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© Pearson Education Limited 2008 1 © Prentice Hall 2008 MANAGEMENT ACCOUNTING Cheryl S. McWatters, Jerold L. Zimmerman, Dale C. Morse Cheryl S. McWatters,

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Presentation on theme: "© Pearson Education Limited 2008 1 © Prentice Hall 2008 MANAGEMENT ACCOUNTING Cheryl S. McWatters, Jerold L. Zimmerman, Dale C. Morse Cheryl S. McWatters,"— Presentation transcript:

1 © Pearson Education Limited © Prentice Hall 2008 MANAGEMENT ACCOUNTING Cheryl S. McWatters, Jerold L. Zimmerman, Dale C. Morse Cheryl S. McWatters, Jerold L. Zimmerman, Dale C. Morse

2 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Management Accounting Budgeting (Planning and control) Chapter 8

3 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Objectives Use budgeting for planning purposes Use budgeting for control purposes Identify the conflicts that exist between planning and control in the budgeting process Describe the benefits of having both short-term and long-term budgets Explain the responsibility implications of a line-item budget Identify the costs and benefits of budget lapsing Develop flexible budgets and identify when flexible budgeting should be used instead of static budgeting Explain the costs and benefits of using zero-based budgeting Create a master budget for an organisation Create pro-forma financial statements based on data provided

4 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse The Purpose of Budgets Budgets are a key component of the organization’s planning and control system Budgeting is the process of gathering information to assist in making forecasts Budgets are forecasts of future revenues and expenses

5 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Budgeting for Planning Decisions Budgets are a used to transfer information to individual decision makers in the organization Budgets play an integral role in making planning decisions

6 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Budgeting for Planning Decisions Encourage bottom-up flow of information Encourage top-down flow of information and plans Budgets attempt to Budgets attempt to

7 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Budgeting for Control Budgets are often used to assign responsibilities by allocating resources to managers Budgeted amounts can be used as targets by which performance is evaluated and rewarded Budgeted amounts can be used as goals to motivate

8 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Variances The difference between budgeted performance and actual performance is called the variance An adverse variance occurs when Actual costs > Budgeted costs or Actual revenues < Budgeted revenues A favorable variance occurs when Actual costs Budgeted revenues Variances are commonly calculated on a monthly basis to identify how successfully an organization is meeting its goals

9 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Variances Numerical Example Budgeted (£)Actual (£)Variance (£) Revenues450,000453,0003,000 F Cost of goods sold(235,000)(248,000)13,000 A General administration(80,000)(132,000)52,000 A Selling expenses(100,000)(90,000)10,000 F Profit35,000(17,000)52,000 A Administration Costs differ greatly from those expected and would be investigated

10 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Conflict between Planning and Control For control, budgets serve as the benchmark for performance measurement Over reliance on performance measurement will lead to a reduction in knowledge transfer For planning, budgets communicate specialized knowledge from one area to another

11 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Conflict between Planning and Control The budget is an informal set of contracts between the units of the organization Most budgets are set in a negotiation process To manage the conflict between planning and control many organizations put the Chief Executive in change of the budgeting process and the chief financial officer in charge of the collection and preparation of data

12 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Participative Budgeting With Participative Budgeting the person ultimately being held responsible for meeting the target makes the initial budget forecast Motivation to achieve the target is higher Participative Budgeting is a bottom-up process

13 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse How Budgeting Helps Resolve Organizational Problems Budgeting Systems Links knowledge with responsibility to make planning decisions Measures and rewards performance for control Distributes Responsibilities An administrative device to resolve organizational problems

14 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Short-Term versus Long-Term Budgets 1.Selecting overall objectives 2.Choosing markets 3. Selecting products to produce 4. Determining price/quality mix 5. Choosing technologies Strategic Planning Forecasts of large asset acquisitions Financing plans Research and development plans Long-term Budgets (more than one year) Short-term Budgets (1 year or less) Quantities to produce Quantities to sell Supplies acquisitions

15 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Line-Item Budgets Budgets that authorize the manager to spend only up to the specified amount on each line item Managers cannot spend savings from one line item on another line item The manager does not have the responsibility to substitute resources among line items as circumstances change Impose more control on Managers Prevalent in government organizations

16 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Line-Item Budgets Numerical Example Line item budgets reduce management incentives to search for cost savings and reduce the organisation flexibility Line item Amount (£) Salaries185,000 Office supplies 12,000 Office equipment 3,000 Postage1,900 Maintenance350 Utilities1,200 Rent900 Total204,350

