory overhead


Production budget - establishing levels of production

Budgeted sales
+ Desired ending inventory
- Beginning inventory
= Budgeted production


Factors impacting the production budget

1. Company policies regarding stable production
2. Condition of production equipment
3. Availability of productive resources
4. Experience with production yields and quality


Direct materials budgets

1. Direct materials purchases budget represents the dollar amount of purchases of direct materials required to sustain production requirements.
a. Number of units to be purchases
Units of direct materials needed for a production period
+ Desired ending inventory at the end of the period
- Beginning inventory at the start of the period
= Units of direct materials to be purchased for the period
b. Cost of direct materials to be purchased

Units of direct materials to be purchased for the period
x Cost per unit
= Cost of direct materials to be purchased for the period
2. Direct materials usage budget
Beg inventory at cost
+ Purchases at cost
- Ending inventory at cost
= Direct materials usage
3. Direct labor budget

Budgeted production
x Hours required to produce each unit
= Total number of hours needed
x Hourly wage rate
= Total wages


Factory overhead budget

- fixed and variable production costs that are not direct labor or direct materials
- applied to inventory based on a representative statistic


Cost of goods manufactured and sold budget

- accumulates the info from the direct labor, direct material, and factory overhead budgets


Components of the costs of goods manufactured and sold budget

The cost of goods manufactured represents the sum of the budgets for each element of manufacturing as follows:
- direct labor
- direct material
- factory overhead

Cost of goods manufactured
+ Beg finished goods inventory
- Ending finished goods inventory
= Cost of goods sold


Operating budgets - Selling and admin exp budget

1. Variable selling expense
2. Fixed selling expense
3. General admin expense


Financial budgets - Cash budgets

Cash budgets represent detailed projections of cash receipts and disbursements. The cash budget is derived from other budgets based on cash collection and disbursement assumptions. Cash budgets provide management with info regarding the availability of funds for distribution to owners, for repayment of debt, and for investment.
- cash available
- cash disbursement
- financing


Cash available

1. Cash balances - the amounts of cash on hand that can be used to liquidate expenses.
2. Cash collections - cash that will be received from sales based on the sales budget and from anticipated loan proceeds.


Cash disbursements

Represent the cash outlays associated with purchases and with operating expenses.
1. Purchases indicate the anticipated amount that will be paid for purchases
- cash purchases for the current period
- credit purchases for the current period
- cash disbursements required to pay accounts payable during the current period
2. Operating expenses
- cash disbursements budgets eliminate noncash operating expenses
- cash disbursements budgets consider: % of prior month exp, current month exp paid in a following and current month



considers the manner in which operating (line of credit) financing will be used to maintain minimum cash balances or the manner in which excess or idle cash will invested to ensure both liquidity and adequate returns


Cash budget formats

cash budgets represent statements of planned cash receipts and disbursements and are primarily affected by the amounts used in the budgeted income statement. Cash budgets consider:
Beg cash
+ Cash collections from sales
- Cash disbursements for purchases and operating exp
- Computed ending cash
- Cash requirements to sustain operations
- Working capital loans to maintain cash requirements


Financial budgets - Pro forma financial statements

1. Pro forma income statements - key components of the budgeted income statements include the data described in the operating budgets:
- sales budget
- cost of goods sold budget
- selling and admin exp budget
- interest exp budget
2. Pro forma balace sheet - displays the balances of each balance sheet account consistently with the income statement and cash budget plans developed.
3. Pro forma statement of cash flows - the budgeted statement of cash flows is derived from the budgeted income statement


Capital budgets

Capital purchases budgets identify and allow management to evaluate the capital additions of the organization, often over a multiyear period. Financing is a significant component of the capital purchases budget. Capital budgets detail the planned expenditures for capital items. Capital budgets are highly dependent on the availability of cash or credit and they generally involve long-term commitments by organization.
a. Pro forma balance sheet
b. Pro forma income statement
c. Cash budget


Flexible budgeting

a financial plan prepared in a manner that allows for adjustments for changes in production or sales and accurately reflects expected costs for the adjusted output. Analysis focuses on substantive variances form standards rather than simple changes in volume or activity. Flexible budgets represent adjustable economic models that are designed to predict outcomes and accommodate changes in actual activity. Revenues and expenses are adjusted to display anticipated levels for achieved outputs.


Flexible budgeting
Assumptions and uses

Flexible budgets include consideration of revenue per unit, variable costs per unit, and fixed costs over the relevant range where the relationship between revenues and variable costs will remain unchanged and fixed costs will remain stable.
1. Yield - flexible budgets consider the amount of cost per unit allowed for units of output.
2. Variance analysis - flexible budgets derive the expenses and revenues allowed from the output achieved for purposes of comparison to actual activity and performance evaluation.


Flexible budgeting
Benefits and limitations of the flexible budget

1. Benefits - displays different volume levels within the relevant range to pinpoint areas where efficiencies have been achieved or where waste has occurred.
2. Limitations - dependent on the accurate identification of fixed and variable costs and the determination of the relevant range.


Budget variance analysis

Comparison of actual results to the annual business plan is the first and most basic level of control and evaluation of operations.


Budget variance analysis
Performance report

- Actual results may be easily compared to budgeted results.
- Usefulness is limited by the existence of variance from budget that may be strictly related to volume.


