Ch06 Master Budget and Responsibility Accounting Test.docx

CHAPTER 6: MASTER BUDGET AND RESPONSIBILITY ACCOUNTING TRUE/FALSE 1. Few businesses plan to fail, but many of those that flop have failed to plan. Answer: True 2. The master budget reflects the impact of operating decisions, but not financing decisions. Answer: False The master budget reflects the impact of operating decisions and financing decisions. 3. Budgeted financial statements are also referred to as pro forma statements. Answer: True 4. Budgeting includes only the financial aspects of the plan and not any nonfinancial aspects such as the number of physical units manufactured. Answer: False Budgeting includes both financial and nonfinancial aspects of the plan. 5. Budgeting helps management anticipate and adjust for trouble spots in advance. Answer: True 6. Budgets can play both planning and control roles for management. Answer: True 7. To create greater commitment to the budget, top-management should create the budget and then share it with lower-level managers. Answer: False To create greater commitment to the budget, lower-level managers should participate in creating the budget. 8. After a budget is agreed upon and finalized by the management team, the amounts should not be changed for any reason. Answer: False Budgets should not be administered rigidly, but rather should be adjusted for changing conditions. 9. Even in the face of changing conditions, attaining the original budget is critical. Answer: False Changing conditions usually call for a change in plans. Attaining the budget should not be an end in itself. 10. A four-quarter rolling budget encourages management to be thinking about the next 12 months. Answer: True 11. Research has shown that challenging budgets (rather than budgets that can be easily attained) are energizing and improve performance. Answer: True 12. It is best to compare this year’s performance with last year’s actual performance rather than this year’s budget. Answer: False It is best to compare this year’s performance with this year’s budget because inefficiencies and different conditions may be reflected in last year’s actual performance amounts. 13. Budgets have the potential to compel strategic planning and the implementation of plans. Answer: True 14. When administered wisely, budgets promote communication and coordination among the various subunits of the organization. Answer: True 15. Preparation of the budgeted income statement is the final step in preparing the operating budget. Answer: True 16. The sales forecast should primarily be based on statistical analysis with secondary input from sales managers and sales representatives. Answer: False The sales forecast should be primarily based on input from sales managers and sales representatives with secondary input from statistical analysis. 17. The usual starting point in budgeting is to forecast net income. Answer: False The usual starting point in budgeting is to forecast sales demand and revenues. 18. The revenues budget should be based on the production budget. Answer: False The production budget should be based on the revenues budget. 19. The operating budget is that part of the master budget that includes the capital expenditures budget, cash budget, budgeted balance sheet, and the budgeted statement of cash flows. Answer: False Described is the financial budget part of the master budget, not the operating budget. 20. If budgeted amounts change, the kaizen approach can be used to examine changes in the budgeted results. Answer: False If budgeted amounts change, sensitivity analysis can be used to examine changes in the budgeted results. 21. Computer-based financial planning models are mathematical statements of the interrelationships among operating activities, financial activities, and other factors that affect the budget. Answer: True 22. Most computer-based financial planning models have difficulty incorporating sensitivity (what-if) analysis. Answer: False Computer-based financial planning models assist management with sensitivity (what-if) analysis. 23. Sensitivity analysis incorporates continuous improvement into budgeted amounts. Answer: False Kaizen budgeting incorporates continuous improvement into budgeted amounts. 24. The Japanese use kaizen to mean financing alternatives. Answer: False The Japanese use kaizen to mean continuous improvement. 25. Kaizen budgeting does not make sense for profit centers. Answer: False Kaizen budgeting can be used in any type of responsibility center. 26. Kaizen budgeting encourages small incremental changes, rather than major improvements. Answer: True 27. Activity-based budgeting provides better decision-making information than budgeting based solely on output-based cost drivers (units produced, units sold, or revenues). Answer: True 28. Activity-based costing analysis takes a long-run perspective and treats all activity costs as variable costs. Answer: True 29. Activity-based budgeting (ABB) focuses on the budgeting cost of activities necessary to produce and sell products and services. Answer: True 30. A responsibility center is a part, segment, or subunit of an organization, whose manager is accountable for a specified set of activities. Answer: True 31. Each manager, regardless of level, is in charge of a responsibility center. Answer: True 32. In a profit center, a manager is responsible for investments, revenues, and costs. Answer: False In a profit center, a manager is responsible for revenues, and costs, but not investments. 33. A packaging department is MOST likely a profit center. Answer: False A packaging department is most likely a cost center. 34. Variances between actual and budgeted amounts inform management about performance relative to the budget. Answer: True 35. An organization structure is an arrangement of lines of responsibility within the entity. Answer: True 36. Responsibility accounting focuses on control, not on information and knowledge. Answer: False Responsibility accounting focuses on information and knowledge, not on control. 37. The fundamental purpose of responsibility accounting is to fix blame when budgets are not achieved. Answer: False The fundamental purpose of responsibility accounting is to gather information when budgets are not achieved. 38. Human factors are crucial parts of budgeting Answer: True 39. Budgetary slack provides management with a hedge against unexpected adverse circumstances. Answer: True 40. Most costs can be easily controlled because they are under the sole influence of one manager. Answer: False Few costs are clearly under the sole influence of one manager. 41. Performance reports of responsibility centers may include uncontrollable items to influence behavior that is in alignment with corporate strategy. Answer: True 42. When the operating budget is used as a control device, managers are more likely to be motivated to budget higher sales than actually anticipated. Answer: False When the operating budget is used as a control device, managers are less likely to be motivated to budget higher sales than actually anticipated. 43. Budgeting slack is most likely to occur when a firm uses the budget only as a planning device and not for control. Answer: False Budgeting slack is most likely to occur when a firm uses the budget for control. 