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BEC > B2 Strategic Planning: Techniques for Forecasting, Budgeting, and Analysis-Profitability and Pricing analysis > Flashcards

B2 Strategic Planning: Techniques for Forecasting, Budgeting, and Analysis-Profitability and Pricing analysis Flashcards

1
Q

Profitability and Pricing Analysis

Contribution Approach (Direct Costing)

&

Absorption Approach (GAAP)

Formulas

A

Contribution approach

used for breakeven analysis.

Revenue

- VC (DM +DL + Variable OH +Variable SG&A)

=Contribution Margin

- Fixed Costs (Fixed OH +Fixed SG&A)

= Profit

Absorption Approach (GAAP)

Revenue

- COGS(DM+DL+OH-fixed and variable) {product costs}

= Gross Margin

Less operating expenses (SG&A-fixed and variable) {period costs}

=Net income

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2
Q

Profitability and Pricing Analysis

Contribution Margin Ratio

A

Contribution Margin / Revenue

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3
Q

Profitability and Pricing Analysis

Absorption Approach vs Contribution Approach-biggest difference is the treatment of what?

A

The main difference is the treatment of fixed factory overhead. SG&A are period costs under both methods.

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4
Q

Profitability and Pricing Analysis

Contribution Approach (Direct Costing)

vs

Absorption Approach (GAAP)

A

Absorption-all fixed factory overhead treated as product cost and included in inventory values. GOGS includes both fixed costs and variable costs

Contribution-All fixed factory overhead is treated as period cost and is expensed in the period incurred. Inventory values include only the variable manufacturing costs, so COGS includes only variable costs-not gaap

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5
Q

Profitability and Pricing Analysis

  • Contribution Approach (Direct Costing)*
  • &*
  • Absorption Approach (GAAP)*

Effect on Income

A

Production Greater than Sales=Inventory increases- if units produced exceed units sold, then some units are added to ending inventory and income is higher under absorption costing than variable costing

  • under absorption costing, a portion of FOH is included with each unit of ending inventory (on B/S, not I/S)
  • under variable (direct) costing, all FOH is considered a period cost and is expensed during the period

Sales Greater than Production=Inventory Decrease-if units sold exceed units produced, then ending inventory is less than beginning inventory and income is lower under absorption costing than under variable.

  • under absorption, fixed MOH is carried over from a previous period as a part of beg inventory and is charged to cost of sales
  • under variable (direct) costing, those fixed costs were charged to income in a previous period.
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6
Q

Profitability and Pricing Analysis

Absorption Costing

Benefits and Limitations

A

Benefits

  1. Is GAAP
  2. IRS requires this method for financial reporting

Limitations

  1. level of inv affects net income b/c fixed costs are a component of product cost
  2. NI is less reliable (esp for perform evals) than variable method b/c cost of product includes fixed costs and, therefore, the level of inventory affects net income
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7
Q

Profitability and Pricing Analysis

Variable (Direct) Costing

Benefits and Limitations

A

Benefits

  1. Variable and fixed costs are separated and can be easily traced to and controlled by mgmnt
  2. Net Income more reliable than Absorp.Costing method(esp for perform evals) b/c cost of product does not include fixed costs and, therefore, the level of inventory does not affect net income
  3. Variable costing isolates the contribution margins in f/s to aid in decision making

Limitations

  1. not GAAP
  2. IRS does not allow for financial reporting
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8
Q

Profitability and Pricing Analysis

Breakeven(BE) Computation

BE in Units

A

Total Fixed costs / contribution margin per unit

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9
Q

Profitability and Pricing Analysis

Breakeven(BE) Computation

BE in Dollars

A

Unit Price x breakeven point (in units)= BE point (dollars)

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10
Q

Profitability and Pricing Analysis

Breakeven(BE) Computation

Contribtion Margin Ratio

A

Contribution margin/sales

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11
Q

Profitability and Pricing Analysis

CVP-Profit Performance

Required Sales Volume for Target Profit

Sales Units Needed to Obtain a Desired Profit formula

A

Sales (units)= (Fixed Cost+Pretax profit/CM per unit

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12
Q

Profitability and Pricing Analysis

CVP-Profit Performance

Required Sales Volume for Target Profit

Sales Dollars Needed to Obtain a Desired Profit formula

A

Sales dollars= VC + FC + pretax profit

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13
Q

Profitability and Pricing Analysis

Margin of Safety

A

excess of sales over BE sales and generally expressed as either dollars or a percentage.

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14
Q

Profitability and Pricing Analysis

Target Costing

A

Technique used to establish the product cost allowed to ensure both profitability per unit and total sales volume.

Target cost= market price - required profit

example

market price per unit = $5

required profit margin=60%

desired profit=$5 x 60%=$3

Target Costs=$5 - $3 = $2

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15
Q

Marginal Analysis

A

used when analyzing business decisions such as the introduction of a new product or changes in output levels of existing products, acceptance or rejection of special orders, making or buying a product or service, selling or processing further, and adding or dropping a segment. Focuses on relevant revenues and costs.

