Topic 2 - Budgeting (1) PDF

Budget TOPIC 2 KAM 3023 Management Accounting II  Objectives 1. Budget roles and function 2. Types and characteristics of traditional and contemporary budget 3. Structure and process of creating a Master Budget 4. Flexible Budget - Characteristics of a f...

Budget TOPIC 2 KAM 3023 Management Accounting II  Objectives 1. Budget roles and function 2. Types and characteristics of traditional and contemporary budget 3. Structure and process of creating a Master Budget 4. Flexible Budget - Characteristics of a flexible budget - Preparing a flexible budget - Activity based budget 5. Preparing a performance report KAM 3023 Management Accounting II  Objective 1: Budget roles and function KAM 3023 Management Accounting II  The Basic Framework of Budgeting A budget is a detailed quantitative plan for acquiring and using financial and other resources over a specified forthcoming time period. 1. The act of preparing a budget is called budgeting. 2. The use of budgets to control an organization’s activity is known as budgetary control. KAM 3023 Management Accounting II  Planning and Control Planning –– Planning Control –– Control involves involves developing developing involves involves the the steps steps objectives objectives and and taken taken by by preparing preparing various various management management that that budgets budgets toto achieve achieve attempt attempt to to ensure ensure these these objectives. objectives. the the objectives objectives are are attained. attained. KAM 3023 Management Accounting II  Advantages of Budgeting Define goal and objectives Communicate Think about and plans plan for the future Advantages Coordinate Means of allocating activities resources Uncover potential bottlenecks KAM 3023 Management Accounting II  Choosing the Budget Period Operating Budget 2003 2004 2005 2006 The annual operating budget A continuous budget is a 12- may be divided into quarterly month budget that rolls forward or monthly budgets. one month (or quarter) as the current month (or quarter) is completed. KAM 3023 Management Accounting II  Human Factors in Budgeting The The success success of of budgeting budgeting depends depends uponupon three three important important factors: factors: 1. 1. Top Top management management mustmust be be committed committed to to the the budget budget process. process. 2. 2. Top Top management management mustmust not not use use the the budget budget toto pressure pressure employees employees or or blame blame them them when when something something goes goes wrong. wrong. 3. 3. Highly Highly achievable achievable budget budget targets targets are are usually usually preferred preferred when when managers managers are are rewarded rewarded based based on on meeting meeting budget budget targets. targets. KAM 3023 Management Accounting II  Objective 2 : Types and characteristics of traditional and contemporary budget KAM 3023 Management Accounting II  Self-Imposed Budget Top M an ag em en t M id d le M id d le M an ag em en t M an ag em en t S u p ervis or S u p ervis or S u p ervis or S u p ervis or A budget is prepared with the full cooperation and participation of managers at all levels. A participative budget is also known as a self-imposed budget. KAM 3023 Management Accounting II  Advantages of Self-Imposed Budgets 1. 1. Individuals Individuals at at all all levels levels of of the the organization organization are are viewed viewed as as members members of of the the team team whose whose judgments judgments are are valued valued by by top top management. management. 2. 2. Budget Budget estimates estimates prepared prepared by by front-line front-line managers managers are are often often more more accurate accurate than than estimates estimates prepared prepared by by top top managers. managers. 3. 3. Motivation Motivation isis generally generally higher higher when when individuals individuals participate participate in in setting setting their their own own goals goals than than when when the the goals goals are are imposed imposed from from above. above. 4. 