The production manager at Breaklack has been called to an urgent meeting by the managing director to discuss his annual performance-related bonus payment.

He has been unhappy in his job for some time, and has found it increasingly difficult to meet the production targets set for him by the sales manager, or to stay within the budget imposed by the management accountant, and has never had any input into the setting of these targets. He knows the level of his bonus payment is dependent on meeting the targets set, and is fearful that he will not receive enough to pay for the summer holiday he has just booked!

Having never had any training in budgetary control, he finds it difficult to understand the adverse variance reports that arrive on his desk every two months, or even how his cost targets are worked out in the first place. He has heard the accountant talking about ‘standard costs’ but has no idea what these are. Over the past six months the material price adverse variance has been increasing dramatically, but he cannot understand why, as all materials come from the central stores and are bought by the purchasing manager without reference back to the production department.

He has also often wondered why his budget for materials and labour never seems to increase, even though the sales manager regularly asks him to increase production to meet an increased level of anticipated sales. He usually manages to meet these increased targets, but his staff often have to work overtime to do so. Having discussed the matter with the production supervisor they were in agreement that increasing production was bound to lead to higher costs in some areas – so why was this never reflected in his budget?

(a) Discuss the underlying problems with the budgetary control system in operation at the company.

(b) Identify ways in which the system could be improved.