Solution manual cost management measuring monitoring and motivating performance 1st by wolcott ch10

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Chapter 10
Static and Flexible Budgets
LEARNING OBJECTIVES
Chapter 10 addresses the following questions:
Q1 What are the relationships among budgets, long-term strategies, and short-term
operating plans?
Q2 What is a master budget, and how is it prepared?
Q3 What are budget variances, and how are they calculated?
Q4 What are the differences between static and flexible budgets?
Q5 How are budgets used to monitor and motivate performance?
Q6 What are other approaches to budgeting?
Q7 How is the cash budget developed? (Appendix 10A)
These learning questions (Q1 through Q7) are cross-referenced in the textbook to individual
exercises and problems.

COMPLEXITY SYMBOLS
The textbook uses a coding system to identify the complexity of individual requirements in the
exercises and problems.
Questions Having a Single Correct Answer:
No Symbol
This question requires students to recall or apply knowledge as shown in the
textbook.
This question requires students to extend knowledge beyond the applications
e
shown in the textbook.

Open-ended questions are coded according to the skills described in Steps for Better Thinking
(Exhibit 1.10):


Step 1 skills (Identifying)

Step 2 skills (Exploring)

Step 3 skills (Prioritizing)

Step 4 skills (Envisioning)


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10-2 Cost Management

QUESTIONS
10.1

The revenue budget determines the volume of units sold. This amount, less beginning
inventories plus desired ending inventories determines the amount of units for the
production budget. The production budget determines the amount of direct materials
needed. If there are any constraints in the production process or for direct materials,
these relationships could change.

10.2

An organization would like the right people to be available at the right place and at the
right time. This includes having the necessary talent in marketing to produce sales, and
in production to provide the product. The various staff functions should be able to
perform their assigned tasks in an effective and efficient manner. The budget provides
advance guidance about personnel requirements during specific time periods.

10.3

If individuals who are affected by some aspect of the budget participate in that budget’s
construction, there should be greater acceptance of the stated goals and the means to their
attainment. If a manager has not had input to setting goals or to the resources required to
attain them, there is a possibility that the budget may not be taken seriously as the formal
financial expression of that individual's responsibility and authority.

10.4

Zero based budgeting does not take a prior period's performance and budget as given. It
requires that each budget be justified by first demonstrating that the projected level of
output (of goods or services) justifies the budget submitted. The projected level of output
needs to be consistent with the goals of the organization. This means that under zero
based budgeting, managers ignore prior period results and proceed as if they were
developing budgets for the first time.

10.5

The master budget is a particular application of the flexible budget for the specific level
of operations that management expects during the next period. The flexible budget can
be readily adapted to any level of activity within the relevant range; the master budget is
one particular level of activity.

10.6

To minimize budgetary slack, organizations ask outside consultants or market specialists
to make forecasts for the next period and compare their forecasts to those generated
internally. In addition, bonuses are paid for accuracy in budgeting as well as for meeting
or beating budgets.

10.7

Static budgets need the following adjustments for performance evaluation:
* Use flexible budget to adjust for actual volumes
* Remove allocated costs
* Update costs for anticipated price changes

10.8

Here are some of the challenges that organizations face when they allocate budget
authority and responsibility; students might have thought of others. Sometimes managers
feel that they are held responsible for costs over which they have little or no control, and
they begin to feel resentful. When there is interdependency among divisions and
departments, it is difficult to separate the effects of individual manager’s efforts.
Sometimes a new manager replaces someone who leaves, and the new manager is held


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Chapter 10: Static and Flexible Budgets 10-3
responsible for whatever budget decisions were made previously. Sometimes
uncontrollable external or internal factors alter budgets unexpectedly. For example, a
few key employees could leave for better jobs. Unanticipated changes could occur in the
organization’s prices and costs.
10.9

Cash budgets help managers plan their short term borrowing needs to meet payroll,
accounts payable, and other cash obligations. In a seasonal business, there are times
when cash levels are quite high, but also times when very little cash is flowing into the

company. Managers need to plan ahead for times of reduced cash flow so that employees
and vendors are unaffected by these cycles.

10.10 Managers use many different types of information to develop budgets. Often they use
last year’s results to determine a base level of costs and revenues. They also estimate
future sales volumes, prices, and costs. Information for these estimates can be obtained
from very specific sources, such as trade journals that provide total market share
information, to very general sources such as economic trends described in business
publications such as The Wall Street Journal. Information is also obtained from
individuals throughout the organization. For example, engineers might provide estimates
of cost changes resulting from expected changes to production processes. Individual
department managers submit plans and budget requests. In addition, information is
obtained from suppliers, companies from whom they rent, and others who might know
whether cost changes are expected during the period for which the budget is developed.
10.11 Both types of budgets forecast revenues and costs using information about past, present,
and future operations. Annual budgets forecast for next year while rolling budgets
forecast for shorter or longer periods. Annual budgets are developed once a year while
rolling budgets are updated more frequently, often on a monthly basis.
10.12 Budgets are prepared in light of organizational strategies and are a method to
communicate strategies and objectives throughout the organization. Operating plans are
developed from organizational strategies, and these are communicated from top levels
throughout the organization. Sub-units then develop budgets considering organizational
objectives and communicate their budget goals to top management. After the budgeting
process is complete, actual operations are compared to budgets and any differences are
investigated. This process leads to re-evaluation of the organization’s vision and
strategies as shown in Exhibit 10.2.


