35. Flexible Budgets and Performance Analysis

Question 1

Describe the three main components of the decision-making feedback loop used in the management process

Answer 1

• Planning: Operational objectives are defined, performance measures are set, and resources are committed.
• Controlling: Expectations are established, results are gathered and reported, and variances are captured and reported.
• Evaluating: Performance is rewarded, objectives are analyzed to see if they were met, and insight is gained to prepare for the next planning stage.

Question 2

What is the difference between effective and efficient measures?

Answer 2

• Effective: Determined by how well an organization achieves its revenue goals (output).
• Efficient: Based on how well an organization achieves its cost goals (input)

Question 3

What is a flexible budget and how is it used in performance analysis?

Answer 3

A flexible budget is established based on what is actually produced and sold; therefore, this budget is based on actual outcome results. Compared to the Master Budget, the fixed costs should not be changed and only the variable costs should “flex” to assess the actual output. A flexible budget makes the costs relevant for analyzing the efficiency performance of the organization’s actual output.

Question 4

Describe the management concept of the ceteris paribus principle.

Answer 4

This is Latin and means “all other things being equal.” This means that a variance computation isolates the effects of one single issue in the organization and measures the effect it has on operating income. If the effect of the issue (solely by itself) increases operating income, it is described as “favorable.” If the effect of the issue decreases operating income, it is an “unfavorable” variance.

Question 5

Describe the management concept of “management by exception.”

Answer 5

This approach helps management focus on current processes that might need attention. Variances, whether favorable or unfavorable, signal that something is out of compliance with the cost standards or budget expectations. These variances do not inform management what the actual problem is or what needs to be done. Variances are a signal to investigate.