Management accounting co (12-14)

International School of Business & Media
Post Graduate Diploma in Business Management (2012-14)
Course Outline – Trimester I
Management Accounting
(Prof. S.B.Subramaniam)
Introduction
Organizations are driven by long term strategy defining the road map for the way going
forward and the targets to be achieved. Managers at all levels within the organization
need to plan, control through timely decisions, their respective area of operation in order
to achieve the goals set. In the process, they have to take a variety of quick and timely
decisions relating to cost and revenue involving their areas of responsibility. The
Management Accountant (also commonly referred to as the Controller) is the key
person who facilitates the process of providing the appropriate and timely information to
the managers across the organization.
Objectives
• To familiarize the students about the structure and set up of an organization,
information requirement at each managerial level in the organization,
• To acquaint them with the type of information that each managers would require
and how they would understand and interpret these,
• To develop an appreciation about the utility of timely information as a vital input
for management information and decision making process.
• In the process, the students would become familiar with how Controllership
function within an organization could serve as a very crucial resource tool
towards achieving the desired plan.
In order to achieve the objective as above, the course will be divided into 6 parts:
• Introduction to Management Accounting - the relevance and purpose,
• Understanding the key cost elements, the cost behavior, and how costs get
classified for better understanding,
• Marginal costing – cost volume relationship and break-even levels,
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• Introduction to some important concepts managerial decisions – pricing decisions
using concepts of Cost plus (full cost), Marginal cost, Target costing. Decisions
on make or buy, invest or outsource, etc, import vs localization etc.
• The preparation of budgets and plan – monitoring actual results through
performance reports and interpretation of variances in taking decisions,
Evaluation:
Assignment /
Surprise quiz
15%
Midterm 25%
Presentation 20%
End term 40%
There will be no makeup for missed tests. If an examination / test is missed
without a valid excuse, students will receive a Zero for that component.
Required Readings:
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Sr.
No.
Title Author Edition Publication
1. Managerial Accounting James Jiambalvo Second John Wiley &
Sons Inc
2. Management
Accounting
Horngren Sundem
Stratton
Fourteenth Pearson
Education
3. Management
Accounting
Anthony A. Atkinson
Robert S. Kaplan
S Mark Young
Fifth Pearson
Education
3. Cases in Management
Accounting and Control
Systems
Bandt R Allen
E. Richard Brownlee
Mark E. Haskins
Luan J Lynch
Fourth Pearson
Education
Journals & websites
• THE JOURNAL OF APPLIED MANAGEMENT ACCOUNTING
RESEARCH(JAMAR)
• Management accounting research (Elsevier)
• www.journals.elsevier.com/management-accounting-research
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Management Accounting - Introduction
• What is Accounting? The basic purpose of Accounting is to help capture correct
information on the business proceedings of any organization. In a way, it
resembles the lens in the camera which captures and records the business
proceedings.
• The information captured is reproduced and presented in a manner to make it
meaningful to the users.
• Users of information generally fall into two categories:
o External Parties – investors, government and tax authorities, lenders and
creditors,
o Internal parties – Managers at all levels of any organization,
• Each of above users would require information which would help in taking
decisions from their own perspective,
• Source of Information for External users is generally from Financial
Accounting records - comprises of the Audited Financial Statements viz.
Balance sheet, Profit & Loss, and Cash flow Statement,
• Source of information for internal users –
o not restricted to the financial statements from Financial Accounting
records,
o any information that helps the concerned managers plan, control, decide
and take corrective actions.
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• Management Accounting deals with the portion of information which involves all
managers within the organization to generate the right type of information
required and use them for timely decisions.
Distinctions - Management Accounting vs Financial Accounting:
Management Accounting Financial Accounting
1. Primary Users Organization managers at
all levels
Outside parties,
2. Flexibility / freedom
of choice of
information
No constraints ; highly
flexible; the only constraint
could be governed by cost-
benefit considerations in
making available the
information,
Information should comply
with the framework as
governed by Generally
Accepted Accounting
Practices (GAAP)
3. Behavior
implications in
selecting accounting
measures
Choice depends on how
measurements would
influence managers in
taking the right decisions
and actions to adhere to the
targets set,
The designing of the
accounting format is
governed by standards to
generally suit the use of the
external users, but is not
the primary consideration
4. Time focus of reports Future orientation –
generally use of budgets as
well as historical data from
financial accounting
information, Example:
Budget vs actual
Historical data: Actual PY
vs CY
5. Time span of reports Highly flexible: varying from
hourly to span of 10 to 15
years.
Usually one year; for listed
companies quarterly
extracts,
6. Types of reports Reports can be relating to
company as a whole, on
specific business segment,
departments, products,
territories, etc.
Reports are in a
summarized form for the
entity as a whole
7. Use of cost
accounting
Embraces and includes
areas of cost analysis, cost
management, and cost
accounting techniques,
No detailed information on
cost except for comparative
information on major
expenses heads – PY vs
CY
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8. Information source Could be financial ,non-
financial data from
transactions level, or from
the data from the
accounting records
Is built on financial
transactions as captured
9. Establishing
credibility factor
Onus is primarily on the
controller or the source
from where information is
originated to ensure
acceptability is established,
Generally audited
statements are accepted on
face value
A Brief Case study (Case Study 1)
Mr. Braganza is the CEO of Bright Star Limited, which manufactures and sells
consumer electronics and durables. The company manufactures and sells a wide range
of consumer electronic products viz. televisions, washing machines, refrigerators, &
audio appliances. The products enjoy a fairly good reputation for its quality and brand in
the market. The company has a build a good network for distribution of its products all
over India.
Braganza has a Board meeting scheduled in about two weeks’ time. The main item in
the agenda is to discuss and approve the audited annual results for the year ending
March.
Mr.Jacob, the CFO, has just finished the audit of accounts for the year ending 31st
March 2012. He looks very relieved after a very hectic schedule of very long working
hours without any week-end breaks.
Branganza picks up the inter-com and asks Jacob “Are you through with the final
audited figures?” A relieved Jacob replies” Yes, we are finally through. I am just mailing
you the summarized results in a few minutes”.
In the next ten minutes Braganza receives the mail from Jacob giving the summary
results for the company for the year ending March 2012.
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Following are the excerpts from the summarized results:
(Rs Million)
Current Year -
31st March
2012
Previous
Year - 31st
March 2011
Rs Rs
Sales 6250 5000
Les:Cost of Goods Sold 4563 3350
Salary and other manufacturing cost 563 300
Selling & distribution exp 438 250
Administrative expense 563 400
Financial cost (Interest exp.) 313 200
Total Expenditure 6438 4500
Net Profit/ (Loss) -188 500
Financial Results of Bright Star Ltd
Braganza is shocked to see the company has reported a loss figure of Rs 188 million as
against profit of Rs 500 Million in the previous year. He immediately calls .Jacob to his
room.
A worried CEO asks Jacob “I cannot understand how the results can show a loss
especially when we have done extremely well in the sales front. We had planned an
overall turnover target of 20% increase over the last year. We have had regular reviews
on the sales achievement vis-à-vis target with our marketing team in all business
groups. Except for the appliances segment where we managed to hold on to our last
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year figures (which is incidentally a very small and negligible portion of our overall
business portfolio), in all the other main business segments, and we had right through
done better compared to both the last year as well as our plan. In fact, we achieved a
record 25% increase in the sales over the previous year which is the highest ever since
the inception of the company. I think you need to recheck the numbers thoroughly once
again and get back to me latest by tomorrow morning. We have to discuss this once
again tomorrow first thing in the morning. I am very hopeful you would get to me back
with some better bottom line figures.”
Jacob gets back to his room and calls his two able accounts assistants. “Guys, we need
to recheck the audited numbers finalized and I have to get back to the CEO latest by
tomorrow morning. Since we have very limited time, let’s quickly carry out overall
control checks and look if there are any major incorrect major wrong bookings in any of
the cost heads. We would have long day ahead and I do not see an option but to burn
the midnight oil tonight as well.”
The Accounts of the company are maintained on SAP, one of the best internationally
acclaimed ERP tool available in accounting. The accounts assistants have been trained
well and have a good expertise in the financial accounting module of SAP. Periodic
checks and confirmations from the suppliers and customers account are obtained to
ensure there are no discrepancies with the records maintained by the company. As at
end March 2012, for the first time Jacob has ensured that there has been a 100% check
and confirmation on all the balances from suppliers and customers obtained. .
He has a discussion with the Company’s auditor to find out if the auditor has any
specific observation which could have an impact in improving the bottom lines figures.
The auditor replies” We have carried out all necessary checks including system
compliance checks on SAP. We have not come across any instance of wrong booking.
We had some observations regarding the provisioning of some marketing expenditure,
which was not done earlier but all these have already been corrected and incorporated”.
Next day first thing in the morning, Jacob hurries up to Branganza’s room. He starts the
discussion” Sorry Chief, we have spent the entire yesterday afternoon and night.I am
unable to give you any better information. We have rechecked the figures and have no
found there are no glaring mistakes. So the figure as given earlier stands. As you may
be aware, our accounting systems are fairly good and maintained in SAP and we have
carried out all possible checks and do not find any changes in the figures as reported.
Both me and the auditor are ready to certify the correctness of the figures.”
Is there anything the CEO and his team could have done better?