17 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Budget Lapsing Funds that have not been spent at year-end do not carry over to the next year Managers have incentive to spend at the end of each year Operating efficiency is reduced Managers have less discretion in the timing of expenditures

18 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Static budgets do not vary with volume and are used when a manager has control over volume or the consequences thereof Static versus Flexible Budgets Flexible budgets are adjusted for changes in volume and are used mainly in manufacturing where the manager does not have control over volume

19 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Static versus Flexible Budgets Numerical Example Ticket Sales (€) (Formula)3,0004,0005,000 Revenues€18N*54,00072,00090,000 Band€20, N(28,100)(30,800)(33,500) Auditorium€5, N(7,700)(8,600)(9,500) Security€80(N/200)(1,200)(1,600) (2,000) Other costs€28,000(28,000) Profit/Loss(11,000)3,00017,000 *N is the number of tickets sold Each line item in the budget varies with volume. Then a budget is prepared at different volume levels

20 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Improve performance evaluation May be prepared for any activity level in the relevant range Show revenues and expenses that should have occurred at the actual level of activity Reveal variances due to good cost control or lack of cost control Flexible Budgets Static versus Flexible Budgets

21 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Central Concept If you can tell me what your activity was for the period, I will tell you what your costs and revenue should have been Central Concept If you can tell me what your activity was for the period, I will tell you what your costs and revenue should have been Static versus Flexible Budgets

22 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Incremental versus Zero-Base Budgets  Base budget is the previous budget  Only incremental changes from the previous budget are examined in detail  Base budget is the previous budget  Only incremental changes from the previous budget are examined in detail Incremental Budgets  Each line item is set at zero each year  Every line item must be justified and renewed each year  Each line item is set at zero each year  Every line item must be justified and renewed each year Zero-Base Budgets

23 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Zero-Base Budgets ZBB Motivates managers to maximize firm value by identifying and eliminating those expenditures whose total costs exceed total benefits Incremental expenditures are deleted when their costs exceed their incremental benefits Inefficient base budgets are not eliminated In practice ZBB is used infrequently Most useful when new top-level management come from outside the firm Costly to conduct

24 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse The Master Budget Integrates the estimates from each department to predict production requirements, financing, cash flows and financial statements at the end of the period. Serves as a guide and benchmark for the entire organization

25 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Comprehensive Master Budget Illustration The following slides provide an illustration of the Master Budget The Master Budget is prepared for a simple firm NaturApples (an apple processor)

26 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Budgeted profit and loss Statement Master Budget Illustration Budgeting process - NaturApples Beginning balance sheet Budgeted cash flows Budgeted Balance Sheet Financial Budget Sales budget Production budget Selling and administrative budget Capital investment budget Factory overhead budget Direct labour budget Direct materials budget Apple procurement

27 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Expected beginning Balance Sheet Assets££ Cash100,000 Accounts receivable200,000 Inventory Sauce (13,500 cases x £58/case)783,000 Pie Filling (2,500 cases x £48/case) 120,000903,000 Property, plant and equipment (net)2,300,000 3,503,000 Liabilities and shareholders equity Accounts payable100,000 Long-term debt1,000,000 Shareholders equity2,403,00 3,503,000

28 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Sales Budget Budgeted casesBudgeted price/case (£)Budgeted revenue (£) Sauce140,000689,520,000 Pie Filling60,000533,180,000 Total12,700,000

29 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Production Budget – Production volume ProductSalesEnding inventory Beginning inventory Production Sauce140,0005,00013,500131,500 Pie Filling60,0001,0002,50058,500 Beginning inventory + Production = Sales + Desired ending inventory or Production = Sales + Desired ending inventory – beginning inventory Beginning inventory + Production = Sales + Desired ending inventory or Production = Sales + Desired ending inventory – beginning inventory

30 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Production Budget Raw Materials ProductKilograms per case xCases =Kilograms xCost Per Kilogram (£) =Cost (£) Sauce25131,5003,287, ,630,000 Pie Filling2058,5001,170, ,000 Total4,457,5003,566,000 Direct Labour ProductHours per case xCases =Hours xCost Per hour (£) =Cost (£) Sauce ,50078, ,000 Pie Filling0.5058,50029, ,500 Total108,1501,081,500

31 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Overhead ProductDirect labour cost xOverhead per £ of direct labour =Cost (£) Sauce£789,00021,578,000 Pie Filling£292, ,000 Total2,163,000 Product Costs ProductTotal product cost (£) Materials + Labour + Overhead / Cases =Cost per case (£) Sauce4,997,000131,50038 Pie Filling1,813,50058,50031 Total6,810,500 Master Budget Numerical Example Production Budget

