Management Accounting - Assigment 1

Budgetary Planning and Control |1 Table of Contents Budgetary Planning and Control |2 Introduction This report include four parts Part 1: This part is explanation of the purpose and nature of the budgeting process and the relationship of them to planning and control process Six budgeting methods also describe their advantages and disadvantages to choose the best appropriate budgeting method for an organization After that, nine tables of operating budgets for Phong Phu Company according to the chosen budgeting method are prepared Part 2: This part are preparation a cash budget for the second quarter by month as well as in total for the quarter and advice for the company to support them maintain a cash balance of at least $30,000 at the end of each month Part 3a: Part 3a computes all the variances and prepare an operating statement for the management and explains about the possible causes of the variances with identified responsibility centre It also recommends a new supplier, recommends the new labor mix, computed the variable overhead spending and efficiency variance, and explains about the relation you can see between this efficiency variance and the labor efficiency variance Part 3b: This part are preparation a new performance report for September using the flexible budget approach and the investigation some of the variances in the report Budgetary Planning and Control |3 Body Part 1: Preparation of an operating budget 1.1 The purpose and nature of the budgeting process 1.1.1 Natured of the budgeting process In general, budget has three main types: capital budget, cash budget and operating budget (Collins and Trenberth, 2006, p.241) “The House Capital Budget Committee considers the state capital budget which approves money for the construction and repair of public buildings and for other long-term investments, such as land acquisitions and transfers” (leg.wa.gov, accessed 2010) On the other words, a capital budget is a record of the organization’s future capital expenditure projects Whereas, “a cash budget is a statement in which estimated future cash receipts and payments are tabulated in such way to show the forecast cash balance of business at defined intervals” (BPP, 2004, p.162) Finally, the operating budget collects each month’s items such as materials purchases budgets, direct labor budgets, etc, to form an annual budget “Typically, a complete operating budget consists of not only a projected profit and loss statement but also a supporting cash flow statement, as well as a balance sheet” (aaupwiki.princeton.edu, accessed 2010) The budgeting method is different among companies because of the variety of organizational structure such as management style, organizational objectives, structure of competition, nature of work etc However, steps in preparing budget are commonly as below - The preparation of a budget may take weeks or months and the budget committee may meet several times before the master budget (budgeted profit and loss account - and budgeted balance sheet) is finally agreed Functional budgets (sales budgets, production budgets, direct labor budgets and so on), which are amalgamated into the master budget, may need to be amended many times over as a consequence of discussions between departments, changes in market conditions and so on during the course of budget preparation (BPP, 2004, p.160) 1.1.2 Purpose of the budgeting process Budgetary Planning and Control |4 Budgeting is important for cash management for institutions can avoid deficits Because these deficits are often detrimental in any environment, a budget is needed in all types of enterprises, and not just in the profit sector, but also in non-profit organizations and any types of organization to manage costs and revenues According to BPP (2004), a budget is a quantitative statement, for a defined period of time, which may include planned revenues, expenses, assets, liabilities and cash flows “In order to make effective decisions and coordinate the decisions and actions of the various departments, a business needs to have a plan for its operations Planning the financial operations of a business is called budgeting”(accmana3d.tripod.com, accessed 2010) Budgeting and financial planning go hand in hand; a budget helps propel the business to meeting its strategic financial plan closer Distinguishing different between budgeting and financial planning is necessary to set up budget and planning more clearly and recognize the value both of them There are5 main different things: Different Purpose, compliance vs fiscal stewardship Budgets Usually developed to match revenues against planned expenditures, meeting reporting requirements Information, revenue projections and budget allocations vs spending trends, performance benchmarks, goals, and performance Process, routine vs evaluative Most traditional budgets focus on the collection of minutiae, from head counts to supply use to salaries Budgeting process usually involves routine review of annual expenditures Focuses on taking care of day-today operating needs, such as staff, supplies, utilities, and benefits Focus, tactical vs strategic Financial planning Projects long-term sources and uses of funds, evaluates the effectiveness of programs and departments, and focuses financial resources on programs that help attain business goals Strategic financial planning uses this information as a foundation and builds on it Financial planning process identifies areas in which business funds are being overspent or spent on ineffective programs – or effective ones otherwise Focuses on allocating resources efficiently, making long-range plans for new funds, and ensuring that funds are directed toward goals and priorities of a strategic plan that is well thought out in advance, implemented and Budgetary Planning and Control |5 followed Source: (The Companyline, 2010) Purposes Benefits To ensure the achievement of the organization’s objectives To compel planning To communicate ideas and plans Co-ordinate activities To provides a framework for responsibility accounting To establish a system of control Motivate employees to improve their performance Explanation -To drawn up as targets to be achieved within the timescale of the budget plan Planning and Control process Planning process: Identify objectives -To assess effectiveness of plans -To give decision to flow the plan or not -To ensure that each person affected by the plans is aware of what he or she is supposed to be doing -Communication might be one-way, with managers giving orders to subordinates, or there might be a twoway dialogue -To ensure maximum integration of effort towards common goals of the activities of different departments need to be coordinated -Require: managers of budget centre have to control under their personal control achieve budget target Planning: Evaluate each strategy and Choose alternative courses of action Control: Measure actual results and compare with the plan Manage subordinates, motivate them execute the plan in order to maintain actual results same or better than expected result Planning: Identify alternative courses of action (strategies) which might contribute towards achieving the objects Control: Support manage control subordinate -To control over actual performance is provided by the comparisons of actual results against the budget plan -To investigate departures from budget -The reasons for the departures can be found and acted upon -The interest and commitment of employers can be retained if there is a system which lets them know how well or badly they are performing -The identification of controllable reasons for departures from budget with managers responsible provides an incentive for improving future performance Control: employees who join in execution of budget Control: Respond to divergences from plan Budgetary Planning and Control |6 In the case of company here – PhongPhu Ltd, budgeting process support manager control the cash and manufacturing also better forecasting Follow is main benefits that budgeting process brings to the manager: Budgeting forces managers to better forecasting Managers should be constantly examining the business to spot changes that will impact the business;this thing can be done by research on budgeting process Managers must put their predictions into definite and concrete forecasts Budgeting motivates managers and employees by providing useful yardsticks for evaluating performance The budgeting process can have a good motivational impact by involving managers in the budgeting process and by providing incentives to managers to strive for and achieve the business’s goals and objectives Budgeting can assist in the communication between different levels of management Putting plans and expectations in budgeted financial statements — including definite numbers for forecasts and goals — minimizes confusion and creates a kind of common language Well-crafted budgets can definitely help the communication process Budgeting is essential in writing a business plan New and emerging businesses need to present a convincing business plan when raising capital The managers and owners must demonstrate convincingly that the company has a clear strategy and a realistic plan to make profit A coherent, realistic budget forecast is an essential component of a business plan Source: (John A Tracy) 1.1.3 The way to maximize benefits from budget and the planning and control cycle To maximize benefits from budget is the same purpose of all organization It show the exactly desire of organization There are some ways to maximize benefits from budget below: - Select appropriate budget method in order to reduce risk, variance during the - operation Identify exactly organization objectives Budget of organization has to show purposes of organization of this plan clearly Employees have to understand to decide what they have to do, what they should and how to get these objectives Investors and financer also have to get the purposes of plan to decide should or should not invest Budgetary Planning and Control - |7 Establish a system of control The organization should establish Total Quality Management (TQM) system Austerity in manager would bring the best result and avoid hopeless risk during the organization Good in manage material would educe production delays by ensuring unrestricted and continuous supply of material on time, minimizes the capital investment on the stock of materials, reduce the cost of storage and issuing of materials, reduce wastage and loss of material through pilferage, theft, spoilage, evaporation, to ascertaining the position of inventory and accurate valuation of closing stock is possible by introducing perpetual inventory control system 1.2 Select appropriate budgeting methods for the organizations and its budgeting needs This section examines various methods which can be used as the basis for the preparation of budgets, either as the principles on which all budgets are based, or particularly for functional budgets such as the administration budget Functional departments which support the main operations of the