44. If a cost is considered controllable, it indicates that all aspects of the cost are under the control of the manager of the responsibility center to which that cost is assigned. Answer: False A controllable cost is any cost that is primarily subject to the influence of a given responsibility manager. 45. A key use of sensitivity analysis is for cash-flow budgeting. Answer: True Objective: A 46. The self-liquidating cycle is the movement from cash to inventories to receivables and back to cash. Answer: True Objective: A MULTIPLE CHOICE 47. Budgeting is used to help companies a. plan to better satisfy customers. b. anticipate potential problems. c. focus on opportunities. d. do all of the above. Answer: d 48. A master budget a. includes only financial aspects of a plan and excludes nonfinancial aspects. b. is an aid to coordinating what needs to be done to implement a plan. c. includes broad expectations and visionary results. d. should not be altered after it has been agreed upon. Answer: b 49. Operating decisions PRIMARILY deal with a. the use of scarce resources. b. how to obtain funds to acquire resources. c. acquiring equipment and buildings. d. satisfying stockholders. Answer: a 50. Financing decisions PRIMARILY deal with a. the use of scarce resources. b. how to obtain funds to acquire resources. c. acquiring equipment and buildings. d. preparing financial statements for stockholders. Answer: b 51. Budgeting provides all of the following EXCEPT a. a means to communicate the organization's short-term goals to its members. b. support for the management functions of planning and coordination. c. a means to anticipate problems. d. an ethical framework for decision making. Answer: d 52. If initial budgets prove unacceptable, planners achieve the MOST benefit from a. planning again in light of feedback and current conditions. b. deciding not to budget this year. c. accepting an unbalanced budget. d. using last year’s budget. Answer: a 53. Operating budgets and financial budgets a. combined form the master budget. b. are prepared before the master budget. c. are prepared after the master budget. d. have nothing to do with the master budget. Answer: a 54. A good budgeting system forces managers to examine the business as they plan, so they can a. detect inaccurate historical records. b. set specific expectations against which actual results can be compared. c. complete the budgeting task on time. d. get promoted for doing a good job. Answer: b 55. A budget should/can do all of the following EXCEPT a. be prepared by managers from different functional areas working independently of each other. b. be adjusted if new opportunities become available during the year. c. help management allocate limited resources. d. become the performance standard against which firms can compare the actual results. Answer: a 56. A limitation of comparing a company’s performance against actual results of last year is that a. it includes adjustments for future conditions. b. feedback is no longer a possibility. c. past results can contain inefficiencies of the past year. d. the budgeting time period is set at one year. Answer: c 57. Challenging budgets tend to a. decrease line-management participation in attaining corporate goals. b. increase failure. c. increase anxiety without motivation. d. motivate improved performance. Answer: d 58. A company’s actual performance should be compared against budgeted amounts for the same accounting period so that a. adjustments for future conditions can be included. b. limited feedback is possible. c. inefficiencies of the past year can be included. d. a rolling budget can be implemented. Answer: a 59. It is advantageous to coordinate budgets with a. suppliers. b. customers. c. the marketing and production departments. d. all of the above. Answer: d 60. A budget can help implement a. strategic planning. b. long-run planning. c. short-run planning. d. all of the above. Answer: d 61. To gain the benefits of budgeting __________ must understand and support the budget. a. management at all levels b. customers c. suppliers d. all of the above Answer: a 62. Participation of line managers in the budgeting process helps to create a. greater commitment. b. greater anxiety. c. better judgment. d. better past performance. Answer: a 63. Line managers who feel that top management does not believe in the budget are MOST likely to a. pick up the slack and participate in the budgeting process. b. be motivated by the budget. c. spend little time on the budgeting process. d. convert the budget to a shorter more reasonable time period. Answer: c 64. The time coverage of a budget should be a. one year. b. guided by the purpose of the budget. c. cover design through manufacture and sale of the product. d. shorter rather than longer. Answer: b 65. Rolling budgets help management to a. better review the past calendar year. b. deal with a 5-year time frame. c. focus on the upcoming budget period. d. rigidly administer the budget. Answer: c 66. Budgets should a. be flexible. b. be administered rigidly. c. be developed for short periods of time. d. include only variable costs. Answer: a 67. Operating budgets include all EXCEPT a. the revenues budget. b. the budgeted income statement. c. the administrative costs budget. d. the budgeted balance sheet. Answer: d 68. Operating budgets include the a. budgeted balance sheet. b. budgeted income statement. c. capital expenditures budget. d. budgeted statement of cash flows. Answer: b 69. The operating budget process generally concludes with the preparation of the a. production budget. b. distribution budget. c. research and development budget. d. budgeted income statement. Answer: d 70. Financial budgets include the a. capital expenditures budget. b. production budget. c. marketing costs budget. d. administrative costs budget. Answer: a 71. __________ includes a budgeted statement of cash flows and a budgeted balance sheet. a. An annual report b. The financial budget c. The operating budget d. The capital expenditures budget Answer: b 72. The order to follow when preparing the operating budget is a. revenues budget, production budget, and direct manufacturing labor costs budget. b. costs of goods sold budget, production budget, and cash budget. c. revenues budget, manufacturing overhead costs budget, and production budget. d. cash expenditures budget, revenues budget, and production budget. Answer: a 73. In which order are the following developed? First to last: A = Production budget B = Direct materials costs budget C = Budgeted income statement D = Revenues budget a. A, B, D, C b. D, A, B, C c. D, C, A, B d. C, A, B, D Answer: b 74. The budgeting process is MOST strongly influenced by a. the capital budget. b. the budgeted statement of cash flows. c. the sales forecast. d. the production budget. Answer: c 75. __________ is the usual starting point for budgeting. a. The revenues budget b. Net income c. The production budget d. The cash budget Answer: a 76. The sales forecast should be PRIMARILY based on a. statistical analysis. b. input from sales managers