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10-4 Cost Management

EXERCISES
10.13 Seer Manufacturing
A. Production Budget

Desired ending inventory
Planned sales
Total units needed
Planned beginning inventory
Production requirements

February
180
90
270
190
80

March
110
100
210
180
30

April
100
80
180

110
70

February
120
240
360
150
210

March
45
90
135
120
15

April
105
210
315
45
270

B. Direct Materials Unit Forecast
Desired ending inventorya
Planned usageb
Total units needed
Planned beginning inventoryc
Materials acquisitions

a

Current production x 3 units direct materials x 0.5 to reflect 3 direct materials
units per product, and half of this month’s production for ending inventory
balance.
b
Current production x 3
c
Prior month's production x 3 x .5;
January production was change in finished goods inventory plus January
sales, or (100 + 90) - (40 + 90) + 40 = 100 units.
C. Labor Requirements Budget
a

Labor hours needed
a
Current production x 10

February
800

March
300

April
700


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Chapter 10: Static and Flexible Budgets 10-5
10.14 Bullen & Company
Notice that the first quarter is the first three months. April’s information is needed for some of
March’s budget calculations.
A.
(1) Production budget (units)

Sales units (a)
Plus ending inventory (b)
Total Units needed
Less Beginning inventory
Total units to be produced

January
February
20,000
24,000
12,000
8,000
32,000
32,000
10,000
12,000
22,000
20,000

March
Quarter
16,000
60,000

9,000
9,000
25,000
69,000
8,000
10,000
17,000
59,000

(a) Current month's sales
(b) 50% of following month's sales
(2) Direct labor budget (hours)
January
22,000
4.0
88,000

February
20,000
4.0
80,000

March
17,000
3.5
59,500

January
22,000
$10

$220,000

February
20,000
$10
$200,000

March
17,000
$10
$170,000

January
20,000
$80
$1,600,000

February
24,000
$80
$1,920,000

March
16,000
$75
$1,200,000

Units to be produced
Direct labor hours per unit
Total labor budget (hours)

Total
59,000
227,500

(3) Direct materials budget (dollars)

Units to be produced
Cost per unit
Total direct material cost

Total
59,000
$590,000

(4) Sales budget (dollars)

Sales units
Sales price per unit
Total sales revenue budget

Total
60,000
$4,720,000


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10-6 Cost Management
B.

Bullen & Company
Budgeted Contribution Margin
First Quarter, 20X5
January
Direct labor hours per unit
4.0
Direct labor hourly rate
$15
Direct labor cost per unit
$60
Sales units
Sales revenue
Direct labor cost
Direct materials cost
Contribution margin

February
4.0
$15
$60

20,000

March
3.5
$16
$56

24,000

Quarter

16,000

60,000

$1,600,000
$1,920,000
$1,200,000
$4,720,000
1,200,000
1,440,000 896,000
3,536,000
200,000
240,000
160,000
600,000
$ 200,000
$ 240,000
$ 144,000 $ 584,000

C. At least three behavioral considerations in the profit-planning and budgeting process
include the following.
Goal alignment is critical. The individual manager’s goals may conflict with the
firm’s goals. Setting targets in a budget process helps focus and motivate
managers to achieve the firm’s objectives.
Participation from lower-level managers and other employees has two benefits. It
uses information from those closest to the process, and the mangers have a
stronger commitment to the budget itself.
The entire budget process is a form of communication. Feedback and other forms

of improving communication are essential throughout the process.

10.15 Appliances Now
A.

Revenues

Static
Budget
$16,491

Flexible
Budget
$17,480

Flexible
Budget
Actual
Variance
$17,480 $
0

Cost of Sales
Fixed overhead
Variable selling
Fixed selling
Administration
Total costs

5,892

1,977
456
1,275
4,773
14,373

6,245 (a)
1,977
483 (b)
1,275
4,773
14,753

6,451
2,032
550
1,268
5,550
15,851

Income

$ 2,118

$ 2,727

$ 1,629

(206)
(55)

(67)
7
(777)
$(1,098)


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Chapter 10: Static and Flexible Budgets 10-7

The following computations are short-cuts that can be used to calculate variable costs
under a flexible budget, with revenues as the cost driver.
Flexible budget for variable costs = Static budget variable cost/Revenues in static
budget * Actual Revenues:
(a) $5,892/$16,491 * $17,480
(b) $456/$16,491 * $17,480
B. If market share is 20% and revenues are $17,480, then the following equation estimates
the total market:
20% * Market = $17,480
Market = $17,480/0.20 = $87,400
If market share of 22% had been obtained, revenues would have been:
$87,400 * 22% = $19,228
Thus, foregone revenue is:
Revenue at 22% Market Share – Actual Revenues
= $19,228 - $17,480 = $1,748
The foregone profit is equal to the marginal profit that would have been earned on
foregone revenues. Thus, the marginal profit is equal to the contribution margin on
foregone revenues. (Remember: Fixed costs would not be affected by higher revenues.)
The contribution margin per dollar of revenue from the original (static) budget follows:
Revenue

Less variable costs:
Cost of sales
Variable selling
Contribution Margin
Contribution Margin Ratio

$16,491
(5,892)
(456)
$10,143
61.51%

Foregone profit is equal to the contribution margin on foregone revenues:
Foregone Revenues * Contribution Margin Ratio
= $1,748 * 61.51% = $1,075

10.16 The Zel Company
A. Cost of goods sold = (0.8*sales)
= (0.8*$1,700,000)
= $1,360,000


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10-8 Cost Management

B. Beginning inventories are 30% of that month’s cost of goods sold. Therefore, July
Beginning Inventory = (0.3*cost of goods sold)
= (0.3*0.8*$1,810,000)
= $434,400

C. Ending inventory for July is the beginning inventory for August.
Ending inventory (0.3*0.8*1,920,000)
+ July cost of goods sold (0.8*1,810,000)
- Beginning inventory (part B)
= Purchases