organization may not be so dependent on sales levels Budgeting in non-profit-making organizations also requires a different approach, as starting from forecasts of demand may not be appropriate The methods to be considered are: gesDisadvantasAdvantage Definition  Top –down (imposed) budget VS Bottom up (participated) budget  Incremental budget VS Zero based budget  Fixed budget VS Flexible budget 1.2.1 Top –down (imposed) budget VS Bottom up (participated) budget Bottom up -Supervisors and middle managers prepare the budgets and then move them up the chain of command for review and approval - Employees assume an active role in providing financial for for investment in tasks the As -Can be quite accurate individual long as no tasks have been forgotten, then this can work quite well -Bottom-up budgeting involves all members of a particular can of betasks a benefit in -Lead those project, who arewhich in charge and also project managers to ask for more funding than will actually be needed - Lacking knowledge may make budget unachievable or can not connect with opinion Top down -The budget is prepared for the lower layers of the organization by top management and -Top-down budget made clear goals and expectations top management, but may -Good way toofapproach the budget -Well designed and consistent with the traditional organizations that are structured in a hierarchy -When top-down is done properly -Budgets can budget be inaccurate and not conflict with the objectives of the lower departments because only top managers prepare the budgets -Lower managers will not be aware of the Budgetary Planning and Control |8 gesDisadvantasAdvantage Definition 1.2.2 Incremental budget VS Zero based budget Incremental budget Widely used in commercial organizations and in the public sector Incremental budgeting means basing the budget for a department or function on that of the previous period, usually for inflation by achange percentage increase •adjusting The budget is stable and is gradual and planned • Managers can operate their departments on a consistent basis The system isbudgeting relativelyassumes simple to operate and and • Incremental activities methods of working will continue in the same way, giving no incentive for developing new ideas • There is no incentive to try to reduce costs – 1.2.3 Fixed budget VS Flexible budget Zero based budget Zero Base Budgeting means that the budget for each budget centre starts from a base of zero for each period Budgets for proposed activities are then put forward, assessed andthe prioritized (in This system focuses use of resources on achieving the organization’s objectives • Budget centre managers have to rein detail theiscost •evaluate The process itself veryeffectiveness complex and therefore costly to operate • By separating different activities, links between them may not be allowed for, leading to an uncoordinated approach gesDisadvantasAdvantage Definition Fixed budget - A budget which is set for a single level of -A flexible budget is a budget that is a function activity (BPP, 2004) of one or more levels of activity - Based on the level of output planned at -The budget depends on one or more measures the beginning of budget period of activity volume rather than being fixed in For example: a master budget (W F Bentz, n.d.) tool for planning - -Control costs effectively and provide a -amount Flexible budget is a useful certainty of their finances for managers -Easily in control and plan project for the - It is a useful tool for evaluating the future depending on the divergences between performances of managers expected results actual results •Preparing fixed and budgets based on in onethe past Although the flexible budget is a good tool, it activity level may not give an indication of can be difficult to build and manage One what may happen if actual sales and problem with the way it is many cost are not production differ from expected levels fully variable, rather than having a fixed cost •Fixed budgets will often fail to provide a component must be included in the budget  Organization should select flexible budget because a flexed budget is useful for preparing a performance report, where the actual costs and income are compared with the flexed budget applicable to the actual level of activity Differences are shown in a ‘variance’ column, labeled as adverse or favorable This form of report gives meaningful variances and is more acceptable to the person responsible for the budget The company will get some benefit from the flexible budget, restructure itself based on activity level, it is a good tool to evaluate the performance of managers - the tight budget should arrange Budgetary Planning and Control |9 to expect any number of levels of activity It is also a useful tool for planning management; managers can use it to model the financial results in many different levels of activity 1.3 Prepare operating budgets for Phong Phu company according to the chosen budgeting method The incremental budgeting system is applied to calculate the budget for the Phong Phu Company This budgeting system is to base next year’s budget on the current year’s results plus an extra amount for estimated growth or inflation next year By using this budgeting system, it is easy to calculate the budgets for the company which is Sales budget; Production budget; Direct materials budget; Direct Labor budget; Manufacturing overhead budget; Ending inventory budget for direct material; Cost of good sold budget; and Budget income statement Revenue/Sale budget Always start with sale