Budgetary Areas Raising Concern in the Budget Planning. Competition Bikes Inc.
There are some concerns evident in Competition Bikes Inc.’s budgeting plan. Firstly, the yearly activity is not divided into four portions despite the significance of quarterly budgetary schedules in the realms of financial outputs. Notably, cycling is a seasonal sport mostly carried out in summer hence dictating the nature of sales. Production and financial accountings require a quarterly separation and scrutiny. This will aid responses to low and peak seasons.
According to Competition Bikes Inc., materials are purchased throughout the year without considering the aspects of seasonal activities. It is recommendable to purchase and stock up stores in spring in preparation for the peak season that starts in summer. Once this season is over, the inventory stocks should be lowered. This avoids higher inventory levels while the reserve inventory can be used for handling sudden spurt in sales rather than covering budgetary issues.
Additionally, sales projection is another area of concern. The future sales projection is based on-trend information, market, competitor, and other econometric information. There is over-dependence on this information to arrive at an accurate sales forecast. The projected sales figure for year 9, which is 3,510 (standard output) units, is not supported by any past sales performance and for year 8, there is a 15% decrease in sales when compared to year 7. The company attributed the dull economic situation to the affected Professional Rider sponsorship. The company also anticipates that this trend of decreased sponsorship is likely to continue for three additional years from year 9 to year 11. Normally, the drop in sales by 15% from year 7 to year 8 should have triggered alarms, but the economic downturn suggested that it was not a major concern.
There was an increase in selling expenses by 37.5% from year 6 to year 7, which suggests that the company emphasized product visibility and brand name recognition among professional riders. This is a healthy trend, but the brand name should be supported by advertisements. If there are no proper advertisements, new customers will not know about the company’s products. Another area of concern is Website Creation and Maintenance. Proper website development can help the organization to diversify its various streams of revenue and seek out new business opportunities, which would help the company to tackle the decline in sales. Therefore, they should increase budgetary allocation for website creation and maintenance.
Another major area of concern is the General and Administrative Expenses. There is an increase in these expenses by 20.4% from year 6 to year 7and a rise of 1.2% from year 7 to year 8. This increase, especially in years 7 and 8, is a matter of concern because it happened in a year when the sales had dipped by 15%. There is a need to tighten spending on these types of expenses. There should be a quarterly review of these expenses and budgets to adjust the expenses according to sales. Another area of concern is the decreased spending in research and development by 16.3% from year 7 to year 8. The product and the market in which it is sold require more innovation, which only comes through research and development. The reduction in R&D would have long-term effects on sales.
There is a reduction in cash and cash equivalents by 54.6% from year 6 to year 7 despite a 33% increase in sales, which means that sales were made on accounts and remained uncollected. The company should use additional debt to pay off its expenses instead of using its cash. In year 7 and 8, there was a 275.4% increase in cash and cash equivalents, which suggest that the company has begun to use debt instead of cash to pay off its expenses and that it had increased its efforts at collecting its dues.
There was a considerable increase of around 164.3% in accounts receivables from year 6 to year 7. This means that there is inefficiency in recovering the dues of the company. However, there was a drop of 15% in receivables in year 7 and year 8, which suggests that the company had increased its collection efforts. The company sold over 5 million during this period, but it recovered over $105,000 on outstanding accounts leading to its comfortable cash position. An increase in cash collection efforts is recommended on past due accounts. Some other areas of concern were income, Earnings before Interest and Tax (EBIT), and net earnings. These were moving downwards mainly due to high expenditure and bad sales for year 8. Therefore, steps to control expenses are recommended, and emphasis should be laid on the payment of the company’s long-term payables to reduce interest expenses.
Another weakness that is observed is the high amount of raw material, 2.1% for year 7 and year 8, and work-in-progress items in inventory, 3% for year 7 and year 8. This may be due to a deficiency in the purchase of raw materials. Therefore, a review of purchase and inventory is recommended. Ratio analysis shows that the current ratio of the company at 5.35 is strong. A figure above 1.5 is good; however, it also suggests that there is scope for the company to put more of its assets to work towards its operations and still have a strong current ratio. The acid-test ratio at 4.25 is strong when the benchmark is 1.0.