and sales representatives. c. production capacity. d. input from the board of directors. Answer: b 77. The sales forecast is influenced by a. advertising and sales promotions. b. competition. c. general economic conditions. d. all of the above. Answer: d 78. A sales forecast is a. often the outcome of elaborate information gathering and discussions among sales managers. b. developed primarily to prepare next year’s marketing campaign. c. solely based on sales of the previous year. d. a summary of product costs that influence pricing decisions. Answer: a 79. The revenues budget identifies a. expected cash flows for each product. b. actual sales from last year for each product. c. the expected level of sales for the company. d. the variance of sales from actual for each product. Answer: c 80. The number of units in the sales budget and the production budget may differ because of a change in a. finished goods inventory levels. b. overhead charges. c. direct material inventory levels. d. sales returns and allowances. Answer: a 81. Production is primarily based on a. projected inventory levels. b. the revenues budget. c. the administrative costs budget. d. the capital expenditures budget. Answer: b 82. Budgeted production depends on a. the direct materials usage budget and direct material purchases budget. b. the direct manufacturing labor budget. c. budgeted sales and expected changes in inventory levels. d. the manufacturing overhead costs budget. Answer: c 83. The direct materials usage budget is based on a. the units to be produced during a period. b. budgeted sales dollars. c. the predetermined factory overhead rate. d. the amount of labor-hours worked. Answer: a 84. Direct material purchases equal a. production needs. b. production needs plus target ending inventories. c. production needs plus beginning inventories. d. production needs plus target ending inventories less beginning inventories. Answer: d 85. Individual budgeted amounts included in the manufacturing overhead costs budget are based on input from a. operating personnel. b. costs incurred in prior years. c. cost changes expected in the future. d. all of the above. Answer: d 86. The manufacturing overhead costs budget includes budgeted amounts for a. direct materials. b. direct manufacturing labor. c. indirect manufacturing labor. d. all of the above. Answer: c 87. Budgeted manufacturing overhead costs include all types of factory expenses EXCEPT a. fixed items such as depreciation of manufacturing machinery. b. variable items such as plant supplies. c. indirect labor such as the salary of the plant supervisor. d. direct labor and direct materials. Answer: d 88. Schultz Company expects to manufacture and sell 30,000 baskets in 20x4 for $6 each. There are 3,000 baskets in beginning finished goods inventory with target ending inventory of 4,000 baskets. The company keeps no work-in-process inventory. What amount of sales revenue will be reported on the 20x4 budgeted income statement? a. $174,000 b. $180,000 c. $186,000 d. $204,000 Answer: b 30,000 x $6 = $180,000 89. DeArmond Corporation has budgeted sales of 18,000 units, target ending finished goods inventory of 3,000 units, and beginning finished goods inventory of 900 units. How many units should be produced next year? a. 21,900 units b. 20,100 units c. 15,900 units d. 18,000 units Answer: b 18,000 + 3,000 - 900 = 20,100 units 90. For next year, Galliart, Inc., has budgeted sales of 60,000 units, target ending finished goods inventory of 3,000 units, and beginning finished goods inventory of 1,800 units. All other inventories are zero. How many units should be produced next year? a. 58,800 units b. 60,000 units c. 61,200 units d. 64,800 units Answer: c 60,000 + 3,000 - 1,800 = 61,200 units 91. Wilgers Company has budgeted sales volume of 30,000 units and budgeted production of 27,000 units. 5,000 units are in beginning finished goods inventory. How many units are targeted for ending finished goods inventory? a. 5,000 units b. 8,000 units c. 3,000 units d. 2,000 units Answer: d 5,000 + 27,000 - 30,000 = 2,000 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 92 THROUGH 95. Marguerite, Inc., expects to manufacture and sell 20,000 pool cues for $12.00 each. Direct materials costs are $2.00, direct manufacturing labor is $4.00, and manufacturing overhead is $0.80 per pool cue. The following inventory levels apply to 20x4: Beginning inventory Ending inventory Direct materials 24,000 units 24,000 units Work-in-process inventory 0 units 0 units Finished goods inventory 2,000 units 2,500 units 92. On the 20x4 budgeted income statement, what amount will be reported for sales? a. $246,000 b. $240,000 c. $312,000 d. $318,000 Answer: b 20,000 x $12 = $240,000 93. How many pool cues need to be produced in 20x4? a. 22,500 cues b. 22,000 cues c. 20,500 cues d. 19,500 cues Answer: c 20,000 + 2,500 - 2,000 = 20,500 cues 94. On the 20x4 budgeted income statement, what amount will be reported for cost of goods sold? a. $139,400 b. $136,000 c. $132,600 d. $153,000 Answer: b 20,000 x ($4.00 + $2.00 + $0.80) = $136,000 95. What are the 20x4 budgeted costs for direct materials, direct manufacturing labor, and manufacturing overhead, respectively? a. $0; $96,000; $19,200 b. $39,000; $78,000; $15,600 c. $80,000; $40,000; $16,000 d. $41,000; $82,000; $16,400 Answer: d 20,500 x $2.00 = $41,000; 20,500 x $4.00 = $82,000; 20,500 x $0.80 = $16,400 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 96 THROUGH 99. Daniel, Inc. expects to manufacture and sell 6,000 ceramic vases for $20 each. Direct materials costs are $2, direct manufacturing labor is $10, and manufacturing overhead is $3 per vase. The following inventory levels apply to 20x4: Beginning inventory Ending inventory Direct materials 1,000 units 1,000 units Work-in-process inventory 0 units 0 units Finished goods inventory 400 units 500 units 96. On the 20x4 budgeted income statement, what amount will be reported for sales? a. $122,000 b. $118,000 c. $140,000 d. $120,000 Answer: d 6,000 x $20 = $120,000 97. How many ceramic vases need to be produced in 20x4? a. 5,900 vases b. 6,100 vases c. 7,000 vases d. 6,000 vases Answer: b 6,000 + 500 - 400 = 6,100 vases 98. On the 20x4 budgeted income statement, what amount will be reported for cost of goods sold? a. $91,500 b. $105,000 c. $90,000 d. $88,500 Answer: c 6,000 x ($2 + $10 + $3) = $90,000 99. What are the 20x4 budgeted costs for direct materials, direct manufacturing labor, and manufacturing overhead, respectively? a. $12,200; $61,000; $18,300 b. $12,000; $60,000; $18,000 c. $2,000; $10,000; $3,000 d. $2,000; $0; $18,000 Answer: a 6,100 x $2 = $12,200; 6,100 x $10 = $61,000; 6,100 x $3 = $18,300 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 100 THROUGH 102. The following information pertains to the January operating budget for Casey Corporation, a retailer: Budgeted sales are $200,000 for January Collections of sales are 50% in the month of sale and 50% the next month Cost of goods sold averages 70% of sales Merchandise purchases total $150,000 in January Marketing costs are $3,000 each month Distribution costs are $5,000 each month Administrative costs are $10,000 each month 