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Unit 9 Assignment 1: Budget Variance Analysis

Unit 9 Assignment 1: Budget Variance Analysis Charles L. Williams BUS3060 Fundamentals of Finance and Accounting Capella University Dr. Nancy Odett Date: June 10, 2012

Budget Variance Analysis 1 Budget Variance Analysis Imagine that for the second quarter in a row, profits are down at Waterfall division. Division Management budgeted $250,000 in profits for the 2nd quarter but actual results were only $197,000 in profits. The division management insists that the budgets were developed realistically but admits sales were down. The division has been under pressure to improve profitability. Corporate Management has asked you to identify the primary cause of the shortfall " revenue or costs? Address the following as you develop your answer to Corporate. 1. How will you approach your analysis of the situation? The budgeted profit of the Company is $250000 while the actual profit is $197000. The unfavorable variance in the profit should be analyzed by finding out the reasons for the variance and the persons who are responsible for the unfavorable variance and what are the steps that need to be taken to improve the profitability. Also the analysis should be made whether realistic budget/standard has been set and whether there is any need for correcting the standard.

2. What variance analysis and / or trends would be helpful to evaluate? Standard costing can be used to evaluate the difference in terms of revenue, direct material cost, direct labor cost, variable overheads, and fixed overheads. Budgeting can be used to evaluate the reasons for the differences between the budgeted amount with respect to revenue and cost and the actual revenue and cost. Further, responsibility accounting can also be used to fix the responsibility for the unfavorable variance.

3.What are three possible situations that could be the cause for the shortfall in profits?

Budget Variance Analysis 2 Profit variance = budgeted profit-actual profit. When budgeted profit is more than actual profit, then profit variance is unfavorable. The three possible situations for the short fall in profits: 1. Less sales volume. If the company could less number of sales units (volume) than the

budgeted number of units, then it will result in unfavorable sales volume variance. For example, if the company has set the target for sales department to sell 100000 units for one quarter and if the sales department could sell only 85000 units, then the profit will short to the extent of 15000 units. 2. More material price: If the material was purchased at rate higher than the standard

price, then it will result in increase in costs and thereby resulting in unfavorable profit variance. For example, if the standard price of raw material is $20 per kg and if the raw material was purchased at the price of $21, then it will increase the direct material cost and reduce the standard profit. 3. High usage of material. If there is high usage of material because of purchase of

inferior quality or abnormal wastage of material because of inefficiency of inexperienced labor force, then it will increase the material cost.

3. What actions would you recommend for these three possible situations? The company should make efforts to increase the sales volume by making more advertisements and sales promotional methods and should provide sales incentives to the sales force to attain the targets. The purchasing department should plan in such a way that a. bulk orders are being placed to get the economical price b. at the right quality being purchased and c. steps are being made to avail the discount. Purchasing department should not make rush orders and should not get the material at the inflated rate. The workers should be trained in such a way that they product the finished goods without wastage.

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4. What recommendations would you make to management to improve the budget process for next year? The management while setting up the standards should have detailed discussion with all departmental heads and standards should be of realistic one .The standard should not be one which is almost impossible to achieve. For example, while setting material usage standard, proper provision should be given for normal spoilage and in case of setting labor time; provision should be made for normal fatigue and rest. Likewise, while setting sale price and volume standard, the sales head and sales force should be given the opportunity to inform about the actual market position and detailed market study should be undertaken to set the realistic and achievable standard.

Budget Variance Analysis 4 References Capella University. (2003). Fundamentals of finance and accounting. New York, NY: McGraw-Hill. ISBN: 978007360778. Weiner, D. P. (2009). Financial accounting as a second language. Hoboken, NJ: John Wiley & Sons. ISBN: 9780470043882 Libby, R., Libby, P. A., & Short, D. G. (2011). Financial accounting (7th ed.). New York, NY: McGrawHill. ISBN: 9780077892661.