How do you think CEO and his team should prepare themselves for the forthcoming
Board Meeting given the short time?
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What steps and actions could CEO and his team take in the current financial year.
Suggested Model Answer
Point 1: Could the CEO and his team done anything better?
• CFO seems primarily involved in financial accounting, annual book
closure and audit activity.
• He should have also involved himself in controllership function by
supporting the CEO in generating timely management information
reports and holding regular reviews with the respective functional
heads viz. Purchase, production, Marketing etc. This would have
helped the organization in monitoring the costs much better..
• CEO’s focus has been top line driven and has primarily focused on
the turnover. He does not seem to have given much attention in
understanding and analysis of cost at the various functional
managerial levels,
• In the absence of timely information and review, the company failed
to control some of the major cost elements resulting in losses for the
financial year last ended,
Point 2: How should be CEO and his team prepare for the forthcoming
Board meeting?
• It is clear from the data that the company failed to control costs and
almost all cost components show major increase over the previous
year, (comparative data analysis – CY vs PY)
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• CFO should analyze data further – look at data in the individual
business segments and check whether one or more is /are
responsible for the losses,
• Check within the product segments which are the specific products
contributing to the overall losses;
• Analyze major cost components and check for increases in cost or
any decrease offered in the product selling prices,
• Having identified the reasons for the cost over-runs, there must be a
list of corrective action plan.
Point 3: What steps should the CEO and his team take in the current
financial year?
• Controllership function should be in put in place;
• Maximum use of the SAP tool should be made in trying to get the
best out of the available resource,
• This would facilitate the process of establishing a good reporting
system,
• A detailed budget and plan should be worked out for the year which
should be broken down to the individual functions,
• Managers in all functions should have timely information about their
areas of performance and cost implications
• Action points should be identified and pursued regularly in each
review till closure,
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Managing Costs
Points to be remembered:
1. Revenue – Cost = Profit,
2. In competitive situation, Revenues are not fully in control due to
extraneous factors viz. government policies, competition around, etc;
it is the Costs which have to be managed very carefully,
3. Companies are run by managers; Managers cannot control costs
unless they have a very good understanding about the cost,
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Understanding Costs
1. What influences the creation of cost?
• Example comparing a large organization using large amount of
resources vis a vis small organization using lesser resources,
2. Resources results in costs; Resource comprises of people,
machines and equipment, land building, etc.
• Example comparing a large organization using large amount of
resources viz a viz small organization using lesser resources,
3. Resources can results in costs –
• By their mere existence – salary of people, machines,
• On their usage by performing an activity,
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4. Crux lies in how smartly resources are deployed and managed,
• Examples and impact of unproductive resources – people not
productive and contributing, idle machines, etc.
Understanding cost behavior
1. How do costs behave?
a. Example of human behavior depending on specific situation,
2. Costs that change directly in proportion to change in the volume
of output –Variable costs
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a. In general, these costs should result in increase of output and
revenue,
3. Costs that do not immediately change with change in volume of
output – Fixed cost,
4. Total Costs =Variable + Fixed; in other words, Sales- Variable
Cost – Fixed Cost = Profit
a. Illustrative Example of Variable and fixed cost and
demonstrate,(refer to prescribed books)
5. With change of volume of output; (present in matrix form)
a. Fixed cost –
• In Absolute terms - no increase / decrease,
• Cost per unit – increases / decreases
•
b. Variable cost –
• In Absolute terms - increases / decreases,
• Cost per unit – no increase / decrease
Significance of the “Relevant” Range in Cost Behaviour
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 Behavior of cost as fixed or variable generally holds so long as activity is within a
certain relevant” range,
 Fixed Cost - likely to remain within a certain band width,
 Variable cost – Unit cost is likely to remain within a certain band so long
as operating activity remain within the bandwidth,
Break-Even Levels
 The level at which the Sales = Cost; in other words Profits = 0,
 Sales = Variable cost + Fixed Cost,
 Sales – Variable Cost = Fixed Cost,
 Contribution = Fixed cost,
 Break Even sales (expressed in terms of value) = Contribution Margin Ratio (i.e
Total Contribution / Total Sales Value)
 Break even ( expressed in terms of number of units ):
 Fixed Cost/ Contribution per unit,
Key Factors influencing Break-Even Levels
 Selling price of the product (or sales value)
 Variable Cost per unit (or variable cost)
 Fixed Cost,
Any change in any of the above would have an impact in the break-even levels. If
an organization is able to reduce the variable cost or fixed cost, or increase the
selling price, it will result in the break-even levels coming down. Conversely, if
the cost goes up or the selling price comes down, the break-even level would go
up.
In a multi-product environment, any variation in the product mix can also have an
effect in the overall cost, contribution and consequently the break-even. For
example, if there an organization sells more of product A which has a higher
material cost content compared to product B, it would result in the break-even
levels going up.
Case Study 2
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Short Case Study - Stay Healthy (Part A)
Mr.Joseph is keen on starting a restaurant business in Pune.
He would like the restaurant to cater to multiple choice of food dishes which
will include Indian, Chinese, as well as Continental items.
“I would not like to restrict my customers by providing limited choice of
food. My restaurant should be open for all categories of people, cast and
religion should be no bar”.
Joseph has identified a suitable place in Central Pune for a monthly rental
of Rs 75,000/-.
He has worked intensely on this project and also identified the entire list of
equipment required. Based on the final quotations received from the
various vendors, the cost of all the equipment put together is estimated as
Rs 25 lacs.
He has also got in touch with a professional interior designer to help him
out with exquisite interiors for the restaurant including central air
conditioning systems. “The ambience should be exquisite and should
automatically attract customers to visit again”, he tells his interior designer.
After two rounds of negotiations, the designer has given his final estimate
of Rs 15 lacs for the entire work to be carried out.
He feels the life span of the equipment and the interiors should be good
enough to last for 5 years.
Based on a survey done by him in the neighborhood area for similar
restaurants, he discovers that that the average price per plate for a
customer charged is at Rs 400/-. He strongly feels Stay Healthy should be
able to get the same price per plate especially considering that he should
be able to provide good quality food, better variety in dishes coupled with
exquisite ambience.
Joseph has made a detailed cost estimate of all items of vegetable and
ingredient required. The estimated cost of the vegetable and ingredient per
plate works out to Rs 280/- per plate. Apart from this, he has estimated the
cost of power, fuel, etc. which would be required to run the kitchen and
serve the food for customers. He has estimated this as around Rs 50/- per
plate.
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He intends to engage 8 employees including experienced chefs, helpers
and a manager. Their monthly salary bill is estimated as Rs 4,40,000/-.
Apart from this, he also estimates other establishment cost which are
expected to be incurred at an average monthly Rs 2,00,000/- per month.
The restaurant would have no holiday and would be open on all the days.
Mr.Joseph feels with the initial investment and infrastructure planned, he
should be easily able to cater upto 400 customers a day. To start with, he is
confident of billing minimum 200 plates a day.
You are Joseph’s Financial Advisor. As his financial advisor, he now seeks
your opinion on the following:
• How much profits can he make in the first year on selling 200 plates
in a day?
• How much should be the minimum number of plates he should sell in
a day as to ensure he does not make any losses?
• He is also keen to know what could be his incremental earnings if he
is able increase the sale from 200 to 300 plates per day?
Please advise Mr.Joseph with your computation and findings.
Case Study 3
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Short Case Study - Stay Healthy (Part B)
After 3 months of running the business, Mr.Joseph discovers that he is not
in a position to bill more than 225 plates per day and he does expect the
situation to improve by end of the first year.
He is of course very concerned about the losses that he would suffer since
he is unable to reach the break- even levels.
He is now in desperately in negotiation with some corporate clients. One of
the clients is keen to offer him a contract for a period of 9 months (working
for 20 days a month) to supply 200 plates a day. They have quoted a price
of Rs 360/- per plate. He is aware he may have to drop the price from his
normal price of Rs 400/- per plate to other customers. He is confident of
fulfilling the order with the existing infrastructure and equipment available
except that he may require to employ 2 additional people at Rs 50,000 per
month and there would be some additional packing and logistics cost of Rs
25,000/- per month.
Joseph once again approaches you and seeks your advice as to:
1. Whether he should accept the order at the offer quoted by the
company?
2. What should be the price he should accept in order to ensure he
does not make any losses in the first year of operations.
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Case Study 4
Short Case Study - Stay Healthy (Part C)
After 3 months of running the business, Mr.Joseph discovers that he is not
in a position to bill more than 210 plates per day and he does not expect
the situation to improve by end of the first year.
He is of course very concerned about the losses that he would suffer since
he is unable to reach the break- even levels.
He is now in desperately in negotiation with some corporate clients. One of
the clients is keen to offer him a contract for a period of 9 months (working
for 20 days a month) to supply 175 plates a day. They have quoted a price
of Rs 325/- per plate. He is aware he may have to drop the price from his
normal price of Rs 400/- per plate to other customers. He is confident of
fulfilling the order with the existing infrastructure and equipment available
except that he may require to employ 2 additional people at Rs 50,000 per