4. AA manager manager who who is is not not able able to to meet meet aa budget budget imposed imposed from from above above can can claim claim that that itit was was unrealistic. unrealistic. Self- Self- imposed imposed budgets budgets eliminate eliminate thisthis excuse. excuse. KAM 3023 Management Accounting II  Self-Imposed Budgets Most companies do not rely exclusively upon self-imposed budget in the sense that top managers usually initiate the budget process by issuing broad guidelines in terms of overall profits or sales. KAM 3023 Management Accounting II  Zero Based Budgeting A zero-based budget requires managers to justify all budgeted expenditures, not just changes in the budget from the prior year. Most Most managers managers argue argue that that zero-based zero-based budgeting budgeting is is too too time time consuming consuming and and costly costly to to justify justify on on an an annual annual basis. basis. KAM 3023 Management Accounting II  The Budget Committee A A standing standing committee committee responsible responsible for for  overall overall policy policy matters matters relating relating to to the the budget budget  coordinating coordinating the the preparation preparation of of the the budget budget KAM 3023 Management Accounting II  Objective 3 : Structure and process of creating a Master Budget KAM 3023 Management Accounting II  The Master Budget The master budget is the comprehensive financial plan for the organization as a whole. Typically for a 1-year period, corresponding to the fiscal year of the company. Yearly budgets are broken down into quarterly and monthly budgets. The use of smaller time periods allows managers to compare actual data with budgeted data more frequently, so problems may be noticed and resolved sooner. LO-1 KAM 3023 Management Accounting II  The Master Budget (cont.) Some organizations have developed a continuous budgeting philosophy. A continuous budget is a moving 12-month budget. As a month expires in the budget, an additional month in the future is added so that the company always has a 12-month plan on hand. Proponents of continuous budgeting maintain that it forces managers to plan ahead constantly. LO-1 KAM 3023 Management Accounting II  Master Budget: Directing and Coordinating Most organizations prepare the master budget for the coming year during the last 4 or 5 months of the current year. The budget committee:  reviews the budget  provides policy guidelines and budgetary goals  resolves differences that arise as the budget is prepared  approves the final budget  monitors the actual performance of the organization as the year unfolds. The controller usually serves as the budget director, the person responsible for directing and coordinating the organization’s overall budgeting process. LO-1 KAM 3023 Management Accounting II  Master Budget: Major Components A master budget can be divided into operating and financial budgets:  Operating budgets describe the income-generating activities of a firm: sales, production, and finished goods inventories. Outcome is a pro forma or budgeted income statement.  Financial budgets detail the inflows and outflows of cash and the overall financial position.  Planned cash inflows and outflows appear in the cash budget. The expected financial position at the end of the budget period is shown in a budgeted, or pro forma, balance sheet. LO-1 KAM 3023 Management Accounting II  Master Budget: Major Components (cont.) Since many of the financing activities are not known until the operating budgets are known, the operating budget is prepared first. LO-1 KAM 3023 Management Accounting II The Master Budget: An Overview 1.Sales Budget Ending Finished Goods Selling and Budget 2.Production Administrative Budget Budget 3.Direct 4.Direct 5.Manufacturing Materials Labor Overhead Budget Budget Budget Cash Budget Budgeted Financial Statements KAM 3023 Management Accounting II  1.Sales Budget The sales budget is approved by the budget committee and describes expected sales in units and dollars. The sales budget is the basis for all of the other operating budgets and most of the financial budgets. It is important that it be as accurate as possible. The first step in creating a sales budget is to develop the sales forecast. The sales forecast is just the initial estimate, and it is often adjusted by the budget committee. LO-2 KAM 3023 Management Accounting II  Sales Budget  Royal Royal Company Company is is preparing preparing budgets budgets for for the the quarter quarter ending ending June June 30.30.  