Profit & Cost Variance Analysis

This assignment delves into the critical topic of profit and cost variance analysis in businesses. It examines how analyzing deviations from planned financial outcomes can help identify areas for improvement and increase profitability. The text discusses various methods used to calculate and interpret these variances, highlighting their significance in managerial decision-making. Additionally, it explores the relationship between management accounting practices and the effective control of costs.

MANAGEMENT
ACCOUNTING:
COSTING AND
BUDGETING

TABLE OF CONTENTS
INTRODUCTION....................................................................................................................... 1
TASK 1....................................................................................................................................... 1
1.1 Different types of cost................................................................................................... 1
1.2 Different costing methods............................................................................................. 1
1.3 Calculation of costs using appropriate technique...........................................................2
1.4 Analysis of costs using appropriate technique...............................................................2
TASK 2....................................................................................................................................... 2
2.1 Routine cost reports...................................................................................................... 2
2.2 Performance indicators to identify potential improvements...........................................2
2.3 Improvements to reduce costs, enhance value and quality.............................................3
TASK 3....................................................................................................................................... 3
3.1 Purpose and nature of budgeting process.......................................................................3
3.2 Budgeting methods and its needs..................................................................................4
3.3 Budget preparation according to activity based budgeting method................................4
3.4 Cash budget.................................................................................................................. 5
TASK 4....................................................................................................................................... 6
4.1 Variances...................................................................................................................... 6
4.2 Operating statement reconciling budgeted and actual sales...........................................7
4.3 Responsibility centres................................................................................................... 7
CONCLUSION............................................................................................................................ 7
REFERENCES............................................................................................................................ 9

·INTRODUCTION
Cost is a sensitive element of a business entity which is incurred by a firm in producing
goods and services. Budgeting is also very important element of the business which helps to
estimate the expenses and incomes. In the present report first and second parts rely with costing
while third and fourth parts rely with budgeting. The report describes about the various costs and
costing methods as well as it present performance indicators which helps to identify potential
improvements and strategies to reduce cost and improve quality. It describes about the budgeting
and responsibility centres. The activity based budgeting and cash budget are also describes.
·TASK 1
·1.1 Different types of cost
Cost is a sensitive element of every business whether it is manufacturing business or
service based. Cost is that which is incurred in producing goods or services. In the business there
are various types of costs on the basis of specific purpose or as per the nature of cost. Various
types of costs on the basis of specific purpose are given as below:
·On the basis of expense nature: In the business as per the nature of expenses there are various
expenses incurred to produce products and services (Kaplan and Atkinson, 2015). Various
expenses according to the expense nature are such as labour cost, material costs etc.
·On the basis of functional costs: In the organisation different functions are there which are
included in cost of production. Different expenses or costs on the basis of activities of functional
are such as production cost, finance cost, administration cost, research and development cost,
selling and distribution cost, advertisement cost etc.
·On the basis of behavioural costs: As per the behavioural the costs incurred in business entity
are such as direct costs, indirect costs, variable costs, fixed costs, semi-variable costs etc. The
direct costs are those which directly incurred with the production while indirect costs are not
affects products directly. On the other side the fixed costs are that costs which are constant in the
business and variable costs are varied with production level. When production level change then
the variable costs are also changed. Operating costs are those costs which attached with the
production process and products and services. These are incurred in total cost of products and
services.
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·1.2 Different costing methods
In the organisation various costs are incurred to produce goods and services. For derive
the total cost of a product costing method is used by management (Otley and Emmanuel, 2013).
There are various methods of costing by which a firm determine cost of a product. Various
costing methods are such as follows:
·Unit costing: Unit costing is a method of costing where cost is determined of a unit of products
or services. The method is used by management in order to determine cost of a unit produced. In
this total cost of production is divided with the total number of units produced. It is mostly used
in the manufacturing companies.
·Process costing: According to the process costing method the cost is determined as per the
various processes of manufacturing (Fullerton, Kennedy and Widener, 2013). The method is
used my majorly manufacturing entities where goods and services are producing step by step.