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16
Q

Marginal Analysis

vocab and relevant or not?

Direct Costs

Prime Costs

Discretionary Costs

Incremental Costs

Opportunity Costs

Irrelevant Costs

Sunk costs

Controllable Costs

Avoidable costs

Unavoidable Costs

A
  1. Direct costs-costs that can be identified or traced to a given cost object. Usually relevant.
  2. Prime Costs-include DM and DL and are generally relevant
  3. DiscretionaryCosts-costs arising from periodic budgeting decisions by mgmnt to spend in areas not directly related to mfg. Generally relevant
  4. Incremental costs(aka marginal costs, differential costs, or out of pocket costs)-additional costs incurred to produce an additional amount of the unit over the present output. Relevant and inc all VC and any avoidable fixed costs
  5. Opportunity Costs-cost of foregoing the next best alternative when making a decision. Relevant.
  6. Irrelevant Costs-costs that do not differ among alternatives and should be ignored in marginal analysis
  7. sunk costs-unavoiable b/c incurred in past and cant be recovered. Not relevant
  8. Controllable Costs-costs that are authorized by the business unit manager or the decision maker. Controllable costs are relevant if they will change as a result of selecting different alternatives.
  9. Avoidable Costs and Revenues-result from chossing one course of action instead of another. They are relevant
  10. Unavoidable Costs-Costs will be the same regardless of the chosen course of action. not relevant
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17
Q

Marginal Analysis

Special Order Decisions

Presume Excess Capacity

A

If selling price per unit is greater than variable cost per unit than accept

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18
Q

Marginal Analysis

Special Order Decisions

Presumed Full Capacity

A

Price > VC per unit + opp cost per unit

19
Q

Marginal Analysis

Make Vs Buy

Excess Capacity

A

Relevant costs=avoidable costs

20
Q

Marginal Analysis

Make Vs Buy

No Excess Capacity

A

Relevant Costs=Avoidable costs + opportunity costs

21
Q

Forecasting and Projection

Decision Models

Sensitivity Analysis

A

Also called “what if” analysis. A risk mgmnt tool that is used to test the effect of specific variables on overall profitability. Managers incorporate sensitivity analysis into the budgeting process to determine which variables are the most sensitive to change and therefore will have the biggest impact on the bottom line.

22
Q

Forecasting and Projection

Decision Models

Forecasting Analysis

A

Extension of sensitivity analysis

Involves predicting future values of a dependent variable (the variable one is trying to explain) using info from previous time periods. Dependent variables can be Revenues and Expenses.

23
Q

Forecasting and Projection

Regression Analysis

Simple Linear Regression Model (y=a + Bx)

A

(y=a + Bx)

24
Q

Forecasting and Projection

The Coefficient of Correlation (r) Intrepretation

A

positive correlation = +1

negative= -1

no correlation= 0

25
Q

Forecasting and Projection

The Coefficient of Determination (R2)

A

is the proportion of the total variation in the dependent variable (y) explained by the independent variable.

26
Q

Forecasting and Projection

High-Low Method

A

used to estimate fixed and variable portions of cost

  1. Compare high and low volumes and costs
  2. divide difference between high and low dollar total costs by the difference in hgih and low volumes to obtain VC per unit
  3. use either high or low volume to calc VC by multiplying the volume times the VC per unit
  4. subtract total calculated VC from total costs to obtain fixed costs

formula

TC=FC + (VC per unit x # of units)

27
Q

Budgeting

Master Budgets (annual business plan)

A

Documents specific short-term operating performance goals for a period, normally one year or less

aka as static budgets, annual business plans, profit planning, or targeting budgets

28
Q

Budgeting

Master Budgets (annual business plan)

Which Proforma F/S?

A
  1. Balance Sheet
  2. Income Statement
  3. Statement of Cash Flows
29
Q

Budgeting

Master Budgets (annual business plan)

  1. Operating Budgets
  2. Financial Budgets
A

Operating:

  1. Sales budgets-first budget prepared and drives the development of most other components of the master budget.
  2. Production budgets
  3. Selling and Admin budgets
  4. Personnel budgets

Financial:

  1. Pro forma f/s
  2. Cash budgets
30
Q

Budgeting

Master Budgets (annual business plan)

Establishing Required Level of Production Formula

A

Budgeted sales

+Desired ending inventory

-Beginning Inventory

=Budgeted Production

31
Q

Budgeting

Master Budgets (annual business plan)

Direct Materials Budget

    1. # of units to be purchased formula*
    1. cost of DM to be purchased*
    1. DM usage budget*
A
  1. Units of DM needed for a production period

+ Desired ending inventory at the end of the period

- Beg Inv at the start of the period

=Units of DM to be purchased for the period

  1. Units of DM to be purchased for the period

x cost per unit

=cost of DM to be purchased for the period

  1. Beg inv at cost

+ purchases at cost

- end inv at cost

=DM usage (cost of material used)

32
Q

Budgeting

Master Budgets (annual business plan)