Budgeted Budgeted sales sales for for the the next next five five months months are: are:  April April 20,000 20,000 units units  May May 50,000 50,000 units units  June June 30,000 30,000 units units  July July 25,000 25,000 units units  August August 15,000 15,000 units. units.  The The selling selling price price is is $10 $10 per per unit. unit. KAM 3023 Management Accounting II  The Sales Budget The individual months of April, May, and June are summed to obtain the total projected sales in units and dollars for the quarter ended June 30th KAM 3023 Management Accounting II  Expected Cash Collections All All sales sales are are on on account. account. Royal’s Royal’s collection collection pattern pattern is: is:  70% 70% collected collected in in the the month month of of sale, sale,  25% 25% collected collected in in the the month month following following sale, sale,  5% 5% uncollectible. uncollectible. The The March March 3131 accounts accounts receivable receivable balance balance of of $30,000 $30,000 will will be be collected collected in in full. full. KAM 3023 Management Accounting II Expected Cash Collections KAM 3023 Management Accounting II Expected Cash Collections From the Sales Budget for April. KAM 3023 Management Accounting II Expected Cash Collections From the Sales Budget for May. KAM 3023 Management Accounting II Expected Cash Collections KAM 3023 Management Accounting II  2.The Production Budget Sales Production Budget Budget ed andl et p Expected om C Cash Collections Production must be adequate to meet budgeted sales and provide for sufficient ending inventory. KAM 3023 Management Accounting II  Production Budget The production budget tells how many units must be produced to meet sales needs and to satisfy ending inventory requirements. To compute the units to be produced, both unit sales and units of beginning and ending finished goods inventory are needed: Units to be produced = Expected unit sales + Units in desired ending inventory (EI) – Units in beginning inventory (BI) LO-2 KAM 3023 Management Accounting II  The Production Budget The The management management at at Royal Royal Company Company wants wants ending ending inventory inventory to to be be equal equal to 20% of to 20% of the the following following month’s month’s budgeted budgeted sales sales in in units. units. On On March March 31, 31, 4,000 4,000 units units were were on on hand. hand.  Let’s Let’s prepare prepare the the production production budget. budget. KAM 3023 Management Accounting II The Production Budget KAM 3023 Management Accounting II  The Production Budget Budgeted May sales 50,000 Desired ending inventory % 20% March 31 Desired ending inventory 10,000 ending inventory KAM 3023 Management Accounting II The Production Budget KAM 3023 Management Accounting II The Production Budget Assumed ending inventory. KAM 3023 Management Accounting II  Direct Materials Purchases Budget After the production budget is completed, the budgets for direct materials, direct labor, and overhead can be prepared. The direct materials purchases budget tells the amount and cost of raw materials to be purchased in each time period. The formula used for calculating purchases is as follows: LO-2 KAM 3023 Management Accounting II  The Direct Materials Budget At At Royal Royal Company, Company, five pounds of five pounds of material material are are required required per per unit unit of of product. product. Management Management wants wants materials materials on on hand hand at at the the end end of of each each month month equal equal to 10% of to 10% of the the following following month’s month’s production. production. On On March March 31, 31, 13,000 13,000 pounds pounds of of material material