Question

1) Is there an issue with our current approach of reporting performance against a fixed budget developed months ago even though our revenue has dropped off substantially?

problem:

You are the management accountant of a small building supplies manufacturer. The CEO calls you via ZOOM to give you a new research project to work on. After the greeting she tells you the problem: I need you to look at how we do our budgeting. We spent three months working on our budget and now less than four months into the budgeted year it is useless. Due to the Covid-19 virus and numerous lock downs our revenues are substantially lower than we budgeted and the management reports that you produce are showing unfavourable variances everywhere against the fixed budget. I cant use it to help me make decisions to manage the business or to measure the performance of managers of different departments in this changed environment. I had a quick chat with three of my contacts in consulting firms. They were all keen to help. However, they all gave very different advice. I dont understand the approaches they were suggesting. One said that we should do very detailed budgeting in what he said was Zero Based Budgeting. Another said the opposite that we should throw away budgeting and do something called Beyond Budgeting while a third said we should do Activity Based Budgeting. Is that anything like the Activity Based Costing that you implemented last year? We need information on our costs so we can reduce costs if this downturn continues, and I need ongoing information on how we are tracking against plan. I dont have money for consulting fees and wouldnt know which consultant to pick anyway since they have such different solutions. You did such a great job on the Activity Based Costing implementation I am sure that you can help me understand the issues, the options and provide a recommended way forward.

Additional Information

Current Budgeting Process:

The company broadly follows the traditional budgeting process shown in Chapter 6 (from page 168) of the unit textbook (Eldenburg et al, 2019). Initial budgets for manufacturing costs were based on prior year actual costs, adjusted for forecast changes in volumes of product to be produced where appropriate. Period costs for support departments, such as the costs of the marketing, sales, customer service and finance departments, were budgeted using the incremental approach (Textbook section 5.3 page 148) adjusting the prior years actual costs. The budget process took many months to be finalised with managers pushing for increases in the initial budget due to expected increases in costs in their areas. Achievement of budgets is an important criterion in calculating managers bonuses at the end of the year.

Current Management Reporting:

Management reports are produced monthly with variances of actual costs against the final static/fixed budget produced for direct labour, direct materials, fixed and variable overhead and for each department by cost line item.