month and there would be some additional packing and logistics cost of Rs
25,000/- per month.
Joseph once again approaches you and seeks your advice as to:
1. Whether he should accept the order at the offer quoted by the
company?
2. What should be the price he should accept in order to ensure he
does not make any losses in the first year of operation.
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Learning from the case study: Stay Healthy
1. Based on understanding of the behavior pattern of cost, it should be
possible to forecast the cost, revenue and profit at different activity
levels within a given capacity,
2. Variable cost and contribution –
a. per unit of sale normally remains the same for different activity
levels
b. in value terms varies with the change in activity or level of
output,
3. Fixed Cost –
a. Per unit of sale varies and comes down with higher activity level
through better utilization of resources.
b. In value terms remains constant with the change in level of
activity of output,
4. Based on understanding of the behavior, it is possible to predict the
Break-even level ( No profit no loss levels),
a. Lower the break-even levels in relation to capacity, the better
the chances of achieving higher profits through higher utilization
of resources,
b. Higher the break-even levels, greater the threat of viability and
lesser the chances of improving profits through higher activity
levels,
5. The important triggers that influence break-even:
a. Selling price
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b. Variable cost per unit,
c. Fixed cost,
d. Product mix,
6. Break-even levels vary with the change of any one or more of the
above,
7. Cost at different levels can be predicted based on the incremental or
marginal cost and incremental or marginal revenue,
8. Can be helpful in the context of pricing decisions especially in
instances of accepting or rejecting a special order,
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Understanding cost:
1, According to its behavior – Variable or Fixed,
• The distinction between whether anexpenditure should be
categorized as variable or fixed would depend largely on the
behavior of the expenditure in the specific situation. For example:
Expenditure on Repair and Maintenance – Expenditure on repairs
of a machine could be categorized as variable; whereas the
annual maintenance contract could be categorized as fixed. Salary
of employees – monthly salary shall be categorized as fixed,
whereas payments linked to productivity or performance of an
improvement activity could be categorized as variable,
• While it is to be understood that variable cost per unit or fixed cost
remains constant with changes in activity levels within a given
capacity, from a practical perspective it needs to be understood
that these would remain constant within a given range; it does not
usually remain an arithmetically constant figure. It is therefore
important to understand the relevant range within which the
variable cost per unit or fixed cost remains constant.
2. According to its function –
In any organization, cost depends largely on the following factors:
• How the activities in the organization are aligned according to its
primary functions
• The organization structure – the resources in terms of people,
machines and equipment deployed. Deployment of resources
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triggers cost. Higher the resources, higher the likelihood of costs.
This depends on the size and complexity of the organization
structure.
.
What are the primary functions typically in any organization?
- Production – buy materials, store, produce,
- Research & Development – working on products for the future
- Selling and distribution, - distribute and sell,
- Administration (Support services)
3. Booking and classification of costs:
- Cost centre,
- Cost centres are mapped to a primary functional area,
- Within each cost centre expenses get booked with specific expense
head which are the Cost elements,
4. What are cost centres?
- these are individual centres within the organization headed by a
functional head who would be responsible for the costs in his cost
centre,
- Organizations have the flexibility to choose the name the cost
centres and the numbers – this would largely depend on the size of the
organization, and, the availability of tool for ease of handling for
reporting,
5. Cost Elements:
- Organizations have the flexibility to choose the name the cost
element and the numbers – this would largely depend on the size of the
organization, and,
- Availability of tool and the ease of handling for reporting,
9. Cost Pool:
- Cost elements are pooled into generic category for convenience of
reporting,
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International School Of Business & Media
Management Accounting 2012-14 (Section A)
Case Study 5
Over the last twelve years, Bright Star Ltd enjoys the status of being one of
the leading manufacturers of consumer appliances in the country. The
company manufactures and sells a wide range of consumer electronic
products viz. televisions, washing machines, refrigerators, & audio
appliances. The products are marketed under the brand name “BSL”.
Brand BSL has been ranked among the top five brands in the country. The
products have a fairly good reputation for its quality and after-sales service
in the domestic market. The company has successfully built a wide
distribution and service network for its products all over India.
During the last year’s annual conference of all senior managers of the
company, one of the items in the agenda was to review its overall
marketing strategy and invite suggestions from the managers on new
marketing initiatives. After due deliberations and intensive brain-storming
session, one of the significant points that came up was that the company
had virtually no presence in the global market. While the company had
done well in establishing its brand and presence in the domestic market, it
had not succeeded in making its presence felt in any of the overseas
market. There was consensus among all managers that the company
should now also work towards becoming global and gradually making its
foot-hold overseas.
In pursuance of this strategy, the Company appointed Mr. Rajeev Bhatia as
the General Manager Exports for the group covering all the product
segments. Rajeev was well experienced with good dealership contacts in
the overseas market. His last assignment was an overseas posting in
Thailand with one of the leading MNC consumer durables. Rajeev
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assumed charge of BSL export business around four months back and had
been working intensely in trying to get some initial break-through. He found
that trying to get entry into any of the overseas market was quiet tough with
some of the reputed multi-national brands already well entrenched in these
markets. After a great deal of persuasion, he finally managed to get an
order from one of the dealers in Thailand.
Rajeev was highly relieved in getting this initial break-through. Since his
joining, over the last three months during the performance reviews with his
CEO, Mr.Branganza, he had nothing concrete to share in terms of his
achievement except his assurance that he was working hard in trying to get
some initial break-through.
The next morning a very excited Rajeev is eager to share the piece of good
news with his CEO. He walks in straight to the CEO’s office and to his
pleasant surprise finds him alone. He immediately shares the news about
the break-through on the export order. “Good job, Rajeev; so how much do
we have to supply and what is the price? I hope you are able to get better
prices compared to what we are selling in the domestic market.”
Rajeev presented in brief the gist of the order which covers annual supply
of:
Televisions – 50,000 sets @ $360/- set,(Domestic price-Rs 25,995/-)
Washing Machines – 30,000@ $220/- set,(Domestic Price-Rs15,493/-)
Refrigerators – 25,000 sets @ $290/- set,(Domestic price – Rs 19,220/-)
Audio set - 75,000 sets @ $125/- per set.(Domestic price – Rs 9006/-)
Mr.Braganza is not too impressed looking at the prices. “The volumes are
good to start with but prices not attractive enough. Even considering that
the current $ to Re exchange rate is hovering at a high of Rs 55/- to a
dollar, the prices for all the products would still work out lower than what we
sell in the domestic market. You are aware that we struggle to maintain
reasonable margins in the domestic market. Please discuss with Finance
and get their views before we can take a final decision on accepting these
prices”.
Rajeev walks out of the CEO’s office and gets in touch with the colleagues
in Finance. He meets the CFO, Jacob along with his junior assistant,
Mr.Sunil, who looks after the company’s Management information
Reporting systems. Sunil is entrusted with the task of working out the
implications on accepting the price for the export contract.
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After around two hours, Sunil gets in touch with Rajeev and informs him
that he is through with his workings.
For the purpose of his workings, he has used the actual historical data for
the recent year ended March. He felt this would be the closest
representation of the current level of cost incurred by the company.
The following are the details he shares with Rajeev:
The financial results for the recent year ended March -
Rs Crores
Televisio
ns
Washing
M/c
Refrigerat
ors
Audio &
other
appliance
s
Total
Company
Sales 3,400 1,650 1,970 725 7,745
Cost of goods produced & sold 2448 1238 1478 537 5700
Gross margin 952 413 493 189 2,046
Gross Margin% 28 25 25 26 26
Research & Development Cost 133 69 83 41 326
Selling & distribution exp 306 149 143 120 717
Marketing cost 187 83 108 61 439
Distribution Cost 119 66 34 59 279
Administration expense 209 101 121 81 512
Financial cost 68 33 39 21 161
Total Cost 3164 1590 1864 799 7416
Net Profit/ (Loss) 236 60 106 -74 329
In addition to the above, he has used the data on the number of units sold
during the last year. Based on these data, he has worked out the per unit
cost for each of the product as below:
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Installed Capacity (Number of Units) 1,500,000 1,200,000 1,500,000 1,200,000
Number of units sold 1,308,000 1,065,000 1,025,000 805000
Average Selling price per unit 25,994 15,493 19,220 9,006
Cost of production per unit 18,716 11,620 14,415 6,665
Research & development cost Per unit 1,014 651 807 509
Selling and distribution cost 2,339 1394 1393 1491
Administration cost 1,599 953 1182 1003
Financial cost 519.88 310 384 259
Total cost per unit 24,187 14927 18182 9926
Net margin per unit 1,807 565 1038 -920
The computation of the incremental cost and revenue for the export order is
as follows:
Additional Export Order TV W/M Refrigerators Audio
Number of units to be sold annually 50,000 30,000 25,000 75000
Average Selling price per unit 360 220 290 125
Average Selling price per unit 19,800 12,100 15,950 6,875
Incremental Revenue & cost for Additional Export Orders
(Rs Crores)
Televisi
ons
Washin
g M/c
Refriger
ators
Audio &
other
applian
ces
Total
Compa
ny
Incremental Sales (Sales
price per unit X Number of
units) 99 36 40 52 227
Incremental Cost (Cost per
unit X Number of units) 121 45 45 74 286
Net margin (22) (8) (6) (23) (59)
Net Margin% (22) (23) (14) (44) (26)
The conclusions summarized by Sunil were:
• In view of the fact that the incremental costs exceed the incremental
revenue in all the product segments, it would not be advisable to go
ahead with the export order at these prices.
• We could consider accepting the order if the customer is agreeable to
revise the prices upward for each of the product segments.
27