100. For January, budgeted gross margin is a. $100,000. b. $140,000. c. $60,000. d. $50,000. Answer: c $200,000 - $140,000 = $60,000 101. For January, the amount budgeted for the nonmanufacturing costs budget is a. $78,000. b. $10,000. c. $168,000. d. $18,000. Answer: d $3,000 + $5,000 + $10,000 = $18,000 102. For January, budgeted net income is a. $42,000. b. $60,000. c. $50,000. d. $52,000. Answer: a $200,000 - $140,000 - $3,000 - $5,000 - $10,000 = $42,000 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 103 THROUGH 106. Konrade, Inc., expects to manufacture and sell 30,000 athletic uniforms for $80 each in 20x4. Direct materials costs are $20, direct manufacturing labor is $8, and manufacturing overhead is $6 for each uniform. The following inventory levels apply to 20x4: Beginning inventory Ending inventory Direct materials 12,000 units 9,000 units Work-in-process inventory 0 units 0 units Finished goods inventory 6,000 units 5,000 units 103. How many uniforms need to be produced in 20x4? a. 26,000 uniforms b. 34,000 uniforms c. 30,000 uniforms d. 29,000 uniforms Answer: d 30,000 + 5,000 - 6,000 = 29,000 uniforms 104. What is the amount budgeted for direct material purchases in 20x4? a. $520,000 b. $600,000 c. $580,000 d. $760,000 Answer: a 29,000 units + 9,000 - 12,000 = Purchases 26,000 x $20 = $520,000 105. What is the amount budgeted for cost of goods manufactured in 20x4? a. $1,020,000 b. $986,000 c. $1,156,000 d. $1,190,000 Answer: b 29,000 x ($20 + $8 + $6) = $986,000 106. What is the amount budgeted for cost of goods sold in 20x4? a. $1,156,000 b. $986,000 c. $1,020,000 d. $2,400,000 Answer: c 30,000 x ($20 + $8 + $6) = $1,020,000 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 107 AND 108. Furniture, Inc., estimates the following number of mattress sales for the first four months of 20x4: Month Sales January 5,000 February 7,000 March 6,500 April 8,000 Finished goods inventory at the end of December is 1,500 units. Target ending finished goods inventory is 30% of next month's sales. 107. How many mattresses need to be produced in January 20x4? a. 4,400 mattresses b. 5,600 mattresses c. 6,500 mattresses d. 7,100 mattresses Answer: b 5,000 + (7,000 x 0.30) - $1,500 = 5,600 mattresses 108. How many mattresses need to be produced in the first quarter (January, February, March) of 20x4? a. 18,500 mattresses b. 19,400 mattresses c. 20,900 mattresses d. 22,400 mattresses Answer: b 5,000 + 7,000 + 6,500 + (8,000 x 0.30) - 1,500 = 19,400 mattresses THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 109 AND 110. Wallace Company provides the following data for next year: Month Budgeted Sales January $120,000 February 108,000 March 132,000 April 144,000 The gross profit rate is 40% of sales. Inventory at the end of December is $21,600 and target ending inventory levels are 30% of next month's sales, stated at cost. 109. Purchases budgeted for January total a. $130,800. b. $72,000. c. $69,840. d. $74,160. Answer: c ($120,000 x 0.6) + ($108,000 x 0.6 x 0.3) - $21,600 = $69,840 110. Purchases budgeted for February total a. $69,120. b. $60,480. c. $115,200. d. $64,800. Answer: a ($108,000 x 0.6) + ($132,000 x 0.6 x 0.3) - ($108,000 x 0.6 x 0.3) = $69,120 111. Financial planning software packages assist management with a. assigning responsibility to various levels of management. b. identifying the target customer. c. sensitivity analysis in their planning and budgeting activities. d. achieving greater commitment from lower management Answer: c 112. __________ utilizes a “what-if” technique that examines how results will change if the originally predicted data changes. a. A sales forecast b. A sensitivity analysis c. A pro forma financial statement d. The statement of cash flows Answer: b 113. When performing a sensitivity analysis, if the selling price per unit is increased, then the a. per unit fixed administrative costs will increase. b. per unit direct materials purchase price will increase. c. total volume of sales will increase. d. total costs for sales commissions and other nonmanufacturing variable costs will increase. Answer: d THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 114 THROUGH 116. Ossmann Enterprises reports year-end information from 20x4 as follows: Sales (80,000 units) $480,000 Cost of goods sold 320,000 Gross margin 160,000 Operating expenses 130,000 Operating income $ 30,000 Ossmann is developing the 20x5 budget. In 20x5 the company would like to increase selling prices by 8%, and as a result expects a decrease in sales volume of 10%. All other operating expenses are expected to remain constant. Assume that COGS is a variable cost and that operating expenses are a fixed cost. 114. What is budgeted sales for 20x5? a. $518,400 b. $533,333 c. $466,560 d. $432,000 Answer: c $480,000 x 1.08 x 0.90 = $466,560 115. What is budgeted cost of goods sold for 20x5? a. $311,040 b. $288,000 c. $345,600 d. $320,000 Answer: b $320,000 x 0.90 = $288,000 116. Should Ossmann increase the selling price in 20x5? a. Yes, because operating income is increased for 20x5. b. Yes, because sales revenue is increased for 20x5. c. No, because sales volume decreases for 20x5. d. No, because gross margin decreases for 20x5. Answer: a $466,560 - $288,000 - 130,000 = $48,560 Yes, because it would result in an increase in operating income compared to 20x4. THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 117 THROUGH 119. Katie Enterprises reports the year-end information from 20x4 as follows: Sales (70,000 units) $560,000 Cost of goods sold 210,000 Gross margin 350,000 Operating expenses 200,000 Operating income $ 150,000 Katie is developing the 20x5 budget. In 20x5 the company would like to increase selling prices by 4%, and as a result expects a decrease in sales volume of 10%. All other operating expenses are expected to remain constant. Assume that COGS is a variable cost and that operating expenses are a fixed cost. 117. What is budgeted sales for 20x5? a. $582,400 b. $524,160 c. $504,000 d. $560,000 Answer: b $560,000 x 1.04 x 0.90 = $524,160 118. What is budgeted cost of goods sold for 20x5? a. $189,000 b. $196,560 c. $218,400 d. $210,000 Answer: a $210,000 x 0.90 = $189,000 119. Should Katie increase the selling price in 20x5? a. Yes, because sales revenue is increased for 20x5. b. Yes, because operating income is increased for 20x5. c. No, because sales volume decreases for 20x5. d. No, because gross margin decreases for 20x5. Answer: d $524,160 - $189,000 = $335,160 gross margin - $200,000 = $135,160 operating income. No, because there would be a decrease in gross margin and operating income compared to 20x4. 120. The Japanese use the term kaizen when referring to a. scarce resources. b. pro forma financial statements. c. continuous improvement. d. the sales forecast. Answer: c 121. Kaizen refers to incorporating cost reductions a. in each successive budgeting period. b. in each successive sales forecast. c. in all customer service centers. d. in all of the above. Answer: a 122. All of the following are encouraged with kaizen budgeting EXCEPT a. better interactions with suppliers. b. large discontinuous improvements. c. cost reductions during manufacturing. d. systematic monthly cost reductions. Answer: b THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 123 AND 124. Dan and Donna Enterprises are using the kaizen approach to budgeting for 20x5. The budgeted income statement for January 20x5 is as follows: Sales (84,000 units) $500,000 Less: Cost of goods sold 300,000 Gross margin 200,000 Operating expenses (includes $50,000 of fixed costs) 150,000 Operating income $ 50,000 Under the kaizen approach, cost of goods sold and variable operating expenses are budgeted to decline by 1% per month. 