Problem 14-16 Behavioral impact of budgeting

Butler Corporation has three divisions, each operating as a responsibility center. To provide an incentive for divisional executive officers, the company gives divisional management a bonus equal to 15 percent of the excess of actual net income over budgeted net income. The following is French Division's current year's performance.

Current Year

Sales revenue $2,000,000

Cost of goods sold -1,250,000

Gross profit 750,000

Selling & admin. expenses-450,000

Net income$ $300,000

The president has just received next year's budget proposal from the vice president in charge of French Division. The proposal budgets a 5 percent increase in sales revenue with an extensive explanation about stiff market competition. The president is puzzled. French has enjoyed revenue growth of around 10 percent for each of the past five years. The president had consistently approved the division's budget proposals based on 5 percent growth in the past. This time, the president wants to show that he is not a fool. "I will impose a 15 percent revenue increase to teach them a lesson!" the president says to himself smugly.

Assume that cost of goods sold and selling and administrative expenses remain stable in proportion to sales.

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Required

a.Prepare the budgeted income statement based on French Division's proposal of a 5 percent increase.

b.If growth is actually 10 percent as usual, how much bonus would French Division's executive officers receive if the president had approved the division's proposal?

c.Prepare the budgeted income statement based on the 15 percent increase the president imposed.

d.If the actual results turn out to be a 10 percent increase as usual, how much bonus would French Division's executive officers receive since the president imposed a 15 percent increase?

e.Propose a better budgeting procedure for Butler Corporation.

Acct 301 Week 6 Sample Problems Problem #1 Sample Behavioral Impact of Budgeting Seevers Corporation has three divisions, each operating as a responsibility center. To provide an incentive for divisional executive officers, the company gives divisional management a bonus equal to 10 percent of the excess of actual net income over budgeted net income. The following is the Northwest Division's current year performance: Sales revenue Cost of Goods Sold Gross Profit Selling & Admin Expenses Net Income Current Year $ 2,500,000 1,800,000 700,000 400,000 $ 300,000 The president has just received next year's budget proposal from the vice president in charge of the Northwest Division. The proposal budgets a 4 percent increase in sales revenue with an extensive explanation about stiff market competition. The president is confused. Northwest has enjoyed revenue of around 8 percent for each of the past five years. The president h consistently approved based on 4 percent growth in the past. The president is challenging himself to achieve a 12 percent reve increase to prove that they wrong with their budget estimates. Assume that cost of goods sold and selling and administrative expenses remain stable in proportion to sales. Required: a. Prepare the budgeted income statement based on Northwest Division's proposal of a 4 percent increase. b. If growth is actually 8 percent as usual, how much bonus would Northwest Division's executive officers receive if the president had approved the division's proposal? c. Prepare the budgeted income statement based on the 12 percent increase the president proposed. d. If the actual results turn out to be a 8 percent increase as usual, how much bonus would Northwest Division's executive officers receive since the president imposed a 12 percent increase? e. What type of budgeting procedure would you propose for the Seevers Corporation. Part A Pro forma income statement assuming 4% growth Sales Revenue $ 2,600,000 (2,500,000 X. 1.04) Cost of Goods Sold Gross Profit $ Selling and Administrative Exp. Net Income Part B 1,872,000 (1,800,000 X 1.04) 728,000 ( Sales Revenue- Cost of Goods Sold) 416,000 (400,000 X 1.04) $ 312,000 (Gross Profit - Selling and Administrative Exp) Pro forma income statement with 8% growth Sales Revenue $ 2,700,000 (2,500,000 X 1.08) Cost of Goods Sold Gross Profit Selling and Administrative Exp $ 1,944,000 (1,800,000 X 1.08) 756,000 ( Sales Revenue- Cost of Goods Sold) 432,000 (400,000 X 1.08) Net Income $ 324,000 (Gross Profit - Selling and Administrative Exp) Excess of actual net income over budget: $324,000- $312,000 = $12,000 Bonus: $12,000 X 10% = 1,200 Part C $ 1,200 Bonus Pro forma income statement with 12% growth Sales Revenue $ 2,800,000 (2,500,000 X 1.12) Cost of Goods Sold Gross Profit $ Selling and Administrative Exp Net Income 2,016,000 (1,800,000 X 1.12) 784,000 ( Sales Revenue- Cost of Goods Sold) 448,000 (400,000 X 1.12) $ 336,000 (Gross Profit - Selling and Administrative Exp) Part D No Bonus will be awarded due to the fact Net Income under the 8 percent increase did not exceed the 12 percent growth proposal. Part E The company should pursue participative budgeting. Please explain reasons as to why this should be pursued. tive for divisional s of actual net income orthwest Division. market competition. e years. The president had chieve a 12 percent revenue hould be pursued. Problem #2 Sample Return on Investment Sharp Corporation's balance sheet indicates that the company has $600,000 invested in operating assets: During 2015, Sharp earned operating income of $ 80,000 on $ 1,200,000 of sales. Required: a. Compute Sharp's profit margin for 2015 b. Compute Sharp's turnover for 2015. c. Compute Sharp's Return on Investment for 2015. d. Recompute Sharp's ROI under each of the following independent assumptions. (1) Sales increase from $1,200,000 to $ 1,450,000, thereby resulting in an increase in operating income from $ 80,000 to $100,000. (2) Sales remain constant, but Sharp reduces expenses, resulting in an increase in operating income from $80,000 to $85,000. (3) Sharp is able to reduce its invested capital from $ 600,000 to $ 500,000 without affecting operating income. Part A Facts: Operating Assets Sales Operating Income $ $ $ 600,000 1,200,000 80,000 Operating Profit Margin = Operating Income / Sales 6.67% Part B Facts: Operating Assets Sales Operating Income $ $ $ 600,000 1,200,000 80,000 Turnover = Sales/ Operating Assets 2 Part C ROI = Operating Profit Margin X Turnover 13.33% Part D-Scenario 1 Facts: Operating Assets Sales Operating Income Operating Profit Margin: Operating Income/Sales $ $ $ 600,000 1,450,000 100,000 6.90% Turnover: Sales/Operating Assets 2.42 ROI=Operating Profit Margin X Turnover 16.67% Part D Scenario 2 Facts: Operating Assets Sales Operating Income $ $ $ 600,000 1,200,000 85,000 Operating Profit Margin: Operating Income/Sales Turnover: Sales/Operating Assets 7.08% 2 ROI=Operating Profit Margin X Turnover 14.17% Part D Scenario 3 Facts: Operating Assets Sales Operating Income $ $ $ 500,000 1,200,000 80,000 Operating Profit Margin: Operating Income/Sales Turnover: Sales/Operating Assets 6.67% 2.4 ROI=Operating Profit Margin X Turnover 16.00% ed in operating assets: operating income