budget because if the seller know from the marketing guide , 1.3.1 how many product which you would produce, how many unit you will going to sale then the company know what to do, know what to buy, basically of begging anything Show the maximum revenue which manager would get Production budget Provide information how many unit should produce in each quarter of time 1.3.2 Budgetary Planning and Control 1.3.3 Direct material budget 1.3.4 Direct labor budget | 10 10 Budgetary Planning and Control 1.3.8 | 13 Ending inventories budget for FG and budgeted COGS 13 Budgetary Planning and Control 1.3.9 | 14 Budget income statement Part 2: Preparation of a cash budget 2.1 Prepare a cash budget for the second quarter by month as well as in total for the quarter 2.1.1 Schedule of expected cash collection 2.1.2 Inventory purchase budget 2.1.3 Schedule of expected cash disbursements for merchandise purchases 14 Budgetary Planning and Control | 15 2.1.4 Cash balance 2.2 Advice for managements: Method 1: Each month, borrow amount of money to maintain a cash balance of at least $30,000 15 Budgetary Planning and Control | 16 The average of cost of capital for short term project is approximately 6.5% (USD) So, the last month of this quarter has to pay all interest Method 2: Prepare a cash budget to decide how many amount of cash that Vinabike should borrow in April in order to maintain a cash balance at least $30,000 each month Interest will be pay each month 16 Budgetary Planning and Control | 17 There are tow method for Vinabike maintain a cash budget at least $30,000 each year Advantages Disadvantages Method A - Lower a mount of borrowed money in the first month In operation, if financial standing is better, the second will need brown more money, avoid wasted - Have to pay more interest Method B - Higher ending balance cash for second quarter ($119,769 > $108,619) - Can be more reliable in prepare cash budget in maintaining a cash balance at least $30,000 each month - Waste if the result improve in the next month Part 3a: The variances and Operating statement 3a.1 Computation of all the variances and prepare an operating statement a Direct material cost variance 17 Budgetary Planning and Control | 18 b Direct labor cost variances c Variable production overhead variances 18 Budgetary Planning and Control | 19 d Operating Statement 3a.3 Report findings to management in accordance with identified responsibility centres Responsibility centres are a feature of responsibility accounting is a segment of a larger organization and is placed under the control of a manager The manager of the responsibility 19 Budgetary Planning and Control | 20 centres is directly responsible for its performance Responsibility centres are an essential feature of cost accounting and budgeting in all but the smallest business organization There are four type of responsibility centre: Cost centre: manager responsible for revenue raised The manager respondible for the centre has control over costs but not revenue The significant % of costs will be are directly attributable costs but there is no directly attributable revenue Example of cost centres: buying department, warehouse & stock control department, transport department, Human Resource Management department, finance department, R&D department Revenue centre: manager responsible for revenue raised A revenue centre is a responsibility centre in which the manager responsible for revenue only Sales department and airline reservation department are examples of revenue centre Profit centre: manager responsible for both cost and revenue A profit centre is a business unit to which costs and revenues are allocated and recorded A profit centre is allowed to control itself as a separate part from the larger organization It is possible for a profit centre to produce a negative profit For instance: product department, a product division of the company, or a restaurant in fast – food chain Investment centre: manager responsible for profit, capital investment and financing An investment centre is a responsibility centre in which the manager responsible for all aspects of finance including costs, revenue, profit, and investment 3a.3The possible causes of the variances with identified responsibility centre Variances Direct material price variance $6,265 (F) Possible causes -Unforeseen discount receive -More care taken in purchasing -Change in material standard in producing -Changes in transportation costs and storekeeping costs can also be contributing factors to material price variance Responsibility centre Cost centre - Warehouse & stock control department: who manage output and input of material if have many wrong related to in-output inventory or has responsibility in the charge when they use material to produce 20 Budgetary Planning and Control Direct material usage variance $1,365 (A) -Use more material -Thief -Stricter quality control -Errors in allocating material to jobs Direct labor price variances $3,780 (F) -Use of apprentices or other works at a rate of pay lower than standard Direct labor efficiency variance in $ $9,600 (A) -Lost of time in excess of standard allowed -Output lower than standard set because of deliberate restriction, lack of straining, sub-standard material used Variable production overhead expenditure variance $1,260 (F) Variable production overhead efficiency variance $2,400 (A) | 21 -Cost centre Finance department: who prepare budget has to take charge of variance in actual result comparing with expected result -Profit centre Product department: a part errors