$ 460,800
1,448,000
(434,400)
$1,474,400

D. 40% of receivables are collected in the month sold, and 50% are collected the next
month. For July:
Cash sales
Collections from July credit sales (0.4 * $1,600,000)
Collections from June credit sales (0.5 * $1,500,000)
July cash collections

$ 210,000
640,000
750,000
$1,600,000

10.17 New Ventures
First, determine the purchases budget for the 1st quarter:

Production (units)
Raw materials needed per unit
Production requirement
Ending inventory requirement

(25% of next month's production requirement)

Total needed
Less: Beginning inventory
Raw materials purchases (units)
Raw material unit cost
Raw materials purchases

January February
March
April
20,000
50,000
70,000
70,000
x2
x2
x2
x2
40,000 100,000 140,000 140,000
25,000
35,000
65,000 135,000
(0)
(25,000)
65,000 110,000
x $7
x $7
$455,000 $770,000

35,000
175,000
(35,000)
140,000
x $7
$980,000


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Chapter 10: Static and Flexible Budgets 10-9
Next compute cash disbursements for purchases of raw materials:

January purchases (a)
February purchases (b)
March purchases (c)
Total cash payments

January
February
$163,800
$273,000
277,200
$163,800

$550,200

March
$462,000
352,800

$814,800

(a) January: ($455,000 x 0.4).9 = $163,800
February: ($455,000 x 0.6) = $273,000
(b) February: ($770,000 x 0.4).9 = $277,200
March: ($770,000 x 0.6) = $462,000
(c) March: ($980,000 x 0.4).9 = $352,800

10.18 Myrna Manufacturing
Cash receipts for February are
From January (25,000 x €18 x .70)
From February (30,000 x €18 x .25 x .97)
Total February cash receipts

€315,000
130,950
€445,950

Production requirements are
Sales requirement (units)
Plus: Ending inventory (units)
Total needs
Less: Beginning inventory (units)
Production requirement (units)

January
February
25,000
30,000
7,500

8,000
32,500
38,000
0
(7,500)
32,500
30,500

Materials Purchases Budget
To support production (units)
Plus: Ending inventory (units)
Total needs
Less: Beginning inventory (units)
Total purchases (units)
Raw materials cost per unit
Total purchases

65,000
12,200
77,200
0
77,200
€0.75

March
32,000
8,750
40,750
(8,000)
32,750

61,000
13,100
74,100
(12,200)
61,900
€0.75

€57,900

Cash disbursements in February for raw materials are
From January (€57,900 x 0.40)
From February (€46,425 x 0.60)
Total raw materials disbursements

€45,425
€23,160
27,855
€51,015

65,500


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10-10 Cost Management
Labor costs in February are
30,500 units x .50 hour per unit
Wage rate
Total cash disbursement, labor

15,250 hours
€15
€228,750

Overhead costs in February are
Total costs = €2(30,500) + 25,000
Less: Depreciation
Total cash overhead costs
The February cash budget is thus:
Beginning balance, February 1
Plus: February receipts
Subtotal
Less: Disbursements
Raw materials
Labor
Overhead
Total disbursements
Ending balance, February 28

€86,000
12,000
€74,000
€ 80,000
445,950
525,950
51,015
228,750
74,000
353,765

€172,185

10.19 Play Time Toys
[Note about problem complexity: Items A and B are coded as ―Extend‖ instead of ―Step 2‖
because a similar example was provided in the chapter.]
A. Play Time Toys is using a static budget. It does not reflect the activity levels, so it is not
a good measure of performance. The variable costs need to be related to actual
production volumes. It also includes division, marketing and headquarters overhead costs
and managers are not responsible for those. They should be eliminated. Managers and
their departments should be evaluated relative to costs they can control. Any costs they
cannot control should be removed.
B and C. The following schedule eliminates costs that are not under the dolls production
department manager’s control. These include production division costs, headquarters
costs, and marketing costs. Revenues and volume are included only because provide
information about activity levels. Variable costs are adjusted for actual volume.

Volume
Revenue
Direct Materials
Direct Labor
Variable Overhead
Fixed Overhead
Total Costs

Budget Benchmark
1,000
1,100
$12,000
$13,200
$2,000

1,000
1,000
800
$4,800

$2,200
1,100
1,100
800
$5,200

Actual
Variance
1,100
$12,400
$2,100
1,225
1,100
1,020
$5,445

$ 100
(125)
0
(220)
$(245)


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Chapter 10: Static and Flexible Budgets 10-11

D. The direct material variance is favorable and about 5% of the benchmark. Perhaps
materials of lower quality than usual were purchased, or perhaps there was a price
decrease that should be reflected through a new standard. If lower quality materials were
purchased, more labor time might have been needed to produce the dolls, resulting in a
negative labor variance. If there was no change in the quality of materials, then other
reasons need to be investigated for the negative labor variance (11% of the benchmark).
Perhaps there was unusually high turnover or other factors, resulting in lower
productivity. It is also possible that the standard labor cost is too low, particularly if there
was an unanticipated labor rate increase. The unfavorable fixed overhead variance is
very large (28% of benchmark). Perhaps there were large discretionary expenditures,
such as painting the production facility. Or, perhaps there was an unexpected increase in
one or more fixed overhead cost categories. It is also possible that the budgeted cost is
too low.

