Review for Final ExamSales Budget

Production Budget

Cash Collections Budget

Material Purchases Budget

Number of Units to be Produced x Units of materials needed to make one unit Material Units needed for Production + Desired Ending Materials Inventory Total Material Units Needed --Less Beginning Inventory of Material Units = Units of Material to be Purchased x Cost per unit of material = Cost of Material to be Purchased.

Cash Payments

Direct Labor Budget

Overhead Budget

Ending Finished Goods Budget

Production costs per unit Quantity Cost Total Direct materials 5.00 lbs. 0.40$ 2.00$ Direct labor 0.05 hrs. 10.00$ 0.50 Manufacturing overhead 0.05 hrs. 49.70$ 2.49

4.99$

Budgeted finished goods inventory Ending inventory in units 5,000 Unit product cost 4.99$ Ending finished goods inventory 24,950$

Selling and Administrative Budget

The Cash Budget

Budget Ends

Budgeted Income Statement Budgeted Balance Sheet Budgeted Statement of Cash Flows

Chapter 9 – Flexible Budgets

Jones Inc. Flexible Budget Created 12/31/2007 8,000 units 9,000 units 10,000 units 11,000 units 12,000 units

Sales ($100 per unit) $ 800,000 $ 900,000 $1,000,000 $1,100,000 $1,200,000 Variable Costs DM ($15 per unit) 120,000 135,000 150,000 165,000 180,000 DL ($10 per unit) 80,000 90,000 100,000 110,000 120,000 VOH ($5 per unit) 40,000 45,000 50,000 55,000 60,000 Vsell ($2 per unit) 16,000 18,000 20,000 22,000 24,000 VG*&A ($4 per unit) 32,000 36,000 40,000 44,000 48,000 288,000 324,000 360,000 396,000 432,000 Fixed Costs Overhead 250,000 250,000 250,000 250,000 250,000 Selling 200,000 200,000 200,000 200,000 200,000 General Administrative 150,000 150,000 150,000 150,000 150,000 600,000 600,000 600,000 600,000 600,000

Net Income from Operations $ (88,000) $ (24,000) $ 40,000 $ 104,000 $ 168,000

Activity & Revenue/Spending Variances

Revenue andRevenue/Cost Planning Activity Flexible Spending Actual

Formulas Budget Variances Budget Variances Results

Number of lawns (Q) 500 550 550

Revenue ($75Q) 37,500$ 3,750$ F 41,250$ 1,750$ F 43,000$ Expenses:

Wages and salaries ($5,000 + $30Q) 20,000$ 1,500$ U 21,500$ 2,000$ U 23,500$ Gasoline and supplies ($9Q) 4,500 450 U 4,950 150 U 5,100 Equipment maintenance ($3Q) 1,500 150 U 1,650 350 F 1,300 Office and shop utilities ($1,000) 1,000 - 1,000 50 F 950 Office and shop rent ($2,000) 2,000 - 2,000 - 2,000 Equipment Depreciation ($2,500) 2,500 - 2,500 - 2,500 Insurance ($1,000) 1,000 - 1,000 200 U 1,200

Total expenses 32,500 2,100 U 34,600 1,950 U 36,550 Net operating income 5,000$ 1,650$ F 6,650$ 200$ U 6,450$

Larry's Lawn Service

For the Month Ended June 30Flexible Budget Performance Report

Budget with Multiple Drivers

Revenue/Cost FlexibleFormulas Budget

Number of lawns (Q) 550 Numer of hours (H) 100

Revenues ($75Q + $30H) 44,250$ Expenses:

Wages and salaries ($5,000 + $30Q + $25H) 24,000$ Gasoline and supplies ($9Q) 4,950 Equipment maintenance ($3Q) 1,650 Office and shop utilities ($1,000) 1,000 Office and shop rent ($2,000) 2,000 Equipment Depreciation ($2,500) 2,500 Insurance ($1,000) 1,000

Total expenses 37,100 Net operating income 7,150$

Larry's Lawn ServiceFor the Month Ended June 30

Chapter 10 - Standards & Variances

A A x BStandard Standard StandardQuantity Price Cost

Inputs or Hours or Rate per Unit

Direct materials 3.0 lbs. 4.00$ per lb. 12.00$ Direct labor 2.5 hours 14.00 per hour 35.00 Variable mfg. overhead 2.5 hours 3.00 per hour 7.50 Total standard unit cost 54.50$

