Lecture Accounting principles (8th edition) – Chapter 24: Budgetary control and responsibility accounting

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In this chapter, the learning objectives are: Describe the concept of budgetary control, evaluate the usefulness of static budget reports, explain the development of flexible budgets and the usefulness of flexible budget reports. Chapter 24-1 CHAPTER  24 BUDGETARY CONTROL AND RESPONSIBILITY ACCOUNTING Accounting Principles,  Eighth Edition Chapter 24-2 Study Objectives Study Objectives Describe the concept of budgetary control Evaluate the usefulness of static budget reports Explain the development of flexible budgets and the usefulness  of flexible budget reports Describe the concept of responsibility accounting Indicate the features of responsibility reports for cost centers Chapter 24-3 Study Objectives Study Objectives Identify the content of responsibility reports for profit centers Explain the basis and formula used in evaluating performance  in investment centers Chapter 24-4 Preview of Chapter Preview of Chapter Considers how budgets are used by management to control operations Focuses on two aspects of management control: Budgetary control Responsibility accounting Chapter 24-5 Budgetary Control and  Budgetary Control and  Responsibility Accounting Responsibility Accounting The TheConcept Concept of ofBudgetary Budgetary Control Control Budget reports Control activities Reporting systems Static StaticBudget Budget Reports Reports Examples Use and limitations Why flexible budgets? Development Chapter 24-6 The TheConcept Conceptof of Responsibility Responsibility Accounting Accounting Case study Controllable vs noncontrollable Reporting system Flexible Flexible Budgets Budgets Reports Managemen t by exception Types Typesof of Responsibility Responsibility Centers Centers Cost centers Profit centers Investment centers Performance evaluation The Concept of Budgetary Control The Concept of Budgetary Control A major function of management is to control operations Takes place by means of budget reports  which compare actual  results with planned   objectives Provides management with feedback on operations Budget reports can be prepared as frequently as needed Analyze differences  between actual and planned results and  determines causes Chapter 24-7   LO 1: Describe the concept of budgetary control The Concept of Budgetary Control The Concept of Budgetary Control Budgetary control involves the following activities Chapter 24-8 LO 1: Describe the concept of budgetary control The Concept of Budgetary Control The Concept of Budgetary Control Works best when a company has a formalized reporting system   which: Identifies the name  of the budget report (such as the sales  budget or the manufacturing overhead budget) States the frequency  of the report (such as weekly or  monthly) Specifies the purpose  of the report Indicates recipient  of the report Chapter 24-9 LO 1: Describe the concept of budgetary control The Concept of Budgetary Control The Concept of Budgetary Control Schedule below illustrates a partial budgetary control system for a  manufacturing company Note the frequency of reports and their emphasis on control Chapter 24-10 LO 1: Describe the concept of budgetary control Responsibility Accounting for Responsibility Accounting for Investment Centers Investment Centers Return on Investment (ROI) Chapter 24-58  Primary basis for evaluating the performance of a manager of an  investment center  Shows the effectiveness of the manager in using the assets at  his/her disposal  Useful performance measure  Factors in ROI formula are controllable by manager  LO 7:  Explain the basis and formula used in evaluating performance in  investment centers Responsibility Accounting for  Responsibility Accounting for  Investment Centers Investment Centers Computation of ROI  (example data assumed) : Operating assets include current assets and plant assets used in  operations  by the center and controlled by manager.  Exclude nonoperating assets  such as idle plant assets and land  held for future use Base average operating assets on the beginning and ending cost or  book values of the assets Chapter 24-59 LO 7:  Explain the basis and formula used in evaluating performance in  investment centers Responsibility Accounting for  Responsibility Accounting for  Investment Centers Investment Centers Responsibility Report Scope of manager’s responsibility affects content  Investment center is an independent entity for operating  purposes All fixed costs controllable by center manager Shows budgeted and actual ROI below controllable margin Chapter 24-60 LO 7:  Explain the basis and formula used in evaluating performance in  investment centers Responsibility Accounting for Investment Centers Responsibility Accounting for Investment Centers Example – Mantle Manufacturing Company Chapter 24-61 LO 7: Explain the basis and formula used in evaluating performance in  investment centers Judgmental Factors in ROI Judgmental Factors in ROI ROI approach includes two judgmental factors: Valuation of operating assets May be valued at acquisition cost, book value, appraised value, or market  value Each alternative provides a reliable basis for evaluating performance as long  as it is consistently applied between periods Margin (income) measure   May be controllable margin, income from operations, or net income Only controllable margin is a valid basis for evaluating performance of  investment center manager Chapter 24-62 LO 7: Explain the basis and formula used in evaluating performance  in investment centers Improving ROI – Increasing Controllable Margin Improving ROI – Increasing Controllable Margin Increase ROI by increasing sales or  