10.20 Brad Worth
A.
Cash Receipts
Sept
120

Units sold
Cash sales (a)
Credit card sales (b)
One month later (c)
Two months later (d)
Three months later (e)
Total
(a)

(b)
(c)
(d)
(e)

$2,160
1,710
0
0
0
$3,870

Oct
220

Nov
320

Dec
400

Jan
0

$3,960
3,135
900
0
0
$7,995

$ 5,760
4,560
1,650
360
0
$12,330

$ 7,200$
0
$
0
$ 0
5,700
0
0
0
2,400
3,000
0
0
660
960
1,200
0
240
440
640
800
$16,200

$4,400
$1,840 $800

Cash sales: Unit sales x $50 x 40% x (1-10%)
Credit card sales: Unit sales x $50 x 30% x (1-5%)
Collected one month later: Unit sales last month x $50 x 15%
Collected two months later: Unit sales two months ago x $50 x 6%
Collected three months later: Unit sales three months ago x $50 x 4%

Feb
0

Mar
0


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10-12 Cost Management
Cash Disbursements
Sept
120

Unit sold

Purchases:
Desired ending inventory (a) 154
Units sold this month
120
Less beginning inventory (b) (50)

Budgeted purchases
224
Cash Disbursements:
Paid same month (c)
Paid next month (d)
Total
(a)
(b)
(c)
(d)

$

0
1,600
$1,600

Oct
220

Nov
320

Dec
400

224
220
(154)
290

280
320
(224)
376

0
400
(280)
120

$ 4,362
7,168
$11,530

$ 5,655
4,640
$10,295

Jan
0

$1,805$
6,016
$7,821

0
1,920
$1,920

Next month’s unit sales x 70%
Prior month’s ending inventory
Zero for Sept; other months: units purchased x $32 x 50% x (1-6%)
September: 50 units purchased during August x $32; October: units
purchased during Sept x $32; other months: prior month units
purchased x $32 x 50%

Summary of Budgeted Cash Receipts and Disbursements

Cash receipts
Cash disbursements
Net cash flow
Cumulative cash flow

Sept
Oct
Nov
Dec
Jan
Feb
Mar
$3,870 $ 7,995 $12,330 $16,200 $ 4,400 $ 1,840$ 800
(1,600) (11,530) (10,295)
(7,821)
(1,920)
( 0)
(0)
$2,270 $ (3,535) $ 2,035 $ 8,379 $ 2,480 $ 1,840$ 800
$2,270

$ (1,265)$

770

$ 9,149

$11,629

$13,460

$14,269

B. Although the problem does not require this calculation, the total amount of uncollectible
accounts can be estimated as follows:
(120+220+320+400) x $50 x 5% = $2,650
Because the only option under consideration is to write off the accounts, Brad could
allow the collection agency to keep 100% of collections and still be no worse off.


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Chapter 10: Static and Flexible Budgets 10-13

PROBLEMS
10.21 Patricia’s Reconciliation
A. Many accounting tasks are nonroutine and involve unpredictable activities. For example,
a reconciliation could require investigation of unusual items or uncover problems with
the mathematical accuracy of other accounting records. Unforeseen problems make it
difficult to establish an accurate time budget.
B. Patricia’s time might exceed the budget because of unforeseen items, as discussed in Part

A. Alternatively, her time could exceed the budget because she is inexperienced or is
distracted by other matters (such as worrying about her performance).
C. Patricia is probably concerned that asking for more help will lead Ron to believe that she
is incompetent or lacks confidence, which could in turn lead to a poor performance
evaluation. She also might want to avoid interrupting Ron from performing his work.
D. It is uncertain how Ron would respond to either situation. Although he has told Patricia
that ―All new-hires are slow to begin with,‖ he probably has some unspoken expectation
for how long it should take her to complete the task. He probably also has some
expectation about the number and types of questions that are appropriate for a newlyhired staff member.
1. If Ron thinks that Patricia’s questions are reasonable and she completes the
assignment in 4 hours, he will probably consider her performance to be acceptable for
a new-hire. However, he will probably expect her to perform more quickly on future
tasks. On the other hand, he might view her performance as poor if he believes that
her questions involved issues about which she should already know.
2. Ron will probably give Patricia a poor performance review if she does not seek his
help and completes the assignment in 8 hours. He will probably assume that she
wasted time by failing to ask him questions. However, he might consider this amount
of time reasonable if Patricia adequately explains to him legitimate reasons for the
reconciliation taking twice as long as expected—such as unanticipated reconciliation
problems.
E.
1. Assuming that there were no unusual problems causing the reconciliation to be
significantly more complex than expected, Patricia has probably prioritized selfreliance and worry about her performance as more important than meeting the job’s
time budget. In addition, she has placed a low priority on communicating her work
status with her supervisor.
2. The ethics in this problem involve Patricia’s responsibilities to her supervisor, her
firm, and her client. Her supervisor and firm are both responsible for Patricia’s
professional development and the quality of her job performance. If failing to ask
questions hindered her development or job performance, then Patricia has not acted

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10-14 Cost Management
ethically. Her supervisor is probably evaluated at least in part on Patricia’s
performance, so her poor performance would also reflect poorly on Ron’s
performance. In addition, the firm and client have a financial stake in this situation.
Time is money to a CPA firm; either the firm absorbs the cost of the additional time,
or the time will be billed to the client. A failure to ask questions might have
increased the length of time to complete Patricia’s tasks, and a failure to provide
timely communication about problems with the reconciliation might prevent the firm
from billing the client for legitimate cost overruns. Ethical behavior in this situation
would require Patricia to focus on what is best overall—for herself, her supervisor,
her firm, and her client. In this case, her personal concerns appeared to override the
interests of other stakeholders. Thus, Patricia did not appear to act ethically.
F. Because of Patricia’s lack of experience, it was difficult for her to gauge the quality of
her work and the appropriateness of questions she might ask her supervisor.
Nevertheless, once the job is completed she has an opportunity to reflect upon what
occurred and to consider things she might have done differently. For example, she might
identify a different way to sequence the work she performed to reduce the overall time.
Or, she might think about how the work was similar to what she had learned in school,
how it was different, and why. She might also ask Ron for suggestions about ways to
improve her work. By reflecting on her work and asking for suggestions, Patricia can
more readily recognize problems and solutions in future assignments.
G. and H. There is no one answer to these parts. Sample solutions and a discussion of
typical student responses will be included in assessment guidance on the Instructor’s web
site for the textbook (available at www.wiley.com/college/eldenburg).

