Detailed Budget Analysis Example

Introduction

It’s clear that a budget is necessary for a business to grow and operate successfully. Budgets help put management in the right position. Determines whether the company has sufficient cash to fund its daily operations and whether the company can expand into new markets (Curtis, 2017). It also helps create a baseline platform for (Nobles, T.L., et al., 2014). This is because the budgeting process has an incidental fee or expense that is different for every company. The budgets of the two companies are different because the costs of the textile industry are different from the costs of the automotive industry. The make-or-buy decision refers to the situation where the producer analyses the benefits and costs of producing or manufacturing a product in-house or the advantages and costs of outsourcing the product from an external supplier. The make-or-buy decision can also be referred to as the outsourcing decision. Several things, such storage requirements, labor costs and resource material, have to be considered in the outsourcing decision before deciding on whether to produce the product or to outsource it.

Performance Measures

Performance measures also have to be included in the organizational culture of a firm so as to ensure the firm such as Peyton achieve its nonfinancial goals and objectives, such as have a high level of customer satisfaction (Staff, 2017). These performance measures could include, measuring the customer satisfaction level, measuring the achievement of the work schedule and time frame for each work order and measuring the performance status of the employees. Performance measures help in identifying the performance gap between the expected results and the current results. After identification measures are produced to overcome the gap between the two results.

Budget

It is crucial to for each company to come up with its budget due to the various unique operational activities that each firm has. According to Nobles, T. L., et al, (2014) in Horngren’s Financial and managerial accounting (4th ed), the objectives of a company budget are; developing a strategy, planning, acting and controlling. After the control measures have been implemented, the management has to receive a feedback so that it analysis the budget and come up with corrective actions that will counteract the failure in the budget. Therefore the budget procedures may be different for each company. The budget should include all the expenses and incomes at all levels. The budgeting process should be done months before the budgeting period begins (Nobles, T. L., et al., 2014). During these initial stages of the budget process, the organization should divide itself into three parts; the essential element, the popular part and finally the dispensable part. This helps during the financial crises whereby the company will make easy decisions on which section to abandon and which to uphold. The management in the firm should ensure the participation of the employees so as to motivate the employees in achieving the objectives of the budget (Putra, 2009).

Peyton Company Master Budget

Peyton Company uses a master budget that is flexible to determine the variance between the actual costs and the standard costs. According to the budget variance report of Peyton Company, the direct materials have their efficiency variance as unfavourable. This means that the company produced lower yields during the period which resulted in higher material cost. This could be as a result of purchase of low quality raw materials by the procurement staff of the company, hence making it difficult to work on the materials. However the direct labour cost variance is favourable. This means that the actual expenditures, which are $ 495,000, are lower than the standard prices which are $ 582000. Various factors could be behind the favourable condition of the hiring semiskilled workers and decrease in the overall wage in the market due to increased labour supply, for example presence of immigrants in the country (Staff, 2013). However, the direct efficiency work variance is however unfavourable. This could be because of; low motivation or morale of the employees, ample of idle time due to disruption to the working process and hiring of low skilled employees. Due to the unfavourable variance of the direct efficiency labour, the overall direct labour variance is adverse by $15000.

Ethical Budgeting

Ethical budgeting refers to the adoption of ethical considerations to the budgeting process. Ethical budgeting ensures that the goals and vision of the business are achieved, the business makes financial sustainability and that all the needs of the stakeholders are met without compromising the needs of some of the stakeholders (Nobles, T. L., et al., 2014). Peyton Company could make several ethical considerations as it tries to offset the unfavourable variance situation in both the direct labour section and the direct material section. One of those ethical considerations would be, to be honest in budgeting. Therefore the company should only include the operational activities that the corporation will probably undertake and the real estimated costs to be incurred while in the activities. This would help in ensuring that Peyton Company does not undergo unnecessary expenses (Nobles, T. L., et al., 2014). Peyton Company should be aware of the responsibility it bears towards achieving the goals of the stakeholders of the company. For example, Peyton Company should ensure that the wages of the employees should be adequate so that the workers can live a good quality life. Ethical considerations in the budgeting process in Peyton Company will help in ensuring that the people in the budgeting committee honest and fair regarding financial priorities. This will be beneficial in avoiding the conflict of interests.

Make-or-Buy Decision/ Outsourcing Decision

Peyton Company has to consider various factors before it finally decides on the make-or-buy decision. The factors to be considered can either be qualitative or quantitative (Putra, 2009). Qualitative factors include control of quality of the product, reliability of the suppliers, and the impact of the decision on the suppliers and the customers. The quantitative factors to be considered are gross costs to be incurred if the product was to be made or if it were to be bought/ outsourced. Peyton Company will have to make several adjustments if it decides on making its own products. One of these changes, is creating training programmes and forums for its employees since according to the budget variance report of the company, the direct labour efficiency is unfavourable, which may be caused by hiring low-skilled employees (Putra, 2009). The procurement staff of the company will to ensure that they acquire high quality materials and that the Company purchases large quantities of materials from the same supplier so as to get great volume discounts. The unfavourable direct labour efficiency variance may result from the low quality of materials therefore making it hard for the employees to work on the materials (Putra, 2009). These kinds of changes will lead in the direct efficiency favourable variances and favourable direct material variances. However it may result in unfavourable direct labour costs variance since it may lead to Peyton Company hiring more labour and training the employees, hence incurring more expenses.