32 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Production Budget Raw Materials ProductKilograms per case xCases =Kilograms xCost Per Kilogram (£) =Cost (£) Sauce25131,5003,287, ,630,000 Pie Filling2058,5001,170, ,000 Total4,457,5003,566,000 Direct Labour ProductHours per case xCases =Hours xCost Per hour (£) =Cost (£) Sauce ,50078, ,000 Pie Filling0.5058,50029, ,500 Total108,1501,081,500 Overhead ProductDirect labour cost xOverhead per £ of direct labour =Cost (£) Sauce£789,00021,578,000 Pie Filling£292, ,000 Total2,163,000 Product Costs ProductTotal product cost (£) Materials + Labour + Overhead / Cases =Cost per case (£) Sauce4,997,000131,50038 Pie Filling1,813,50058,50031 Total6,810,500

33 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Selling and Administration Budget Selling and administrative areas£ Marketing470,000 Finance160,000 Shipping380,000 Chairman's office180,000 Total selling and administration1,190,000

34 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Capital Investment Budget Capital investment projectPurchase dateCost (£) Coring machine05/10/200840,000 Dicing machine05/10/200880,000 Total120,000

35 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget Numerical Example Financial Budget Financial transactionsDateAmount (£) Loan from bank05/10/ ,000 Repayment of bank loan05/04/2009(100,000) Retirement of long-term debt01/06/2009(200,000) Payment of interest31/12/2009(50,000) Payment of interest30/06/2009(50,000) Payment of dividends30/09/2009(2,000,000) Net cash flow from financial transactions(2,300,000)

36 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget -Numerical Example Budgeted profit and loss statement Revenues (Sales budget)£££ Cost of goods sold12,700,000 Beginning inventory (Beg, balance sheet)903,000 + Production costs (production budget)6,810,500 - Ending inventory (Production budget) Sauce (£38/case x 5,000 cases)190,000 Pie Filling (£31/case x 1,000 cases)31,000(221,000)(7,492,500) Gross Margin5,207,500 Selling and administrative expenses (Selling and admin. budget)(1,190,000) Interest expense (Financial budget)(100,000) Net profit before taxes3,917,500 Taxes (£3,917,500 x 0.40)1,567,000 Net Profit2,350,500 Beginning shareholders’ equity (Beg Balance sheet)2,403,000 + Net Profit2,350,500 -Dividends2,000,000 Ending shareholders equity2,753,500

37 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget -Numerical Example Cash Flow from Operations ££ Net Income (Income Statement) 2,350,500 Add:Depreciation 400,000 Inventory Decrease 682,000 Accounts Payable Increase50,000 Less:Accounts Receivable Increase(100,000) Total Cash Flow from Operations 3,382,500 Cash Flow from Investments Coring Machine Purchase (Capital Investment Budget)(40,000) Dicing Machine Purchase (Capital Investment Budget)(80,000)(120,000) Cash Flow from Financial Transactions Bank Loan (Financial Budget) 100,000 Bank Loan Repayment (Financial Budget) (100,000) Long-term Debt Retirement (Financial Budget)(200,000) Dividend Payment (Financial Budget) (2,000,000)(2,200,000) Change in Cash Balance 1,062,500 Beginning Cash Balance (Beginning Balance Sheet) 100,000 Ending Cash Balance 1,162,500 Budgeted cash flow statement

38 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Master Budget - Numerical Example Assets £ £ Cash (Cash Flow Statement) 1,162,500 Accounts Receivable (Predicted) 300,000 Inventory: Applesauce 5,000 £38190,000 Apple Pie filling 1,000 £3131,000221,000 Property, Plant and Equipment (net) Beginning Balance (Beginning Balance Sheet)2,300,000 Capital Investments (Capital Investment Budget)120,000 Depreciation for the Year (400,000)2,020,000 Total Assets 3,703,500 Liabilities and Stockholders' Equity Accounts Payable (Predicted) 150,000 Long-Term Debt Beginning Balance (Beginning Balance Sheet)1,000,000 Retirement (Financial Budget) (200,000)800,000 Total Liabilities 950,000 Stockholders' Equity (Income Statement) 2,753,500 Total Liabilities and Stockholders' Equity 3,703,500 Budgeted Balance Sheet

39 © Pearson Education Limited Management Accounting McWatters, Zimmerman, Morse Management Accounting Budgeting (Planning and controlling) End of Chapter 8


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