Budgeting and Standard Cost
Systems
Chapter 13
Budgeting

A budget is a financial and quantitative plan
for the acquisition and use of resources

Use for

Establishing goals

Executing plans to achieve the goals

Comparing actual results with planned results
Budgeting

Types of budgets


Static budget

Prepared for one level of activity

Useful for planning

Not useful for controlling or evaluation of results
Flexible budget

Prepared for several different levels of activity

Useful for planning, controlling and evaluation of results

Separates variable costs from fixed costs
Master Budget

Overall plan for the organization expressed in
unit and dollar terms

Begins with the sales budget

All activities exist to support the sales budget

Sales budget and current and desired finished
goods inventory levels determine the production
budget

Sales + desired ending inventory – beginning inventory
= production
Master Budget

Sales budget determines the selling and
administrative expense budget

Sales budget contributes to the cash budget
Master Budget

Production budget determines resources
needed to support production levels

Production budget and current and desired
materials inventories determine the materials
purchase budget


Production needs + desired ending material inventory –
beginning material inventory = purchases
Production budget also determines the labor
needs and overhead costs
Master Budget

Cash budget lists expected cash inflows and
outflows

Collections from customers

Payment for material purchases, labor and overhead

Payment for selling and administrative expenses

Payment for capital expenditures

Borrowing or repayment of loans

Miscellaneous items

Dividends, investment income, etc.
Master Budget

Information from the budgets can be used to
prepare a budgeted income statement and a
budgeted balance sheet

The master budget is a plan

The financial statements show the results of
operations and financial position if the plan is
achieved
Standards

A standard is a measure of what should occur


Quantity standard

How much of a resource should be used to produce a
certain level of output

Often determined by engineering specifications
Price standard

How much the resource should cost

Assumes the resource is acquired in normal quantities,
from the normal supplier, etc.
Standards

Standards provide a benchmark to use in
evaluating performance

Comparison of actual results to standards
results in variances which may indicate
where there are problems

Did we pay more (or less) than the normal cost?

Did we use more (or less) of the resource than we
should have?
Standards

Types of standards


Theoretical (ideal) standard

Indicate what can be achieved under perfect conditions

Unrealistic, seldom used

May be used to motivate employees to improve
performance, but if used as a goal, they are
demotivating
Currently attainable (normal) standard

Standard that can be achieved with reasonable effort

Allows for normal inefficiencies
Variance Analysis

Comparison of actual results to standards
results in variances



“Favorable” variance occurs when the actual
amount is less than the standard
“Unfavorable” variance occurs when the actual
amount is greater than the standard
“Favorable” and “unfavorable” are not necessarily
good or bad

Both represent deviations from what should have
occurred
Variance Analysis

General formulas

Standard cost = standard quantity * standard price

Actual cost = actual quantity * actual price

Total variance = standard cost – actual cost
Variance Analysis

Material and labor variances

Materials price variance

Labor rate variance

Actual quantity * (standard price – actual price)

Material quantity variance

Labor time variance

Standard price * (standard quantity – actual quantity)
Variance Analysis

Overhead variances


Variable overhead controllable variance

Measures the efficiency of using variable overhead
resources

Budgeted variable overhead at the standard hours
allowed – actual variable overhead
Fixed overhead volume variance

Measures the use of fixed overhead resources by
analyzing capacity utilization

Standard fixed overhead rate * (Standard hours at
output achieved - 100% of normal capacity)