Chapter 23, Problem 7AP

a.

To determine

Prepare a flexible budget of the company and a schedule comparing the actual results with flexible budget amounts.

Explanation of Solution

Budget:

Budget is an effective tool to achieve the financial and operational goals of the business. Budget is the key element of the financial planning and it assists managers to control the business costs. Management should set the budgeted amount at reasonable and achievable levels.

Prepare a flexible budget of the company and a schedule comparing the actual results with flexible budget amounts as follows:

Company S
Comparison of Budgeted and Actual Revenue and Expenses
For the Year Ended December 31
Particulars	Flexible Budget ($)  (D)	Actual budget ($) (E)	Over (or under) budget ($) $\text{F = }\left(\text{D}-\text{E}\right)$
Net sales	10,500,000	10,500,000	-
Less: Cost of goods sold	6,300,000 (1)	6,180,000	(120,000)
Gross profit on sales (A)	4,200,000	4,320,000	120,000
Less: Operating expenses:
Selling and promotion	1,071,000 (2)	1,020,000	(51,000)
Building occupancy	417,000 (3)	420,000	3,000
Buying	580,500 (4)	594,000	13,500
Delivery	195,000 (5)	183,000	(12,000)
Credit and collection	93,000 (6)	90,000	(3,000)
Administrative	562,500 (7)	564,000	1,500
Total operating expenses (B)	2,919,000	2,871,000	(48,000)
Operating income $\text{C = }\left(\text{A}-\text{B}\right)$	1,281,000	1,449,000	168,000

Table (1)

Working note:

Calculate the cost of goods sold of the flexible budget

$\begin{array}{c}\text{Cost of goods sold = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \text{Variable cost of goods sold per sales dollar}\end{array}\right]\\ =\$10,500,000\times \$0.600\text{ per sales dollar}\\ \text{=\$6,300,000}\end{array}$ (1)

Calculate selling and promotion expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Selling and }\\ \text{promotion expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \left(\begin{array}{l}\text{Variable selling and }\\ \text{promotion expense per sales dollar}\end{array}\right)\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.082\text{ per sales dollar}\right)+\$210,000\\ \text{=\$861,000+\$210,000}\\ \text{=\$1,071,000}\end{array}$ (2)

Calculate building occupancy expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Buidling occupancy}\\ \text{ expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \left(\begin{array}{l}\text{Variable building occupancy}\\ \text{ expense per sales dollar}\end{array}\right)\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.022\text{ per sales dollar}\right)+\$186,000\\ \text{=\$231,000+\$186,000}\\ \text{=\$417,000}\end{array}$ (3)

Calculate buying expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Buying}\\ \text{ expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \text{Variable buying expense per sales dollar}\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.041\text{ per sales dollar}\right)+\$150,000\\ \text{=\$430,500+\$150,000}\\ \text{=\$580,500}\end{array}$ (4)

Calculate delivery expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Delivery}\\ \text{ expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \text{Variable delivery expense per sales dollar}\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.008\text{ per sales dollar}\right)+\$111,000\\ \text{=\$84,000+\$111,000}\\ \text{=\$195,000}\end{array}$ (5)

Calculate credit card collection expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Credit card }\\ \text{collection expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \left(\begin{array}{l}\text{Variable credit card collection }\\ \text{expense per sales dollar}\end{array}\right)\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.002\text{ per sales dollar}\right)+\$72,000\\ \text{=\$21,000+\$72,000}\\ \text{=\$93,000}\end{array}$ (6)

Calculate administrative expense of the flexible budget

$\begin{array}{c}\begin{array}{l}\text{Administrative }\\ \text{expense}\end{array}\}\text{ = }\left[\begin{array}{l}\text{The amount of sales }\times \\ \left(\begin{array}{l}\text{Variable administrative }\\ \text{expense per sales dollar}\end{array}\right)\end{array}\right]+\left(\begin{array}{l}\text{Fixed portion }\\ \text{of the expense}\end{array}\right)\\ =\left(\$10,500,000\times \$0.003\text{ per sales dollar}\right)+\$531,000\\ \text{=\$31,500+\$531,000}\\ \text{=\$562,500}\end{array}$ (7)

b.

To determine

Evaluate the company performance in relation to plan reflected in the flexible budget.

Explanation of Solution

Evaluate the company performance in relation to plan reflected in the flexible budget as follows:

Net income in the actual budget is better than the flexible budget, because net income in the actual budget is increased by $168,000 than flexible budget. This result may be attributed by the following factors:

• Company performance in the purchase of merchandise is better in the actual budget.
• The company has incurred very lower expenditure in the actual performance (selling and promotion expense, building occupancy, buying expense, delivery expense, credit collection expense, and administrative expense) than the budgeted.