Acc 312

Front 1

budget

Back 1

detailed plan, expressed in quantitative terms, that specifies how limited resources will be acquired and used during a given period of time

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3 purposes of budgets

Back 2

planning
coordination
control

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master budget

Back 3

a budget based on the level of output planned at the start of the budget period

income statement, statement of cash flows, and balance sheet

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centralized decision-making

Back 4

when top management makes most of the decisions

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decentralized decision-making

Back 5

decision-making is delegated to individuals with relevant expertise and knowledge

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core centers

Back 6

manager is accountable for costs only

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revenue centers

Back 7

manager is accountable for revenues only

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profit centers

Back 8

manager is accountable for revenues and costs

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investment centers

Back 9

manager is accountable for investments, revenues, and costs

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top-down budgeting

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upper management finalize the budget with limited input from lower organizations levels

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bottom-up (or participative) budgeting

Back 11

encourages organization-wide input into the budget process

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variance

Back 12

the difference between the actual results and the corresponding budgeted amounts

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favorable

Back 13

more revenues or less expenses than budgeted

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unfavorable

Back 14

less revenues or more expenses than budgeted

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flexible budget

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calculates budgeted revenues and budgeted costs based on the actual output in the budget period

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Master Budget (or Static Budget or Total Profit) Variance

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difference between master budget and actual results

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Flexible Budget Variance

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difference between flexible budget and actual results

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sales volume variance (VP of Sales)

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difference between flexible budget and master budget

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sales price variance

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difference between flexible budget revenues and actual revenues

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fixed costs variance

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difference between flexible budget fixed costs and actual fixed costs

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variable costs variance

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difference between total flexible budget variable costs and total actual variable costs

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input price variance

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difference between actual results and "as if" results

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"as if"

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actual quantity
budgeted price

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input quantity variance
(efficiency or usage)

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difference between flexible budget results and "as if" results

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purchase price variance

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(budgeted price per unit of input - actual price per unit of input)*(actual input quantity purchased)

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3 general rules for analyzing variances

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investigate all significant variances, whether favorable or unfavorable
examine trends
consider the total picture

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purpose for allocating costs (4)

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provide information for economic decisions
measure income and assets for reporting purposes
justify costs or compute reimbursement rates
motivate managers and other employees

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absorption costing

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direct materials, direct labor, variable manufacturing overhead, and fixed manufacturing overhead are inventoriable (aka product) costs; required by GAAP

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variable costing

Back 29

direct materials, direct labor, and variable manufacturing overhead are inventoriable (aka product) costs; fixed manufacturing overhead is a period cost

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ABC System 5 Steps

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1. all indirect or capacity costs of an organization are put into groups (called cost pools or activity pools)
2. Identify which cost pools to allocate
3. after the cost/activity pools are made, the company identifies a cost driver for allocating each pool
4. determine the practical capacity volume of each cost driver to calculate allocation rates
5. calculate

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practical capacity

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how many units you can possibly make given the resources available to you

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activity based management

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refers to the use of activity-based costing information to support organizational strategy (product planning, customer planning, and resource planning), improve operations, and manage costs

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goal of ABM

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to identify and eliminate non-value-added activities and thus non-value-added costs

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non-value-added activities

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operations that are either unnecessary and dispensable or necessary, but inefficient and improvable

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non-value-added costs

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costs (from non-value-added activities) that can be eliminated without deterioration of product quality, performance, or perceived value

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Purpose of Financial Accounting

Back 36

communicate company's financial position to third parties

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purpose of managerial accounting

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help managers make decisions

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primary users of financial

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third parties

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primary use of managerial

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internal managers

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focus of financial

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past-oriented

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focus of managerial

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future-oriented

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rules of measurement and reporting for financial

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GAAP or IFRS

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rules of measurement and reporting for managerial

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whatever the manager wants

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time span of reports for financial

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quarterly and annual (per the SEC)

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time span of reports for managerial

Back 45

anything (10 years, monthly, weekly, hourly, etc.)