o Televisions – additional $80 per set (revised price should be
$440/-)
o Washing M/c – additional $51 per set (revised price should be
$271/-)
o Refrigerators – additional $41 per set (revised price should be
$331/-)
o Audio – additional $ 55 per set (revised price should be $180/-)
Rajeev is obviously extremely disappointed looking at the workings
and the conclusion as summarized. He looks into the workings and
makes one observation. “I think you should exclude the
administration cost. I strongly feel this should be excluded from the
incremental cost that you have considered. Your conclusions could
possibly be different then”
Sunil reluctantly agrees and makes some quick alterations in his
workings. His revised results are as follows:
Televisio
ns
Washing
M/c
Refrigerat
ors
Audio &
other
appliance
s
Total
Company
Incremental Sales (Sales price per
unit X Number of units) 99 36 40 52 227
Incremental Cost (cost of goods
per unit Less Admin cost Per unit
X Number of units) 113 42 42 67 264
Net margin (14) (6) (3) (15) (38)
Net Margin% (14) (15) (7) (30) (17)
He now summarizes his results and concludes as follows:
• In view of the fact that the incremental costs even excluding the
administration cost still exceed the incremental revenue in all the
product segments, the conclusion does not change and it would not
be advisable to go ahead with the export order at these prices.
28

• We could consider accepting the order if the customer is agreeable to
revise the prices upward for each of the product segments.
o Televisions – additional $51 per set (revised price should be
$411/-)
o Washing M/c – additional $34 per set (revised price should be
$254/-)
o Refrigerators – additional $41 per set (revised price should be
$309/-)
o Audio – additional $ 55 per set (revised price should be $162/-).
Not fully convinced and highly disappointed with the outcome, Rajeev now
approaches the CFO and seeks his guidance and views. Rajeev informs
the CFO” We cannot afford to lose this annual contract. This is likely to set
the foundation for future bigger contracts. We have negotiated hard in
getting the best prices considering the intense competition. Anything
beyond this would be impossible to pursue, and we would end up losing the
contract to our competitor”.
29

