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QUESTION

a) Individual managers are held responsible for investigating differences between budgeted and actual results, and are then expected to take corrective action or amend the plan in the light of actual events. The wrong approach to budgetary control is to compare actual results against a fixed budget. Consider the following example. Tree manufactures a single product, the bough. Budgeted results and actual results for June for the bough are shown below.

Production and sales (Units)	Budget for 1000 units (RM)	Actual results for 2000 units (RM)	Variance (RM)
Sales revenue	37000	80000	43000
Direct materials	5000	6500	-1500
Direct labor	3000	4500	-1500
Maintenance	3600	4000	-400
Depreciation	4000	1000	3000
Rent and rates	1500	1600	-100
Other costs	3600	5000	-1400
Total costs	20700	22600	-1900
Profit	16300	57400	-41100

In this example, the variances are meaningless for purposes of control. Costs were higher than budget because the volume of output was also higher (budgeted unit is 2000 units whereas actual is 3000 units); variable costs would be expected to increase above the budgeted costs. There is no information to show whether control action is needed for any aspect of costs or revenue.

You are required to produce a flexible budget using marginal costing techniques based on the following information regarding cost behavior:

1. Direct materials and maintenance costs are variable.
2. Although basic wages are a fixed cost, direct labor is regarded as variable in order to measure efficiency/productivity.
3. Rent and rates and depreciation are fixed costs.
4. (Other costs consist of fixed costs of $1,600 plus a variable cost of $1 per unit made and sold

b) At the most minimal level, a budget contains an estimated income statement for future periods. A more complex budget contains a sales forecast, the cost of goods sold and expenditures needed to support the projected sales, estimates of working capital requirements, fixed asset purchases, a cash flow forecast, and an estimate of financing needs. This should be constructed in a top-down format, so a master budget contains a summary of the entire budget document, while separate documents containing supporting budgets roll up into the master budget and provide additional detail to users.

Required:

Discuss the budget preparation process in an organization.

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