Berry Ltd Financial Management - Assignment Example

Finance and Accounting Table of Contents Table of Contents 2 Question 3 Question 2 8 References 13 Question According to the case study, the management of Berry Ltd was facing severe issues relating to its financial performance. The managers involved in the decision making procedure have planned for developing a planning system based on which budgets can be prepared effectively. Managers came on a conclusion to choose a ‘bottom up approach’ for outlining their estimated budgets. Hence, the Financial Director of the company decided to consider Activity Based Costing (ABC) and avoid the absorption costing mechanism for restricting direct and overhead expenses along with increased profitability. Installation of ABC mechanism in the organization would help in achieving certain other benefits apart from the organizational objectives. ABC is defined as the process, which evaluates the expenses and presentation of tasks, resources and cost related objects1. Particularly, if the resources are based on the tasks, then such tasks are assigned against the cost objects depending on their utilization. Hence, ABC depends on the causal associations of organizational activities with the cost drivers2. ABC is introduced with the company’s range of offerings for deciding the tasks to be performed while manufacturing and delivering the offerings along with calculation of expenses of various tasks involved in the production process3. The final expenses are aligned with the product for developing causal relationships. Hence, the expenses are of great significance for organizations such as Berry Ltd., where the overhead expenses contribute towards a significant proportion of total expenditures. Berry Ltd can utilize ABC for better assessment of company’s overhead costs, which are not in direct relation to the volume of production. ABC should be implemented in Berry Ltd, as the company offers a plethora of variety products and the supporting resources utilized by individual offerings vary from the organization’s use of quantity-based cost driver. Berry Ltd has a typical production unit involving products that are relatively elastic and inelastic in nature. Hence, due to dissimilar batches and complexities in the offerings, Berry Ltd with the application of ABC will be able to increase profits and control costs. The product related costs incurred by Berry Ltd other than those that occur outside product’s manufacturing are on an upsurge, which will enforce the company to use ABC. In case Berry Ltd installs redefined IT structure in the organization, it will facilitate in reducing the cost of formulating, implementing and assessing ABC4;5. Managers play an important role in implementing ABC throughout the organization. Based on the level of understanding, skills and competencies, the managers would decide the factors that will be necessary for installing ABC. The factors are relative to the skills of the organization, its customers and organizational procedures. The managers through deep analysis of these factors must be able to address the deficiencies in the existing working procedures with the help of ABC6. Besides managers, the IT system will prove to be a successful factor in implementing ABC. Managers must be able to entertain certain important queries such as whether they are aware of consequences on the resources while adopting ABC. They must also provide resources necessary for implementing ABC by taking into consideration of the costs that will not outweigh the profits. The managers must be able to make out the tasks and costs involved and must ensure that stakeholders would be provided high returns for their investments. ABC process is provided hereunder. Recognition of tasks and Activity pools Outline cost with respect to tasks and cost objects Allocate expenses with activity expenses pool Preparation of Reports Allocate expenses with costing objects Gauge the drivers’ rates involved in activity costs The budgeted sales figures of the company are 20,000, 16,000 & 22,000 units for products X, Y & Z respectively. The total budgeted cost is estimated to around £1,377,400 as interpreted in the table below. Cost pools Estimated Budgets (£) Cost drivers Machine set up costs 280,000 Number of batches Material ordering costs 316,000 Number of purchase orders Machine running costs 420,000 Number of machine hours General facility costs 361,400 Number of machine hours Total 1,377,400 The budgeted direct costs are £25 per unit for product X, £28 per unit for product Y & £22 per unit for product Z. In addition, direct labor costs for the products are £30 per unit for product X, £36 per unit for product Y and £24 per unit for product Z at the rate of £12 per hour. In this regard, it can be interpreted that absorption costing is an estimation of the overall cost incurred in the production operations of a product. Fixed overhead costs for direct costs involved in material manufacturing is £12,000 for product X, £16,128 for product Y and £11,314 for product X. Labor costs are £7,200 for product X, £7,200 for product Y and £6,171 for product Z. The direct costs involved have been calculated hereunder. Product X Y Z Batch size (units) 500 800 400 Purchase orders per batch 4 5 4 Machine hours per unit 1.5 1.25 1.4 Product X (£ per unit) Y (£ per unit) Z (£ per unit) Direct Material 25 28 22 Direct Labor 30 36 24 It can be concluded that using ABC will enhance profits in Product C, which is relatively inelastic in nature, as compared to product A and B that are relatively elastic. The company can increase the profit margin to increase the level of sales and revenues earned. Here product X is incurring direct cost of £55, product Y is incurring direct cost of £64 and product Y is incurring direct cost of £46. In addition, it can be also observed that although the batch size and purchase demand per batch of product ‘Y’ is higher than product X and Z, the machine hours of Y is significantly lower than product Y and Z. Hence, in order to overcome financial problems, the company should increase the machine hour of product Y, increasing the batch size of product Z and increasing the purchase order of product X. Question 2 In organizations, budget is defined as the plan developed in a specific interlude of time for estimating the outgoing expenditures of an organization and incoming profits through sales7. In simpler words, a budget is an estimation of an organization’s future costs and benefits. A budget can also be termed as an operating plan for future implementation. A budget acts as groundwork for reporting financial outcomes to customers, shareholders and other interested parties to attract their attention. A budget serves as an essential technique for allocating resources in a competitive environment. Budgeting involves taking decisions, planning, control, performance evaluation and motivation. Budgeting is an important technique in assessing as well as analyzing costs in a business. In Berry Ltd, the budget will help in creation of contracts between the management and shareholders for making them invest in the organization with a clear picture in relation to the returns that can be obtained. Next, the budget can be considered as a management tool and can be utilized as declaration of responsibilities as well as decisions for decoding into particular agenda and tasks. In terms of management tool, the budget will be vital for the achievement of the company’s effectiveness, honesty along with goodwill amid customers8. A Budget enhances