are are on on hand. hand. Material Material cost cost is $0.40 per is $0.40 per pound. pound. Let’s Let’s prepare prepare the the direct direct materials materials budget. budget. KAM 3023 Management Accounting II  The Direct Materials Budget From production budget KAM 3023 Management Accounting II The Direct Materials Budget KAM 3023 Management Accounting II  The Direct Materials Budget March 31 inventory 10% of following months Calculate the materials to production needs. by purchased in May. KAM 3023 Management Accounting II The Direct Materials Budget KAM 3023 Management Accounting II The Direct Materials Budget Assumed ending inventory KAM 3023 Management Accounting II  Expected Cash Disbursement for Materials Royal Royal pays pays $0.40 $0.40 per pound for per pound for its its materials. materials. One-half One-half of of aa month’s month’s purchases purchases is is paid paid for for in in the the month month ofof purchase; purchase; the the other other half half is is paid paid in in the the following following month. month. The The March March 31 31 accounts accounts payable payable balance balance is is $12,000. $12,000.  Let’s Let’s calculate calculate expected expected cash cash disbursements. disbursements. KAM 3023 Management Accounting II Expected Cash Disbursement for Materials KAM 3023 Management Accounting II  Expected Cash Disbursement for Materials Compute the expected cash disbursements for materials for the quarter. 140,000 lbs. × $.40/lb. = $56,000 KAM 3023 Management Accounting II Expected Cash Disbursement for Materials KAM 3023 Management Accounting II  Direct Labor Budget The direct labor budget shows the total direct labor hours and the direct labor cost needed for the number of units in the production budget. The budgeted hours of direct labor are determined by the relationship between labor and output. LO-2 KAM 3023 Management Accounting II  The Direct Labor Budget At At Royal, Royal, each each unit unit of of product product requires 0.05 hours requires 0.05 hours (3 (3 minutes) minutes) ofof direct direct labor. labor. The The Company Company has has aa “no “no layoff” layoff” policy policy so so all all employees employees will will be be paid paid for for 40 40 hours hours of of work work each each week. week. In In exchange exchange for for the the “no “no layoff” layoff” policy, policy, workers workers agree agree to to aa wage wage rate rate of of $10 $10 perper hour hour regardless regardless of of the the hours hours worked worked (No(No overtime overtime pay). pay). For For the the next next three three months, months, thethe direct direct labor labor workforce workforce will will be be paid paid for for aa minimum minimum of of 1,500 1,500 hours hours per per month. month.  Let’s Let’s prepare prepare the the direct direct labor labor budget. budget. KAM 3023 Management Accounting II The Direct Labor Budget From production budget KAM 3023 Management Accounting II The Direct Labor Budget KAM 3023 Management Accounting II The Direct Labor Budget Greater Greater of of labor labor hours hours required required or or labor labor hours hours guaranteed. guaranteed. KAM 3023 Management Accounting II The Direct Labor Budget KAM 3023 Management Accounting II EXAMPLE FOR DIFF RATE: Labor hour paid = 1,500 hrs For the first 1000 hrs, RM10 (normal rate) The remaining hours, RM15 (OT rate) APRIL: For the first 1000 hrs -1,000 x RM10 = RM10,000 For the next 500 hrs – 500 x RM15 = RM7,500 Total DL cost for April = RM10,000 + RM7,500 = RM17,500 KAM 3023 Management Accounting II  Overhead Budget The overhead budget shows the expected cost of all production costs other than direct materials and direct labor. Many companies use direct labor hours as the driver for overhead. Then costs that vary with direct labor hours are pooled and called variable overhead. The remaining overhead items are pooled into fixed overhead. LO-2 KAM 3023 Management Accounting II  Manufacturing Overhead Budget At At Royal Royal manufacturing manufacturing overhead overhead is is applied applied toto units units of of product product on on the the basis basis of of direct direct labor labor hours. hours. The The variable variable manufacturing manufacturing overhead overhead raterate is is $20 $20 per per direct direct labor labor hour. hour. Fixed Fixed manufacturing manufacturing overhead overhead is is $50,000 $50,000 perper month month and and includes includes $20,000 $20,000 ofof noncash noncash costs costs (primarily (primarily depreciation depreciation ofof plant plant assets). assets).  