This shows that the company does not keep too many finished commodities in inventory and that its raw material inventory and work-in-progress inventory are very small. The average collection period is a major weakness for the company. As stated earlier, the company runs its accounts efficiently even though the average collection period of 48 days in year 8 suggests that the company’s clients are complying with sales terms that were agreed upon. Therefore, the recommendation to take steps to increase collection of the company’s past dues efficiently and vigorously is recommendable.
Flexible Budget and its Variances
The financial statement fronted by Competition Bikes Inc. in the concerned year has varied stipulations as notable from its contents and other reliable sources. Evidently, a flexible budget indicates the adjustability in the budget with relation to the volume of activities that the company intends to assume. Precisely, the lesser the activities, the lesser the budget provisions while the more the activities, the higher the budget designed for the company.
Nonetheless, this is pegged on the expected figures concerning the variable scrutinized. From numerous contexts, a flexible budget has helped Competition Bikes Inc. to adjust to the seasonal demands of their products and previously meet the business objectives despite the losses noticed in year 9. Notably, budget flexibility is a critical phenomenon in various organizations. It differs significantly from a static budget, which does not adjust to the volume of activities (Helfert, 2001). In the year of scrutiny, Competition Bikes Inc. had a Standard Output of 5100 units. This indicates its targeted budget for that given period.
Any deviation in this demand (expected variable) is named as the variance. The deviation can be positive or negative depending on the values registered. If the new values are registered to surpass the expected value, then the concerned variance will be favorable (F). Conversely, if the attained figures are below the expected one, then the resultant variance is unfavorable (U) (Helfert, 2001). These variables are evident in the Competition Bikes Inc. case as shown in the financial statements and the company operational profiles. Firstly, the company expected a standard output of 5100 units as indicated earlier; nonetheless, its actual output was 3400 units denoting an unfavorable variance concerning the mentioned budget.
Additionally, the company budgeted for a net sale of 5,247,450; however, the attained figures were 5,083,000 registering an unfavorable variance of 164,450 units. A flexible budget should vary with the situation and the company objectives. If Competition Bikes Inc. budgeted to increase its production in a given quarter of the year under review, the budget must adjust to match the financial demands of that very quarter. This budget is hardly pegged on the previous performances.
It is purely pegged on the new business and production prospects. Evidently, from the case provided, Titanium XL and CarbonLite had different budget provisions on the direct labor cost. This is related to the number of hours meant for operations. It is crucial to consider various provisions concerning these claims. The budgets of Competition Bikes Inc. adjusted about the volume of activities demanded. Nevertheless, the issues of variance were evident in various aspects as notable from the provided financial statement.
While reviewing the variable costs, the budgets of direct materials, direct labor, manufacturing overhead, and variable selling, remained below the expected values hence indicating the aspects of Favorable variance (F). Although the company budgeted with some money, its expenditures were flexible and adhered to the volume of activities accomplished. Despite this, the goals were achieved, and the company remained relevant about favorable variance.
Conversely, the expected advertising expenses and the transportation costs (28,412 and 105,300 respectively) fell below the actual costs incurred in similar variables (31,250 and 107,569 respectively) thus indicating the alleged unfavorable variance (F) in the realms of costs and expenses. Competition Bikes Inc. has been growing since its inception by Larry Ferguson in 2001. It has been using flexible budgets in its endeavors to adjust to the changing market demands. The operating income of the concerned company in the year under review fronted an unfavorable variance (U) of -45,820. This indicates that the company made a remarkable decline despite its business endeavors.
Precisely, it is improper for an actual result to exist below the expected values since this will create an unfavorable variance mentioned earlier (Helfert, 2001). This usually indicates that the company does not attain its objectives and might run into a loss in case the trend persists. However, favorable variance is quite positive since it shows that the company might be attaining its demands. If the actual results surpass the targeted values, then the concerned company might be doing well in the business realm.