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opportunity costs

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cost or benefit of a forgone alternative

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for a cost to be relevant it must meet two criteria:

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bearing on the future
differ among alternatives

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sunk costs

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past costs that have already been incurred
they are irrelevant in the decision making because the amounts cannot be changed by any of the alternatives

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cost driver

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any event or activity that causes costs to be incurred

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variable costs

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increase or decrease in total in direct proportion to a change in activity of the cost driver; the cost per unit remains constant

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fixed costs

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remain constant in total as the level of activity changes (within a given relevant range). cost per unit increases or decreases due to changes in activity

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mixed costs

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contains both fixed and variable components

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cost object

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an entity (a specific product, service, department, etc.) to which a cost is assigned. basically what you want to know the cost of? (can be a product, machine, service, process, department, customer, etc.

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direct cost

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a cost that can easily be traced to a cost object

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indirect cost

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a cost that cannot be easily traced to a cost object because the cost needs to be divided among many cost objects. indirect costs are allocated to cost objects

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product costs (inventoriable cost)

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the costs associated with getting services ready for sale; costs that are part of inventory, "capitalized" until the inventory is sold, then they are expensed eventually via COGS

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period costs

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do not directly relate to readying services for sale; they are all costs that are not product costs; they are expensed in the period they are incurred

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merchandising organization

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an organization that buys goods from suppliers and resells substantially the same products to customers

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factory overhead

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all other manufacturing costs that are related to the product but cannot be traced in an economically feasible way; indirect cost

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gross margin

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revenue - COGS
revenue minus all product costs

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prime costs

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direct materials + direct labor

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conversion costs

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direct labor + manufacturing overhead

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timing of expense on income statement for a merchandiser or manufacturer

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product or period costs

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behavior of cost

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variable or fixed costs

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assignment of cost to cost object

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direct or indirect costs

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cost structure

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the variable and fixed portions of a company's costs

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advantage of account-classification method

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can provide very accurate estimates because it requires examination of each cost account to detail

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disadvantages of account-classification method

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extremely time consuming for large organizations
classifications frequently require considerable knowledge and experience
subjective based on the person performing the task

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advantages of high-low method

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easy to do; does not require classification of individual cost items like account classification
not subjective like the account classification method
only need total costs and activity volume to calculate

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disadvantages of high-low method

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only based on two points
is a rough estimate
treats all costs as output unit level costs

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advantages of regression analysis

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very objective
by using mathematical formulas to arrive at the best possible cost line (the regression line) this method is more accurate than the high-low methods (uses all data)

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disadvantages of regression analysis

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not as easy to do or explain
too objective? (includes outliers)

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cost-volume-profit (CVP) analysis

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examines the interrelationship of sales activity, sales prices, costs, and profits in planning and decision-making situations

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margin of safety

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(current sales volume - breakeven sales volume)/current sales volume
(current revenue - breakeven revenue)/current revenue

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percent change in profit before taxes

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(percent change in sales volume)/(1/margin of safety)

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operating leverage

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the extent to which an organization uses fixed costs to its cost structure
fixed costs/total costs

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high operative leverage

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company with a high proportion of fixed costs compared to variable costs; HIGH contribution margin

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low operating leverage

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company with a low proportion of fixed costs compared to variable costs; LOW contribution margin

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capital budgeting

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the collective term for the mechanics and tools used to evaluate expenditures on long-lived resources; determine how much of each capacity resource on organization should acquire and how it should invest its specific assets such as plant, equipment, building and technology

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two steps to capital budgeting

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identify and evaluate individual investment proposals
prioritize the proposals and decide which ones to execute

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cost of capital

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rate of return that providers of capital expect from their investments

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advantages of NPV

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factors in time value of money
factors in all cash flows
many people prefer the NPV method to the IRR method because NPV is simpler to compute

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disadvantage of NPV

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tends to favor larger projects with higher absolute profit while IRR tends to favor smaller projects that have a higher profitability percentage

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advantages of IRR analysis

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factors in time value of money
factors in all cash flows

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disadvantages of IRR

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many people prefer the NPV method to the IRR method because NPV is simpler to compute
IRR tends to favor smaller projects that have a higher profitability percentage

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advantage of payback method

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easy to compute and easy to understand

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disadvantages of payback method

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ignores the time value of money and thus over-values the future cash inflows of the project; therefore, the payback method understates the length of time actually required to recoup the initial investment
ignores all cash flows that occur after the payback period, and then favors projects that yield more cash inflow in earlier years relative to projects that take longer to "develop"

