Managerial Accounting(session 2)

Management Control

The cash budget

Self-assessment question 1.6

Create a cash budget from the following information:

Opening balance is €150 overdrawn, credit receipts are €100 per month, cash receipts are €30 pm and other receipts are €70 in Feb.

Purchases are €100 pm, wages €25 pm, expenses €35 pm and other payments are €15 in Jan.

The cash budget

January February March Quarter

Receipts Credit sales Cash sales Other Total

10030

130

1003070200

10030

130

3009070

460

Payments Purchases of materials Wages Expenses Other Total

100253515

175

1002535

160

1002535

160

30075

10515

495

Net in/(out) flowOpening bank balanceClosing bank balance

-45-150-195

40-195-155

-30-155-185

-35-150-185

The high-low method

Total Cost (€)

0

500

1000

1500

2000

2500

0 20 40 60 80 100 120 140 160 180

Maintenance (hours)

To

tal

Co

st (

k€)

Total Cost (€)

Self-assessment question 1.7

June

Sept.

July

The high-low method

Semi-variable costsMaintenance (hours)

Total Cost (£)

October 155 2013

September 122 1723

August 135 1902

July 69 280

June 157 2073

May 149 1937

June 157h. £ 2,073

Sept 122h. £ 1,723

Var. cost 35h. £ 350 i.e. £ 10/h.

Total VC for June = 157 x 10 = £ 1,570

Total estimated FC = 2,073 – 1,570 = £ 503

Estimated maintenance cost for Nov. = 503 + 180 x 10

= £ 2,303

Texas Rex Inc.

1. Sales Budget

1 2 3 4 Year

Units 1 000 1 200 1 500 2 000 5 700

Unit Selling Price

10,00 10,00 10,00 10,00 10,00

Budgeted Sales ($)

10 000 12 000 15 000 20 000 57 000

Texas Rex Inc.

2. Production Budget (in units)

1 2 3 4 Year 1

Budgeted Sales

1 000 1 200 1 500 2 000 5 700 1 000

Desired ending inventory

180 240 300 400 200 200

Total needs 1 240 1 500 1 900 2 200 5 900

Less : beginning inventory

-180 -240 -300 -400 -180

Units to be produced

1 060 1 260 1 600 1 800 5 720

Texas Rex Inc.

3. Direct Materials Purchases Budget ($)

Plain t-shirts 1 2 3 4 Year

Units to be produced 1 060 1 260 1 600 1 800 5 720

Direct materials per unit 1 1 1 1

Production needs 1 060 1 260 1 600 1 800 5 720

Desired ending inventory 126 160 180 106 106

Total needs 1 186 1 420 1 780 1 906 5 826

Less : beginning inventory

-58 -126 -160 -180 -58

Texas Rex Inc.

4. Direct Labour Budget ($)

1 2 3 4 Year

Units to be produced 1 060 1 260 1 600 1 800 5 720

Direct labour time per unit

0,12 0,12 0,12 0,12

Total labour hours needed

127,2 151,2 192,0 216,0 686,4

Average wage per hour 10 10 10 10

Total direct labour cost

1 272 1 512 1 920 2 160 6 864

Texas Rex Inc.

5. Overhead Budget ($)1 2 3 4 Year

Budgeted direct labour hours 127,2 151,2 192,0 216,0 686,4

Variable overhead rate 5,00 5,00 5,00 5,00

Budgeted variable overhead 636,0 756,0 960,0 1 080,0 3 432,0

Budgeted fixed overhead 1 645 1 645 1 645 1 645 6 580,0

Total overhead 2 281 2 401 2 605 2 725 10 012

Texas Rex Inc.

6. Closing Finished Goods Inventory Budget ($)

Unit cost computation

Direct material 4,00 Plain t-shirt 3,00 Ink 1,00

Direct Labour 1,20

Overhead 1,75 Variable 0,60 Fixed 1,15

Total unit cost 6,95

Finished goods : logo t-shirts 200 Unit cost 6,95 Ending FG inventory 1 390,07

Rate 9,586

Comparison btw the contribution income statement and the traditional income

statement

Traditional approach to P&L Contribution approach to P&L

Sales €12,000

Cost of goods sold €6,000

Gross margin €6,000

Selling and administrative expenses:

Selling €3,100

Administrative €1,900 €5,000

Operating income €1,000

Sales €12,000

Variable expenses:

Variable production €2,000

Variable selling €600

Variable administrative €400 €3,000

Contribution margin €9,000

Fixed expenses:

Fixed production €4,000

Fixed selling €2,500

Fixed administrative €1,500 €8,000

Operating income €1,000

A P&L analysis by industry

Industry Cost of goods sold / Sales

Selling and administrative expense /

Sales

Aerospace and defenseBeveragesComputer software and servicesElectrical equipment and componentsHealthcare servicesOil and gasPharmaceuticalsRestaurants

79%52%34%

64%

82%90%31%78%

9%34%38%

21%

6%3%

41%8%

Why do you think the percentages in each column differ so dramatically?