123. What is budgeted cost of goods sold for March 20x5? a. $294,030 b. $294,000 c. $300,000 d. $297,000 Answer: a $300,000 x 0.99 x 0.99 = $294,030 124. What is budgeted gross margin for March 20x5? a. $196,020 b. $198,000 c. $204,020 d. $205,970 Answer: d $500,000 - $294,030 = $205,970 125. The use of activity-based budgeting is growing because of a. the increased use of activity-based costing. b. the increased use of kaizen costing. c. increases in work-in-process inventory. d. increases in direct materials inventory. Answer: a 126. Activity-based budgeting would separately estimate a. the cost of overhead for a department. b. a plant-wide cost-driver rate. c. the cost of a setup activity. d. all of the above. Answer: c 127. Activity-based-costing analysis makes no distinction between a. direct-materials inventory and work-in-process inventory. b. short-run variable costs and short-run fixed costs. c. parts of the supply chain. d. components of the value chain. Answer: b 128. Activity-based budgeting makes it easier a. to determine a rolling budget. b. to prepare pro forma financial statements. c. to determine how to reduce costs. d. to execute a financial budget. Answer: c 129. Activity-based budgeting does NOT require a. knowledge of the organization’s activities. b. specialized expertise in financial management and control. c. knowledge about how activities affect costs. d. the ability to see how the organization’s different activities fit together. Answer: b 130. Activity-based budgeting a. uses one cost driver such as direct labor-hours. b. uses only output-based cost drivers such as units sold. c. focuses on activities necessary to produce and sell products and services. d. classifies costs by functional area within the value chain. Answer: c 131. Activity-based budgeting includes all the following steps EXCEPT a. determining demands for activities from sales and production targets. b. computing the cost of performing activities. c. determining a separate cost-driver rate for each department. d. describing the budget as costs of activities rather than costs of functions. Answer: c 132. Variances between actual and budgeted amounts can be used to a. alert managers to potential problems and available opportunities. b. inform managers about how well the company has implemented its strategies. c. signal that company strategies are ineffective. d. do all of the above. Answer: d 133. A maintenance manager is MOST likely responsible for a. a revenue center. b. an investment center. c. a cost center. d. a profit center. Answer: c 134. The regional sales office manager of a national firm is MOST likely responsible for a. a revenue center. b. an investment center. c. a cost center. d. a profit center. Answer: a 135. A regional manager of a restaurant chain in charge of finding additional locations for expansion is MOST likely responsible for a. a revenue center. b. an investment center. c. a cost center. d. a profit center. Answer: b 136. The manager of a hobby store that is part of a chain of stores is MOST likely responsible for a. a revenue center. b. an investment center. c. a cost center. d. a profit center. Answer: d 137. A manager of a revenue center is responsible for all of the following EXCEPT a. service quality and units sold. b. the acquisition cost of the product or service sold. c. price, product mix, and promotional activities. d. sales and marketing costs. Answer: b 138. A manager of a profit center is responsible for all of the following EXCEPT a. sales revenue. b. the cost of merchandise purchased for resale. c. expanding into new geographic areas. d. selling and marketing costs. Answer: c 139. A controllable cost is any cost that can be _________ by a responsibility center manager for a period of time. a. controlled b. influenced c. segregated d. excluded Answer: b 140. Controllability may be difficult to pinpoint because of all EXCEPT a. some costs depend on market conditions. b. current managers may have inherited inefficiencies of a previous manager. c. the current use of stretch or challenge targets. d. few costs are under the sole influence of one manager. Answer: c 141. Responsibility accounting a. emphasizes controllability. b. focuses on whom should be asked about the information. c. attempts to assign blame for problems to a specific manager. d. does all of the above. Answer: b 142. A PRIMARY consideration in assigning a cost to a responsibility center is a. whether the cost is fixed or variable. b. whether the cost is direct or indirect. c. who can best explain the change in that cost. d. where in the organizational structure the cost was incurred. Answer: c 143. Building in budgetary slack includes a. overestimating budgeted revenues. b. underestimating budgeted costs. c. making budgeted targets more easily achievable. d. all of the above. Answer: c 144. To reduce budgetary slack management may a. incorporate stretch or challenge targets. b. use external benchmark performance measures. c. award bonuses for achieving budgeted amounts. d. reduce projected cost targets by 10% across all areas. Answer: b 145. Financial analysts use the projected cash flow statement to do all of the following EXCEPT a. plan for when excess cash is generated. b. plan for short-term cash investments. c. project cash shortages and plan a strategy to deal with the shortages. d. project depreciation expense. Answer: d Objective: A 146. The cash flow statement does NOT include a. cash inflows from the collection of receivables. b. cash outflows paid toward raw material purchases. c. all sales revenues. d. interest paid and received. Answer: c Objective: A 147. The cash budget is a schedule of expected cash receipts and disbursements that a. requires an aging of accounts receivable and accounts payable. b. is a self-liquidating cycle. c. is prepared immediately after the sales forecast. d. predicts the effect on the cash position at given levels of operations. Answer: d Objective: A THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 148 THROUGH 151. The following information pertains to Tiffany Company: Month Sales Purchases January $30,000 $16,000 February $40,000 $20,000 March $50,000 $28,000 Cash is collected from customers in the following manner: Month of sale 30% Month following the sale 70% 40% of purchases are paid for in cash in the month of purchase, and the balance is paid the following month. Labor costs are 20% of sales. Other operating costs are $15,000 per month (including $4,000 of depreciation). Both of these are paid in the month incurred. The cash balance on March 1 is $4,000. A minimum cash balance of $3,000 is required at the end of the month. Money can be borrowed in multiples of $1,000. 