Case Study 6 (contd from 5)
CFO has a look at the workings done by Sunil. While he is convinced about
the bright future business prospect of BSL having a good overseas
presence on execution of this contract, he is clear that the company should
not lose money in the process. He asks Sunil to do the following:
1. Get into the break-up and details of the major expense head under
each of these functional areas of cost.
2. Based on each major head of expenditure, identify the costs which
would be relevant to the export contract and the ones which would
not have any relevance or impact on the export contract. Please
rework the proposal on these lines”.
Sunil gets back to his desk, and starts reworking on the data.
1. Against each functional area viz. cost of production, selling &
distribution, Administration cost, he gets the major head of
expenditure incurred.
2. Next, against each of the expense head, he carries out a validity test
as to whether these are relevant to the export contract.
30

3. Based on the above working, he has now been able to regroup the
historic information from the financial results classifying between what
would be relevant to the export contract and what would not be
relevant.
The figures after regrouping and recasting looks as follows:
Televisio
ns
Washing
M/c
Refrigerat
ors
Audio &
other
appliance
s
Total
Company
Co
clas
fica
n
Sales 3,400 1,650 1,970 725 7,745
Net sales of products 3,100 1,450 1,695 650 6,895
Other income 300 200 275 75 850
Cost of Materials Consumed 2040 1073 1221 450 4783 Relev
Direct Personnel Cost - contract
labour 68 33 39 7 148
Relev
Salary - workers and production
supervisors 102 50 49 22 223
No
relev
Depreciation on production
machines 102 33 79 29 243
No
relev
Plant maintenance & related cost 68 16.5 30 7 121 Relev
Cost of Power 68 33 59 22 182 Relev
Gross margin 952 413 493 189 2,046
Gross Margin% 28 25 25 26 26
Research & Development Cost 133 69 83 41 326
Personnel Cost R&D 51 25 30 25 130
No
relev
Lab testing cost 17 8 10 4 39
No
relev
Deprecation on R&D equipment 26 11 13 5 54
No
relev
Electricity cost 22 9 11 4 46
No
relev
Other cost 17 17 20 4 57
No
relev
31

Contd..
Televisio
ns
Washing
M/c
Refrigerat
ors
Audio &
other
appliance
s
Total
Company
Co
clas
fica
n
Selling & distribution exp 306 149 143 120 717
Marketing cost 187 83 108 61 439
Personnel cost - salary (marketing
staff) 17 8 10 21 56
No
relev
Personnel cost - incentive 9 4 5 2 19 Relev
No
relev
Branding and publicity 85 33 49 18 185
No
relev
Commission to dealers 68 33 39 18 159 Relev
Distribution Cost 119 66 34 59 279
Personnel cost - salary (logistics
staff) 34 33 10 31 108
No
relev
Rent - warehouse 51 17 10 10 87
No
relev
Transportation cost 34 17 15 18 83 Relev
Administration expense 209 101 121 81 512
Personnel cost - Support services 102 50 59 51 262
No
relev
Rental office building 85 41 49 25 201
No
relev
No
relev
Travel 9 4 5 2 19
No
relev
Communication 5 2 3 1 12
No
relev
Financial cost 68 33 39 21 161
Interest on working capital 17 8 10 10 45 Relev
Interest on long term loans 51 25 30 11 116
No
relev
Total Cost 3164 1590 1864 799 7416
Net Profit/ (Loss) 236 60 106 -74 329
32

