Things to remembert Flashcards
What are the 3 assumptions CVP makes?
- Total costs can be split into fixed and variable components
- Constant Variables: The unit selling price, unit variable cost and total fixed costs are known and constant.
a. E.g. total costs and total revenues are linear with respect to output.
b. Costs and revenue have a single common driver à output. - Constant Sales Mix: The proportion of different products sold (i.e. sales mix) will remain constant
What are the 4 limitations of CVP analysis?
Limitations of CVP analysis:
- Accuracy of fixed and variable costs
- CVP analysis only works in a given relevant range
- Assumes sales mix remains constant
a. Neglects customer’s market behaviour (may have a limit)
b. Lacks complexity of changes in the sales mix as we increase production. - It also assumes that the number of units produced is an accurate cost allocation base.
a. E.g. assumes that each unit of different production will require the same resources.
b. This may not be the case, e.g. if the Saguaro Pale Ale requires a longer time brewing in the fridge than it’s counterparts, it will likely consume more fixed cost of refrigeration space and thus makes our CVP analysis inaccurate.
4 Benefits of ABC
- Accuracy: better cost information so long as it is executed well.
- Employees: focus on value adding activities
- Help to identify activites that are non value adding or inefficient
- Activity based management - identify the profitibility of each segment and highlight strengths and weaknesses in the current process.
4 costs of ABC
- Systems design costs
a. Modification of accounting and information system to captured additional information - Employees trainings to use ABC system effectively
- Misinterpretation of activity analysis.
- Judgement and estimates
a. Denominator levels of cost drivers are estimates
b. Judgement required to determined activities, and cost pools.
What are 3 primary uses for ABC information?
- Pricing/product emphasis decisions
a. Allow over priced units to be sold at a more competitive price. - Product design decisions
a. Identify costs that could be reduced - Process improvements
a. Areas for more efficiency
b. Reduce non-value-added activities.
Conduct a CVP analysis (identify highest CM products)
ABC creates cost pools with stronger links to cost drivers.
Resource consumption reduction in the short term with the aim of overall cost reduction in the longer term
Merits of TDABC compared to ABC or pre-ABC
Higher information content:
• TDABC identifies unused capacity (i.e. total used – practical capacity supplied)
• Is this unused capacity persistent (happens period on period)
• Some organisations require unused capacity (e.g. call centres)
How do you get better value out of this?
4 advantages of TDABC
- Higher information content - demonstrates excess and idle time
- More realisitic (differentiates between practical and theoretical)
- Clearly outlines time available and time required
- Excess capacity can be identified and manged
- More efficient allocation of staff.
advantages of TDABC
• adjusted when existing conditions change:
o input prices change (salaries and operating expenses)
o efficiency of the activity changes (learning curves, training programs and re-engineering processes)
o time units change (new technology and processes).
• TDABC does not work well for complex businesses
o Employees are surveyed to identify their percentage time, can be incorrect.
Limitations of TDABC
• Limited empirical evidence of the success of TDABC
• Standardised cost per time unit of capacity (to simplistic?)
o Fails to capture the ‘value’ of time (each minute of costed time is assumed to be equal)
o fails to Differentiate the expertise (hence cost) of the employee in performing the activity
E.g. receptionist vs the accountant
Suitable where overhead costs lack homogeneity.
fails when overhead costs lack homogeneity.
6 criticism of annual budgets
- Preparing budgets is time consuming and may not be worth the cost
- The lack of flexibility inherent in budgeting does not fit well with a constantly changing environment
- Budget slack: Budgets can be manipulated and provide incentives for the wrong/self-interested behaviour of managers
- Budgetary reporting is not meaningful to front-line managers
- Budgeting eliminates the drive for constant improvement
- The budget is not aligned with strategy (Libby and Lindsay 2010)
What are benefits of creating budgets?
- Plan availability of resources
- Facilitate product development and innovation decisions
- Facilitate target setting across the organisation
- Provide a mechanism for comparison with actual performance (the control function) includes the use of flexible budgeting
Facilitates a consideration of market influences
