ACCT exam 3

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Managerial Accounting Ch 7-9, 11

Chapter 7

Budgeting

Three Levels of Planning

Strategic Planning;

Capital Budgeting;

Operations Budgeting; highest level to lowest level

Strategic Planning

Long-term decisions about the business; big pictue (senior managers, board of directors)

Capital Budgeting

Intermediate-range decisions;
usually involves asset acquisition / disposition (mid-level and senior managers)

Operations Budgeting

Short-term objectives;
Master Budget (usually for year): sales, production, and financing;

broken down into quarters or months

Advantages of Budgeting

time consuming and expensive but:
Promotes planning;
Promotes coordination;
Enhances performance measurement (budget sets goals);
Enhances corrective actions

Budgeting

starts with a projected sales budget;

end result is the pro-forma financial statements

Budgeting Process

Accrual basis;

Start with sales budget;
calculate inventory purchase budget;
calculate GSA budget

Receipts and Payment Schedules

cash receipts schedule comes from sales budget;

cash payments for inventory comes from inventory purchase budget;

cash payments for GSA comes from GSA budget

Cash budget

the net of cash schedules

Pro-Forma Financial Statements

Come from BUDGET, covers a period of time (M, Q, Y);

Accrual Basis - NOT cash basis;

Income Statement; Balance Sheet; Statement of Cash Flows

The Balance Sheet

The balance sheet is a financial statement that indicates the financial condition of a business as of a given point in time. It includes assets, liabilities, and stockholders' equity, and it represents a statement of the basic accounting equation. The assets and liabilities are divided into current and noncurrent classifications on the basis of liquidity, and comparisons of assets and liabilities often provide an indication about the company's ability to meet obligations as they come due (i.e., solvency).

Assets

The assets accounts reported on the balance sheet are listed in order of liquidity and are divided into four categories:

Current Assets;
Long-term Investments;
Property, Plant and Equipment;
and Intangible Assets.

Current Assets

Cash, short-term investments, accounts receivable, inventory, and prepaid expenses.

Long-term Investments

Long-term notes receivable, land, securities, the cash value of life insurance, and special investment funds.

Intangible Assets

Patents, trademarks, and goodwill.

Liabilities and Shareholders' equity

Liabilities and shareholders' equity. Liabilities are divided into two categories:

current liabilities and long-term liabilities.

Current Liabilities

short-term payables

Long-term Liabilities

Long-term notes, bonds and mortgage payables

Shareholders' Equity

Contributed capital and retained earnings.

The Income Statement

Consists of two basic categories:

Revenues and Expenses.

Revenue less expenses equal net income.

Revenues

Asset inflows (or liability decreases) associated with operating transactions during a given period, include sales, fees earned, service revenues, and other revenues (e.g., interest, book gains).

Expenses

Represent the asset outflows (or liabilities increases) required to generate the revenues, include the cost of goods sold, operation expenses (e.g., wages, rent) and other expenses (e.g., interest, book losses).

The Statement of Shareholders' Equity

Consists of the changes in two basic accounts:

Contributed Capital,

and Earned Capital (primarily Retained Earning).

The Statement of Cash Flow

Contains three categories:

cash flows from Operating activities,

Investing activities,

and Fina

Chapter 8

Flexible Budgets, Standard Costs, and Variance Analysis

Static Budgets

Static budgets are prepared for a single, planned level of activity (best guess). Performance evaluation is difficult when actual volume differs from the planned volume. Comparing static budgets with actual costs is like comparing apples and oranges.

Evaluating Performance

The relevant question is . . .
"How much of the favorable cost variance is due to lower volume, and how much is due to good cost control?"

To answer the question, we must FLEX the budget to the actual volume.

Flexible Budgets

Shows revenue and expenses that should have occurred at the actual sales level (what would the static budget look like if we knew the actual sales volume?);

Reveal variances due to good cost control or lack of cost control (takes out the effect of difference in volume);

Improve performance evaluation (more accurate assessment of cost control)

Preparing a Flexible Budget

Static budget - before the period begins;

Flexible budget - after the period using known sales volume.

Both use Standard prices forecasted from past experiences.

Static Budgets and Performance

Total variance (favorable and unfavorable) are due to differences in activity and cost control.

Flexible Budget Performance Report

How much variance is due to fewer units (static v. flex), and how much is due to cost control (flex v. actual)

Standard Cost Systems

A standard represents the amount a price, cost, or quantity should be, based on certain anticipated circumstances.

Accountants, engineers, purchasing agents, and production managers combine efforts to set standards that encourage efficient future production.

Standard Costs

Predetermined before the period begins; used for planning material, labor and OH requirements;

benchmarks for measuring performance - "what should happen

Use of Standards by Nonmanufacturing Organizations

Standard cost analysis may be used in any organization with repetitive tasks.

A relationship between tasks and output measures must be established.

Standard Costs

Managers focus on quantities and costs that exceed standards, a practice known as "management by exception"

Standard Cost Variances

Compare actual to flex budget:

Standard Cost Variances = Price Variance + Usage Variance

Price Variance

the difference between actual and standard price

Usage Variance

the difference between actual and standard quantity

Material Variances

Based on totals, never per unit!!!

Total Material Variance = Material Price Variance + Material Usage Variance

Material Price Variance

(AQ x SP) - (AQ x AP)

Material Usage Variance

(SQ x SP) - (AQ x SP)

Labor Variances

Based on totals, never per unit!!!