B

Variance Analysis

Variance Analysis

Materials price varianceLabor rate varianceVOH rate variance

Materials quantity varianceLabor efficiency varianceVOH efficiency variance

Quantity Variance Price Variance

Spending Variances

Price Variances (Actual Qty(actual price – std price)Dmat Price Variance = Act Qty Purch (actual price – stdard price)Dlabor Rate Variance = Act Hrs (actual rate – standard rate)VOH Rate Variance = Act Hrs (actual VOH rate – std VOH rate)

Quantity Variances = Std Price (Actl Qty – Std Qty)Dmat Qty Var = Std Price (act qty used – std qty allowed)Dlabor Effic Var = Std Labor Rate (actl hrs – std hours allowed)VOH Effic Var = Std VOH Rate (actl hrs – std hrs allowed)

A General Model for Variance Analysis

Quantity Variance(2) – (1)

Price Variance(3) – (2)

(1)Standard QuantityAllowed for Actual

Output,at Standard Price

(SQ × SP)

(2)Actual

Quantityof Input,

at Standard Price

(AQ × SP)

(3)Actual

Quantityof Input,

at Actual Price (AQ × AP)

Spending Variance(3) – (1)

A Statistical Control Chart

1 2 3 4 5 6 7 8 9

Variance Measurements

Favorable Limit

Unfavorable Limit

• • •• •

••

••

Warning signals for investigation

Desired Value

Advantages and Disadvantages

Standard costs are a key element of the management by exception approach which helps managers focus their attention on the most important issues. Standards that are viewed as reasonable by employees can serve as benchmarks that promote economy and efficiency. Standard costs can greatly simplify bookkeeping. Standard costs fit naturally into a responsibility accounting system. Standard cost variance reports are usually prepared on a monthly basis and are often released days or weeks after the end of the month; hence, the information can be outdated. If variances are misused as a club to negatively reinforce employees, morale may suffer and employees may make dysfunctional decisions. Labor variances make two important assumptions. First, they assume that the production process is labor-paced; if labor works faster, output will go up. Second, the computations assume that labor is a variable cost. These assumptions are often invalid in today’s automated manufacturing environment where employees are essentially a fixed cost. In some cases, a “favorable” variance can be as bad or worse than an unfavorable variance. Excessive emphasis on meeting the standards may overshadow other important objectives such as maintaining and improving quality, on-time delivery, and customer satisfaction. • Just meeting standards may not be sufficient; continual improvement using techniques such as Six Sigma may be necessary to survive in a competitive environment.

Chapter 11 - Decentralization in Organizations

Benefits ofDecentralization

Top managementfreed to concentrate

on strategy.

Top managementfreed to concentrate

on strategy.Lower-level decisions

often based onbetter information.

Lower-level decisionsoften based on

better information. Lower level managers can respond quickly

to customers.

Lower level managers can respond quickly

to customers.Lower-level managers

gain experience indecision-making.

Lower-level managersgain experience indecision-making. Decision-making

authority leads tojob satisfaction.

Decision-makingauthority leads tojob satisfaction.

Decentralization in Organizations

Disadvantages ofDecentralization

Lower-level managersmay make decisionswithout seeing the

“big picture.”

Lower-level managersmay make decisionswithout seeing the

“big picture.”May be a lack ofcoordination among

autonomousmanagers.

May be a lack ofcoordination among

autonomousmanagers.

Lower-level manager’sobjectives may not

be those of theorganization.

Lower-level manager’sobjectives may not

be those of theorganization.

May be difficult tospread innovative ideas

in the organization.

May be difficult tospread innovative ideas

in the organization.

Cost, Profit, and Investments Centers

ResponsibilityCenter

ResponsibilityCenter

CostCenterCost

CenterProfit

CenterProfit

CenterInvestment

CenterInvestment

Center

Cost, profit,and

investmentcenters are all

known asresponsibility

centers.

Return on Investment (ROI) Formula

ROI = Net operating income

Average operating assets

Cash, accounts receivable, inventory,plant and equipment, and other

productive assets.

Cash, accounts receivable, inventory,plant and equipment, and other

productive assets.

Income before interestand taxes (EBIT)

Income before interestand taxes (EBIT)

Understanding ROI – The DuPont Model

ROI = Net operating income

Average operating assets

Margin = Net operating income

Sales

Turnover = SalesAverage operating

assets ROI = Margin Turnover

Calculating Residual Income

Residual income

=Net

operating income

-Average

operating assets

Minimum

required rate of return

( )This computation differs from ROI.

ROI measures net operating income earned relative to the investment in average

operating assets.

Residual income measures net operating income earned less the minimum required

return on average operating assets.