10.22 Helping a Friend
A. A friend would need to prepare budgets for revenues and for costs that vary per month

such as rent, food, and entertainment. An additional budget should be prepared for things
that vary per semester, like books and tuition. Because personal costs tend to vary by
month, these budgets are prepared for monthly costs by category instead of direct cost
budgets that are used in manufacturing. Finally, she needs to prepare a cash budget to
estimate her cash needs throughout the semester so that she does not run short.
B. Monthly information that is known for certain includes rent, insurance (if monthly), and
car payments. Tuition and fees are known for certain. Other costs that must be estimated
include food, books, and entertainment.
C. Assumptions may need to be made about tuition and fees. Do they vary with credit
hours? If so, how many credit hours are expected? Assumptions also need to be made
about the frequency and cost of events such as eating in restaurants and entertainment. If
a lease has not been signed, an assumption needs to be made about the cost of rent. She
will make assumptions about the amount and cost of food she will eat, entertainment
costs, car and travel related costs. She will not have to make assumptions about costs that
she knows ahead, for example tuition (if fixed) and rent. However she will have to make
assumptions about other costs that are not known ahead. These assumptions include the


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Chapter 10: Static and Flexible Budgets 10-15
amount that will be spent, the frequency and timing of the expenditures. She will need to
make similar assumptions about cash inflows that she does not know ahead. If she works
a variable schedule at a restaurant, she cannot know the amount of tips she will receive
and will have to make assumptions about the amounts and timing of these cash inflows.
Similarly, there may be uncertainties with regard to the money that she receives from her
parents. She may know for certain the amounts and timing of scholarship funds.
D. Here is a plan for monitoring your budget.
Each month, compare actual costs to the budgeted costs by budget category. The
differences between actual and budgeted costs are called variances. If you have spent

more than budgeted, a variance is considered unfavorable. If you have spent less than
budgeted, the variance is favorable. At the end of each month, calculate a variance for
each budget category and then add all of the variances together to see if you are over or
under budget that month.
To calculate these variances, you need to track your costs using the same categories
included in the budget. I recommend you use one category to track monthly fixed costs
like rent, utilities, car payment, and utilities. Keep two separate categories for
discretionary costs, one for food and one for entertainment. You can cut back on
discretionary costs more easily than the fixed costs. For example, if utilities are high one
month, you could cut back on entertainment the next month to avoid having an overall
variance from the budget at the end of the semester.
If you have unfavorable variances for several months, you will need to find additional
sources of revenue or cut back on discretionary expenditures. If you have favorable
variances for several months you may want to wait until the end of the semester to adjust
the budget, to make certain you have not overlooked anything.

10.23 Central County Public Clinic
A. The prior year’s actual results can be used as a static budget for the next period. The
2004 results can be used as the basis for a benchmark for 2005, adjusting for activity
levels and any price changes.
B. To convert the 2004 results to a benchmark for 2005, adjust 2004 variable costs to reflect
activity levels in 2005. In addition, adjust 2004 amounts for any known price changes.
The following costs are most likely variable. To create an estimate for 2005, divide each
cost by the level of activity in 2004 and then multiply by the level of activity in 2005.
Home visits can be used to measure activity levels. Adjust for known cost increases,
using information given in the problem.
Homemakers: ($60,046 / 4,312 visits * 5,101 visits)
Medical supplies: ($18,197 / 4,312 visits * 5,101 visits)
Cleaning supplies ($6,894 / 4,312 visits * 5,101 visits)
Transportation ($9,068 / 4,312 visits * 5,101 visits)

$71,033
21,527
8,155
10,727


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10-16 Cost Management

The following costs are most likely fixed. To create an estimate for 2005, these costs are
adjusted for known cost increases, using information given in the problem.
Nurses:
One third year’s salary ($135,378 / 3)
Two thirds year’s salary (($135,378 * 105%) / 3) x 2
Total

$ 45,126
94,765
$139,891

Clinic general overhead is not included in the flexible budget because it is an allocated
cost and the clinic manager has no control over it.
Given the preceding calculations, the 2005 benchmark and variances are as follows:

Costs
Nurses
Homemakers
Medical supplies

Cleaning supplies
Transportation
Total
Home visits
Average cost per visit

2004
2005
Actual
Benchmark
$135,378
$139,891
60,046
71,033
18,197
21,527
6,894
8,155
9,068
10,727
$229,583
$251,333
4,312
$53.24

5,101
$49.27

2005
Actual

Variance
$145,019
$(5,128)
71,500
(467)
21,402
125
9,216
(1,061)
11,144
(417)
$258,281
$(6,948)
5,101
$50.63

C. It seems there is a large variance in cleaning supplies. Are employees taking supplies
home? The homemakers did not get a raise but the nurses did, are homemakers taking
home cleaning supplies because they feel they are underpaid? Why are nurses’ salaries
so high? Did you add hours, or are some nurses getting larger raises? Do patients live
further away or are errands being run using clinic car expense?
D. If costs had been in control, there would have been no variances. Thus, this question
calls for the number of home visits that could have been made for the extra $6,948 in
unfavorable variances. The benchmark average cost of $49.27 cannot be used in the
calculations because average cost includes fixed costs that do not change with changes in
volume. Therefore, a benchmark variable cost per unit is calculated:


