The following scenario relates to questions 21–25.
Corfe Co is a business which manufactures computer laptop batteries and it has developed a new battery which has a longer usage time than batteries currently available in laptops. The selling price of the battery is forecast to be $45.
The maximum production capacity of Corfe Co is 262,500 units. The company’s management accountant is currently preparing an annual flexible budget and has collected the following information so far:
Assuming the budgeted figures are correct, what would the flexed total production cost be if production is 80% of maximum capacity?
An 80% activity level is 210,000 units.
Material and labour costs are both variable. Material is $4 per unit and labour is $5·50 per unit.
Total variable costs = $9·50 x 210,000 units = $1,995,000
Fixed costs = $750,000
Supervision = $175,000 as five supervisors will be required for a production level of 210,000 units.
Total annual budgeted cost allowance = $1,995,000 + $750,000 + $175,000 = $2,920,000.
The management accountant has said that a machine maintenance cost was not included in the flexible budget but needs to be taken into account.
The new battery will be manufactured on a machine currently owned by Corfe Co which was previously used for a product which has now been discontinued. The management accountant estimates that every 1,000 units will take 14 hours to produce. The annual machine hours and maintenance costs for the machine for the last four years have been as follows:
Machine time Maintenance costs
(hours) ($’000)
Year 1 5,000 850
Year 2 4,400 735
Year 3 4,850 815
Year 4 1,800 450
What is the estimated maintenance cost if production of the battery is 80% of maximum capacity (to the nearest $’000)?
Variable cost per hour ($850,000 – $450,000)/(5,000 hours – 1,800 hours) = $125 per hour
Fixed cost ($850,000 – (5,000 hours x $125)) = $225,000
Number of machine hours required for production = 210 batches x 14 hours = 2,940 hours
Total cost ($225,000 + (2,940 hours x $125)) = $592,500, therefore $593,000 to the nearest $’000.
In the first month of production of the new battery, actual sales were 18,000 units and the sales revenue achieved was $702,000. The budgeted sales units were 17,300.
Based on this information, which of the following statements is true?
If the budget is flexed, then the effect on sales revenue of the difference between budgeted and actual sales volumes is removed and the variance which is left is the sales price variance.
Which of the following statements relating to the preparation of a flexible budget for the new battery are true?
(1) The budget could be time-consuming to produce as splitting out semi-variable costs may not be straightforward
(2) The range of output over which assumptions about how costs will behave could be difficult to determine
(3) The flexible budget will give managers more opportunity to include budgetary slack than a fixed budget
(4) The budget will encourage all activities and their value to the organisation to be reviewed and assessed
Flexible budgeting can be time-consuming to produce as splitting out semi-variable costs could be problematic, so Statement 1 is correct.
Estimating how costs behave over different levels of activity can be difficult to predict, so Statement 2 is correct.
A flexible budget will not encourage slack compared to a fixed budget, so Statement 3 is incorrect.
It is a zero-based budget, not a flexible budget, which assesses all activities for their value to the organisation, so Statement 4 is incorrect.
The management accountant intends to use a spreadsheet for the flexible budget in order to analyse performance of the new battery.
Which of the following statements are benefits regarding the use of spreadsheets for budgeting?
(1) The user can change input variables and a new version of the budget can be quickly produced
(2) Errors in a formula can be easily traced and data can be difficult to corrupt in a spreadsheet
(3) A spreadsheet can take account of qualitative factors to allow decisions to be fully evaluated
(4) Managers can carry out sensitivity analysis more easily on a budget model which is held in a spreadsheet
Spreadsheets can be used to change input variables and new versions of the budgets can be more quickly produced, so Statement 1 is correct.
Sensitivity analysis is also easier to do as variables are more easily changed and manipulated to assess their impact, so Statement 4 is correct.
A common problem of spreadsheets is that it is difficult to trace errors in a spreadsheet and data can be easily corrupted if a cell is changed or data is input in the wrong place, so Statement 2 is incorrect.
Spreadsheets do not show qualitative factors; they show predominantly quantitative data, so Statement 3 is incorrect.