Cost of Goods Sold

A

Cost of goods manufactured

+ Beg finished goods inventory

- Ending finished goods inv

=COGS

example

DM used - 1,432,000

DL - 1,480,000

FactoryOH (variable)- 370,000

Factory OH (fixed)- 300,000

Finished Goods Beg- 1,000,000

Finished goods End- 750,000

Compute COG Manufactured

DM used 1,432,000

DL 1,480,000

FOH Variable 370,000

FOH Fixed 300,000

=Total cost of goods manufactured 3,582,000

Plus finished goods, beg 1,000,000

=Goods Available for Sale 4,582,000

Less finished goods, ending (750,000)

=COGS 3,832,000

33
Q

Budgeting

Master Budgets (annual business plan)

Cash Budget Format

A
  1. Beginning Cash
    • Cash collections from sales (add)
    • Cash Disbursements for purchases and operating expenses (subtract)
  4. =Computed Ending Cash
  5. -Cash requirements to sustain operations (subtract)
  6. =Working Capital loans to maintain cash requirements
34
Q

Budgeting

Master Budgets (annual business plan)

Capital Budgets

A

Allow mgmnt to evaluate the capital additions or the org, often over a multi year period. Highly dependent on the availability of cash or credit, and they generally involve L-T commitments by the org

35
Q

Budgeting

Flexible Budgets

A

Use in conjunction with master budget. Allows for adjustments for changes in production or sales and accurately reflects expected costs for the adjusted output.

36
Q

Budgeting

Flexible Budgets

Benefits and Limitations

A

Benefits

  1. display different volume levels within the relevant range to pinpoint areas in which efficiencies have been achieved or waste has occurred.

Limitations

  1. highly dependent on the accurate indentification of fixed and variable costs and the determination of the relevant range.
37
Q

Variance Analysis

A

tool for comparing some measure of performance to a plan, budget, or standard for that measure. Used for planning and control purposes and can be used to evaluate revenues and costs. Comparison of actual results to the annual business plan is the first and most basic level of control and evaluation of operations.

38
Q

Variance Analysis

Performance Report

Step 1: budget vs actual

Step 2: prep flexible budget

A

Actual results may be easily compared with budgeted results. However, usefulness is limited by the existence of budget variances that may be strictly related to volume

Example

Budgeted

Sell 10,000 units at $15 a piece

CM % = 20%

FC= $25,000

Actual

Actual units sold= 8,000 (totaling $112,000 in revenues)

Variable expenses= $100,800 and FC = $24,000

Units: 10,000 8,000

Budget Actual Variance F/U

Revenue 150,000 112,000 (38,000) U

Variable Exp (120,000) (100,800) 19,200 F

CM 30,000 11,200 18,800 U

Fixed Costs (25,000) (24,000) 1,000 F

Net Income(loss) 5,000 (12,800) (17,800) U

Variances need significant analysis before they are useful. The favorable variance in varaible expenses, for example, don’t represent efficiencies. Budgeted CM ratios are 20%; actual cm ratio are 10%. Sales in units were off budget by 20%, yet revenues are down by 25%. Something is wrong but what?

Step 2:

see page 50

39
Q

Variance Analysis Using Standards

Std Costing Systems

A

Std costs in aggregate, measure the costs the firm expects that it should incur during production.

40
Q

Variance Analysis Using Standards

Std Costing Systems

Uses

A
  1. Cost control
  2. Data for performance evaluations (variance analysis)
  3. Ability to learn from standards and improve various processes.
41
Q

Variance Analysis Using Standards

Direct Materials and Direct Labor Variance (PURE DADSDADS)

A
  • DM Price Variance*= Actual Quantity purchased x (Actual price - Standard Price)
  • DM quantity Usage variance* = Standard Price x (Actual quantity used - Std quantity allowed)

DL Rate variance= Actual hours worked x (Actual rate-Std rate)

DL Efficiency Variance= Std rate x (Actual hours worked-Std hours allowed)

Difference x Actual (DA)

Difference x Actual (DS)

Difference x Actual (DA)

Difference x Actual (DS)

42
Q

Variance Analysis Using Standards

VOH and FOH variances

A

VOH Rate (spending) variance= Actual Hoursx (Actual Rate-Std Rate)-tells managers whether more or less was spent on Variable OH than expected.

VOH Efficiency variance= Std Rate x ( Actual hours - Std hours allowed for actual production volume)-tied to the efficiency with which labor hours are utilized.

FOH Budget (spending) variance= Actual Fixed OH-Budgeted fixed OH-

FOH Volume Variance=Budgeted Fixed OH - Std Fixed OH cost allocated to production*

*Based on Actual production x Std Rate

43
Q

Balanced Scorecard

A

gathers information on multiple dimensions of an org’s performance defined by critical success factors necessary to accomplish the firm’s stragtegy.

44
Q

Balanced Scorecard

Critical Success factors

A
  1. Financial-Responsibility segment/SBU
  2. Internal business processes-Efficient/effective operations
  3. Customer Satisfaction-customers happy
  4. Advancement of innovation and human resource development (learning and growth)

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