Total Labor Variance = Labor Price Variance + Labor Usage Variance

Labor Price Variance

(AQ x SP) - (AQ x AP)

Labor Usage Variance

(SQ x SP) - (AQ x SP)

Responsibility for Labor Variances

Production managers are usually held accountable for labor variances because they can influence the:

Mix of skill levels assigned to work tasks;
Level of employee motivation;
Quality of production supervision;
Quality of training provided to employees

Variable Overhead Variance

Based on totals, never per unit!!! Flex Budget - Actual

Fixed Overhead Spending Variance

Based on totals, never per unit!!! Budget - Actual

Selecting Variances to Investigate

Management by exception tells us to consider:

The materiality of a variance (big enough to make a difference in decisions?),
How frequently it occurs (symptom of a larger problem),
The capacity to control the variance,
and The costs and benefits of investigating.

Chapter 9

Responsibility Accounting

Responsibility Accounting

Accounting data that provides information:

Relating to the responsibilities of individual managers;
To evaluate managers on controllable items;
What are individual managers responsible for?
What can they do that will make a difference?

Decentralization

Decision Making is Pushed Down;
Decentralization often occurs as organizations continue to grow;
Why managers have different responsibilities

Advantages of Decentralization

Improves quality of decisions;
Improves productivity;
Improves performance evaluation;
Develops lower-level managers;
Encourages upper-level management to concentrate on strategic decisions

Challenges of Decentralization

Goal Congruence: Organization's lower-level managers make decisions that achieve top-management goals;

Big challenge: manager's goals must be same as the company's goals.

Managerial Performance Measurement

Cost Center (lowest level of responsibility; evaluated on cost variances, CH8):
Cost control, Quantity and quality of services;
Profit Center (evaluated basted on income statement):
Profitability;
Investment Center (highest level of responsibility):
Return on investment (ROI),
Residual income (RI)

Return on Investment (ROI)

Rate of return investment center managers earn on their assets;

ROI = Income / Operating Assets;
ROI = Margin x Turnover;

Operating assets are only those assets used in production.

Margin

Margin = Income / Sales Revenue;

The amount of income generated by each dollar of sales

Turnover

Turnover = Sales Revenue / Operating Assets;

The amount of sales produced by every dollar invested in operating assets

Evaluating ROI

What is the history?

What are the industry/division standards

Goal Congruence

managers and company agree on decisions; incongruence (or sub-optimization) results when managers make decisions based on what is good for them (ie, choosing investments based on ROI when bonuses are paid based on ROI), rather than what is good for company

Hurdle rate

The ROI that the companies requires of investments; the desired rate of return

Residual Income (RI)

Net operating income that an investment center earns above the desired ROI.

RI = Actual Income - (Operating Assets x Desired ROI)

Advantages of Residual Income

Residual income encourages managers to make profitable investments that would be rejected by managers using ROI.

Therefore... Goal Congruence

Comparing ROI and RI

calculate for each scenario:
current,
for investment alone;
current + investment

Chapter 11

Product Costing

Costs Can Be Assets or Expenses

Product Cost; Period Cost

Product Cost

Held as asset on balance sheet until sold, then goes to income statement as COGS;

Balance sheet = Raw material, Work in process, Finished goods.

Period Cost

Expensed when incurred

Manufacturing Cost Flow

Product Cost made up of Direct Labor, Direct Material, and Manufacturing Overhead

Manufacturing Overhead

All other manufacturing costs; Indirect Material, Indirect Labor, Other Costs

Indirect Material

Materials used to support the production process.

Ex: grease for machines, cleaning supplies.

Kept as raw material until used.

Indirect Labor

Cost of personnel who do not work directly on the product.

Ex: Production Supervisor.

Other Costs

Depreciation on manufacturing equipment;

Ex: rent & utilities for factory

Cost Flow in Manufacturing Companies

3 types of inventory accounts: Raw Materials, Work in Process, Finished Goods

Raw Materials (RM)

Materials waiting to be used;

direct or indirect materials

Work in Process (WIP)

Partially completed goods; some material, some labor and some applied OH used;

moved to finished goods at Cost of Goods Manufactured (COGM)

Finished Goods (FG)

Completed goods waiting to be sold;

moved out as COGS

T-Accounts

Cash, Raw Materials, Work in Process, Finished Goods, COGS, Manufacturing OH;

All have BB & EB except MOH.

EVERYTHING is labeled.

COGS goes on Income Statement

Flow of Overhead Costs

Using a Predetermined Overhead Rate (POHR) makes it possible to estimate total product costs sooner.

Actual overhead for the period is not known until the end of the period.

Predetermined Overhead Rate (POHR)

used to apply overhead to products, is determined before the period begins.

POHR = (Estimated manufacturing overhead cost for the period) / (Estimated allocation base for the period)

Applied Overhead

= POHR x Actual Activity;

POHR is based on estimates, and determined before the period begins;

Actual Activity is the actual amount of the allocation base such as units produced, direct labor hours, or machine hours.

Too much OH applied

too much cost in inventory (WIP, FG, COGS);

COGS is too high, profit is too low

Too little OH applied

too little cost in inventory (WIP, FG, COGS);

COGS is too low, profit is too high

Timing

Before period = calculate POHR;

During period = apply OH using POHR and actual allocation base;

After period = Adjust for over- or under-applied OH (OH Variance to zero out MOH, applied to COGS accounts)

Terminology

Estimated OH = Budgeted OH (used before period, POHR);

Applied OH = Allocated OH (used during period to get OH to products in WIP account);

Actual OH = Incurred OH (used after periods to close out OH variance)

Total Manufacturing Costs

Direct Material, Direct Labor (wages), applied OH

Cost of Goods Available for Sale

All goods in Finished Goods Account (BB + COGM)

Income Statement

Sales - COGS = Gross Margin;

Gross Margin - Expenses = Net Income

Filling in T-Accounts

Cash (?), RM, WIP, FG == BB & EB; COGS, MOH == entries as incurred;

MOH == zero out at end of period, balancing entry COGS.

COGS goes to Income Statement.

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