the dependability and accountability of the management. In Berry Ltd, budgeting will be acting as a motivator. Budgeting motivates the managers and departments in setting up targets and acting as a means for achieving dedication and involvement in work. Budgeting would aid Berry Ltd in gauging achievements as per the stated goals and objectives along with assessment of actual outcomes with the planned outcomes. Managers at Berry Ltd can be made much efficient and satisfied if they develop a clear knowledge about the budget, which will help them to understand their progress and future measures to be undertaken. In the case study of Berry Ltd, it can be observed that managers have faced financial problems while implementing a specific mechanism. Budgeting provides a means for managers at Berry Ltd to decide on the financial system and the control mechanism for finance to be implemented. The budget will develop and allocate responsibility for controlling financial outcomes9. A budget has a strong authority over the departmental expenses and helps in exploiting administrative control of the departmental superiors. In addition, it can be considered as a plan framed by management for consideration of investment decisions. It synchronizes alternative options that are available for attaining the goals and connects legislative actions with executive activities. A budget must take into account the elaborated features of the predetermined objectives considering the budget expenses. Budgeting also act as a planning technique that will be beneficial for suggesting plethora of mechanisms for realizing the objectives10. In this regard, budgeting can be considered as a vital tool for policymaking. By making use of the budget, the organization can decide on how to exploit the limited resources available in the society. Budget relates to the most vital policy decision taken by an organization during a fiscal year. As the numbers of competitors are on a rise, the organization must be able to exploit and adopt the best possible assets that can be gained from the market well in advance before the rivals. Budget involves taking decision and making communication to come to a valid conclusion. Subsequently, the organization with the application of budgeting will be facilitated in offerings involving better rate of returns, use of resources, and estimated costs and benefits that are to be communicated within the management and amongst the members of the team, so that they will prove successful in contributing towards organizational effectiveness11. Narratives are beneficial for portraying relationships between the tasks, expenses and profits. Budgeting further operates as an operational guide for the organization by assisting in identification of qualitative and quantitative standards through which Berry Ltd can evaluate its performance and outcomes. By specifying the number of people for the implementation of budget and categorizing employees, budgeting will be acting as an operational guidance. Finally, the budget of an organization will help the managers not only to find out the expenses involved in an activity, but will ensure that the involved parties are highly benefitted and the members are paid on the basis of their performances. Having a formal budget structure is pretty much essential in the organization for expanding the base for growth and development. To implement the budget as per the predetermined objectives, Berry Ltd has to adopt the best procedure that can implement the budget successfully. This will lead to creation of a budgeting process by the managers, who will have to identify certain key areas that will address the issues involved in executing the budget and measures to tackle such issues. The budgeting process will entail creation of a strategic plan by the management that must be aligned with the vision and mission of the organization. This will further ensure that organizational assets are used as per the devised strategic plans. Correspondingly, the budgeting process is involved in developing the business goals, which is considered to be the responsibility of the managers. These goals are funded by the organization in accordance with their importance12. Projection of revenues is an important consideration in the process of budgeting. Revenue projections are based on the previous monetary performance by the organization and the ascertained growth revenues that can be realized in the future. The projected revenues will initiate the business growth in accordance with organizational objectives and forecasted measures. Fixed costs that are a part of the revenue projection are considered in the budgeting process. These costs consist of employee remuneration, expenses, utility expenses, facility costs, cost of insurance and mortgage. These costs cannot be altered and must be funded while implementing budgets13. Berry Ltd plans to adopt ABC for projecting fixed costs necessary to fill up organizational positions, increase level of motivation and planning for future development. Next step in budgeting process relates to the projection of variable costs. In Berry Ltd, it has been observed that the organization has estimated variable costs along with fixed costs. Variable costs comprise indirect expenses such as additional marketing, entertainments, general facility costs, machinery set up costs and general facility costs among others. The organization must be able to assess the annual goal expenditures14. Every project must develop a relationship between the goals of the organization and projected costs. These projections must be recognized, implemented and assessed by the organization for completion of goals. The organization with the application of budgeting will be able to address the profit margins for providing returns to investors. Furthermore, an approval by the board to commence the budget proceedings is needed to be considered for effective implementation. In this context, the budget decided by the managers must be approved by the managers or higher authorities, so that budgeting can be accomplished successfully15. The management must ensure appraisal of financial statements of the organization for observing the budget performance that are recognizable with the costs and finally, safeguarding Berry Ltd against misuse of funds. Subsequently, a committee must be established for addressing the budgetary reviews. This must be done on a regular basis for measuring performance with the target goals along with administering the drawbacks in case any limitations of the budget have been drawn by the committee16. Thus, the organization with the implementation of budgeting is able to conduct operation in a planned manner. In addition, budgeting will aid the management in having a better knowledge about the costs associated with the business process. In this respect, the management is able to have a better control as well as evaluate the performance of the organization. It also assists in making decision and investors with the budgeting data are able to have information about investment returns, which motivate them to make further investment, which in turn strengthen the financial consideration of the organization. References Cardos, I. 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Webber, D. ‘Good budgeting, better justice: modern budget practices for the judicial sector’. Law & Development Working Paper Series, No.3, n.d., pp. 1-68. Wildavsky, A. B. Budgeting: A Comparative Theory of the Budgeting Process. Transaction Publishers, 1986. Read More