The cost is calculated step by step of production process. For example in textile industry, car
manufacturing industry etc.
·Batch costing: Under the batch costing costs of similar products are determined. In batch
costing similar products are separated and then calculate the costs. The products are separated as
per the nature of products or design of the product.
·1.3 Calculation of costs using appropriate technique
Cost per unit Under Absorption costing(Stable production 1000 unit)
Cost per unit costing Absorption Costing
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Cost per unit Under Marginal costing(Stable production 1000 unit)
Cost per unit as per Marginal Costing
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l壱1.4 Analysis of costs using appropriate technique
As per Absorption costing the fixed cost is also included whereas as per marginal costing
Fixed costs are deducted from the total contribution of the company. Hence, cost per unit as per
absorption costing is greater than marginal costing. Marginal costs highlights contribution per
unit whereas absorption costing focuses on Profit per unit.
·TASK 2
·2.1 Routine cost reports
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Cost report indicates the all the cost and expenses incurred during the period and income
earned. It depicts the clear picture about the profitability of the company. Cost report refers to
Sales less all the the variable and operating expenses and deducting total fixed costs therefrom. It
reflects all the direct indirect costs classified in proper manner for better understandability.
Distribution and labour cost is comparatively low in T2 and T3 because the productions units
are relatively less.
l壱2.2 Performance indicators to identify potential improvements
In an enterprise the business identify that how effective firm in the overall industry.
Performance indicators are those elements which helps to the business in order to determine
position of the firm in industry or market where it operates. Key performance indicators of the
firm are mainly cost and revenue as well as price of its products and services. The consumers are
attracted towards the firm after analysing the price and quality of goods and services (DRURY,
2013). Cost and revenue are an indicators by which the company able to know that business is
improving in industry against its rivalry firms. All companies are want that their goodwill or
image is to be strong, as per the goodwill also the firm identify its potential position in industry.
Another key performance indicators which helps to business in analysing its improvements and
performance in the market are such as market share of the firm, stakeholders, quality of the
products and services, return on the investment which made by investors etc. This all are
indicators by which firm able to analyse potential improvements as well as performance.
l壱2.3 Improvements to reduce costs, enhance value and quality
Improve quality with reducing costs of products is main concern for every business. In
present scenario business wants to become leader in the industry, in order to this they try to
reduce cost of production and increase the quality and value. It can be suggested to the business
for using a total quality management technique, under this the firm check the total quality and
then go for further process. Total quality management technique helps to manage and
consistently improve the quality (Schaltegger, Gibassier and Zvezdov, 2013). Another technique
is six sigma, according to the six sigma quality is increases. In six sigma risk of quality reducing
is 0.06% per 1000 units. In order to reducing cost of production firm should set the benchmarks
for production level and try to attract more number of consumers. More production units will
lead to decrease total cost of production and helps in achieving the economies of scale. It can be
suggested to the firm that company should invest and adopt new and updated technology by
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which less time will be taken as well as quality will also increase. When the firm provide better
quality products at the lower cost in comparison to rivalry firms then automatically more number
of consumers will attract and simultaneously value of the firm and products will increase in the
industry.
·TASK 3
·3.1 Purpose and nature of budgeting process
Budget is a process under which the firm estimate about the future incomes and
outcomes. Budget prepared in monetary terms and helpful to the management and organisation
as well (Arjaliès and Mundy, 2013). There are various purpose to prepare the budget and various
nature of budgeting are as follows:
Purpose of Budgeting process: Different purposes of budgeting process are given as below:
·Budget helps to management in estimating the future expenses of production, helps to derive
the income for upcoming year as well as future profit of the firm.
·It gives the framework of finance which lead to formulate and prepare proper business
strategies. From the proper sttrategy management able to take perfect decisions.
·Another purpose of budgeting process is that managers able to make comparison between the
budgeted data and actual results in the firm.
Nature of Budgeting process: Various nature of the budgeting process are as below:
·The budget is prepared or estimated on the basis of past performance of the firm.
·It determines that how many expenses will be incurred in the production.
