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- Explain, using examples, why it is essential to create and use flexible budgets when evaluating past performance of a profit centre which manufactures and sells a product. What might be the objective of such a performance evaluation.
- When preparing a cash budget for a manufacturing business for the following year, there may be many other budgets that will need to be produced before the cash budget is completed.List three (3) other budgets that must be prepared at the same time or before the cash budget is prepared, and for each one, explain the likely timing of cash flows that will occur and how this will impact a cash budget.
- Explain what is meant by the 'operating cycle' for a manufacturing business and how this differs from the 'cash cycle'. How does understanding all of the elements of the operating and cash cycle help in managing working capital efficiently? In you answer, explain the ratios and data we use to analyse the efficiency of managing working capital.
- Accounting isn't as important in the government organisations as it is in private enterprises, since the government does not have to worry about earning a profit. Do you agree? Explain.
- What is the essential purpose of any costing system? Explain.
Wonder Products Pty Ltd builds beautiful things to order for customers. When quoting prices on jobs Wonder Products allocate manufacturing overheads on the basis of estimated machine hours to complete the job. They allocate administrative overhead costs on the basis of direct labour hours estimated to complete the job.
Below is a budget for the current year showing budget total figures.
Budget for the year
Direct labour costs for the year $537,600
Manufacturing overheads for the year 598,080
Administrative overheads for the year 695,520
Direct labour hours for the year 14,000
Total machine hours for the year 7,000
a) Calculate a manufacturing overheads allocation rate for Wonder Products.
b) Calculate an administrative overhead allocation rate for Wonder Products.
c) Bushy George has asked Wonder Products Pty Ltd to make an especially wonderful creation to his specifications that will require the following inputs:
Direct materials $19,000
Direct labour 750 hours
Machine usage 400 hours
Assuming a mark up of 40% on total costs, what price should be quoted to Bushy to build him this especially wonderful creation?
d) Why is it so important to carefully allocate overhead expenses when quoting on jobs or when generally deciding on prices? Discuss problems that are encountered with overhead allocation methods and alternative approaches that might be taken.
e) Why do companies use predetermined (budgeted) overhead allocation rates rather than using actual overhead costs in allocating overhead costs to units of product? Explain.
- Flexible budgets
Flexible budgets are the budgets that are prepared for various levels of activities because the actual output may not be equal to the expected level of the output (Belot, 2017). It is also used as a tool for the evaluation of the performance of profit centres in the organization, which is involved in the manufacturing of goods as well as its sale (Horngren, 2010). The evaluation of performance can be done by comparing the actual performance at a given level of output with the budgeted performance at the same level of output. The actual level of output may necessarily not be the same as the budgeted level of activity. If both are not the same, it is required that a flexible budget should be prepared for the actual level of output, considering the fixed budget as the base (Bhattacharya, 2011). The comparison of actual performance with the flexible budget will provide an idea of whether the performance of the centre is poor or good.
For example, the cost of material as decided in the fixed budget for 1000 units was Rs 10000. The actual output was 1200 units and the actual cost incurred amounted to Rs 11000. The comparison of both figures shows that the centre has incurred more cost, but in actuality, they have saved money. The cost of material needs to be calculated for 1200 units for comparing it with the actual material cost.
Flexible direct material cost = Budgeted cost/budgeted output * actual output (Horngren, 2010)
= 10000/1000*1200 = $12000
Actual direct material cost = $11000
Favorable performance = $1000