Accounting Exam 3 Chapter 13 Notes Budgets An accounting device used to plan and control resources of operational departments and divisions Budgeting affects 3 managerial functions 1 Planning Establish specific goals 2 Directing Executing plans to achieve the goals Responsibility Center A budgetary unit within a company for which a manager is assigned responsibility over costs revenues or assets 3 Controlling Periodically comparing actual results with the goals Human behavior problems that arise in the budgeting process 1 Budgeted goals are set too tight which are very hard or impossible to achieve 2 Budgeted goals are set too loose which are very easy to achieve Budgetary slack Excess resources set within a budget to provide for uncertain events i Provides a cushion for unexpected events or used to improve the appearance of operations ii Budgetary slack can be reduced by properly training employees and managers in the importance or realistic attainable budgets iii Slack budgets may cause a spent it or lose it mentality 3 Budgeted goals conflict with the objectives of the company and employees Goal conflict Situation when individual self interest differs from business objectives Budgeting Systems Budgeting period for operating activities normally includes the fiscal year of a company For control purposes annual budgets are usually subdivided into shorter time periods such as quarters of the year months or weeks Continuous budgeting a method of budgeting that provides for maintaining a 12 month projection into the future o The 12 month budget is continually revised by replacing the data for the month just ended with the budget data for the same month in the next year Developing an annual budget usual begins several months prior to the end of the current year o A budget committee is responsible for this o The accounting department monitors and summarizes the budget process and then reports to the committee Zero based budgeting A concept of budgeting that requires all levels of management to start from zero and estimate budget data as if there had been no previous activities in their units o Benefit Fresh view of operations for each year 1 Common way to budget is to start with last year s budget and revise it for actual results and expected changes for the coming year o Two major budgets use this approach Static budget Flexible budget o Static Budget A budget that does not adjust to changes in activity levels Shows the expected results of a responsibility center of only one activity level Once the budget is determined it doesn t change even if activity level does Used by many service companies and some functions of manufacturing companies such as purchasing engineering and accounting Disadvantage they do not adjust for changes in activity levels o Flexible Budget A budget that adjusts for varying rates of activity Shows the expected results of a responsibility center for several activity levels It is a series of static budgets for different levels of activity A flexible budget is constructed as follows o Step 1 Identify the relevant activity levels These could be expressed in units machine hours direct labor hours etc o Step 2 Identify the fixed and variable cost components of the budgeted costs o Step 3 Prepare the budget for each activity level by multiplying the variable cost per unit by the activity level and then adding the monthly fixed cost With a flexible budget actual costs can be compared to the budgeted costs for actual activity Flexible budget for the assembly department is much more accurate than the SB This is because the FB adjusts for changes in the level of activity Computerized Budgeting Systems Two of the most popular computerized approaches use 1 Spreadsheet software such as Microsoft Excel 2 Integrated budget and planning B P software systems Speeds up and reduces the cost of preparing a budget Useful in continuous budgeting Standards Standards performance goals Standard cost A detailed estimated of what a product should cost Manufacturing companies use standard cost for the product cost of 1 Direct Materials 2 Direct Labor 2 3 Factory Overhead Standard Cost Systems Accounting system that use standards for each manufacturing cost entering into the finished product SCS enable management to determine 1 How much a product should cost standard cost 2 How much it does cost actual cost One of the major objectives in setting standards is to motivate employees to achieve efficient operations Ideal standards theoretical standards Standards that can be achieved only under perfect operating conditions such as no idle time no machine breakdowns and no material spoilage This can be thought of as a world record you are trying to reach Currently attainable standards also called normal standards Standards that represent levels of operation that can be obtained with reasonable effort This can be thought of as a personal best you are trying to reach This allows for normal production difficulties and mistakes such as normal materials spoilage and machine breakdowns Standards should be revised when prices product designs labor rates or manufacturing methods change Budgetary Performance Evaluation The master budget is prepared based on planned sales and production and assists a company in planning directing and controlling performance The control function or budgetary performance evaluation compares the actual performance against the budget The standards for DM DL and FOH are separated into Standard price Standard quantity Standard Cost per Unit Standard Price x Standard Quantity The standard price and quantity are separated because the department responsible for their control is normally different The budget costs for materials purchased DL and FOH are determined by multiplying their standard costs per unit by the planned level of production Budget Performance Report 3 Budget performance report the report that summarizes actual costs standard costs and the differences for the units produced a report comparing actual results with budget figures Cost variances the difference between actual and standard costs Favorable cost variance occurs when the actual cost is less than the standard cost Unfavorable cost variance occurs when the actual cost exceeds the standard cost Manufacturing Cost Variances Total manufacturing cost variance the difference between total standard costs and total actual cost for the units produced Direct Materials Labor Cost Cost Actual DM DL Cost Standard DM DL