Source: Lori Calabro, « Controlling the flow », CFO, February 2005, p. 46-50

Texas Rex (T-shirt) 70% 15%

Total

88%

86%

72%

85%

88%

93%

72%

86%

Purposes of budgets (summary)

Budgets are used : To convert strategic plans into actions

To help coordinate the activities (manufacturing, sales…)

To guarantee the coherence of action plans

To favor the discussion of action plans and consider qualitative

aspects

To keep records of assumptions made

To assign responsabilities to managers (influencing behaviors)

To give autonomy to managers (allow them to spend money through grants of authority)

To evaluate performance…

Organizational control, Management control and Managerial Accounting

Informalcontrol

Formalcontrol

Management control

Management

Accounting

The management accounting tools

– Cost Accounting;

– Mgt Reporting and financial Reporting*

– Budgets.

Management Accounting* Financial Reporting focus on account consolidation and legal requirements (GAAP, past information,...) for external parties when management accounting focus on information regarding operations for managers within the organisation.

The management control tools

– Cost Accounting;

– Mgt Reporting and financial Reporting*

– Budgets.

– Performance Measurement Systems (tableau de bord)

– Incentives, objectives… (also with HRM)

Definitions of « management control »:

« Management control is the process by which managers influence other members of the organization to implement the organization’s strategies » (ANTHONY, 1998).

« Management control is the process of providing information about the performance of managers and operating units » (ATKINSON et al., 1997). 

The management control tools

• What is a "tableau de bord" (dashboard)?

Set of short term performance indicators that help manage performance

Few indicators (KPI)

Made of tables and/or graphs

Link between strategy, Critical Factors of Success, and Budgets

Building the "tableau de bord"

Strategy

Objectives

Critical factors

Indicators

standards of performance

Critical factors and indicators

Increase SalesSalesBacklogNb of new prospects visited

Maximize contributionContribution in € & in % of SalesProduct mix in favour of top range products

Satisfaction of customersRenewal rate of contractsCustomer satisfaction indicator

Stay in line with estimates Budget variances

Sell maintenance contracts Nb of contrats sold / Nb of installations

Adapted from Mendoza et al. (2002)

Example of an elevator services company

Critical factors Indicators

What is standard costing?

• A financial, cost control system that enables the

deviations (variances) from the budget to be

analyzed

• Suitable when output can be measured and

input required can be specified

What is a standard cost?

• A predetermined cost per unit or per operation

(activity)

If the target cost that should be incurred is set under

efficient operating conditions = Attainable standards

If the target cost that should be incurred is set under

ideal operating conditions = ideal standards

Purpose of standard costing

• Predicting future costs for decision-making

• Providing a challenging target for managers

• Assisting in setting budgets and evaluating

managerial performance

• Acting as a control device of operations

• Simplifying profit measurement and inventory

valuation

Management control: cybernetic model

Control device

Entity being controlled

1. Detector. Information about what is happening

3. Effector. Behavior alteration, if needed

2. Assessor. Comparison with standard

Source: Anthony & Govindarajan (2007)

The management control processThe management control process

Planning Action Evaluation

Regulation loop

Learning loop

Formal control tools

– Cost Accounting;

– Mgt Reporting and financial Reporting*

– Budgets.

– Performance Measurement Systems

– Incentives

Formal control• Audit

• Financial markets (stock prices, analysts…)

Organizational control, Management control and Managerial Accounting

Informalcontrol

formalcontrol

Management control

Management

Accounting

Clan control,…Tableaux de bord,…Procedures,… Budgets,…

A control type for every kind of org.?

Source: Ouchi (1979)

INFORMAL

FORMAL

The responsibility centers

• Budgets are organized by responsibility centers.

There are 5 types of responsibility centers :

- Production centers- Discretionary expense centers- Revenue centers- Profit centers- Investment centers.

FC & VC

FC

Sales

EBITDA…

ROI…

Complaints about budgets

• Justify already taken decisions

• Prevent from adaptation to change (especially

as the environment is evolving more rapidly)

• Useless if goals are imposed

• Increase rivalry between departments…

Are budgets commonplace?

Source: Leahy, Business Finance, 2006