Based on the above analysis, CFO asked Sunil to recast the results which
looked as under:
Televisi
ons
Washing
M/c
Refriger
ators
Audio &
other
applianc
es
Total
Compan
y
Sales 3,400 1,650 1,970 725 7,745
Net sales of products 3,100 1,450 1,695 650 6,895
Other income 300 200 275 75 850
Variable Cost 2372 1217 1418 534 5541
Variable Cost Per unit 18,131 11,426 13,838 6,631
Direct Personnel Cost - contract labour68 33 39.4 7 148
Plant maintenance & related cost 68 17 30 7 121
Cost of power 68 33 59 22 182
Personnel cost - incentive 9 4 5 2 19
Commission to dealers 68 33 39 18 159
Transportation cost 34 17 15 18 83
Interest on working capital 17 8 10 10 45
Contribution 1,029 433 552 191 2,204
Contribution Per unit 7,863 4,067 5,381 2,375
Contd…
33

Televisi
ons
Washing
M/c
Refriger
ators
Audio &
other
applianc
es
Total
Compan
y
Fixed Cost 792 373 445 265 1,876
Salary - workers and production supervisors102 50 49 22 223
Depreciation on production machines102 33 79 29 243
Personnel Cost R&D 51 25 30 25 130
Lab testing cost 17 8 10 4 39
Deprecation on R&D equipment 26 11 13 5 54
Other cost 17 17 20 4 57
Personnel cost - salary (marketing staff)17 8 10 21 56
Branding and publicity 85 33 49 18 185
Personnel cost - salary (logistics staff) 34 33 10 31 108
Rent - warehouse 51 17 10 10 87
Personnel cost - Support services102 50 59 51 262
Rental office building 85 41 49 25 201
Travel 9 4 5 2 19
Communication 5 2 3 1 12
Interest on long term loans 51 25 30 11 116
Net Profit/ (Loss) 236 60 106 -74 329
Based on the above data, he reworks the incremental cost and revenue for
the export order which now looks as under:
34

Additional Export Order
Number of units as per annual export contract 75,000 45,000 50,000 100000
Average Selling price per unit ($) 360 220 290 125
Average Selling price per unit (Rs) 19,800 12,100 15,950 6,875
Televisi
ons
Washing
M/c
Refriger
ators
Audio &
other
applianc
es
Total
Compan
y
Incremental Sales (Sales
price per unit X Number
of units) 149 54 80 69 351
Incremental Cost
(Relevant Cost per unit X
Number of units) 136 51 69 66 323
Net margin 13 3 11 2 29
Net Margin% 8 6 13 4 8
Based on the revised workings, the following were the conclusions as
summarized:
1. Financial Perspective: In view of the fact that the incremental costs
are lower than the incremental revenue, the company should be in a
position to earn additional profits of Rs 8 crores annually on executing
the above order.
2. Risk Perspective: The exchange rate of the dollar to the rupee could
result in dilution of the margins in the event of the dollar weakening
vis-à-vis the rupee. However, this risk could be mitigated by taking
suitable covers of the dollar to the rupee.
35

3. Other qualitative factors – The Company should be in a position to
make a strong entry in the overseas market. The execution of the
contract would help building up its global presence which has been
one of the primary objectives.
36

Learning Outcome from the Case Study
1. Accounting or historical information must be very carefully used in the context
of any decision having a bearing on the future. If not properly used, decisions
blindly based on historical data can be completely misleading.
2. Only Costs and revenue which are relevant to the decision should be
identified and analyzed while taking decisions,
3. In the context of pricing in a competitive scenario it could consider pricing
based on marginal cost basis especially where the organization has spare
capacity available, rather than adopting full cost basis may not be the
appropriate method,
4. While taking any decision, it is always prudent to Identify risk and qualitative
factors associated with the decision. Evaluate range or extent of possible risk
considering the best case, worst case, and most likely.
5. Final conclusion / decision should be based after considering all the following
factors:
a. Financial consideration / viability
b. Risk factors and implications to the organization,
Other qualitative factors and implications to the organization
37

Product Cost and Pricing
Basic Principles in Pricing decisions:
How to price a product?
One of major decisions managers face is how do you price a product. Pricing can
take many forms and can be looked upon from different perspectives. In
addition to pricing special orders, managers often have to make pricing decisions in
various situations;viz.
1. In the context of accepting additional volumes within the relevant range,
2. Special orders,
3. Pricing a new product,
Organizations normally adopt certain principles and guidelines in the context of
pricing. The objective behind these principles and guidelines would be to primarily
ensure that the organization does not suffer any loss in view of wrong pricing
decisions.
Most organizations have a well defined framework within which the Manager can
take any decisions relating to pricing. Any decision beyond his framework goes
through an escalation process before a final decision to decision to accept or reject
the price is taken.
A typical example of a price escalation model:
At full cost plus 15% or
more
Level 1: The concerned sales manager dealing directly
with the customer
At full cost plus upto 5% Level 2: The Marketing Manager
Below full cost but
exceeding a certain
percentage over cost of
goods sold
Level 3: Zonal / Country Manager with CFO/Finance
Head
Below full cost and even
below the threshold
percentage but exceeding
cost of goods sold
Level 3: CEO / Business Head with CFO/Finance Head
38

Below cost of goods sold Level 4: Director /Board level as recommended by CEO
and CFO
What is cost plus pricing?
COST + DESIRED MARKUP = PRICE
Typically the model for pricing a product pricing shall be cost plus pricing. Cost is
computed on full cost basis - bifurcation between variable and fixed would not be so
relevant in the context of pricing based on full cost, (it could still be useful in
predicting cost at different levels or understanding Break-even levels),
This pricing model would normally include all the components of cost involved upto
the point of selling the product to the customer.
- Cost of production
- Selling and distribution cost,
- Administration cost
- Finance cost,
What influences cost?
Full cost is a direct reflection of the efficient or inefficient manner in which the
company manages its costs in the entire value chain,
Higher the productivity and efficiency of the value chain, lower the costs; lower the
productivity or efficiency higher the costs,
What influences Mark-up?
The mark-up to a great extent depends on the demand of the customers for the
product,
Higher the demand of the customers for the product, higher can be the mark-up; on
the other hand lower the demand of customers, companies may have little choice
but to compromise on the mark-up;
39