ManufacturingCycle

Efficiency

Value-added timeManufacturing cycle time

=

Wait TimeProcess Time + Inspection Time

+ Move Time + Queue Time

Delivery/Mfg Cycle Time

Order Received

ProductionStarted

Goods Shipped

Throughput Time

Delivery Performance Measures

The Balanced Scorecard

Management translates its strategy into performance measures that

employees understand and influence.

Management translates its strategy into performance measures that

employees understand and influence.

Customer

Learningand growth

Internalbusinessprocesses

Financial

Performancemeasures

Chapter 11 – Incremental/Relevant Analysis

1. What is relevant information?2. Keeping or dropping a product line3. Make or buy decisions

(outsourcing/insourcing)4. Special Order5. Constrained Resource (limited

amount to be allocated)6. Sell Now or Process Further

1. Relevant Costs and Benefits

A relevant cost is a cost that deals with the future differs between

alternatives.

1 2

A relevant benefit is a benefit deals with the future that differs between

alternatives.

2. Keeping/Dropping a Product Line

Comparative Income ApproachSolution

Keep Digital

Watches

Drop Digital

Watches Difference Sales 500,000$ -$ (500,000)$ Less variable expenses: - Manufacturing expenses 120,000 - 120,000 Shipping 5,000 - 5,000 Commissions 75,000 - 75,000 Total variable expenses 200,000 - 200,000 Contribution margin 300,000 - (300,000) Less fixed expenses: General factory overhead 60,000 60,000 - Salary of line manager 90,000 - 90,000 Depreciation 50,000 50,000 - Advertising - direct 100,000 - 100,000 Rent - factory space 70,000 - 70,000 General admin. expenses 30,000 30,000 - Total fixed expenses 400,000 140,000 260,000 Net operating loss (100,000)$ (140,000)$ (40,000)$

3. The Make or Buy Decision

The avoidable costs associated with making part 4A include direct materials, direct labor, variable overhead, and the

supervisor’s salary.

The avoidable costs associated with making part 4A include direct materials, direct labor, variable overhead, and the

supervisor’s salary.

Cost Per Unit Cost of 20,000 Units

Make BuyOutside purchase price $ 25 $ 500,000

Direct materials (20,000 units) 9$ 180,000 Direct labor 5 100,000 Variable overhead 1 20,000 Depreciation of equip. 3 - Supervisor's salary 2 40,000 General factory overhead 10 - Total cost 30$ 340,000$ 500,000$

4. Special Orders

If Jet accepts the special order, the incremental revenue will exceed the

incremental costs. In other words, net operating income will increase by

$6,000. This suggests that Jet should accept the order.

Increase in revenue (3,000 × $10) 30,000$ Increase in costs (3,000 × $8 variable cost) 24,000 Increase in net income 6,000$

Note: This answer assumes that the fixed costs are unavoidable and that variable marketing costs must be incurred on the special order.

5. Utilization of a Constrained Resource

The key is the contribution margin per unit of the constrained resource.

Ensign should emphasize Product 2 because it generates a contribution margin

of $30 per minute of the constrained resource relative to $24 per minute for

Product 1.

Ensign should emphasize Product 2 because it generates a contribution margin

of $30 per minute of the constrained resource relative to $24 per minute for

Product 1.

Product

1 2

Contribution margin per unit $ 24 $ 15 Time required to produce one unit ÷ 1.00 min. ÷ 0.50 min.Contribution margin per minute 24$ 30$

6. Sell Now or Process Further

Analysis of Sell or Process Further

Per Log

Lumber Sawdust

Sales value after further processing 270$ 50$ Sales value at the split-off point 140 40 Incremental revenue 130 10 Cost of further processing 50 20 Profit (loss) from further processing 80$ (10)$

Ch 13. Capital Budgeting Decisions Determine alternatives Estimate cash flows for each alternative Use computational tools to evaluate

alternative Net present value Internal rate of return Payback Simple rate of return

Make a decision Follow up with an evaluative post audit .

Years Cash Flows

10% Factor

Present Value

Investment in equipment Now $ (160,000) 1.000 (160,000)$ Working capital needed Now (100,000) 1.000 (100,000) Annual net cash inflows 1-5 80,000 3.791 303,280 Relining of equipment 3 (30,000) 0.751 (22,530) Salvage value of equip. 5 5,000 0.621 3,105 Working capital released 5 100,000 0.621 62,100 Net present value 85,955$

Accept the contract because the project has a positive net present

value.

The Net Present Value Method

Internal Rate of Return Method

Investment required Annual net cash flows

PV factor for theinternal rate of return

=

$104, 320 $20,000

= 5.216

Future cash flows are the same every year in this example, so we can calculate the internal rate of

return as follows:

Internal Rate of Return Method

Find the 10-period row, move across until you find the factor 5.216. Look

at the top of the column and you find a rate of 14%.

