Management Accounting ACCT 481 Michael Dimond

Michael Dimond School of Business Administration Budgets Budget: What’s the plan? Types of budgets and the budgeting system The budget cycle Sensitivity & scenario analysis Variances: When reality is different than the planned Capital budgeting

Michael Dimond School of Business Administration Budget: What’s the plan? Strategic planning IS financial planning The overarching purpose of a business is to create wealth for the owners Strategy covers how a company captures opportunities and avoids problems with it capabilities Strategic analysis underlies both long-run and short-run planning. Budgets provide feedback to managers about the likely effects of their strategic plans. Managers use this feedback to revise their strategic plans – and the budget. Without effective budgeting (i.e. effective planning), managers are pulled from crisis to crisis Effective budgeting can motivate managers to meet targets and improve their performance. Ineffective budgeting consumes time and resources without creating value.

Michael Dimond School of Business Administration Types of budgets and the budgeting system Businesses may have lots of types of budgets Operating budget Marketing budget Cash Budget Capital Expenditure Budget The Master Budget It is the initial plan of what the company intends to accomplish in a specified period Includes a set of budgeted financial statements Other budgets should be driven by master budget

Michael Dimond School of Business Administration The budget cycle The budget cycle plans the performance of the whole company and of its subunits. Management agrees on what is expected. Provides a specific metrics against which actual results are compared. Variations from plans can drive corrective action Plans are updated based on feedback and changed conditions. What are the roles in budgeting? How long should the budget cycle take? A rolling budget (i.e. continuous budget) looks forward from the present for a specified number of periods A twelve month rolling budget for March 2014 through February 2015 is replaced with a twelve-month rolling budget for April 2014 to March 2015 Not all organizations use a rolling budget Kaizen = Continuous Improvement Improved performance may be built into the budget numbers.

Michael Dimond School of Business Administration Steps in preparing the operating budget 1.Prepare the revenues budget 2.Prepare the production budget (in units) 3.Prepare the direct material usage budget and direct material purchases budget 4.Prepare the direct manufacturing labor budget 5.Prepare the manufacturing overhead budget 6.Prepare the ending inventories budget 7.Prepare the cost of goods sold budget 8.Prepare the nonmanufacturing costs budget 9.Prepare the budgeted income statement

Michael Dimond School of Business Administration Steps in preparing the financial budget 1.Prepare the capital expenditures budget 2.Prepare the cash budget 3.Prepare the budgeted balance sheet 4.Prepare the budgeted statement of cash flows

Michael Dimond School of Business Administration The Master Budget

Michael Dimond School of Business Administration Addressing “What If” Questions Sensitivity analysis and scenario analysis are “what if” techniques that help managers in planning and budgeting. Two scenarios are being considered for Stylistic Furniture’s (the company from the textbook) budget. These analyses are potential predictions. Actual variances in direct costs and overhead costs are managed as events require.

Michael Dimond School of Business Administration Static Budget vs Flexible Budget The master budget is a static budget, and it uses the expected output planned at the beginning of the period. A flexible budget uses actual output of the period to determine the budgeted revenue and budgeted costs. Steps in developing a flexible budget: 1.Identify actual output quantity in units 2.Compute the revenues based on budgeted selling price times actual quantity sold 3.Calculate the costs based on the budgeted variable cost times the actual quantity 4.Apply the budgeted fixed costs

Michael Dimond School of Business Administration Variance Breakdown - Summary

Michael Dimond School of Business Administration Static Budget Variance

Michael Dimond School of Business Administration Flexible Budget Variance

Michael Dimond School of Business Administration Price and Efficiency Variances

Michael Dimond School of Business Administration Fixed Overhead Variance

Michael Dimond School of Business Administration Variable Overhead Variance

Michael Dimond School of Business Administration Capital budgeting, AKA fun with TVM Capital budgeting is different than the operating budget, but the two are related Steps in developing a capital budget: 1.Identify projects—identify potential capital investments that agree with the organization’s strategy. 2.Obtain information—gather information from all parts of the value chain to evaluate alternative projects. 3.Make predictions—forecast all potential cash flows attributable to the alternative projects. 4.Make Decisions by Choosing Among Alternatives - Determine which investment yields the greatest benefit and least cost to the organization. 5.Implement the decision, evaluate performance and retain learnings Capital budget proposals are usually decided using NPV, IRR and sometimes Payback Period.