Outsourcing refers to purchasing products from external suppliers. Peyton Company could buy finished from foreign vendors and sell them to its customers (Putra, 2009). The company could also buy defective products and it could finalise the manufacturing processes of the product. However, Peyton Company will have to reduce the financial resources it allocates to the purchase of raw materials and allocates those funds into outsourcing the products (Putra, 2009). The company will also have to reduce its work force and retain a small workforce that will perform the final manufacturing processes and the packaging of the outputs. The outsource product will obvious be more costly than the raw material (Putra, 2009). However, the company will be able to save on fixed overhead costs , therefore, the company will incur lesser gross expenses than if it manufactured the product.

Nonfinancial Performance Measures

The success of all organizations relies on measuring the performance of the financial sector in the organization and the nonfinancial sector such as the employee performance status and customer satisfaction level. The nonfinancial performance actions or tools are used to inspect areas such as the management of the employees, for example checking the presence, product and service quality and brand awareness and company profile. The nonfinancial performance tools include the Kaplan and Norton`s balanced scorecard, Fitzgerald and Moon building block model and benchmarking (Weber and Thomas, 2005).

The Fitzgerald and Moon building block is mostly applicable to the service industry. However, it could also be applied in other industrial sectors. The model focuses on three essential aspects; dimension, rewards, and standards (Weber and Thomas, 2005). Product or service standards refers properties that the goods or services should possess, such as equity, ownership and achievable or realistic. This means that the product should be equally challenging in all aspects, it should be accepted by all people and it should be realistic in that it achieves the aim it was created for (Weber and Thomas, 2005). The rewards of the in the model refer to: motivation, whereby the employees can be motivated through rewards for top performance; clear communication of the goals, rewards and penalties for poor performance; and finally the dimensions such as determinants, such as flexibility and resource utilization, and results which focuses on the strengths and failures of the mentioned determinants. The Fitzgerald and Moon building block is easily understood and helps in motivating the employees to perform better. However companies in different environments cannot use identical features of this model, hence modifications have to be done so as for it to be used.

The Kaplan and Norton Balanced scorecard focus on both the financial and nonfinancial performance management (Nobles, T. L., et al., 2014). This model uses four perspectives in analyzing the financial and nonfinancial performance; financial, customer, internal and innovative and learning. The economic perspective involves thinking about the financial resources, the stakeholders of the company and the financial success of the enterprise (Nobles, T. L., et al., 2014). On the customer perspective, the manager of the Peyton Company has to consider the needs of the customers. Both the internal, innovative and learning perspectives focus on the inner environment of the company so as to make the best use of the resources in the enterprise. The management of the firm has to ensure that they equally consider all aspects so as to ensure the thrive of the company (Nobles, T. L., et al., 2014). This model is useful in unifying the four perspectives into one report hence making management easier. The model also clearly translates the four aspects into performance measures, therefore, helping the management to keep tabs on the fulfilment of the company (Nobles, T. L., et al., 2014). Also the balanced scorecard is beneficial in reviewing all important parts of the business without prioritising one over the other. However, the model makes too many ambiguous assumptions in the cause and effect relationship, and it also eliminates some important aspects such as the environment and society perspectives.

The benchmarking concept involves comparing the performance one`s company performance with another company, for example, Peyton Company could compare its results with those of its competitors regarding production costs, features of its products and the price strategy used (Ittner and Lackner, 2003). Benchmarking could be classified into many groups such as competitive benchmarking, internal benchmarking, operational benchmarking and customer benchmarking. Peyton Company could employ all the benchmarking types so as to thrive (Ittner and Lackner, 2003). Benchmarking aids in sharing information which results in innovation and increased performance most notably in reducing the production costs(Ittner and Lackner, 2003). The benchmarks also help the firms to estimate their position in the market. However the benchmarking process has limitations such as it depends on the provision of accurate information by the competitors, it leads to the catching up exercise rather than development, it was difficult to identify the best in each class of activity or service and that the successive practices of one company can be successively applied to another due to the fact that the companies may be in different environments.

Conclusion

In conclusion, the success of any firm lies on the need of having a budget so as to ensure optimal performance. Peyton should incorporate the use of financial and nonfinancial performance measures together so as to capture all important aspects of the company. The company should also employ the use of quantitative and qualitative factors in the nonfinancial performance measures so as to ensure efficient management of their overall results. The company should also come up with control measures or corrective actions in case of any derivations from their goals on nonfinancial performance activities such as low customer satisfaction. Peyton should also adopt the outsourcing option so as to save on fixed manufacturing costs.

Source; http://accalecturenotes.blogspot.com

Reference

Curtis, G. (2017). Six Steps to a Better Business Budget. Investopedia. Retrieved 15 April 2017, from http://www.investopedia.com/articles/pf/08/small-business-budget.asp

Staff, I. (2017). Make-Or-Buy Decision. Investopedia. Retrieved 15 April 2017, from http://www.investopedia.com/terms/m/make-or-buy-decision.asp

Weber, A., & Thomas, R. (2005). Key Performance Indicators ;Measuring and Managing the Maintenace Function. plant-maintenance.com. Retrieved 15 April 2017, from https://www.plant-maintenance.com/articles/KPIs.pdf

Putra, L. (2009). Essential Five Steps On Budgeting Process. Accounting, Financial, Tax. Retrieved 15 April 2017, from http://accounting-financial-tax.com/2009/02/essential-five-steps-on-budgeting-process/

Ittner, C., & Lackner, D. (2003). Coming Up Short on Nonfinancial Performance Measurement. Harvard Business Review. Retrieved 15 April 2017, from https://hbr.org/2003/11/coming-up-short-on-nonfinancial-performance-measurement

Nobles, T. L., Mattison, B. L., Matsumura, E. M. (2014). Horngren’s financial and managerial accounting (4th ed.). Upper Saddle River, NJ: Pearson Education, Inc.