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HOMEWORK B2: Strategic Planning: Budgeting

annual business plan or master budget process typically

begins with operating budgets that are driven by sales budgets
that, in turn, provide the required variables for production, selling
and personnel budgets. Financial budgets including pro
forma financial statements and cash budgets come at the end

of the process and are prepared last. It documents specific short-term

operating performance goals for a period, normally one year or less. It is an overall
budget, consisting of many smaller budgets, that is based on one specific level of

Annual Business Plan

Mission strategy - what is the company strategy to
accomplish objectives

Short-term objectives

OPERATING BUDGET - driven by sales budgets, describe

the plan for revenue and

schedules that go with them.

expenses and the supporting

Sales budget
on sales forecast
inv. to sustain sales;

- foundation of the entire budget process -based

Production Budget - based on amt of inventory on hand &

based on sales budget or forecast

Direct Materials budget


DM purchases budget - $ amt (# of units & cost

of DM purchased)

DM usage budget - no. of units of DM

reqd for production


Direct Labor budget - based on hrs. to produce

each unit & hourly rate

production cost (applied

Factory Overhead budget - Fixed and variable

To Inventory (COGM and COGS based on cost driver

usually DL hours)

COG Manufactured - sum of product cost (DM,DL,

FOH applied)
Feeds directly into the proforma INCOME

COST OF GOOD SOLD - is matched with budgeted

sales as a basis for

Selling & Administrative Expense Budget budgeted as period costs

Variable Selling Exp - sales commission, delivery exp &


Fixed Selling Exp - sales salaries, advertising n

bad debt exp

acctg n data processng,

General & Adm. Expenses (all fixed) - adm salaries,

Depreciation and Other Adminstrative expenses

CR & disbsmnt)

FINANCIAL BUDGETS - Cash Budgets (detailed projections of

Typically derived fr. operating budgets that assumed accrual basis of

assumptions (e.g.,
credit sales & credit purchases)and based on
cash receipts and disbursements & divided into:

Cash Available

Cash balance - beginning cash (cash on hand n
compensating bal. agreements

Cash collections

Cash sales from current period


Collection of A/R from prior period (assumptions re:

% of cr. Sales)
Cash Disbursements - cash outlays associated with purchases
and w/ operating exp.


Purchases - expected to be paid for purchases


Cash purchases for current period


Credit purchases (A/P) for current period


Cash disbursements reqd to be paid during current

operating expenses

Operating expenses - specify amts. to defray the costs of


Cash disbursemnts budget excludes noncash operating


Includes % of prior mo. Exp to be paid in the current

exp ex. Depreciation

mo., current mo. Exp.
disb. Is deferred until the ff. mo., & FTM exp. paid in
cash current mo.
Financing Budgets - consider the manner in w/c operating (line
of credit) financing
Will be used to maintain minimum cash balances or in w/c idle
cash will be invested
Cash budgets - represent statements of planned cash receipts
and disbursements and
Are primarily affected by the amounts used in the budgeted
income statements
(Beg cash + cash collections - cash disb - cash requirements =
working capital loans to
Maintain cash requirements)


FINANCIAL BUDGETS - Pro-forma Financial Statements

Proforma Income statements - Sales Budget, COSGS, SG & A &
Interest Expense
Proforma Balance Sheet - display the balances of each B/S
account consistent with the
Income statement and cash budget plans - adjusted for cash
collections and

Disbursements asso. w/ the cash budget and the noncash

trans. Accounted in the I/S.
Proforma Statement of Cash FLows - derived fr. Budgeted I/S,
the current & previous
Budgeted B/S, then reconciled to the cash budget. Benefits of
C/F- display the cash
Effects of master budger on actual C/F, assist in the determ'n if
addt'l sources of financing
Are req'd and evaluate the optimal use of trade credit


Long-Term Objectives

Capital Budget - ID and allow mgt. to evaluate the capital additions

of the org. often over a

Multi layer period. Financing is a significant components of capital
purchases budget. It detail
The planned expenditures for capital items (ex. Facilities, equip, new
products and LT investmnts.
related debt

Pro Forma Balances Sheet - planned additions of capital equip &

Pro Forma Income Statement - planned additions of cap. Equip.
are used for budgeted
Depreciation exp., interest expense associated w/ planned
Cash Budget - planned financing expenses and principal
repayments are included in the
Disbursements on the cash budget.

The CASH BUDGET must be prepared before you can complete the


Capital budgets plan for the purchase of capital assets, which will only affect
the operating budget through their subsequent effect on expense via depreciation.

A static budget is based on costs at one level of output or

activity . Static budgets thus include budgeted costs for budgeted
output. They are not based on or adjusted for actual performance.
The main reason for preparing a cash budget is to anticipate
cash flows so that excess cash can be invested and to minimize the need
for interim financing.
Capital projects often require the use of various types of financing.

The annual

cash budget, while it considers these issues in determining the amount of

external financing to obtain, is not specifically developed to ascertain which capital
expenditure projects are feasible, etc. The capital expenditure budget must be
done before the cash budget can be prepared. The cash budget provides
information concerning the need for external financing, not internal financing.