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advantage of modified payback method

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factors in time value of money

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disadvantages of modified payback method

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little harder to compute than payback method
does not consider all future cash flows from a project; favors projects that yield more cash inflow in earlier years relative to projects that take longer to "develop"

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advantages of ARR

Back 90

relatively straightforward to compute
factors in the accounting (GAAP) income for all years of the project

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disadvantages of ARR

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ignores the time value of money
accounting (GAAP) income might include irrelevant/sunk costs

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depreciation tax shield

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tax rate * depreciation for the period

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advantages of decentralization

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creates greater responsiveness to local need
tailor managerial skills and specializations to job requirements
increases motivation of lower-level managers
assists management development and training

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disadvantages of decentralization

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tends to focus the manager's attention on the local needs rather than the entire company's
requires costly coordination of decisions

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Return on Investment (ROI)

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profit/investment

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advantage of using net book value

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consistent with values shown on Balance Sheet

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disadvantages of using net book value

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method chosen to compute depreciation would affect ROI, RI & EVA calculations
the use of declining net book value could result in misleading increase in ROI, RI & EVA over time

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advantage/disadvantage of using gross book value

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does not include depreciation so age of asset is less of a factor, but fails to represent "true" investment

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advantage of using replacement or current value of the asset

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this measure is more likely to represent the true value of the asset

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disadvantage of using replacement or current value of the asset

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identifying the replacement costs, or current value, of various assets can be difficult and tedious

Front 101

DuPont Model

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profit/investment = profit/sales * sales/investment
ROI = profit margin (return on sales) * asset turnover (capital turnover)

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two ways to increase profit margin

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increase sales price
reduce expenses

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two ways to increase asset turnover

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sell more
invest in fewer assets

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advantages of ROI

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measures return in a percentage form rather than in absolute dollars, which is helpful when comparing segments of different sizes
using the DuPont model, we can decompose ROI into smaller pieces, allowing managers to see how individual actions factor into overall profitability

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disadvantage of ROI

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potential decreased goal congruence

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residual income (RI)

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profit - (investment)(required rate of return)

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disadvantage of RI

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measures return in absolute dollars rather than in percentage form, therefore it is not useful when comparing subunits of different sizes; tends to favor the largest investment center

Front 108

advantages of RI

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includes an imputed cost of the investment as part of the performance measure, ROI does not
achieves goal congruence

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economic value added (EVA)

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investment center's after-tax operating income - [(investment center's total assets - investment center's current liabilities) * weighted-average cost of capital]

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disadvantages of EVA

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measures return in absolute dollars rather than in percentage form, therefore it is not useful when comparing subunits of different sizes
calculating WACC is complicated
factors in taxes even though the investment center manager probably has no control over the tax rate

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advantages of EVA

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achieves goal congruence
factors in taxes
a company's current liabilities are factored in

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Market-based method (pros and cons)

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set the transfer price equal to the external market price
pros: easy and makes sense
con: sometimes an external market price does not exist

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negotiated method (pros and cons)

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set the transfer price based on negotiations between subunit managers
pro: seems fair
cons: divisiveness and competition between subunit mangers; depends on negotiating skills of a subunit manager; can be very time consuming

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cost-based method (pros and cons)

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set the transfer price equal to the cost of making the product or service (sometimes plus a markup)
pro: if there is not a market price, it is better than negotiation (opinion)
con: define "cost"?

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strategy

Back 115

defines how a firm positions its products within the target market and distinguishes itself from its competitors to maximize its return on investment

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five forces

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industry competitors
potential entrants into market
substitute products
bargaining power of customers
bargaining power of suppliers

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three considerations for strategy

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core competencies
competitive landscape
sustainability

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value chain

Back 118

inbound logistics
production operations
outbound logistics
marketing and sales
after-sales service

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product life cycle

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development
introduction
growth
maturity
decline

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target costing

Back 120

company starts with the market price for a product and subtracts a target profit or markup to determine what their costs need to be to make the product
Price - Target Profit Margin = Cost

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four criteria of balance scorecard

Back 121

financial
customer
internal-business process
innovation and learning