148. How much cash will be collected from customers in March? a. $47,000 b. $43,000 c. $50,000 d. None of the above Answer: b Objective: A ($40,000 x 70%) + ($50,000 x 30%) = $43,000 149. How much cash will be paid to suppliers in March? a. $23,200 b. $28,000 c. $44,000 d. None of the above Answer: a Objective: A ($20,000 x 60%) + ($28,000 x 40%) = $23,200 150. How much cash will be disbursed in total in March? a. $21,000 b. $25,000 c. $44,200 d. $48,200 Answer: c Objective: A $23,200 + ($50,000 x 20%) + ($15,000 -$4,000) = $44,200 151. What is the ending cash balance for March? a. ($25,000) b. $3,000 c. $3,200 d. $3,800 Answer: d Objective: A $4,000 + $43,000 - $44,200 + $1,000 = $3,800 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 152 THROUGH 154. Fiscal Company has the following sales budget for the last six months of 20x3: July $100,000 October $ 90,000 August 80,000 November 100,000 September 110,000 December 94,000 Historically, the cash collection of sales has been as follows: 65% of sales collected in the month of sale, 25% of sales collected in the month following the sale, 8% of sales collected in the second month following the sale, and 2% of sales are uncollectible. 152. Cash collections for September are a. $71,500. b. $86,700. c. $99,500. d. $102,000. Answer: c Objective: A ($110,000 x 0.65) + ($80,000 x 0.25) + ($100,000 x 0.08) = $99,500 153. What is the ending balance of accounts receivable for September, assuming uncollectible balances are written off during the second month following the sale? a. $99,500 b. $48,500 c. $44,900 d. $46,500 Answer: d Objective: A ($110,000 x 0.35) + ($80,000 x 0.10) = $46,500 154. Cash collections for October are a. $58,500. b. $92,400. c. $99,500. d. $88,200. Answer: b Objective: A ($90,000 x 0.65) + ($110,000 x 0.25) + ($80,000 x 0.08) = $92,400 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 155 THROUGH 157. Bear Company has the following information: Month Budgeted Purchases January $26,800 February 29,000 March 30,520 April 29,480 May 27,680 Purchases are paid for in the following manner: 10% in the month of purchase 50% in the month after purchase 40% two months after purchase 155. What is the expected balance in Accounts Payable as of March 31? a. $39,068 b. $18,312 c. $2,900 d. $30,520 Answer: a Objective: A ($30,520 x 0.9) + ($29,000 x 0.4) = $39,068 156. What is the expected balance in Accounts Payable as of April 30? a. $26,532 b. $38,740 c. $12,208 d. $17,688 Answer: b Objective: A ($29,480 x 0.9) + ($30,520 x 0.4) = $38,740 157. What is the expected Accounts Payable balance as of May 31? a. $11,792 b. $24,912 c. $36,704 d. $2,948 Answer: c Objective: A ($27,680 x 0.9) + ($29,480 x 0.4) = $36,704 THE FOLLOWING INFORMATION APPLIES TO QUESTIONS 158 THROUGH 163. The following information pertains to the January operating budget for Casey Corporation. Budgeted sales for January $100,000 and February $200,000. Collections for sales are 60% in the month of sale and 40% the next month. Gross margin is 30% of sales. Administrative costs are $10,000 each month. Beginning accounts receivable $20,000. Beginning inventory $14,000. Beginning accounts payable $60,000. (All from inventory purchases.) Purchases are paid in full the following month. Desired ending inventory is 20% of next month’s cost of goods sold (COGS). 158. For January, budgeted cash collections are a. $20,000. b. $60,000. c. $80,000. d. none of the above. Answer: c Objective: A $20,000 + ($100,000 x 60%) = $80,000 159. At the end of January, budgeted accounts receivable is a. $20,000. b. $40,000. c. $60,000. d. none of the above. Answer: b Objective: A $100,000 x 40% = $40,000 160. For January, budgeted cost of goods sold is a. $20,000. b. $30,000. c. $40,000. d. none of the above. Answer: d Objective: A $100,000 x 70% = $70,000 161. For January, budgeted net income is a. $20,000. b. $30,000. c. $40,000. d. none of the above. Answer: a Objective: A $100,000 - $70,000 - $10,000 = $20,000 162. For January, budgeted cash payments for purchases are a. $14,000. b. $70,000. c. $60,000 d. none of the above. Answer: c Objective: A Accounts payable, $60,000 as stated 163. At the end of January, budgeted ending inventory is a. $20,000. b. $28,000. c. $40,000. d. none of the above. Answer: b Objective: A $200,000 x 70% x 20% = $28,000 EXERCISES AND PROBLEMS 164. Spirit Company sells three products with the following seasonal sales pattern: Products Quarter A B C 1 40% 30% 10% 2 30% 20% 40% 3 20% 20% 40% 4 10% 30% 10% The annual sales budget shows forecasts for the different products and their expected selling price per unit as follows: Product Units Selling Price A 50,000 $ 4 B 125,000 10 C 62,500 6 Required: Prepare a sales budget, in units and dollars, by quarters for the company for the coming year. Answer: First Second Third Fourth Quarter Quarter Quarter Quarter Total Product A: Sales (units) 20,000 15,000 10,000 5,000 50,000 Price x $4 x $4 x $4 x $4 x $4 Sales ($) $80,000 $60,000 $40,000 $20,000 $200,000 Product B: Sales (units) 37,500 25,000 25,000 37,500 125,000 Price x $10 x $10 x $10 x $10 x $10 Sales ($) $375,000 $250,000 $250,000 $375,000 $1,250,000 Product C: Sales (units) 6,250 25,000 25,000 6,250 62,500 Price x $6 x $6 x $6 x $6 x $6 Sales ($) $37,500 $150,000 $150,000 $37,500 $375,000 Total dollars $492,500 $460,000 $440,000 $432,500 $1,825,000 Difficulty: 2 Objective: 3 165. Lubriderm Corporation has the following budgeted sales for the next sixmonth period: Month Unit Sales June 90,000 July 120,000 August 210,000 September 150,000 October 180,000 November 120,000 There were 30,000 units of finished goods in inventory at the beginning of June. Plans are to have an inventory of finished products that equal 20% of the unit sales for the next month. Five pounds of materials are required for each unit produced. Each pound of material costs $8. Inventory levels for materials are equal to 30% of the needs for the next month. Materials inventory on June 1 was 15,000 pounds. Required: a. Prepare production budgets in units for July, August, and September. b. Prepare a purchases budget in pounds for July, August, and September, and give total purchases in both pounds and dollars for each month. Answer: a. July August September Budgeted sales 120,000 210,000 150,000 Add: Required ending inventory 42,000 30,000 36,000 Total inventory requirements 162,000 240,000 186,000 Less: Beginning inventory 24,000 42,000 30,000 Budgeted production 138,000 198,000 156,000 b. July August September Production in units 138,000 198,000 156,000 Targeted ending inventory in lbs.* 297,000 234,000 **252,000 Production needs in lbs.