in allocating material to jobs lead to the Direct material usage variance Cost center -Human resource managers: Who have responsibility to control, distribute position in working and manage time working of employes Cost centre -Finance department: Many wrong in prepare budget accouter have to response -Human resource managers: lack of straining, sub-standard material used effect direct labor efficiency varience - Savings in cost incurred, Investment centre -More economical use of -Human resource manager: have services responsibility when have changes in -Reduce property tax using indirect labor -Investor not ascertain the fluctuation of economic which lead to the change of price -Maintenance and repairs on Investment centre production equipment -Factory, equipment manager: -Efficient use of labor time due because of expenditure more because to automation accident in producing, maintenance -Use of superior production and repairs equipment methods -Finance department: Can not -Good at foreman estimate the changes about performance economic, so they can not prepare - Production less than budget exactly budgeted 21 Budgetary Planning and Control | 22 3a.4 Recommend a new supplier Company should sign the new contact of new supplier Although budget company many have some variances of material price because of new price from material of new supplier, however: - They are anxious so can be easy in deal They can reduce price for organization in a short period of time in order to attack the attention from organization to buy more for - them Add some more suppliers will avoid the price squeeze from monopolistic supplier It also increases the competitiveness for suppliers in order to push them work better for the organization It will bring long term advantage for company 3a.5 Recommend the new labor mix The company should not experiment with fewer senior technicians and more assistants in order to save costs because in fact, direct labor price variances reduce compare with standard result However, direct labor efficiency variance cost is more than direct labor price variances over 2.5 times ($9,600: $3,780 = 2.54) The reasons lead to direct labor efficiency variance may be Lost of time in excess of standard allowed or output lower than standard set because of deliberate restriction, lack of straining, sub-standard material used So, the company should concentrate training and improve skill for employees They need senior technicians to training more professional employees They should not cut down professional labor in the present time 3a.6 Explanation about the relation you can see between manufacturing overhead efficiency variance and the labor efficiency variance As can be seen table 3a.2 and 3a.3 above, both of manufacturing overhead efficiency variance and the labor efficiency variance has result of direct labor efficiency variance in hour multiply standard cost 22 Budgetary Planning and Control | 23 Part 3b: Flexible Budget 3b.1 New performance report for September using the flexible budget approach 23 Budgetary Planning and Control | 24 3b.2 Investigation of the variances in the report Any variances should be investigated to find out the reason why have these variances If it is favorable variance, the reason would support the financer in finding out the method to reduce expenditure in next period If it is unfavorable variance, the reason of variance would help the organization pay more attention in this kind of cost this time to avoid the unfavorable variance In this case, manager of the Antigua Blood Bank should adjust variable cost All actual results of kinds of variable cost were worse than expected result, especially medical supplies, refreshment for donor Because of a powerful hurricane that hit neighboring islands causing many injuries, the Antigua Blood Bank need more blood to help people on other islands So, they have to expend amount of money for medical supplies, refreshment for donor Besides, this is a social organization so they have to expense more for utility 24 Budgetary Planning and Control | 25 This is a special situation, the Antigua Blood Bank can not compute However, they should pay attention to nature factor in the budget of next period to avoid the unfavorable variances in budget 25 Budgetary Planning and Control | 26 Conclusion Four part of this report showed: About theory, this report show the purpose and nature of the budgeting process and the relationship of them to planning and control process, the way to maximize benefits from budget and the planning and control cycle Six budgeting methods also describe their advantages and disadvantages to choose the best appropriate budgeting method for an organization About calculation, nine tables of operating budgets for Phong Phu Company according to the chosen budgeting method are prepared A cash budget for the second quarter of Vinabike Company by month as well as in total for the quarter also is prepared Then it provide advice for the company to support them maintain a cash balance of at least $30,000 at the end of each month Part 3a computes all the variances and prepares an operating statement for the management and explains about the possible causes of the variances with identified responsibility centre of Riley Labs And the last part is preparation a new performance report for September using the flexible budget approach and the investigation some of the variances in the report 26 Budgetary Planning and Control | 27 References Alexis (2003) What is cash position? 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