“Mark-up” cannot be merely based on the wishful thinking of any organization,
What Influences Price?
Price an organization can get is a combination of:
- how efficiently a company manages its costs in its entire value chain, &
- The demand of the customers for the product,
Higher the efficiency of the company in managing costs lower, the higher can
command on the “mark-up” and vice-versa,
ULTIMATELY, PRICES TO END CUSTOMERS ARE MOSTLY DRIVEN BY
MARKET
Why Cost Plus pricing?
In the long run, the company must be in a position to recover its full cost (even if
some costs are fixed in nature in the short run),
Full cost could provide the bench mark of how efficient the company is in managing
its costs as compared to its competitors (of course, assuming competitors also price
based on cost plus mark up),
Full cost provides the platform for improving cost efficiency keeping in view a targeted
cost,
40

Target Costing
Working Back to the desired Cost
PRICE – DESIRED MARK-UP = TARGET COST
Price and mark-up are pre-determined, and costs worked back to meet the targeted
levels,
Target costing is a team effort and is normally worked jointly between various
functionaries involved in building up the value chain for the product,
Chain could involve right from R&D stage to end distribution and service to the
customer.
Target cost helps reviewing and reinventing each activity in the chain resulting in
cost efficiency /reduction,
Success in cost reduction or efficiency through target costing efforts can only be
achieved if the organization is able to strike a very fine balance –
- keeping in view the interest of the stake holders; and above all,
- without making any compromise on the customer requirement,
41

Case study no.7 on Target Costing – “The Launch Of Nano”
(Students should download the case study covering the invention and launch of Nano
by the Tata Group).
Brief discussion points and learning outcome emerging out of the case study:
Excerpts from Ratan Tata’s speech on the launch of the Nano...
“ Today, we indeed have a people’s car, which is affordable, and yet built to meet
safety requirements and emission norms, to be fuel efficient and low on emissions.
We are happy to present the people’s car to India and we hope it brings the joy,
pride, and utility of owing a car to many families who need personal mobility…”a
Based on the study of the case, students may note some pertinent facts:
What did Ratan Tata do?
He announced in 2008 that he would launch the product with a price tag of Rs
1,00,000 (around $2000),
He looked at creating a new customer segment in the passenger car market which
could potentially generate huge demand and consequently high volumes,
HE PRE-DEFINED THE PRICE TO CUSTOMER; ALSO AIMED AT RE-DEFINING
CUSTOMER MARKET SEGMENT
He settled for a low margin and was well prepared that the project would take a long
time to break-even,
HE PRE-DEFINED MARGINS AT A VERY LOW LEVEL ON THE ASSUMPTION
THAT PROJECT WOULD BREAK-EVEN ON REACHING HIGH VOLUMES,
How they worked towards the Target Cost and Price?
The project to build Nano was started in 2003.
42

Girish Wagh was selected as the leader of 500-member team which was chosen to
develop the Nano,
Right from beginning the team members were asked to maintain the low price target
without compromising on the quality, fuel efficiency, and safety features.
From the engine, steering, wheels, and tyres to the windshield washing system, gear
shifter, central console, every component was given special emphasis in an effort to
cut down cost.
Every component was redesigned and looked at innovatively. It was a complete
revolutionary change in the approach and mind set,
Vendors were allowed to set-up their facilities in the proximity of the main plant,
Sourcing prices with vendors underwent radical changes; Negotiations demanded
high level of cost efficiency from the vendors with low margins and high volumes,
Cost effective and innovative use of media as part of the marketing strategy,
43

Case Study 8 - Filters India Pvt Ltd
Filters India Limited is a reputed global MNC. The company has an
established global presence in making various kinds of specialized filters
catering to Automobile and various other Industrial applications.
Filters India Pvt Ltd had set up its production facilities in India around four
years back for marketing its products to the customers in India. The
company had already started getting orders from some of the reputed
automobile majors and other companies requiring filters for specialized
industrial application.
Monday Morning:
Mr.Sudeesh, the Head Marketing (Automotive Business) of the Company
has convened an emergency meeting. Apart from Mr.Sudeesh, the other
participants in the meeting were: Head - Design and development, Head
– Tooling, Head – Procurement and sourcing, Head - Production, Head –
Logistics, Head – Finance along with his costing in-charge.
“We are close to getting an order from Maruti for supply of filters for their
new launch of the D Zire models. The program will be over a period of
five years. We would have to supply annually 300,000 filters annually
with the housing for these models. We have a very good chance to win
the order provided we can offer them a competitive price. In fact, Maruti
is happy with our technical credentials and could even award 80% of
their requirement for this model to us. Of course, we have our competitor
also in the race and they are likely to quote a very aggressive price”.
After discussions and deliberations, the actions points going forward
were listed out.
Outcome of the Meeting: Action points identified
1. Head– Design: to work out the design and material specification and
requirement,
44

2. Head – Tooling: to work out the tooling specification and investment
requirement for the tool,
3. Head – Production: to work out the productivity and cycle time
4. Head – Procurement: to work on the sourcing and price negotiations
for the material and tooling requirement,
5. Head – Logistics: work on the transportation cost involved in moving
the product to the customer,
6. Costing in-charge: to coordinate closely with all the agencies and work
out the cost of the product,
7. Next meeting scheduled on Friday: Objective to discuss the price of
the product,
Friday Morning:
Each functional head have worked out their input data. The costing-in-
charge has worked out the cost sheet and the desired selling price with the
mark up of 15%.
The finance department presents the cost sheet with the proposed pricing
and gets the final confirmation on the inputs from all the other participants.
45

Model Solution to the Case study
Cost Sheet Summary
Product: Filter 1234 (Maruti) Cost per unit
Material Cost
Cost of Materials 457.19
Direct Materials
438
.44
Indirect Materials
1
8.75
Material overhead @ 3% of Direct
Material cost 13.72
A Total Material Cost 470.90
Production Cost 102
Direct production cost
Machining cost 52.5
Welding Cost 47
Assembly Cost 2.5
Indirect Production cost
Production Overhead @ 5% on total
direct production cost 5.10
Tooling cost 13.57
Depreciation cost 11.29
B Total production cost 107.10
A+B =C Total Cost of Production 578.00
D Selling an Distribution cost 156
46