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Chapter 10: Static and Flexible Budgets 10-17
Variable costs per visit:
Homemakers
Medical supplies
Cleaning supplies
Transportation
Total Variable Costs

$ 71,033
21,527
8,155
10,727
$111,442

Divided by benchmark number of visits

5,101

Benchmark Variable Cost Per Visit ($111,442/5,101)

$21.85

Now the additional number of visits that could have been made is calculated for the
variance:
$6,948 / $21.85 variable cost per visit = 318 visits
Total visits that could have been made if costs had been in control:
5,101 actual visits + 318 additional visits = 5,419 visits

10.24 Fighting Kites Part 1
A sample spreadsheet showing the calculations for this problem is available on the Instructor’s

web site for the textbook (available at www.wiley.com/college/eldenburg).
A. Below is the input section of the sample spreadsheet for this problem. The data input box
shown here includes only the input for Part 1. The solution for later parts will show
additional input items.
Data Input
DIRECT LABOR:
Hours
Cost per hour
Cost per kite

Assembly
0.5
$30.00
$15.00

Packing
0.1
$15.00
$1.50

INVENTORIES:
Direct materials:
Nylon
Ribs
String
Finished goods:
Units
Cost

Beginning

Target
Ending

$5,000
$3,000
$1,000

$7,000
$3,200
$1,200

2,000
$97,850

2,200

DIRECT MATERIALS PER KITE:
Nylon
$10
Ribs
$5
String
$2

REVENUE ASSUMPTIONS:
Selling price
Volume of sales

$75

80,000

B. The Revenues Budget reflects the value of estimated sales volume and expected price as
follows.
REVENUE BUDGET
Sales

Selling price
$75

Total
Units sold Revenues
80,000 $6,000,000


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10-18 Cost Management

C. Estimated sales volumes and anticipated inventory levels are used to predict the number
of units to produce as follows.
PRODUCTION BUDGET (UNITS)
Sales
Ending inventory
Total
Less beginning inventory
Production

80,000
2,200

82,200
2,000
80,200

D. The above schedules are used to prepare the direct materials usage and purchases
budgets.
DIRECT MATERIALS USAGE AND PURCHASES BUDGET
Materials used:
Units
Price
Cost
Nylon
80,200
$10
$802,000
Ribs
80,200
$5
401,000
String
80,200
$2
160,400
Total Materials Used
1,363,400
Add target ending inventory:
Nylon
$7,000
Ribs
3,200

String
1,200
11,400
Deduct beginning inventory:
Nylon
$5,000
Ribs
3,000
String
1,000
(9,000)
Total Purchases
$1,365,800

E. The direct labor budget can now be prepared.
DIRECT LABOR BUDGET
Assembly
Packing
Total

Units
80,200
80,200

Hours Per
Unit
0.5
0.1

Total

Hours
40,100
8,020
48,120

Rate Per
Labor
Hour
Cost
$30.00 $1,203,000
$15.00
120,300
$1,323,300

10.24 Fighting Kites Part 2
A sample spreadsheet showing the calculations for this problem is available on the Instructor’s
web site for the textbook (available at www.wiley.com/college/eldenburg). Here is an excerpt
from the spreadsheet showing the additional input area for Part 2:
VARIABLE OVERHEAD:
Supplies
Indirect labor
Maintenance
Miscellaneous

$160,250
200,650
80,200
40,100

FIXED OVERHEAD:

Depreciation
Property taxes
Insurance
Plant management
Fringe benefits
Miscellaneous

$211,728
28,872
67,368
240,600
336,840
76,992


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Chapter 10: Static and Flexible Budgets 10-19
F.
MANUFACTURING OVERHEAD BUDGET
Variable manufacturing overhead costs
Supplies
Indirect labor
Maintenance
Miscellaneous
Total
Units produced
Variable overhead rate per unit

Fixed manufacturing overhead costs

Depreciation
Property taxes
Insurance
Plant management
Fringe benefits
Miscellaneous
Total

$160,250
200,650
80,200
40,100
$481,200
80,200
$6.00

$211,728
28,872
67,368
240,600
336,840
76,992
$962,400

Total labor hours
Fixed overhead rate per labor hour

48,120
$20.00

Direct labor hours per unit
Fixed overhead rate per unit

0.6
$12.00

G. Using information above, determine the cost of ending inventories.
COST OF ENDING FINISHED GOODS INVENTORY
Unit costs:
Direct Materials:
Cost per unit
Nylon
$10.00
Ribs
5.00
String
2.00
Total
$17.00
Direct Labor:
Assembly
$15.00
Packaging
1.50
Total
16.50
Manufacturing Overhead:
Variable
$6.00
Fixed

12.00
Total
18.00
Total Unit cost
$51.50


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10-20 Cost Management
ENDING INVENTORIES BUDGET
Raw materials:
Nylon
Ribs
String

Finished goods

Units
2,200

$7,000
3,200
1,200

$11,400

Cost Per
Unit
$51.50

113,300

Total ending inventory

$124,700

H. Using information above, the cost of goods sold budget is prepared.
COST OF GOODS SOLD BUDGET
Beginning finished goods
Manufacturing Costs Incurred:
Direct materials
Direct labor
Variable overhead
Fixed overhead
Cost of goods manufactured
Total available
Less: Ending finished goods
Cost of Goods Sold

$97,850
$1,363,400
1,323,300
481,200
962,400
4,130,300
4,228,150
113,300
$4,114,850

10.24 Fighting Kites Part 3
A sample spreadsheet showing the calculations for this problem is available on the Instructor’s
web site for the textbook (available at www.wiley.com/college/eldenburg). Here is an excerpt
from the spreadsheet showing the additional input area for Part 3:
SUPPORT DEPARTMENT COSTS:
Administration
Marketing
Distribution
Customer service