The cash budget is done after all budgets have been

prepared. The cash budget shows itemized cash receipts
and disbursements during the period, including the
financing activities and the beginning and ending cash
balances; is usually broken down into monthly periods and
alerts management to periods when there will be excess
cash available for investment..
A flexible budget is a series of budgets based on different activity levels
within the relevant range

A flexible budget adjusts the budget amounts for different

levels of activity. The flexible budget identifies volume components of variances from
planned activity. The flexible budget isolates the impact of changes in volume on sales and
variable costs, The primary feature of flexible budgets is their ability to adjust to actual volume
based upon established relationships between revenue and variable costs. They are not simply
flexible in the sense that amounts or selected line items can be adjusted or modified during the
budget period. It is appropriate for any activity that has variable costs. It is not necessary for the
control of fixed costs since fixed costs do not vary with changes in the level of activity. Ex.
Marketing budget, DM usage budget
Budgeted costs for actual output are the basis for


flexible budget

Forecast of sales volume is the first step in the budget

development process. Sales volumes will drive product supply
requirements and, by extension, purchasing and inventory requirements.

Authoritative standards -

Standards imposed by management without

employee input

Participative standards -

Standards developed in collaboration with

employees involved with the work.

Ideal standards are based on optimum conditions.

Attainable standards

represent per unit budgets that assume normal


Expected value is therefore the most useful of the listed statistics when risk is
being prioritized. Expected value computations that assign probabilities to potential
outcomes quantify both the likelihood (percentage) and outcome (amounts) into a
single value.

Low and high probability exposures identify ranges of

likelihood but do not consolidate findings into a single expected value.
Low and high degree loss exposures identify ranges of impact but
do not consolidate findings into a single expected value.

Uncontrollable risks are, by definition, not within the ability of the manager
to mitigate. Like sunk costs that will not change regardless of priorities,
uncontrollable risk is not useful when prioritizing risk.

goals and objectives upon which an annual profit plan

(also known as budgeted, targeted or estimated financial
statements) is most effectively based are a combination of financial,

quantitative (number of units), and qualitative (e.g., to be the best)

measures. Not all goals and objectives can be quantified.


Performance reports should be formatted and designed to meet
organizational needs. In this regard, performance reports normally include all of the
following: Specific time horizons, a user focus and exceptional items that are
controllable. Performance reports are much more specific and shorter term. A
performance report would not normally include strategic plans.

Strategic plans are broad-based and long-term in nature.

An unfavorable direct labor efficiency variance could be
caused by a(n): An unfavorable direct labor efficiency variance could
be caused by an unfavorable material usage variance. Poor quality
materials could mean unfavorable material usage and cause inefficient
labor usage.

Sales volume variance arises solely because the quantity

actually sold differs from the quantity budgeted to be
Static budget variance does not occur when a flexible
budget is used, and variance analysis usually requires use
of a flexible budget.

For a company that produces more than one product, the

sales volume variance can be divided into sales quantity
variance and sales mix variance.
Flexible budget variance deals with costs, not revenues. It
is the difference between the actual amounts and the
flexible budget amounts for the actual output achieved.
A standard costing system is most often used by a firm in
conjunction with flexible budgets.
Management by objectives simply requires that objectives
be defined before resources are used to achieve them.
Participative management programs bring "managers"
and "workers" together to participate in management
Job order cost systems may use standard costs.
For a company that produces more than one product, the
sales volume variance can be divided into which two of the
following additional variances? sales quantity variance and sales mix

In general, the purchasing manager is held responsible for

unfavorable material price variances. Causes of these
variances include: Purchasing nonstandard or uneconomical lots; Purchasing from
suppliers other than those offering the most favorable terms & Failure to correctly forecast price

In general, the production manager or foreman is held

responsible for unfavorable labor efficiency variances.
Causes of these variances include: Substandard or inefficient equipment;
Poorly trained labor & Inadequate supervision.

Which of the following types of variances would a

purchasing manager most likely influence? The purchasing
manager is directly involved in the negotiation of materials prices and would have the
greatest influence over the direct materials price variance. The direct materials price
variance could be used to monitor purchasing manager performance.

In analyzing company operations, the controller of the

Jason Corporation found a $250,000 favorable flexiblebudget revenue variance. The variance was calculated by
comparing the actual results with the flexible budget. This
variance can be wholly explained by: A revenue variance (also known as
a sales price variance) is due to a change in unit selling prices.

The purpose of identifying manufacturing variances and

assigning their responsibility to a person/department
should be to: Use the knowledge about the variances to promote learning and
continuous improvement in the manufacturing operations.

Price variances are based on a comparison of quantities

purchased priced at actual and standard rates per unit
while usage variances are priced at standard for both
actual quantities used and standard quantities allowed for
Market share variance is computed as follows:

Rule: The formula for the production volume variance

component for overhead variances is computed as applied
overhead minus budgeted overhead based on standard
hours. The sole difference between these two calculated

amounts is the application of fixed factory overhead.