Cost of servicing the customer by
marketing 25
Tranportation Cost 75
Warehoiusing cost 56
E Administration cost 55
F Finance Cost 15
C+D+E+F=G Total Cost per unit
804.00
H Desired Mark-up @15% on total cost 120.60
I Desired Selling Price 924.60
Back-up details to the
Summary Cost Sheet
Materials Cost break-up
Unit
Qty (per
unit)
Currency
Rate per
unit
Cost (INR)
Direct materials
Imported
Raw Material 1 Kg 0.65 $ 4.50 201.09
Equivalent INR INR 247.50
Cutoms and clearing
charges@25% INR 61.875
Landed cost INR 309.38
Raw Material 2 0.75 $ 2.30 118.59
Equivalent INR INR 126.50
Cutoms and clearing
charges@25% INR 31.625
Landed cost INR 158.13
Local
Raw Material 3 Kg 0.95 125 118.75
Total Direct Materials 438.44
Indirect Materials
Consumales Ltrs 0.25 75 18.75
Total Material Cost
47

457.19
Production Cost break-up
Units No
Cycle time
Machining Cost
Number of cyles per hour Nos 20
No. of hours per unit of production Machine Hours 0.05
Machining cost Rate/hour 1050
Machining cost per unit Nos 52.5
Welding Cost
No. of hours per unit of production Machine Hours 0.02
Welding cost Rate/hour 2350
Welding cost per unit Nos 47
Assembly
No. of hours per unit of production Man Hours 0.033
Assembly cost Rate/hour 75
Assembly cost per unit Nos 2.5
48

Machine & equipment
cost
Units Rate INR
Machining equipment
Sourcing: from India 2 INR 1,250,000
Total Landed cost
2,500,
000
Welding equipment
Sourcing: import from Germany 2 Euro 125,000
Cost of imported equipment 250,000
Equivalent INR @Rs 70 INR 8,750,000
Customs and clearing
charges@15% INR 1,312,500
Total Landed cost
10,437,
500
Assembly equipment
Sourcing: From India 2 Euro 2,000,000
Total Landed cost
4,000,
000
Total Machine & Equipment Cost
16,937,
500
Tool life 5 years
Depreciation cost per year INR 3,387,500
Number of units to be supplied
annually INR 300,000
Depreciation cost per unit INR/Unit
49

11.29
Tooling Cost break-up
Units Rate INR
Tooling
Upper Casing
Sourcing: Import from China No 200,000
Equivalent INR No
11,000,00
0
Customs duty and clearing charges
@15% 1,650,000
Total cost 12,850,000
Lower Casing
Sourcing: Local from India No 7,500,000
Total cost 7,500,000
Total Tooling cost 20,350,000
Tool life 5 years
Cost amortised per year INR 4,070,000
Number of units to be supplied INR 300,000
Cost of tool per unit INR/Unit 14
50

Fundamentals in Budgeting
The Planning Process: Business Strategies and Budgets
- Business Strategy (Long range plan covering 10 to 15 years horizon)
- Annual Plan and Budgets - define resource requirement; sub-set of the Business
Strategy,
- Define specific targets at operational levels, KPIs, based on annual plan,
- Periodic reviews and forecast, validate operational decisions for day to day
actions and execution,
Budgets and Strategy
Budget is a formalized financial plan for operations of an organization for a specified
period,
Budget is a powerful supporting tool which helps in the navigation of the road map
towards the strategic destination,
Budget in other words is a sub-set and part of the process in achieving the long term
goals,
Why do we Need Budgets?
Helps in communicating organizational strategies and goals to the entire
organization, and within each organization for each segment, division, or
department,
51

Assigning decision rights (authority to spend and responsibility for decision
outcomes),
Source of Motivating managers to plan their activities in advance,
Coordinating and creating a strong bonding of all operational activities right from the
top to the bottom-most level,
Planning and allocation of resources required to carry out the activities across all
levels,
Monitoring actual performance with budgets, analyzing variances, and ensure timely
corrective actions taken,
Motivating managers through suitable performance linked incentive pay on budget
achievement in their respective areas,
Revaluating and revisiting strategies and operating plans as conditions may keep
changing,
Process of Developing a Budgeting for an Organization
Issuance of policy guidelines for each operational areas conforming to the
organization strategy – these are generally approved by the Managing Board,
Budget can either be “top-driven” or “bottom-up “ depending on the type and size of
the organization – bigger the organization structure, greater the complexity in
coordinating the activities across all functions ,
Key objective and success factor would be to ensure that budgets in each functions
are “owned” by the respective functional managers in the organization, it should not
be viewed as “thrust upon”,
If organization has different profit centers or divisions, separate budgeted financial
statement shall have to be prepared for each profit centre or division and
consolidated for the entity as a whole,
Each profit center or division would typically have to prepare the following inputs at
each micro level:
- Revenue or Sales budget,
- Capacity and Investment planning,
- Inventory holding plan and Production budget,
- Material requirement budget,
52

- Direct manpower and production cost budget,
- Department budgets and individual cost centers,
All the above would inputs culminate into “Budgeted Financial Statements”
Inputs for Budget Preparation
Historic data or recent past actual could serve as a useful benchmark or starting
point,
Input information should be compiled at the micro level so that monitoring and
analyzing variances for quick corrective actions become easier,
Likely situational changes in future (external as well as internal) that could have an
impact on the budget going forward,
Articulating the key budget assumptions visualizing likely situational and
environmental changes, and the likely impact on budget going forward,
Analyzing “Risk implications” in the event of any key assumption that may go wrong,
Establish standard price and costs for products,
What comprises the budgeted financial statement for any organization?
Based on the inputs and assumptions, the budgeted financial statement for an
organization gets summarized and would normally comprise the following:
 Investment Budget – is the total additional amount the company plans to invest
on its expansion, infrastructure improvement etc.
 Budgeted Income statement – Summary of the total revenue and the cost for
each profit center/ Division/ Company as a whole – is the revenue growth and
profit as projected in line with the desired long term strategy,
 Budgeted cash flow statements – defines the resources in terms of funds
requirement based on the investment planned, how this is proposed to be
raised, how funds are proposed to be allocated in each segment or department,
 Budgeted Statement of sources and utilization of funds (statement of
Assets and Liabilities)
53

Monitoring Budgets vs Actual
Actual performance data shall be compiled with the budget for each level of input,
and the budgeted financial statements,
Comparison of actual data with the budget inputs and highlighting all major variances,
(use flexible budget for variations in activity),
Analyzing root causes of variance against input assumptions in the budget,
Identify corrective actions with defined time frame and monitor these periodically till
closure
54

Management accounting co (12-14)

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