INCOME TAX RATE

25%

$1,034,580
620,748
310,374
103,458

I. The support department costs budget is a simple summary of the information provided in
the problem:
SUPPORT DEPARTMENT COSTS BUDGET
Department
Fixed Costs
Administration
$1,034,580
Marketing
620,748
Distribution
310,374

Customer service
103,458
Total
$2,069,160

J. The income statement uses information from the individual budgets prepared in Parts 1
and Parts 2 of this problem. Because the pretax income is negative, it is not clear how to
compute the income tax expense. Under U.S. tax law, companies are allowed to carry


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Chapter 10: Static and Flexible Budgets 10-21
losses back to offset income reported in prior years. Thus, the company might have a
negative income tax expense. However, the problem does not provide information about
whether Fighting Kites had income in prior years. Thus, the solution below assumes that
no loss carryback is available, and the income tax expense is set to $0.
BUDGETED INCOME STATEMENT
Revenues
$6,000,000
Cost of goods sold
4,114,850
Gross Margin
1,885,150
Operating costs:
Administration
$1,034,580
Marketing
620,748
Distribution

310,374
Customer service
103,458
2,069,160
Pretax Income
(184,010)
Income tax expense
0
Net Income
$(184,010)

10.24 Fighting Kites Part 4
A sample spreadsheet showing the calculations for this problem is available on the Instructor’s
web site for the textbook (available at www.wiley.com/college/eldenburg). Here is an excerpt
from the spreadsheet showing the additional input area for Part 4:
ACCOUNTS RECEIVABLE
Beginning of year
Collect in month sold
Collect following month
Bad debts
DISTRIBUTION OF TRANSACTIONS

$90,000
50%
47%
3%

Sales
Property tax payments
Insurance

Other fixed overhead costs
Support costs
Income tax payments (% of total expense)
Proceeds-Sale of equipment
Purchase of new equipment

JanuaryMarch
10%
50%
0%
25%
25%
25%
$10,000
$50,000

BANK LINE OF CREDIT
Beginning balance
Annual interest rate
Minimum cash balance

$150,000
5.50%
$100,000

PAYMENTS TO VENDORS:
Beginning A/P
$13,000
Pay in month purchased
66.6667%

Pay following month
33.3333%

AprilJulyOctoberJune
September December
50%
30%
10%
0%
50%
0%
100%
0%
0%
25%
25%
25%
25%
25%
25%
25%
25%
25%


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10-22 Cost Management
K. The cash budget requires a series of steps.
Preparation of the cash receipts budget requires calculating the sales for each month

within each quarter because only 50% of customer sales are received during the month of
sale. Another 47% is collected the following month, and 3% is uncollectible. Cash
receipts also include the anticipated sale of equipment during January.
QUARTERLY CASH RECEIPTS BUDGET
JanuaryMarch
Receipts from customers:
Sales from prior quarter
Sales 1st month of quarter
Sales 2nd month of quarter
Sales 3rd month of quarter
Subtotal
Sale of equipment
Total Receipts

AprilJune

JulySeptember

$84,600
$94,000
$470,000
194,000
970,000
582,000
194,000
970,000
582,000
100,000
500,000
300,000

572,600
2,534,000
1,934,000
10,000
0
0
$582,600 $2,534,000 $1,934,000

OctoberNovember

Total

$282,000
$930,600
194,000
1,940,000
194,000
1,940,000
100,000
1,000,000
770,000
5,810,600
0
10,000
$770,000 $5,820,600

Here are details for some of the calculations:
Sales from prior quarter = (Sales during prior quarter/3 months) x (50%-3%).
For Jan-Mar, however, this is calculated as beginning A/R x (100%-2*3%).
The uncollectible percent must be doubled because beginning A/R is only

one-half the prior month's sales.
Sales 1st and 2nd months of quarter = (Sales during quarter/3 months) x
(100%-3%)
Sales 3rd month of quarter = (Sales during quarter/3 months) x 50%
Although the problem does not require it, the sample spreadsheet shows a
reconciliation of total sales to total cash receipts from customers. This type of
reconciliation is useful because it provides a check on the mathematical accuracy
of the cash receipts schedule.
Reconciliation of Sales to Cash Received from Customers
Total sales
Add beginning accounts receivable
Less ending accounts receivable
Less bad debts
Total cash collected from customers

$6,000,000
90,000
(100,000)
(179,400)
$5,810,600

Ending accounts receivable = (Sales during fourth quarter/3 months) x 50%


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Chapter 10: Static and Flexible Budgets 10-23
Because the company carries accounts payable for raw material purchases, it is helpful to
begin the cash disbursement calculations by summarizing the cash payments for raw
material purchases. First, calculate the raw material purchases by month. The

company’s policy is to pay approximately 2/3 of its purchases during the month of
purchase and the remainder the following month.
RAW MATERIAL CASH DISBURSEMENTS
JanuaryMarch

AprilJune

JulySeptember

OctoberNovember
2,667
2,667
2,667
8,000

Unit production:
First month
Second month
Third month
Total quarterly production

2,667
2,667
2,867
8,200

13,333
13,333
13,333
40,000

8,000
8,000
8,000
24,000

Raw material payments:
Purchases prior quarter
Purchases 1st month of qtr
Purchases 2nd month of qtr
Purchases 3rd month of qtr
Total

$13,000
45,333
45,333
34,089
$137,756

$17,044
226,667
226,667
151,111
$621,489

$75,556
136,000
136,000
90,667
$438,222

Total
26,667
26,667
26,867
80,200

$45,333
$150,933
45,333
453,333
45,333
453,333
30,222
306,089
$166,222 $1,363,689