Production volume variance computed as:
Applied Overhead

(Standard variable overhead rate Standard direct labor hours allowed) + (Standard
fixed overhead rate Actual Production)

Less: Budgeted overhead based on

standard hours

(Standard variable overhead rate Standard direct labor hours allowed) + (Standard
fixed overhead rate Standard Production)

= Production Volume Variance

The same , therefore : std FOH rate x (Actual Production Standard Production)
Rule: The formula for the variable overhead efficiency
variance is computed as budgeted variable overhead
based on standard hours minus budgeted variable
overhead based on actual hours. The sole difference
between these two calculated amounts is the use of actual
compared to standard hours for variable overhead. Volume
variances are computed as follows:
Budgeted variable overhead based on standard hours:

Note that direct labor hours based on standard hours means the direct labor hours allowed for
the actual level of production, not the actual direct labor hours used.

Budgeted variable OH = standard direct labor hours allowed x standard variable overhead rate

Less : Budgeted overhead based on actual hours:

Budgeted variable OH = actual direct labor hours x standard variable overhead rate

= Variable overhead efficiency variance:

A favorable material price variance coupled with an
unfavorable material usage variance would most likely
result from: The purchase of lower than standard quality material will often result in an
unfavorable material usage variance (the inferior material causes more waste) and a favorable
material price variance (the inferior material costs less).


THE BALANCED SCORECARD GATHERS information on multiple
dimensions of an organizations's performance defined by critical success
facotrs necessary to accomplish the firm's strategy. Financial and nonfinancial features of an organization that contribute to its success in achieving
strategy are referred to as critical success factors Critical success factors

are classified as follows:

Financial - resposibility segment / SBU
Internal business process - efficiency and effectiveness of business
Customer satisfaction - customer's happiness
Advancement of innovation and human resource development

Under the balanced scorecard concept developed by

Kaplan and Norton, employee satisfaction and retention
are measures used under which of the following
perspectives? Employee satisfaction and retention measures
are used under the "learning and growth" perspective of the balanced scorecard.
Employee satisfaction typically correlates with productivity, employee effectiveness,
and retention. Retention itself often relates to reduced retraining, increased
opportunity for human resource development, and reduced investment in learning
curves; is concerned with linking strategy with reward and recognition.

The customer perspective of the balanced scorecard

measures results of business operation (e.g., customer satisfaction and customer
retention; is concerned with target markets (e.g., low-price leader; Measurement of
customer value, such as Discount's prices compared to competitor's prices for a
cost leader).

The internal business perspective of the balanced

scorecard measures results of business operation (e.g., improvements in
throughput and other measures of efficiency; is concerned with maintaining low
costs that are supported with low prices).

The financial perspective of the balanced scorecard measures

traditional results of business operation (e.g., improved margins or improved cash
flows; is concerned with the capture of increased market share).


is synonymous with continuous improvement. Although this is a concept

that embraces multiple processes within a business

Market value added contemplates the degree to which management's

actions improve stockholder value.

Throughput costing (Super-variable costing)

- is a relatively
recent development in costing methods. This method assumes that the only
truly variable costs are the costs for direct materials, so these are the only
costs assigned to the product. All other costs (including direct labor) are
expensed on the throughput contribution margin statement in the period in which
they occur.

Controllable margin is computed as contribution margin(CM) net of

controllable costs (fixed costs that managers can impact in less than one year):
Formula: (CM - Controllable FC)

Profit centers generate revenues and incur costs, so controllable revenues

would be included in a profit center's performance report. Cost centers do not
generate revenues and, therefore would not have any revenues to include in a
performance report.

Decentralized firms can delegate authority and yet retain

control and monitor managers' performance by structuring
the organization into responsibility centers. Which one of
the following organizational segments is most like an

independent business? An investment center is most like an independent

business. Investment centers are responsible for revenues, expenses, and invested capital.

A revenue center is responsible for revenues only. Revenue

SBUs represent a greater responsibility than cost SBUs. Managers of a
revenue SBU only have responsibility for one dimension of financial performance, but
revenue generation is not under the control of the managers. Clearly the uncertainty associated
with generating sales increases the risk and difficulty associated with the manager's

A profit center is responsible for revenues and expenses.

Profit SBUs represent a greater responsibility than either cost or revenue SBUs. Profit
SBUs require the manager to maintain control of revenues, and costs AND the relationship
between the two.

A cost center is responsible for costs only. Managers in a

cost SBU only have responsibility for one dimension of financial performance
and it is one that they control entirely, the level of costs incurred.

Investment SBUs represent the organizational segment with the highest level of
responsibility. Managers not only consider cost, revenues and their relationship, but also the
relationship between profits generated and assets invested.

Responsibility for costs, and the authority to do

something about them, are necessary for a successful
responsibility accounting system.
Responsibility accounting is 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.

Transfer pricing deals with prices charged by one business segment to another within a

Contribution accounting measures performance based on the contribution of a

business segment.

Strategic Business Units (SBUs) are classified into different types based on the responsibility
levels assigned to their managers. Each of the following items are reasons for

classifying Strategic Business Units as cost, revenue,

profit, or investment: Goal congruence; improved operational and financial
control and isolating the relevant measure of financial performancel. Strategic Business
Units are established in a decentralized environment not a centralized environment.