*** 690,000 990,000 780,000 Total requirements in lbs. 987,000 1,224,000 1,032,000 Less: Beginning inventory in lbs. ****207,000 297,000 234,000 Purchases needed in lbs. 780,000 927,000 798,000 Cost ($8 per lb.) x $8 x $8 x $8 Total material purchases $6,240,000 $7,416,000 $6,384,000 * 0.3 times next month's needs ** (180,000 + 24,000 - 36,000) times 5 lbs. x 0.3 *** 5 lbs. times units to be produced **** (690,000 x .3) = 207,000 lbs. Difficulty: 3 Objective: 3 166. Gerdie Company has the following information: Month Budgeted Sales March $50,000 April 53,000 May 51,000 June 54,500 July 52,500 In addition, the gross profit rate is 40% and the desired inventory level is 30% of next month's cost of sales. Required: Prepare a purchases budget for April through June. Answer: April May June Total Desired ending inventory $ 9,180 $ 9,810 $ 9,450 $ 9,450 Plus COGS 31,800 30,600 32,700 95,100 Total needed 40,980 40,410 42,150 104,550 Less beginning inventory 9,540 9,180 9,810 9,540 Total purchases $31,440 $31,230 $32,340 $ 95,010 Difficulty: 2 Objective: 3 167. Picture Pretty manufactures picture frames. Sales for August are expected to be 10,000 units of various sizes. Historically, the average frame requires four feet of framing, one square foot of glass, and two square feet of backing. Beginning inventory includes 1,500 feet of framing, 500 square feet of glass, and 500 square feet of backing. Current prices are $0.30 per foot of framing, $6.00 per square foot of glass, and $2.25 per square foot of backing. Ending inventory should be 150% of beginning inventory. Purchases are paid for in the month acquired. Required: a. Determine the quantity of framing, glass, and backing that is to be purchased during August. b. Determine the total costs of direct materials for August purchases. Answer: a. Framing Glass Backing Desired ending inventory* 2,250 750 750 Production needs (10,000 units)** 40,000 10,000 20,000 Total needs 42,250 10,750 20,750 Less: Beginning inventory 1,500 500 500 Purchases planned 40,750 10,250 20,250 b. Cost of direct materials: Framing (40,750 x $0.30) $12,225.00 Glass (10,250 x $6.00) 61,500.00 Backing (20,250 x $2.25) 45,562.50 Total $119,287.50 *1,500 x 1.5 = 2,250 500 x 1.5 = 750 **10,000 x 4 = 40,000 10,000 x 1 = 10,000 10,000 x 2 = 20,000 Difficulty: 2 Objective: 3 168. Michelle Enterprises reports the year-end information from 20x2 as follows: Sales (100,000 units) $250,000 Less: Cost of goods sold 150,000 Gross profit 100,000 Operating expenses (includes $10,000 of Depreciation) 60,000 Net income $ 40,000 Michelle is developing the 20x3 budget. In 20x3 the company would like to increase selling prices by 10%, and as a result expects a decrease in sales volume of 5%. Cost of goods sold as a percentage of sales is expected to increase to 62%. Other than depreciation, all operating costs are variable. Required: Prepare a budgeted income statement for 20x3. Answer: Michelle Enterprises Budgeted Income Statement For the Year 20x3 Sales (95,000 x $2.75) $261,250 Cost of goods sold (20x3 sales x 62%) 161,975 Gross profit 99,275 Less: Operating expenses [($0.50 x 95,000] + $10,000) 57,500 Net income $ 41,775 Difficulty: 2 Objective: 4 169. Brad Corporation is using the kaizen approach to budgeting for 20x5. The budgeted income statement for January 20x5 is as follows: Sales (240,000 units) $720,000 Less: Cost of goods sold 480,000 Gross margin 240,000 Operating expenses (includes $64,000 of fixed costs) 192,000 Net income $ 48,000 Under the kaizen approach, cost of goods sold and variable operating expenses are budgeted to decline by 1% per month. Required: Prepare a kaizen-based budgeted income statement for March of 20x5. Answer: Sales $720,000 Less: Cost of goods sold ($480,000 x 0.99 x 0.99) 470,448 Gross margin 249,552 Operating expenses [($128,000 x 0.99 x 0.99) + $64,000] 189,453 Net income $ 60,099 Difficulty: 2 Objective: 5 170. Allscott Company is developing its budgets for 20x5 and, for the first time, will use the kaizen approach. The initial 20x5 income statement, based on static data from 20x4, is as follows: Sales (140,000 units) $420,000 Less: Cost of goods sold 280,000 Gross margin 140,000 Operating expenses (includes $28,000 of depreciation) 112,000 Net income $28,000 Selling prices for 20x5 are expected to increase by 8%, and sales volume in units will decrease by 10%. The cost of goods sold as estimated by the kaizen approach will decline by 10% per unit. Other than depreciation, all other operating costs are expected to decline by 5%. Required: Prepare a kaizen-based budgeted income statement for 20x5. Answer: Sales (126,000 x $3.24) $408,240 Less: COGS (126,000 x $1.80) 226,800 Gross margin 181,440 Operating expenses ($28,000 + $79,800) 107,800 Net income $ 73,640 Difficulty: 2 Objectives: 4, 5 171. Russell Company has the following projected account balances for June 30, 20x3: Accounts payable $40,000 Sales $800,000 Accounts receivable 100,000 Capital stock 400,000 Depreciation, factory 24,000 Retained earnings ? Inventories (5/31 & 6/30) 180,000 Cash 56,000 Direct materials used 200,000 Equipment, net 240,000 Office salaries 80,000 Buildings, net 400,000 Insurance, factory 4,000 Utilities, factory 16,000 Plant wages 140,000 Selling expenses 60,000 Bonds payable 160,000 Maintenance, factory 28,000 Required: a. Prepare a budgeted income statement for June 20x3. b. Prepare a budgeted balance sheet as of June 30, 20x3. Answer: Russell Company a. Income Statement For the Month of June 20x3 Sales $800,000 Cost of goods sold: Materials used $200,000 Wages 140,000 Depreciation 24,000 Insurance 4,000 Maintenance 28,000 Utilities 16,000 412,000 Gross profit $388,000 Operating expenses: Selling expenses $60,000 Office salaries 80,000 140,000 Net income $248,000 b. Russell Company Balance Sheet June 30, 20x3 Assets: Liabilities and Owners’ Equity: Cash $ 56,000 Accounts payable $ 40,000 Accounts receivable 100,000 Bonds payable 160,000 Inventories 180,000 Capital stock 400,000 Equipment, net 240,000 Retained earnings* 376,000 Buildings, net 400,000 Total $976,000 Total $976,000 *$976,000 – ($40,000 + $160,000 + $400,000) = $376,000 Difficulty: 2 Objectives: 3, A 172. Duffy Corporation has prepared the following sales budget: Month Cash Sales Credit Sales May $16,000 $68,000 June 20,000 80,000 July 18,000 74,000 August 24,000 92,000 September 22,000 76,000 Collections are 40% in the month of sale, 45% in the month following the sale, and 10% two months following the sale. The remaining 5% is expected to be uncollectible. Required: Prepare a schedule of cash collections for July through September. Answer: July August September Total Cash sales $18,000 $24,000 $22,000 $64,000 Collections of credit sales from: Current month 29,600 36,800 30,400 96,800 Previous month 36,000 33,300 41,400 110,700 Two months ago 6,800 8,000 7,400 22,200 Total collections $90,400 $102,100 $101,200 $293,700 Difficulty: 2 Objective: A 173. The following information pertains to Amigo Corporation: Month Sales Purchases July $30,000 $10,000 August 34,000 12,000 September 38,000 14,000 October 42,000 16,000 November 48,000 18,000 December 60,000 20,000 Cash is collected from customers in the following manner: Month of sale (2% cash discount) 30% Month following sale 50% Two months following sale 15% Amount uncollectible 5% 40% of purchases are paid for in cash in the month of purchase, and the balance is paid the following month. Required: a. Prepare a summary of cash collections for the 4th quarter. b. Prepare a summary of cash disbursements for the 4th quarter. Answer: a. Cash collections Oct $36,448 + Nov $40,812 + Dec $47,940 = $125,200 October November December August $ 5,100 September 