Accounting for Decision Making

Week 1 Lecture

(2010)

1
 Module number: U50029
Module title: Accounting for Decision Making
Contents
Week Lecture
1 Seminar 2 - Budgeting (revision)
2 Seminar 3 - Appraising the Long-term Plan (revision)
3 Seminar 4 - Cost Allocation
4 Seminar 5 - Unit cost & Pricing
5 Seminar 6 – Controlling the Plan (Variance Analysis)
6 Consolidation
7 Seminar 7 - Identifying Contribution & Break Even Analysis
8 Seminar 8 - Relevant Costs and Revenues Analysis
9 Seminar 9 - Balanced Scorecard & Performance Indicators
10 Revision
11 Sample Exam Paper
12 Optional

2
 Costing System of a Merchandiser
BALANCE SHEET INCOME STATEMENT

when Revenues
sales
occur Cost of
Merchandise Merchandise Goods Sold
Purchases Inventory _ (an expense)

Gross Profit
Marketing,
Marketing,
selling and
selling and
administrative
administrative
expenses _ =
expenses

Profit

3
 Costing System of a Service Company
INCOME STATEMENT
Payroll
Costs Revenues

Customer –
Service Costs
Operating
Marketing
Costs
Expenses
Administrative
_
Costs

Office Profit
Costs

4
 Costing System of a Manufacturer

Manufacturing Costs

Direct
Direct Direct
Direct Production
Production
Materials
Materials Labor
Labor Overhead
Overhead

The Product

5
 Costing System of a Manufacturer

Materials, Conversion Conversion Sale of

Labor, and into Work-in- into Finished Finished
Production Process Goods Goods
Overhead Inventory Inventory (Cost of
Goods Sold)

6
 Costing System of a Manufacturer
BALANCE SHEET INCOME STATEMENT

Manufacturing Revenues
Costs when
sales
Direct Materials Work in Finished
occur Cost of
Direct Labor Process Goods Goods Sold
Production Inventory Inventory (an expense)
_
Overhead
Non-manufacturing Gross Profit
Costs Marketing, selling
Marketing, selling and administrative
and administrative expenses
expenses _ =
Profit
7
 Budgeting

The Chartered Institute of Management

Accountants defines a budget as ‘a financial
and/or quantified statement, prepared and
approved prior to a period, of the policy to be
pursued during that period’.

From the Businessman's point-of-view it is a

financial plan of where the business wants to
be in the future and how it is to get there.

8
The Master Budget Sales
Budget

Selling and
Capital Production Administrative
Budget Budget Expense Budget

Direct Materials
Usage Budget

Direct Materials Direct Production

Purchases Labor Overheads
Budget Budget Budget
functional
Standard Budgeted budgets
Unit Cost

Closing Stock Budget

Cost of Sales
Budget

Budgeted
Balance Budgeted Cash
Sheet / Working Income Budget
Capital Statement

9
 Advantages of budgeting

• It is an aid to planning
• It identifies the existence of any limiting factor
which restricts the performance of a business
• It co-ordinates the activities of the business and
encourages teamwork
• It communicates the plans formulated by the senior
management team to all employees
• It motivates managers to achieve goals
• It facilitates the evaluation of actual performance by
establishing a ‘bench-mark’.

10
Basic Equation for Inventory Accounts

Beginning
Merchandise + Purchases
Inventory

Goods available
for
Sale

Ending
Merchandise + Cost of Goods
Inventory sold

11
Basic Equation for Inventory Accounts

Beginning Ending Cost

Merchandise
Inventory
+ Purchases = Merchandise
Inventory
+ of Goods
sold

Beginning Cost Ending

Merchandise + Purchases - of Goods = Merchandise
Inventory sold Inventory

Beginning Ending Cost

Merchandise + Purchases - Merchandise = of Goods
Inventory Inventory sold

12
Basic Equation for Inventory Accounts

Beginning Additions
Inventory + (Materials Purchases)
(Goods Produced)

Goods Available

Ending Withdrawals Provisions

Inventory + (Materials Usages) + (Loss/Damages)
(Cost of Goods Sold)

13
Basic Equation for Inventory Accounts

Financial Statement
Cost of goods sold:
Beg. merchandise
inventory $ 14,200
+ Purchases 234,150
Goods available $ 248,350
for sale
- Ending
merchandise
inventory (12,100)
= Cost of goods
sold $ 236,250

14
 SEMINAR QUESTION 1
The Crusader Mountain Bike Co. budgets to sell 40,800 cycles in 20X1. If the
opening stock of cycles is 1,250 and the closing stock is budgeted to be 450,
what is the budgeted production level (in units)?