Find the 10-period row, move across until you find the factor 5.216. Look

at the top of the column and you find a rate of 14%.

Periods 10% 12% 14%1 0.909 0.893 0.877 2 1.736 1.690 1.647

. . . . . . . . . . . .9 5.759 5.328 4.946 10 6.145 5.650 5.216

Using the present value of an annuity of $1 table . . .

Ranking Investment ProjectsThe Profitability Index

Project Net present value of the project profitability Investment required index

=

Project A Project B

Net present value (a) 1,000$ 1,000$

Investment required (b) $ 10,000 $ 5,000

Profitability index (a) ÷ (b) 0.10 0.20

The higher the profitability index, themore desirable the project.

The higher the profitability index, themore desirable the project.

The Payback MethodEven Annual Cash Flows

Payback period = Investment required Annual net cash inflow

Payback period = $140,000 $35,000

Payback period = 4.0 years

According to the company’s criterion, management would invest in the espresso bar

because its payback period is less than 5 years.

According to the company’s criterion, management would invest in the espresso bar

because its payback period is less than 5 years.

Payback and Uneven Cash Flows

1 2 3 4 5

$1,000 $0 $2,000 $1,000 $500

When the cash flows associated with an investment project change from year to

year, the payback formula introduced earlier cannot be used.

Instead, the un-recovered investment must be tracked year by year. The $4,000 cost is

recovered in four years

Simple Rate of Return Method

Simple rateof return =

Annual incremental net operating income

-

Initial investment*

*Should be reduced by any salvage from the sale of the old equipment

Does not focus on cash flows -- rather it focuses on accounting net operating income.

The following formula is used to calculate the simple rate of return:

Overview of Chapter 15Tools for Financial Statement Analysis

Horizontal Analysis Trend changes over time as percentages

Vertical or Common-Sized Analysis Convert all items on the financial

statements to percentage Ratio Analysis

Using ratios to compare and trend: Liquidity Profitability Market Value Solvency Operational Effectiveness

CLOVER CORPORATIONComparative Balance Sheets

December 31

Increase (Decrease)This Year Last Year Amount %

AssetsCurrent assets: Cash 12,000$ 23,500$ (11,500)$ (48.9) Accounts receivable, net 60,000 40,000 20,000 50.0 Inventory 80,000 100,000 (20,000) (20.0) Prepaid expenses 3,000 1,200 1,800 150.0Total current assets 155,000 164,700 (9,700) (5.9)Property and equipment: Land 40,000 40,000 - 0.0 Buildings and equipment, net 120,000 85,000 35,000 41.2Total property and equipment 160,000 125,000 35,000 28.0

Total assets 315,000$ 289,700$ 25,300$ 8.7

Horizontal Analysis

Horizontal Analysis

CLOVER CORPORATIONComparative Income Statements

For the Years Ended December 31Increase

(Decrease)This Year Last Year Amount %

Sales 520,000$ 480,000$ 40,000$ 8.3Cost of goods sold 360,000 315,000 45,000 14.3

Gross margin 160,000 165,000 (5,000) (3.0)Operating expenses 128,600 126,000 2,600 2.1

Net operating income 31,400 39,000 (7,600) (19.5)Interest expense 6,400 7,000 (600) (8.6)

Net income before taxes 25,000 32,000 (7,000) (21.9)Less income taxes (30%) 7,500 9,600 (2,100) (21.9)

Net income 17,500$ 22,400$ (4,900)$ (21.9)

Common-Size StatementsCLOVER CORPORATION

Comparative Income StatementsFor the Years Ended December 31

Common-Size Percentages

This Year Last Year This Year Last YearSales 520,000$ 480,000$ 100.0 100.0 Cost of goods sold 360,000 315,000 69.2 65.6

Gross margin 160,000 165,000 30.8 34.4 Operating expenses 128,600 126,000 24.8 26.2

Net operating income 31,400 39,000 6.0 8.2 Interest expense 6,400 7,000 1.2 1.5

Net income before taxes 25,000 32,000 4.8 6.7 Less income taxes (30%) 7,500 9,600 1.4 2.0

Net income 17,500$ 22,400$ 3.4 4.7

What conclusions can we draw?

Ratio Analysis

Liquidity – Working Capital, Current Ratio, Quick Ratio Earnings per share Price/Earnings Ratio Dividend Payout Ratio Dividend Yield Ratio Return on Total Assets Return on Total Equity Book Value per share Accounts Receivable Turnover Inventory Turnover Average Receivable Collection Period Average Sales Period Times Interest Earned Debt to Equity