Let’s Let’s prepare prepare the the manufacturing manufacturing overhead overhead budget. budget. KAM 3023 Management Accounting II Manufacturing Overhead Budget Direct Labor Budget KAM 3023 Management Accounting II Manufacturing Overhead Budget Total mfg. OH for quarter $251,000 = $49.70 per hour* Total labor hours required 5,050 KAM 3023 Management Accounting II Manufacturing Overhead Budget Depreciation Depreciation is is aa noncash noncash charge. charge. KAM 3023 Management Accounting II Ending Finished Goods Inventory Budget Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. $ 0.40 $ 2.00 Direct labor Manufacturing overhead Budgeted finished goods inventory Ending inventory in units Unit product cost Ending finished goods inventory Direct materials budget and information KAM 3023 Management Accounting II Ending Finished Goods Inventory Budget Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. $ 0.40 $ 2.00 Direct labor 0.05 hrs. $10.00 0.50 Manufacturing overhead Budgeted finished goods inventory Ending inventory in units Unit product cost Ending finished goods inventory Direct labor budget KAM 3023 Management Accounting II Ending Finished Goods Inventory Budget Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. $ 0.40 $ 2.00 Direct labor 0.05 hrs. $ 10.00 0.50 Manufacturing overhead 0.05 hrs. $ 49.70 2.49 $ 4.99 Budgeted finished goods inventory Ending inventory in units Unit product cost $ 4.99 Ending finished goods inventory ? Total mfg. OH for quarter $251,000 = $49.70 per hour* Total labor hours required 5,050 KAM 3023 Management Accounting II Ending Finished Goods Inventory Budget Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. $ 0.40 $ 2.00 Direct labor 0.05 hrs. $10.00 0.50 Manufacturing overhead 0.05 hrs. $49.70 2.49 $ 4.99 Budgeted finished goods inventory Ending inventory in units 5,000 Unit product cost $ 4.99 Ending finished goods inventory $24,950 Production Budget KAM 3023 Management Accounting II  Selling and Administrative Expenses Budget The selling and administrative expenses budget outlines planned expenditures for nonmanufacturing activities. Selling and administrative expenses can be broken down into fixed and variable components. Items as sales commissions, freight, and supplies vary with sales activity. LO-2 KAM 3023 Management Accounting II  Selling and Administrative Expense Budget At At Royal, Royal, thethe selling selling and and administrative administrative expenses expenses budget budget is is divided divided into into variable variable and and fixed fixed components. components. The The variable variable selling selling and and administrative administrative expenses expenses are are $0.50 $0.50 per per unit unit sold. sold. Fixed Fixed selling selling andand administrative administrative expenses expenses are are $70,000 $70,000 per per month. month. The The fixed fixed selling selling and and administrative administrative expenses expenses include include $10,000 $10,000 in in costs costs –– primarily primarily depreciation depreciation –– that that are are not not cash cash outflows outflows of of the the current current month month.. Let’s Let’s prepare prepare the the company’s company’s selling selling and and administrative administrative expense expense budget. budget. KAM 3023 Management Accounting II Selling and Administrative Expense Budget Calculate the selling and administrative cash expenses for the quarter. KAM 3023 Management Accounting II Selling and Administrative Expense Budget KAM 3023 Management Accounting II  Cash Budget Understanding cash flows is critical in managing a business. Often, a business successfully produces and sells products but fails because of