ACCT Chapter 9 Final

Management by Exception

management system that compares actual results to a budget so that significant deviations can be flagged as exceptions and investigated further Enables managers to focus on the most important variances while bypassing trivial discrepancies between the budget and actual results

Size of variance is...

relative to the amount of spending - Variance that is 0.1% of spending on an item is probably caused by random factors - Variance that is 10% of spending is much more likely to be a signal that something is wrong

Performance Reports in Nonprofit Organizations

- Nonprofit organizations usually receive a significant amount of funding form sources other than sales - Revenue in governmental and nonprofit organizations may consists of both fixed and variable elements

Activity Variances

All of the variances on this report are solely due to the difference between the actual level of activity and the level of activity in the planning budget from the beginning of the period - If actual activity exceeds what activity should have been, the variance is labeled favorable - If actual activity is less than what activity should have been, the variance is labeled unfavorable

A Performance Report Combining Activity and Revenue and Spending Variances

Format is different as variances appears between the amounts being compared rather than after them To generate a favorable activity variance for net operating income, managers must take actions to increase client-visits To generate a favorable overall revenue and spending variance, managers must take actions to protect selling prices, increase operating efficiency, and reduce the price of inputs Flexible budget performance report provides a more valid assessment of performance than simply comparing actual costs to static planning budget costs because actual costs are compared to what costs should have been at the actual level of activity

Some Common Errors

Implicitly assuming that all costs are fixed - Made when static planning budget costs are compared to actual costs without any adjustment for the actual level of activity - Comparing actual costs to static planning budget costs only makes sense if the cost is fixed; if the cost isn't fixed, it needs to be adjusted for any change in activity that occurs during the period Implicitly assuming that all costs are variable - Happens when variances are computed by comparing actual results to the amounts in the second numerical column where all of the budget items have been inflated. This is a perfectly valid adjustment to make if an item is strictly variable, but if it is not then it must contain a fixed element

Performance Reports in Cost Centers

In a large organization a performance report may be prepared for each department Revenue and net operating income will not appear on this report Because the managers in these departments are responsible for costs, but not revenues, they are often called cost centers.

Deficiencies of the Static Planning Budget

It compares revenues and costs at one level of activity to revenues and costs at a different level of activity

How a Flexible Budget Works

It recognizes that a budget can be adjusted to show what costs should be for the actual level of activity

Characteristics of a Flexible Budget

Take into account how changes in activity affect costs Estimate of what revenues and costs should have been, given the actual level of activity for the period Actual costs are compared to what the costs should have been for the actual level of activity during the period rather than to the static planning budget -If adjustments for the level of activity are not made, it is very difficult to interpret discrepancies between budgeted and actual costs

Revenue Variance

difference between the actual total revenue and what the total should have been, given the actual level of activity for the period - If actual revenue exceeds what the revenue should have been, the variance is labeled favorable; favorable since the average selling price is greater than expected - If actual revenue is less than what the revenue should have been, the variance is labeled unfavorable; unfavorable since the average selling price is less than expected

Spending Variance

the difference between the actual amount of the cost and how much a cost should have been, given the actual level of activity - If the actual cost is greater than what the cost should have been, the variance is labeled as unfavorable - If the actual cost is less than what the cost should have been, the variance is labeled as favorable