Management Accounting :
Costing
Aspects of budgeting
What is a budget?
A budget is a financial plan for a business or
organisation that is prepared in advance.
Budgeted/standard costs and revenues
are set for
•
•
•
•
•
Direct material
Direct labour
Production overheads
Sales revenues
Profit from operations
Once budgets are done; they can be
used for:
• Decision making
• Planning
• Control
Fixed and variable costs in budgeting
and decision making
• Identifying costs as fixed, variable and semi
variable helps with budgeting and decision
making – the business might be able to alter
the balance between fixed and variable costs
in order to increase profits. Product could be
made :
• Either by using a labour intensive process
• Or by using expensive machinery in an
automated process
Identifying the amount of fixed and
variable costs
Example:
At output of 1,000 units, total costs are 7,000
At output of 2,000 units, total costs are 9,000
High output
2,000 units
£9,000
Less low output 1,000 units
£7,000
Equals
1,000 units
£2,000
Identifying the amount of fixed and
variable costs
Variable costs per unit =
difference in costs /difference in units =
£2,000/1,000 = £2 Per unit
Total costs
= 7,000
Less: variable costs (1,000*2)
= 2,000
fixed costs
5,000
Exercise
At output of 2,000 units, total costs are 9,000
Total cost= Fixed cost + variable costs
£7000 1000 units
£9000 2000 units
Vc per unit= Highest cost – lowest costs
=Highest no of units- lowest no of units
(9000-7000) / 2000-1000=£2 per unit
High low method
£7000, 1000 units
Total costs= Fixed costs+ variable costs
7000=FC + (1000*2)
Exercise
Batches produced and sold
800
1,000
1,500
£
£
£
24,000
24000/800*1
000=30000
24000/800*150
0=45000
Direct material
4,400
4400/800*10
00= 5500
4400/800*1500
=8250
Direct labour
6,800
8500
12750
Overheads
4,800
6000
9000
Semi variable costs:
4,100
Sales revenue
Variable costs :
Variable elements
800*2=1600
1000*2=2000
1500*2=3000
Fixed elements
2500
2500
2500
Total costs
20,100
24500
35500
Total profit
3,900
5500
9500
Profit per batch
4.88
5.5
6.33
• VC per unit= 6500-
Budgeted contribution
Contribution which is selling price less variable
cost, is an important factor in short term
decision making.
Budgets and variance
A variance is the budgeted /standard cost or
revenue minus the actual cost or revenue.
Favorable and adverse variances
• Actual cost is lower
than budgeted costs
• Actual revenue is more
than budgeted revenue
• Actual profit is higher
than budgeted profit.
• Actual cost is higher
than budgeted costs
• Actual revenue is less
than budgeted revenue
• Actual profit is less than
budgeted profit.
Management by exception
• The control system of a business will set down
procedures for acting on variances, but only
for significant variances. This type of system is
known as management by exception.
• Manager will normally work to tolerance
limits – a tolerance limit is an acceptable
percentage variance on the budgeted amount.
Who needs to know about variance?
• The cost of the material used is going up by
one percent.
• A major failure in an automated process has
cut output by 50 percent.
Reporting and investigating variances
• Variance of the cost elements and sales
revenue are summarised on a budget report.
• These reports reconcile each element and
show the variances.
Reporting cycle
• Accurate
• Timely
• In an appropriate format
Revisions of budgets
• Costs increased by inflation
• Changes to the specifications and quality of
material
• Changes to work practices
• Changes to selling prices
Controllable and non controllable
costs
• Controllable costs: costs and revenues which
can be influenced by the manager/supervisors
• Non- Controllable costs: costs which cannot
be influenced by the managers/supervisors in
the short term.
Fixed and variable budgets
• A fixed budget I remains same whatever the
level of activity.
• Flexible budget I changes with the level of
activity and takes into accounts different cost
behavior pattern.