19,000 5,700 October 12,348 21,000 6,300 November 14,112 24,000 December 17,640 -------- --------- -------- $36,448 $40,812 $47,940 b. Cash disbursements Oct $14,800 + Nov $16,800 + Dec $18,800 = $50,400 October November December September 8,400 October 6,400 9,600 November 7,200 10,800 December 8,000 -------- --------- -------- $14,800 $16,800 $18,800 Objective: A CRITICAL THINKING 174. Describe the benefits to an organization of preparing an operating budget. Answer: A well-prepared operating budget should serve as a guide for a company to follow during the budgeted period. It is not “set in stone.” If new information or opportunities arise, the budget should be adjusted. A well-prepared operating budget assists management with the allocation of scarce resources. It can help management see trouble spots in advance, and decide where to allocate its limited resources. A well-prepared operating budget fosters communication and coordination among various segments of the company. The process of preparing a budget requires managers from different functional areas to work together and communicate performance levels they both want and can attain. A well-prepared operating budget can become the performance standard against which firms can compare the actual results. 175. Bob and Dale have just purchased a small honey manufacturing company that was having financial difficulties. After a brief operating period, they decided that the company's main problem was lack of any financial planning. The company made a good product and market potential was great. Required: Explain why a company needs a good budgeting plan. Specifically address the need for a master budget. Answer: The master budget is a series of interrelated budgets that quantify management's expectations about a company's revenues, expenses, net income, cash flows, and financial position. When administered wisely, a budget 1. compels strategic planning and implementation of plans, 2. provides a framework for judging performance, 3. motivates managers and employees, and 4. promotes coordination and communication among subunits within the company. Difficulty: 2 Objective: 1 176. Describe operating and financial budgets and give at least two examples of each discussed in the textbook. Answer: Operating budgets specify the expected outcomes of any selling, manufacturing, purchasing, labor management, R&D, marketing, distribution, customer service, and administrative activities during the planning period. Operations personnel use these plans to guide and coordinate activities during the planning period. Examples of operating budgets include the revenues budget, production budget, direct materials costs budget, direct manufacturing labor costs budget, manufacturing overhead budget, and budgets for R&D, marketing, distribution, customer service, and administrative activities. Financial budgets are used to evaluate the financial consequences of a proposed decision. Examples of financial budgets include the capital expenditures budget, cash budget, budgeted balance sheet, and the budgeted statement of cash flows. 177. Discuss the importance of the sales forecast and items that influence its accuracy. Answer: All other budgets are based on information from the sales forecast. The sales forecast is a challenge to predict because its accuracy depends on the ability to forecast the state of the general economy, changes in the industry, actions of the competition, and developments in technology. Each of these items affects individual products or product lines and are quantified and aggregated to obtain the sales forecast. 178. Distinguish between controllable and uncontrollable aspects of revenue and costs. Can a manager totally control all revenue and costs? Why or why not? Answer: Although no revenue or cost can be totally controlled, a cost or revenue is a controllable item when a manager has significant influence over the amount of a cost or revenue. It is uncontrollable if this is not the case. A manager's ability to influence costs and revenues depends on two factors: (1) the manager's level of authority, and (2) the time period involved. Costs and revenue contracts, the economic costs of disposing of fixed assets, and the economy are three conditions that are likely to affect the period of time during which an item is not controllable. Difficulty: 2 Objective: 7 179. Describe some of the drawbacks of using the operating budget as a control device. Answer: When the operating budget is used as a control device it can lead to behavior that is actually detrimental to the organization. The major problem with the budget performance report is not the report itself, but rather the way it is used. In general, managers are rewarded for favorable variances, and disciplined for unfavorable variances. This encourages managers to set lax standards for both sales and costs so favorable variances result. It can also lead to “budget games.” Another drawback is that once the budget is established if there is any variance between budget and actual, it is assumed to be because of actual. However, as we know, the budget will never be totally accurate due to the uncertainties of predicting the future. If used properly, however, the operating budget can be a tremendous benefit to any company. 180. What is budget slack? What are the pros and cons of building slack into the budget from the point of view of (a) an employee and (b) a senior manager? Answer: Budget slack occurs when subordinates (a) ask for excess resources above and beyond what they need to accomplish budget objectives and (b) distort information by claiming they are not as efficient or effective at what they do, thus lowering management's performance expectations of them. Employee's point of view: There are two benefits from this point of view. First, the subordinate may be able to obtain excess resources to achieve desired goals. This may take a lot of pressure off the subordinate and reduce job anxiety. Second, the subordinate may be able to convince senior management to lower their work expectations of him or her. This may also lead to lower pressure on the subordinate to perform. Both of these types of slack building are designed to reduce job stress for the subordinate. However, if incentives are graduated in such a way that achieving higher and higher goals provides the subordinate with more and more compensation in the form of bonuses, then the subordinate may lose income by selecting lower goals. Senior management's point of view: When subordinates build in slack, they are either using unnecessary resources to achieve a goal that they should have been able to achieve with fewer resources, or they are understating their performance capabilities. Thus, the organization is either not running as efficiently as it can, or is losing potential productivity from employees who are not working as hard as they can. In some cases, senior management may believe that subordinates build in slack to relieve job pressure. If burnout of employees has been happening in the organization, then perhaps senior management may be more forgiving and view some slack building as necessary to keep their employees from quitting.