timing problems associated with cash inflows and outflows. Because cash flow is the lifeblood of an organization, the cash budget is one of the most important budgets in the master budget. LO-3 KAM 3023 Management Accounting II  Format of the Cash Budget The cash budget is divided into four sections: 1. Cash receipts listing all cash inflows excluding borrowing 2. Cash disbursements listing all payments excluding repayments of principal and interest 3. Cash excess or deficiency 4. The financing section listing all borrowings, repayments and interest KAM 3023 Management Accounting II  The Cash Budget Royal: Royal:  Maintains Maintains aa 16% 16% open open line line ofof credit credit for for $75,000 $75,000  Maintains Maintains aa minimum minimum cashcash balance balance of of $30,000 $30,000  Borrows Borrows on on the the first first day day ofof the the month month andand repays repays loans loans on on the the last last day day of of the the month month  Pays Pays aa cash cash dividend dividend ofof $49,000 $49,000 in in April April  Purchases Purchases $143,700 $143,700 of of equipment equipment in in May May and and $48,300 $48,300 in in June June paid paid in in cash cash  Has Has an an April April 11 cash cash balance balance of of $40,000 $40,000 KAM 3023 Management Accounting II The Cash Budget Schedule Schedule of of Expected Expected Cash Cash Collections Collections KAM 3023 Management Accounting II The Cash Budget Schedule Schedule of of Expected Expected Cash Cash Disbursements Disbursements Direct Labor Budget Manufacturing Overhead Budget Selling and Administrative Expense Budget KAM 3023 Management Accounting II The Cash Budget Because Royal maintains a cash balance of $30,000, the company must borrow $50,000 on it line-of-credit. KAM 3023 Management Accounting II The Cash Budget Ending cash balance for April is the beginning May balance. KAM 3023 Management Accounting II The Cash Budget KAM 3023 Management Accounting II  The Cash Budget $50,000 × 16% × 3/12 = $2,000 Borrowings on April 1 and repayment on June 30. KAM 3023 Management Accounting II The Budgeted Income Statement Cash Budgeted Budget Income Statement t ed e pl om C After we complete the cash budget, we can prepare the budgeted income statement for Royal. KAM 3023 Management Accounting II  The Budgeted Income Statement Sales Sales Budget Budget Royal Company Budgeted Income Statement For the Three Months Ended June 30 Ending Ending Finished Finished Sales (100,000 units @ $10) $ 1,000,000 Cost of goods sold (100,000 @ $4.99) 499,000 Goods Goods Inventory Inventory Gross margin 501,000 Selling and administrative expenses 260,000 Selling Selling and and Operating income 241,000 Administrative Administrative Interest expense 2,000 Net income $ 239,000 Expense Expense Budget Budget Cash Cash Budget Budget KAM 3023 Management Accounting II  The Budgeted Balance Sheet Royal Royal reported reported the the following following account account balances balances prior prior to to preparing preparing its its budgeted budgeted financial financial statements: statements: Land Land -- $50,000 $50,000 Common Common stock stock -- $200,000 $200,000 Retained Retained earnings earnings -- $146,150 $146,150 Equipment Equipment -- $175,000 $175,000 KAM 3023 Management Accounting II  Royal Company Budgeted Balance Sheet 25% 25% of of June June June 30 sales sales of of Current assets $300,000 $300,000 Cash $ 43,000 Accounts receivable 75,000 11,500 11,500 lbs. lbs. Raw materials inventory 4,600 at at $0.40/lb. $0.40/lb. Finished goods inventory 24,950 Total current assets 147,550 5,000 5,000 units units Property and equipment at at $4.99 $4.99 each each Land 50,000 Equipment 367,000 Total property and equipment 417,000 Total assets $ 564,550 50% 50% of of June June Accounts payable $ 28,400 purchases purchases Common stock 200,000 Retained earnings 336,150 of of $56,800 $56,800 Total liabilities and equities $ 564,550 KAM 3023 Management Accounting II  Royal Company Budgeted Balance Sheet June 30 Current assets Cash $ 43,000 Accounts receivable 75,000 Beginning balance $146,150 Add: net income 239,000 Raw