Planning, budgeting and control
Domain 2 - Planning, budgeting and control - tests the budget architecture, behavioural consequences, and variance analysis used to steer strategy. Questions often require you to separate volume effects from price and efficiency effects.
Budget architecture
- The master budget contains operating budgets (sales, production, direct materials, direct labour, overhead, inventory and cost of goods sold) and financial budgets (cash, capital expenditure and pro forma statements).
- Incremental budgeting starts from last year; zero-based budgeting re-justifies activities and is costly; activity-based budgeting links costs to activity drivers.
- Rolling forecasts update regularly and support uncertainty; beyond budgeting decentralises targets and uses relative KPIs.
- Participation improves commitment but can create budgetary slack. Imposed budgets are faster but may be less accepted. Control is strongest for controllable costs.
Control and variances
- A static budget is set for planned volume. A flexible budget restates revenue and variable costs at actual volume.
- Standard costing separates price and quantity variances. Material price variance = actual quantity x (actual price - standard price). Material quantity variance = (actual quantity - standard quantity allowed) x standard price.
- Mix and yield variances apply where inputs are substitutable. Planning and operating variances separate forecast error from performance.
- Investigate by exception: a favourable variance can be bad, for example underspending on maintenance.
Worked example
Budget: 1,000 units, 2 kg each at $5, so $10,000. Actual: 1,200 units, 2,500 kg, cost $13,000. Static budget variance is $3,000 unfavourable, but it mixes volume and cost. Flexible budget = 1,200 x 2 x $5 = $12,000, so the flexible budget variance is $1,000 unfavourable. Actual price = $13,000 / 2,500 = $5.20. Price variance = 2,500 x ($5.20 - $5.00) = $500 unfavourable. Quantity variance = (2,500 - 2,400) x $5 = $500 unfavourable. The two sum to $1,000. The manager used 100 kg more than allowed and paid $0.20 more per kg; only the $1,000 is controllable at this volume.
Traps
Comparing actual only with the static budget; treating fixed cost per unit as variable; assuming all favourable variances are good; building slack into budgets; using a rolling forecast as a variance report; ignoring the cost of ZBB.