Corrective actions for areas of concern
From the variance analysis carried out on the Competition Bikes Inc.’s financial prospects for the concerned year, it is evident that some of its business aspects require prompt corrective measures to help in restoring the concerning situation.
Firstly, it is recommendable that its standard output, which recorded an unfavorable variance (U), should be re-set realistically to match the company’s capabilities. Setting unachievable objectives is improper since it will increase expenses while the returns will be limited. This is evident when Competition Bikes Inc. only accomplished part of the output. Precisely, it is recommended to set realistic goals that operate within the budget limits, reduce unfavorable variances, and make considerable output within the company. Additionally, it is evident that Competition Bikes Inc. has internal control problems and inefficiencies in purchasing, receiving payment, and inventory processes. This is evident by the indicated variances identified earlier in the paper.
It is recommended to adjust these costs considerably while minding the company’s capabilities and growth. This will reduce unnecessary costs that have engulfed the company. Additionally, enacting and using a flexible budget can be helpful in this context. The fact that purchases are being made without additional oversight is a critical concern. Advisably, it is recommendable to consider the aspects of flexible budgeting to adjust the resources concerning activities and financial demands. Persons responsible for creating the budget should be asked to issue the purchase request through requisition forms.
This is for purchasing materials as budgeted earlier to avoid variances noticed within the financial statements. This will reduce the noticed unfavorable variances indicated in the financial statement. Additionally, there is a risk of possible fraud and unauthorized purchases. Authorization is required for purchases; nonetheless, this can be set right by creating a purchase request process wherein only purchases that are authorized and necessary are made by the inventory department.
Additionally, the unfavorable variance in the marketing expenses requires correction. The actual cost for the variable is higher than the budget. The management needs to reduce this cost such that it can operate favorably. It is important to agree that the extra costs incurred in advertisements and transport sectors fronted the noticed unfavorable variance in the operating income. Additionally, it is recommendable for the company to enhance its operating income since its variance operates unfavorably. Another weakness worth correcting is the order and receipt of materials done by the purchasing department.
It is recommendable that activities such as the purchase and receipt of goods should be separated. The receiving department should check the goods received and certify the receipt through a receipt report sent to the purchasing department. This will help in diminishing the noticeable unfavorable variances for the budget. The favorable budget variances noticed within the financial statements can be enhanced for the better to augment the company’s performance.
Application of management by exception to these variances
Management by exception endeavors to correct operational situations where the actual results differ from the planned ones (Tracy, 2007). It provides the corrective measures after analyzing the situation at hand. In this context, the entire unfavorable variances require management by an exception such that the company can resume its operational track. This will help in identifying the concerned problems that create the disparities between the actual values attained and the budgeted or planned ones. Evidently, the use of Sarbanes–Oxley Compliance company can help in such a situation by ensuring that all the control mechanisms are in place and operational.
The company makes it compulsory for companies to provide accurate financial information in their financial statements. The law stipulates a company’s management’s responsibility of putting in place internal controls to ensure the accuracy of financial information (Sarbannes-Oxley Act, 2002). Nevertheless, this will ensure that the entire unfavorable variances (U) within the company’s statements are scrutinized, and appropriate measures enacted to alleviate the situation. The deviations that occur within the budget and the actual costs indicate the mentioned variances as indicated earlier.
From the Competition Bikes Inc. Company, it is evident that some expenditure has surpassed the initially budgeted cost thus creating the noticed variances. This will require the stipulations set by the management by exception to correct the mentioned variances. It is through the variance that the company realizes where it did not attain its goals and mandates (Tracy, 2007). Concurrently, the application of management by exception concepts will help resolve the budget variances in several ways. By identifying the variances, the management can formulate devices that curb that situation with precision. Additionally, it provides the exact solutions and recommendations demanded.
References
Helfert, E. (2001). Financial Analysis Tools and Techniques – A Guide for Managers. California, CA: McGraw-Hill Professional.
Tracy, B. (2007). Time power: A proven system for getting more done in less time than you ever thought possible. New York: AMACOM.