materials inventory 4,600 Deduct: dividends (49,000) Finished goods inventory 24,950 Ending balance $336,150 Total current assets 147,550 Property and equipment Land 50,000 Equipment 367,000 Total property and equipment 417,000 Total assets $ 564,550 Accounts payable $ 28,400 Common stock 200,000 Retained earnings 336,150 Total liabilities and equities $ 564,550 KAM 3023 Management Accounting II Objective 4 : Flexible Budget KAM 3023 Management Accounting II Static Budgets and Performance Reports Hmm! Comparing static budgets with Static budgets actual costs is like are prepared for comparing apples a single, planned and oranges. level of activity. Performance evaluation is difficult when actual activity differs from the planned level of activity. KAM 3023 Management Accounting II Flexible Budgets May be prepared for any activity level in the relevant range. Show costs that should have been incurred at the actual level of activity, enabling “apples to apples” cost comparisons. Reveal variances related to cost control. Improve performance evaluation. Let’s look at CheeseCo. KAM 3023 Management Accounting II Static Budgets and Performance Reports CheeseCo KAM 3023 Management Accounting II Static Budgets and Performance Reports CheeseCo KAM 3023 Management Accounting II Static Budgets and Performance Reports CheeseCo U = Unfavorable variance CheeseCo was unable to achieve the budgeted level of activity. KAM 3023 Management Accounting II Static Budgets and Performance Reports CheeseCo F = Favorable variance that occurs when actual costs are less than budgeted costs. KAM 3023 Management Accounting II Static Budgets and Performance Reports CheeseCo Since cost variances are favorable, have we done a good job controlling costs? KAM 3023 Management Accounting II Static Budgets and Performance Reports I don’t think I can answer the Actual activity is below question using budgeted activity. a static budget. So, shouldn’t variable costs be lower if actual activity is lower? KAM 3023 Management Accounting II Static Budgets and Performance Reports The The relevant relevant question question is is...... “How “How much much of of the the favorable favorable cost cost variance variance isis due due to to lower lower activity, activity, and and how how much much isis due due to to good good cost cost control?” control?” To To answer answer the the question, question, we we must must the the budget budget toto the the actual actual level level of of activity. activity. KAM 3023 Management Accounting II  Preparing a Flexible Budget To a budget we need to know that:  Total variable costs change in direct proportion to changes in activity.  Total fixed costs remain ble aria unchanged within the V relevant range. Fixed KAM 3023 Management Accounting II Preparing a Flexible Budget Let’s prepare budgets for CheeseCo. KAM 3023 Management Accounting II  Preparing a Flexible Budget CheeseCo Cost Total Flexible Budgets Formula Fixed 8,000 10,000 12,000 per Hour Cost Hours Hours Hours Machine hours 8,000 10,000 12,000 Variable costs Variable costs are expressed as Indirect labor $ 4.00 a constant amount per hour. Indirect material 3.00 Power 0.50 $40,000 ÷ 10,000 hours is Total variable cost $ 7.50 $4.00 per hour. Fixed costs Depreciation $ 12,000 Fixed costs are Insurance 2,000 expressed as a Total fixed cost total amount. Total overhead costs KAM 3023 Management Accounting II  Preparing a Flexible Budget CheeseCo Cost Total Flexible Budgets Formula Fixed 8,000 10,000 12,000 per Hour Cost Hours Hours Hours Machine hours 8,000 10,000 12,000 Variable costs Indirect labor $ 4.00 $ 32,000 Indirect material 3.00 24,000 Power 0.50 4,000 Total variable cost $ 7.50 $ 60,000 Fixed costs $4.00 per hour × 8,000 hours = $32,000 Depreciation $ 12,000 Insurance 2,000 Total fixed cost Total overhead costs KAM 3023 Management Accounting II  Preparing a Flexible Budget CheeseCo Cost Total Flexible Budgets Formula Fixed 8,000 10,000 12,000 per Hour Cost Hours Hours Hours Machine hours 8,000 10,000 12,000 Variable costs Indirect labor $ 4.00 $ 32,000 Indirect material 3.00 24,000 Power 0.50 4,000 Total variable cost $ 7.50 $ 60,000 Fixed costs Depreciation $ 12,000 $ 12,000 Insurance 2,000 2,000 Total fixed cost $ 14,000 Total overhead costs $ 74,000 KAM 3023 Management Accounting II  Preparing a Flexible Budget CheeseCo Cost Total Flexible Budgets Formula Fixed 8,000 10,000 12,000 per Hour Cost Hours Hours Hours Machine hours 8,000 10,000 12,000 Variable costs Indirect labor $ 4.00 $ 32,000 $ 40,000 Indirect material 3.00 24,000 30,000 Total fixed costs Power 0.50 4,000 5,000 Total variable cost $ do 7.50not change$ in 60,000 $ 75,000 the relevant range. Fixed costs Depreciation $ 12,000 $ 12,000 $ 12,000 Insurance 2,000 2,000 2,000 Total fixed cost $ 14,000 $ 14,000 Total overhead costs $ 74,000 $ 89,000 ? KAM 3023 Management Accounting II  Preparing a Flexible Budget Cost Total Flexible Budgets Formula Fixed 8,000 10,000 12,000 per Hour Cost Hours Hours Hours Machine hours 8,000 10,000 12,000 Variable costs Indirect labor $ 4.00 $ 32,000 $ 40,000 $ 48,000 Indirect material 3.00 24,000 30,000 36,000 Power 0.50 4,000 5,000 6,000 Total variable cost $ 7.50 $ 60,000 $ 75,000 $ 90,000 Fixed costs Depreciation $ 12,000 $ 12,000 $ 12,000 $ 12,000 Insurance 2,000 2,000 2,000 2,000 Total fixed cost $ 14,000 $ 14,000 $ 14,000 Total overhead costs $ 74,000 $ 89,000 $ 104,000 KAM 3023 Management Accounting II  Objective 5 : Preparing a performance report KAM 3023 Management Accounting II Flexible Budget Performance Report Let’s prepare a budget performance report for CheeseCo. KAM 3023 Management Accounting II  Flexible Budget Performance Report CheeseCo Flexible budget Cost is Total prepared for theFormula Fixed Flexible Actual same activity level per Hour Cost Budget Results Variances (8,000 Machine hours) as hours 8,000 8,000 0 actually Variable costs achieved. Indirect labor $ 4.00 $ 34,000 Indirect material 3.00 25,500 Power 0.50 3,800 Total variable cost $ 7.50 $ 63,300 Fixed costs Depreciation $ 12,000 $ 12,000 Insurance 2,000 2,050 Total fixed cost $ 14,050 Total overhead costs $ 77,350 KAM 3023 Management Accounting II  Flexible Budget Performance Report CheeseCo Cost Total Formula Fixed Flexible Actual per Hour Cost Budget Results Variances Machine hours 8,000 8,000 0 Variable costs Indirect labor $ 4.00 $ 32,000 $ 34,000 $ 2,000 U Indirect material 3.00 25,500 Power 0.50 3,800 Total variable cost $ 7.50 $ 63,300 Fixed costs Depreciation $ 12,000 $ 12,000 Insurance 2,000 2,050 Total fixed cost $ 14,050 Total overhead costs $ 77,350 KAM 3023 Management Accounting II  Flexible Budget Performance Report CheeseCo Cost Total Formula Fixed Flexible Actual per Hour Cost Budget Results Variances Machine hours 8,000 8,000 0 Variable costs Indirect labor $ 4.00 $ 32,000 $ 34,000 $ 2,000 U Indirect material 3.00 24,000 25,500 1,500 U Power 0.50 4,000 3,800 200 F Total variable cost $ 7.50 $ 60,000 $ 63,300 $ 3,300 U Fixed costs Depreciation $ 12,000 $ 12,000 $ 12,000 $ 0 Insurance 2,000 2,000 2,050 50 U Total fixed cost $ 14,000 $ 14,050 50 U Total overhead costs $ 74,000 $ 77,350 $ 3,350 U KAM 3023 Management Accounting II Flexible Budget Performance Report Remember the questi on: “How much of the to tal variance is due to lo wer activity and how mu ch is due to cost control? ” KAM 3023 Management Accounting II  Static Budgets and Performance How much of the $11,650 favorable variance is due to lower activity and how much is due to cost control? KAM 3023 Management Accounting II Flexible Budget Performance Report Overhead Variance Analysis Static Let’s place Actual Overhead the flexible Overhead Budget at at 10,000 Hours budget for 8,000 Hours 8,000 hours $ 89,000 $ 77,350 here. Difference between original static budget and actual overhead = $11,650 F. KAM 3023 Management Accounting II Flexible Budget Performance Report Overhead Variance Analysis Static Flexible Actual Overhead Overhead Overhead Budget at Budget at at 10,000 Hours 8,000 Hours 8,000 Hours $ 89,000 $ 74,000 $ 77,350 Activity Cost control This $15,000F variance is This $3,350U due to lower activity. variance is due to poor cost control. KAM 3023 Management Accounting II End of Chapter 2 KAM 3023 Management Accounting II