Use of flexible budgets to analyze performance

allows mangers to identify how an individual change in a cost of revenue driver affects the overall cost of a process


Variance analysis using standards

1. Standard costing systems
- direct costs- Standard price x Standard quantity = Standard direct costs
- indirect costs - Standard application rate x Standard quantity = Standard indirect costs
2. Purpose of Standard costing systems
- cost control
- data for performance evaluations
- ability to learn form standards and improve various processes


Variance calculations using standards

1. Standard cost objectives
2. Evaluating variances from standard
- evaluating results: favorable or unfavorable
- evaluating control: controllable or uncontrollable variance
3. Product costs subject to variance analysis


Direct materials and direct labor variance

a price variance x a quantity variance


Direct material variance

actual quantity purchased x (Actual price - standard price)


Direct material quantity usage variance

standard price x (actual quantity used - standard quantity allowed)


Direct labor rate variance

Actual hours worked x (actual rate - standard rate)


Direct labor efficiency variance

Standard rate x (Actual hours worked - Standard hours allowed)


Manufacturing overhead variance

The analysis of manufacturing overhead is the analysis of the debit or credit balance in the overhead account. A net debit balance (under applied) is an unfavorable variance and a net credit balance (over applied) is a favorable variance.


Overhead variance models

1. Net overhead variance - net debt or credit balance in the overhead account
2. Two way variance
- budget controllable variance
- volume uncontrollable variance
3. Three way variance
- spending variance
- efficiency variance
- volume uncontrollable variance


Establishing overhead application rates

overhead rates are applied using various cost drivers that assign the components of overhead cost pools to production. Predetermined fixed and variable overhead rates are established by dividing planned fixed and variable overhead amounts by a suitable cost driver.


Application of overhead

overhead is applied to production based on the predetermined rate per cost driver times the standard cost driver allowed for the actual level of activity.


When standard costing is used, the application of overhead is accomplished in two steps:

1. Calculated overhead rate = budgeted overhead costs / Estimated cost driver

2. Applied overhead = Standard cost driver for actual level of activity x Overhead rate (step 1)


Sales and contribution margin variance

Sales and contribution margin variance analyses can be used to evaluate the effectiveness of an entity's identification of target markets and its strategies to capture those markets.


Sales price variance

measures the aggregate impact of a selling price different from budget
Sales price variance = ((actual SP/Unit)-(Budgeted SP/Unit)) x Actual sold units


Strategy and mission

Firms may reduce prices in an effort to move into a cost leadership strategy or increase prices in an effort to put a differentiation strategy into place. Variance results have specific implications in analyzing the effectiveness of the firm in reaching its target markets.



a favorable variance in price and market share may exhibit untapped profit potential for a firm. If a firm plans to increase its market share or sales volume simply by reducing sales prices, it may risk reducing the profitability of the firm.


Sales volume variance

a flexible budget variance that distills volume activity from other sales performance components. The sales volume concept can be refined to include analysis of sales mix, market share and selling price.

Sales volume variance =
(Actual sold units - Budgeted sales units) - Standard contribution margin per unit


Sales Mix Variance

evaluates the impact of the company's departure from the planned mix of products anticipated by its budget.
Sales mix variance =
(Actual product sales mix ratio- Budgeted product sales mix ratio) x Actual sold units x Budgeted contribution margin per unit of that product


Sales quantity variance

measures the change in the number of actual sold units from those budgeted and can be expanded to include analysis of the anticipated size of the market and the share of the target market.
Product sales quantity variance = (Actual sold units of product - Budgeted sales units of product0 x Budgeted product sales mix ratio x Budgeted contribution margin per unit of that product


Market size Variance

measures of the effect the size of the entire market for the product has on the contribution margin
Market size variance = (Actual market size - Expected market size) x Budgeted market share x Budgeted contribution margin per unit


Market share variance

market share variance = (actual market share - budgeted market share) x actual units x budgeted contribution margin per unit


Analysis of business performance - Financial Scorecards

Financial scorecards take many forms, including budget vs actual and other variance reports, as well as overall analysis of business performance.
Financial performance is often a function of organizational decisions and the performance objectives given to each segment.


Types of responsibility segments (scorecards)

strategic business units are generally classified around four financial measures for which managers may be held accountable.
Highly effective in organizing performance requirements and in establishing accountability for financial responsibility:
1. Cost
2. Revenue
3. Profit
4. Investment


Establishing design for financial scorecards

1. Accurate and timely
2. Understandable
3. Specific accountability
a. Product lines
b. Geographic areas
c. Customers


Accounting decisions - allocation of common costs

managers have control over variable costs and over controllable fixed costs. Performance evaluations dealing with controllable margins will factor in these costs.
Common costs are not controllable. Approaches to the rational allocation of central administrative costs must be understood by responsible mangers and must be fair and logical to motivate employees that common costs do not represent an arbitrary burden.


Analysis of business performance - Contribution reporting

Profit SBUs are normally responsible for generating a level of profit in relation to controllable costs. Contribution reporting formats are generally used to clearly show the degree to which the profit that strategic business units have generated has covered variable or controllable costs.
A. Contribution margin - measures the excess of revenues over variable costs
B. Controllable margin - refinement of contribution margin reporting and represents the difference between contribution margin and controllable fixed costs. Controllable fixed costs are those costs that managers can impact in less than one year


Balanced scorecard

gathers info on multiple dimensions of an organization's performance defined by critical success factors necessary to accomplish firm strategy. Critical success factors are classified as:
1. Financial
2. Internal business process
3. Customer satisfaction
4. Advancement of innovation and human resource development


Financial and nonfinancial features of an organization that contribute to its success in achieving strategy are referred to as critical success factors

1. Financial solvency and return
2. Customer satisfaction
3. Internal business process
4. Human resource innovation


Responsibility accounting

a system of accounting that recognizes various responsibility or decision centers throughout an organization and reflects the plans and actions of each of these centers by assigning particular revenues and costs to the one having the responsibility for making decisions about these revenues and costs.


Selling price variance

(Actual selling price - Budgeted selling price) x Actual units sold