If each cycle requires 12.5 kg of tubing at a cost of £3.80 per kg and the
opening stock is 4,600 kgs and the closing stock is budgeted at 3,800 kgs, what
is the material purchase budget in value?

15
 Basic Equation for Inventory Accounts

1. First-in, first-out (FIFO) 2. Last-in, first-out (LIFO) 3. Weighted average

Beginning
Inventory

$10 $10 $10

$36
Purchases

$12 $12 $12 3

= $12
$14 $14 $14 each

Income Statement Income Statement Income Statement

Sales $20 Sales $20 Sales $20
X1
C/G/S 10 C/G/S 14 C/G/S 12
Gross profit $10 Gross profit $ 6 Gross profit $ 8
Balance Sheet Balance Sheet Balance Sheet
X2
Inventory $26 Inventory $22 Inventory $24

16
 Fixed vs Flexible Budget

Fixed Actual Flexed Variance

Activity 1,000 1,200 1,200 0

Variable costs (@$2) 2,000 2,450 2,400 (50) U

Fixed costs 3,000 2,980 3,000 20 F

Total 5,000 5,430 5,400 (30)U

U – Unfavorable F - Favorable

17
 Fixed vs Flexible Budget
• A fixed budget is prepared at the beginning of
the budgeting period and is valid for only the
planned level of activity.
• A flexible budget calculates budgets revenues
and budgeted costs based on the actual output
level in the budget period. It is prepared at the
end of a period after the actual output level is
known.

18
 Fixed vs Flexible Budget
Fixed
Fixed Budgets
Budgets Flexible
Flexible Budgets
Budgets
 Used
 Used for
for planning
planning  Used
 Used for
for control
control
purposes.
purposes. purposes.
purposes.
 Prepared
 Prepared at at the
the  Prepared
 Prepared at at the
the
beginning
beginning of of the
the end
end of
of the
the period.
period.
period.
period.
 “Flexed”
 “Flexed” toto
 Based
 Based upon
upon accommodate
accommodate
projected
projected level
level of
of actual
actual level
level of
of
activity.
activity. activity.
activity.

19
 Cash Budget
CASH RECEIPTS

Cash Sales
From debtors ( Beginning Debtors + Credit Sales - Ending Debtors)

CASH PAYMENTS

To creditors (Beginning Creditors + Credit Purchases - Ending

Creditors)
Cash expenses

NET INFLOW/OUTFLOW OF CASH = Cash receipts – cash payments

CLOSING BALANCE = Beginning Balance + Net Inflow/Outflow of Cash

20
 Improving the Process
Responsibility Accounting
• Managers responsible for costs in their own cost
centres to achieve their budgeted goals

• Gives high level of motivation, provided

favourable and unfavourable variances are
equally considered

21
 Improving the Process
Commitment Accounting

• Recognises the impact on the budget as soon as

a commitment is made – when an order is
placed

• Rather than waiting until goods are actually paid

for

22
 Improving the Process
Zero-Based Budgeting

• Justify every budget item from scratch

• NOT just adding a bit onto last year

• VERY time consuming

23
 Dysfunctional Behaviour
• Building ‘slack’ into budgets
• Concealing expected advantages
• Avoiding risks in order to ‘escape’ criticism.
• Falsifying information e.g. charging expenditure
to another expense heading, high spending
towards the year-end to conceal any ‘slack’ in
the original budget
• Resentment by managers put under pressure.

24
 Sources of Finance

Source Short-term long-term

(< 2 years) (> 2 years)
Internal •Efficient working •Retained profits
capital management

External •Bank overdrafts •Share capital

•Long-term loans
•Leasing of assets

25
What are the general advantages /
disadvantages of using the long-term sources of
finance just mentioned?
Advantages Disadvantages
Retained profits •No cost •Limited supply
•Maintains control
Share capital •Cost effective •Possible dilution of
control
Long-term loans •Encourages structured •Cost
•Risk if obligations
Leasing of assets planning not met

26
 Overtrading
• Unstructured expansion
• Capital base too small for its expanded
levels of activity
• Profitable but insufficient funds to finance
working capital/fixed assets

27
 Consequences of Overtrading
• Serious liquidity problems – cannot pay
suppliers
• Diversion of management into dealing with
liquidity and not other business areas
• Increased interest charges
• Inability to buy in bulk
• Cannot replace old fixed assets

28
 Tutorial Exercise

Seminar 2: Questions 1 – 5

Students are required to hand in

solutions to the assigned exercises at
the beginning of the tutorial sessions.

29
 End of
Week 1
Lecture

30