by reducing variable and  controllable fixed costs  Increase sales by 10% Sales increase $200,000 and contribution margin  ($200,000 X .45) increases $90,000  Thus, controllable margin increases to $690,000  ($600,000 + $90,000) New ROI is 13.8% Chapter 24-63 LO 7: Explain the basis and formula used in evaluating performance in  investment centers Improving ROI –  Improving ROI –  Reducing Average Operating Assets Reducing Average Operating Assets  Reduce average operating assets by 10% or $500,000 Average operating assets become $4,500,000  10%)] [$5,000,000 ­ ($5,000,000 X  Controllable margin remains unchanged at $600,000 New ROI becomes 13.3% Chapter 24-64 LO 7: Explain the basis and formula used in evaluating performance in  investment centers Let’s Review Let’s Review In the formula for return on investment (ROI), the factors for  controllable margin and operating assets are, respectively: a Controllable margin percentage and total operating assets b.  Controllable margin dollars and average operating assets.  c.  Controllable margin dollars and total assets d.  Controllable margin percentage and average operating assets Chapter 24-65 LO  7: Explain the basis and formula used in evaluating performance  in investment centers Principles of Performance Evaluation Principles of Performance Evaluation Management function that compares actual results with budget goals At center of responsibility accounting Includes both behavioral and reporting  principles Chapter 24-66 Principles of Performance Evaluation ­ Principles of Performance Evaluation ­ Behavioral Principles Behavioral Principles Behavioral principles  –  human factor critical in evaluating  performance: Managers should have direct input into the process of  establishing budget goals  for their area of responsibility Without this input, managers may view goals as unrealistic or  arbitrary Affects motivation to meet targets  The evaluation should be based entirely on matters that are  controllable  by the manager Criticism of noncontrollable matters reduces effectiveness of evaluation May lead to negative reactions by manager and doubts about fairness  of evaluation   Chapter 24-67 Principles of Performance Evaluation ­ Principles of Performance Evaluation ­ Behavioral Principles Behavioral Principles Top management should support the evaluation process Managers lose faith in process when top management ignores, overrules, or  bypasses established procedures The evaluation process must allow managers to respond to their  evaluations Evaluation is not a one­way street Managers must be able to defend their performance Evaluation without feedback is impersonal and ineffective The evaluation should identify both good and poor performance Praise is a powerful motivator Manager compensation should include rewards for meeting goals Chapter 24-68 Principles of Performance Evaluation ­ Principles of Performance Evaluation ­ Reporting Principles Reporting Principles Reporting principles for performance reports include reports which Contain only data that are controllable by the manager  of  the responsibility center Provide accurate and reliable budget data  to measure  performance Highlight significant differences  between actual results and  budget goals Are tailor­made   for the intended evaluation Are prepared at reasonable intervals Chapter 24-69 Chapter Review ­ Brief Exercise 24­8  Chapter Review ­ Brief Exercise 24­8  For the year ending December 31, 2008, Kaspar Company accumulates  the following data for the Plastics Division which it operates as an  investment center:  contribution margin $700,000 budget, $715,000  actual; controllable fixed costs $300,000 budget, $309,000 actual.   Average operating assets for the year were $2,000,000 Prepare a responsibility report for the Plastics Division  beginning with contribution margin Chapter 24-70 Chapter Review ­ Brief Exercise 24­8  Chapter Review ­ Brief Exercise 24­8  Kaspar Company Responsibility Report For Year Ending December 31, 2008 Budget       Actual           Difference Contribution Margin            $700,000     $715,000 $15,000       F   Controllable Fixed Costs 300,000        309,000     9,000       U  Controllable Margin            $400,000     $406,000  $ 6,000        F Favorable – F Unfavorable ­ U Chapter 24-71 Copyright Copyright Copyright © 2008 John Wiley & Sons, Inc. All rights reserved. Reproduction or  translation of this work beyond that permitted in Section 117 of the 1976 United  States Copyright Act without the express written permission of the copyright owner  is unlawful. Request for further information should be addressed to the Permissions  Department, John Wiley & Sons, Inc. The purchaser may make back­up copies for  his/her own use only and not for distribution or resale. The Publisher assumes no  responsibility for errors, omissions, or damages, caused by the use of these programs  or from the use of the information contained herein Chapter 24-72 ... Considers how budgets are used by management to? ?control? ?operations Focuses on two aspects of management? ?control: Budgetary? ?control Responsibility? ?accounting Chapter 24-5 Budgetary? ?Control? ?and? ? Budgetary? ?Control? ?and? ? Responsibility? ?Accounting. . .CHAPTER? ? 24 BUDGETARY CONTROL AND RESPONSIBILITY ACCOUNTING Accounting? ?Principles,   Eighth Edition Chapter 24-2 Study Objectives Study Objectives Describe the concept of? ?budgetary? ?control. .. between actual? ?and? ?planned results? ?and? ? determines causes Chapter 24-7   LO 1: Describe the concept of? ?budgetary? ?control The Concept of? ?Budgetary? ?Control The Concept of? ?Budgetary? ?Control Budgetary? ?control? ?involves the following activities
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