·On the basis of past performance budget is estimated for the current year.
·Budget give overview that the situation will be of surplus or deficit on the basis of estimated
expenses and estimated revenue.
·3.2 Budgeting methods and its needs
Budgeting is a process of prepare a budget for current year on the basis of past
performance. There are various methods of budgeting process, in the present case activity based
budgeting method is to be chosen which is helps to management in order to derive the costs of
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goods and services (CPIM, 2014). In activity based budgeting method the costs incurred as per
the activities of business are recorder to derive the total cost.
On the basis of activity based budgeting method the managers are able to determine total
costs which incurred step by step of production process. Primary need of the budget for the
organisation is to derive the cost of production. It helps to management in allocating resources
effectively in every function of business. By which resources are effectively utilized and
productivity will increase. The budgeting process is helps to managers in order to determine
price of products and services. Need of the activity budget is to analyse performance of every
activity that whether it is performing as per the plan or not. It helps to business for analysing and
comparing actual and estimated data of every activity and functional area of the business.
l壱3.3 Budget preparation according to activity based budgeting method
Activity based budgets unlike traditional budgets does not allocate costs on basis of
products instead classify the cost to the cost drivers and pooled expenses are then allocated to
Products on the basis of cost drivers. Generally staff costs are bifurcated on the basis of number
of staff present in each department of the products, In case of PC cost is to be allotted on number
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of Pc's in department related to each product. Also rent is allocated on bais of floor area
occupied by each product. Therefore this is scientific method of allocation of cost.
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l壱3.4 Cash budget
ParticularsJulyAugustSeptemberOctoberNovemberDecemberCash inflow Sales
revenue350003800040000430004700052000Other income
200002500028000310003800043000Total cash inflow
550006300068000740008500095000Cash outflowPurchase of raw material
160001800021000250003100033500Salaries of
personnel100001300016000190002300025000Selling and distribution cost
7000900012000140001650019000other expenses300050009000115001300015500Total cash
outflow 360004500058000695008350093000Cash deficit /
surplus190001800010000450015002000opening cash balance
250004400062000720007650078000Closing cash balance 440006200072000765007800080000
From the above mentioned table it can be interpreted that the company is able to generate
profit every month. In every month the cash is in surplus situation. In this sales and revenue are
consistently increases as well as other incomes are also increases every month. On the other hand
the costs and expenses are also increases continuously which lead to increase profit of the
business. It can be said that the firm is able to generate sales consistently. Here cash outflows
are lesser than cash inflow which is better situation.
·TASK 4
·4.1 Variances
Variance is a process which helps to analyse business performance. It gives the
information that the budget is adverse or favourable for business (Radfar, Rezaei and Rezaei,
2014.). Variance is comparison between actual data and budgeted data. If the actual value is
higher than budgeted that means situation is adverse while if actual value is lower than budgeted
value then situation is favourable for business.
Budgeted valueActual valueVariancesMaterial cost10001200-200 (A)Labour cost 800680120
(F)Overhead cost15501800-250 (A)Total cost33503680-330 (A)Profit38504200-350 (A)
·Material Variance: In present situation material variance is adverse that means the
management is not able to effectively utilize material (Methods of Costing and Types of
Costing, 2016). Main cause of this is that the management is not allocating and utilizing material
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effectively. The firm should take action of effectively allocation of material in production
process.
·Labour Variance: The labour variance is in favourable situation that means the company is
utilizing proper labour resources in the firm. The labours are works very efficiently and helps in
achieving expected sales. The company should continue with existing strategy of labour.
·Overhead Variance: From the above mentioned table it can be said that the operating costs are
high which lead to give unfavourable situation. The company should try to reduce the operating
costs and try to increase the sales volume.
·Profit: Profit is main element of every business. Main aim of every business is to earn
maximum profit. In the present scenario the profit level is lower in comparison to the budgeted
profit (Modell, 2013). The firm is not able to meet profit which is estimated. Main reason of this
situation is that the management is not able to proper utilization of resources which lead to
increase cost and decrease sales. By which profit is decrease. The company should try to attract
more number of customers and increase the sales which lead to increase profit of the business.