Here are details for some of the calculations:
Unit production by month = Quarterly unit sales ÷3 months, where quarterly
unit sales are calculated by multiplying total annual unit sales by the percent
of sales expected to occur each quarter. The third month of first quarter,
however, includes production of an additional 200 units to increase inventory
from the prior year level to the new target level.
Purchases prior quarter = Units produced 3rd month prior quarter *
($10+$5+$2) * 33.3333%. For the 1st quarter, purchases prior quarter =
beginning A/P. For the 2nd quarter, the payments also include 1/3 of the
targeted increase in raw material inventories (from $9,000 to $11,400) that
takes place during the 3rd month of the 1st quarter.
Purchases 1st, 2nd, and 3rd month of qtr = Units produced during month *
($10+$5+$2). For the 1st quarter, the payments also include 2/3 of the

targeted increase in raw material inventories (from $9,000 to $11,400) that
takes place during the 3rd month.
Although the problem does not require it, the sample spreadsheet shows a
reconciliation of total raw material purchases to total cash disbursements for
purchases. This type of reconciliation is useful because it provides a check on the
mathematical accuracy of the cash disbursements schedule.
Reconciliation of Purchases to Cash Disbursements
Total purchases
Add beginning accounts payable
Less ending accounts payable
Total cash paid for purchases

$1,365,800
13,000
(15,111)
$1,363,689

The cash disbursements for raw material purchases are then combined with other
disbursements in the cash disbursements budget shown below. Notice that the input
section of the spreadsheet (shown at the beginning of the solution for Part 4) is designed


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10-24 Cost Management
to facilitate preparation of the cash disbursements budget; the percent of fixed costs paid
during each quarter is included in the input section.
CASH DISBURSEMENTS BUDGET

Raw material purchases

Direct labor paid
Variable overhead costs paid
Fixed overhead costs paid:
Property taxes
Insurance
Other
Support costs
Income taxes
Subtotal
Purchase equipment
Total Disbursements

JanuaryMarch
$137,756
135,300
49,200

AprilJune
$621,489
660,000
240,000

JulySeptember
$438,222
396,000
144,000

OctoberNovember
Total
$166,222 $1,363,689

132,000
1,323,300
48,000
481,200

14,436
0
14,436
0
28,872
0
67,368
0
0
67,368
163,608
163,608
163,608
163,608
654,432
517,290
517,290
517,290
517,290
2,069,160
0
0
0
0
0

1,017,590
2,269,755
1,673,556 1,027,120
5,988,021
50,000
0
0
0
50,000
$1,067,590 $2,269,755 $1,673,556 $1,027,120 $6,038,021

Here are details for some of the calculations:
Direct labor paid = Units produced during quarter * ($15+$1.50)
Variable overhead costs paid = Units produced during quarter * $6
Payments for property taxes, insurance, support costs, and income taxes are
calculated by multiplying the total cost by the percent paid in each quarter
shown in the input section.
Other fixed overhead costs = (Plant management + Fringe benefits +
Miscellaneous) * 25%. Notice that depreciation is excluded because it is a
noncash expense.
The short-term financing budget includes a summary of cash receipts and disbursements,
which includes interest on the bank loan. It then calculates the estimated amounts repaid
or borrowed on the company’s line of credit. The spreadsheet allows any extra cash to be
deposited in the cash account (but there is no extra cash in this problem). Recall that the
company’s line of credit agreement requires a minimum balance of $100,000 in the cash
accounting, and this account is non-interest-bearing.


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Chapter 10: Static and Flexible Budgets 10-25
QUARTERLY SHORT-TERM FINANCING BUDGET
JanuaryAprilJulyOctoberBeginning
March
June
September November
Total cash receipts
$582,600 $2,534,000 $1,934,000
$770,000
Total cash disbursements
1,067,590
2,269,755
1,673,556
1,027,120
Subtotal
(484,990)
264,245
260,444
(257,120)
Interest on loan
(2,063)
(8,759)
(5,247)
(1,738)
Excess receipts (disb.)
($487,052) $255,486
$255,197 ($258,858)
Loan borrowing (repayment)
$487,052 ($255,486) ($255,197) $258,858
Increase (decrease) in cash

$0
$0
$0
$0
Line of Credit:
Beginning loan balance
Borrowing (repayment)
Ending loan balance

$150,000
487,052
$637,052

$637,052
(255,486)
$381,566

$381,566
(255,197)
$126,369

$126,369
258,858
$385,227

Cash Account:
Beginning cash balance
Increase (decrease) in cash
Ending cash balance

$100,000

$100,000
0
100,000

$100,000
0
100,000

$100,000
0
100,000

$100,000
0
100,000

Less cash minimum balance
Excess cash balance

100,000
$0

100,000
$0

100,000
$0

100,000
$0

100,000
$0

Here are details for some of the calculations:
Interest on loan = Beginning loan balance * 5.5% * 1/4 year
Although the problem does not explicitly provide the beginning cash balance,
it is assumed to be $100,000 because of the minimum balance requirement
and because the company had an outstanding bank loan. It is reasonable to
assume that the company would have reduced its bank loan with any excess
cash.

10.25 Fighting Kites (continued)
A sample spreadsheet showing the calculations for this problem is available on the Instructor’s
web site for the textbook (available at www.wiley.com/college/eldenburg).
A. Assumptions that can be changed:
Revenue assumptions: price per kite and number of kites sold
Direct materials assumptions: price and quantity used for each direct material
Direct labor assumptions: labor hourly rate and number of labor hours per unit in
each department (assembly and packing)
Overhead and support department costs: estimated costs in each category can be
modified