·4.2 Operating statement reconciling budgeted and actual sales
Favourable AdverseMaterial Variance-200Labour Variance120Overhead Variance-250Total120-
450Actual contribution-330
From the above statement of the operating reconciling it can be said that, actual
contribution is in adverse situation. In this case the company is not able to generate more number
of profit and not able to produce more number of goods after utilizing various resources. Here
the material variances and overhead variances both are in adverse situation that means the firm is
not utilizing the raw material effectively. In this case the firm is not able to reduce and control
the costs. The management is proper utilizing the labour of the business. On the other side it can
be said that the total variance are in adverse situation. It indicates that the company is not able to
manage overall production effectively.
l壱4.3 Responsibility centres
Responsibility centres are one type of subunits in the business according to the
responsibilities. The managers are given responsibility for particular criteria and area. In
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business entity there is various responsibility centres are such as cost, profit, investment, revenue
etc. The profit and cost centres are as follows:
·Profit centre: In the profit centre managers have responsibility to meet the profit level
(Kokubu and Kitada, 2015). In present case the managers of profit centre are unable to meet the
criteria of profit as per the budgeted profit.
·Cost centre: Cost centres is an area of a company where all types of costs are recorded and
identified by the managers that whether a cost is in deficit or in surplus situation. In above
mentioned table the managers are not able to meet the cost which lead to decrease profit. Cost
centre impact on the profit centre directly.
·CONCLUSION
From the above project report it can be articulated that the costing and budgeting are very
important for the business entity. It can be concluded that the various costing methods are
helpful for determine the costs of products and services. There are various techniques which
helps to increase quality and reduce costs of products in business. The firm is able to generate
according to the cash budget. In cash budget cash inflows are higher in comparison to cash
outflows which lead to increase profit consistently in business. It can be summarized that profit
is decreases and costs are increases in the firm as per the variance analysis.
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·REFERENCES
Books & Journals
Kaplan, R. S. and Atkinson, A. A., 2015. Advanced management accounting. PHI Learning.
Otley, D. and Emmanuel, K. M. C., 2013. Readings in accounting for management control.
Springer.
Fullerton, R. R., Kennedy, F. A. and Widener, S. K., 2013. Management accounting and control
practices in a lean manufacturing environment. Accounting, Organizations and Society.
38(1). pp.50-71.
DRURY, C. M., 2013. Management and cost accounting. Springer.
Schaltegger, S., Gibassier, D. and Zvezdov, D., 2013. Is environmental management accounting
a discipline? A bibliometric literature review. Meditari Accountancy Research. 21(1).
pp.4-31.
Arjaliès, D. L. and Mundy, J., 2013. The use of management control systems to manage CSR
strategy: A levers of control perspective. Management Accounting Research. 24(4).
pp.284-300.
CPIM, G. C., 2014. Top 7 trends in management accounting, Part 2. Strategic Finance. 95(7).
p.41.
Radfar, R., Rezaei, M. N. and Rezaei, M. M., 2014. Evaluation Improving Financial Operations
by Implementing Knowledge Management System.
Modell, S., 2013. Making sense of social practice: theoretical pluralism in public sector
accounting research: a comment. Financial Accountability & Management. 29(1). pp.99-
110.
Kokubu, K. and Kitada, H., 2015. Material flow cost accounting and existing management
perspectives. Journal of Cleaner Production. 108. pp.1279-1288.
Hopper, T. and Bui, B., 2016. Has management accounting research been critical?. Management
Accounting Research. 31. pp.10-30.
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Mahesha, V. and Akash, S. B., 2013. Management Accounting Benefits: ERP Environment.
SCMS Journal of Indian Management. 10(3).
Alnawayseh, M. A. A., 2013. The extent of applying strategic management accounting tools in
Jordanian banks. International Journal of Business and Management. 8(19). p.32.
Online
Methods of Costing and Types of Costing, 2016. [Online]. Available through:
<https://toughnickel.com/business/Methods-of-Costing> [Accessed on 19th December
2016].
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