Budgetary CONTROL AND RESPONSIBILITY ACC

BUDGETARY CONTROL AND
RESPONSIBILITY ACCOUNTING
TRUE-FALSE STATEMENTS
1. Budget reports comparing actual results with planned objectives should be prepared only
once a year.
2. If actual results are different from planned results, the difference must always be
investigated by management to achieve effective budgetary control.
3. Certain budget reports are prepared monthly whereas others are prepared more
frequently depending on the activities being monitored.
4. The master budget is not used in the budgetary control process.
5. A master budget is most useful in evaluating a manager's performance in controlling

costs.
6. A static budget is one that is geared to one level of activity.
7. A static budget is changed only when actual activity is different from the level of activity
expected.
8. A static budget is most useful for evaluating a manager's performance in controlling

variable costs.
9. A flexible budget can be prepared for each of the types of budgets included in the master
budget.
10. A flexible budget is a series of static budgets at different levels of activities.
11. Flexible budgeting relies on the assumption that unit variable costs will remain constant
within the relevant range of activity.
12. Total budgeted fixed costs appearing on a flexible budget will be the same amount as total
fixed costs on the master budget.
13. A flexible budget is prepared before the master budget.
14. The activity index used in preparing a flexible budget should not influence the variable
costs that are being budgeted.
15. A formula used in developing a flexible budget is: Total budgeted cost = fixed cost + (total
variable cost per unit X activity level).
16. Flexible budgets are widely used in production and service departments.
17. A flexible budget report will show both actual and budget cost based on the actual activity
level achieved.
7-2 Test Bank for Managerial Accounting, Second Edition
18. Management by exception means that management will investigate areas where actual
results differ from planned results if the items are material and controllable.
19. Policies regarding when a difference between actual and planned results should be
investigated are generally more restrictive for noncontrollable items than for controllable
items.
20. A distinction should be made between controllable and noncontrollable costs when
reporting information under responsibility accounting.
21. Cost centers, profit centers, and investment centers can all be classified as responsibility
centers.
22. More costs become controllable as one moves down to each lower level of managerial
responsibility.
23. In a responsibility accounting reporting system, as one moves up each level of

responsibility in an organization the responsibility reports become more summarized and
show less detailed information.
24. A cost item is considered to be controllable if there is not a large difference between
actual cost and budgeted cost for that item.
25. The terms "direct fixed costs" and "indirect fixed costs" are synonymous with "traceable
costs" and "common costs," respectively.
26. A cost center incurs costs and generates revenues and cost center managers are
evaluated on the profitability of their centers.
27. Controllable margin is subtracted from controllable fixed costs to get net income for a
profit center.
28. The formula for computing return on investment is controllable margin divided by average
operating assets.
29. The denominator in the formula for calculating the return on investment includes operating
and nonoperating assets.
*30. Residual income is the income that remains after subtracting from controllable margin the
minimum rate of return on a company’s average operating assets.
Answers to True-False Statements
Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. Item Ans.
1. F 6. T 11. T 16. T 21. T 26. F
2. F 7. F 12. T 17. T 22. F 27. F
3. T 8. F 13. F 18. T 23. T 28. T
4. F 9. T 14. F 19. F 24. F 29. F
5. F 10. T 15. T 20. T 25. T *30. T
7-3 Budgetary Control and Responsibility Accounting
MULTIPLE CHOICE QUESTIONS

31. A major element in budgetary control is
a. the preparation of long-term plans.
b. the comparison of actual results with planned objectives.
c. the valuation of inventories.
d. approval of the budget by the stockholders.
32. Budget reports should be prepared

a. daily.
b. monthly.
c. weekly.
d. as frequently as needed.
33. On the basis of the budget reports,

a. management analyzes differences between actual and planned results.
b. management may take corrective action.
c. management may modify the future plans.
d. all of these.
34. The purpose of the departmental overhead cost report is to

a. control indirect labor costs.
b. control selling expense.
c. determine the efficient use of materials.
d. control overhead costs.
35. The purpose of the sales budget report is to

a. control selling expenses.
b. determine whether income objectives are being met.
c. determine whether sales goals are being met.
d. control sales commissions.
36. The comparison of differences between actual and planned results

a. is done by the external auditors.
b. appears on the company's external financial statements.
c. is usually done orally in departmental meetings.
d. appears on periodic budget reports.
37. A static budget

a. should not be prepared in a company.
b. is useful in evaluating a manager's performance by comparing actual variable costs
and planned variable costs.
c. shows planned results at the original budgeted activity level.
d. is changed only if the actual level of activity is different than originally budgeted.
38. A static budget report

a. shows costs at only 2 or 3 different levels of activity.
b. is appropriate in evaluating a manager's effectiveness in controlling variable costs.
c. should be used when the actual level of activity is materially different from the master
budget activity level.
d. may be appropriate in evaluating a manager's effectiveness in controlling costs when
the behavior of the costs in response to changes in activity is fixed.
39. A static budget is appropriate in evaluating a manager's performance if

a. actual activity closely approximates the master budget activity.
b. actual activity is less than the master budget activity.
c. the company prepares reports on an annual basis.
d. the company is a not-for-profit organization
40. When budgeted and actual results are not the same amount, there is a budget
a. error.
b. difference.
c. anomaly.
d. by-product.
41. Top management's reaction to a difference between budgeted and actual sales often
depends on
a. whether the difference is favorable or unfavorable.
b. whether management anticipated the difference.
c. the materiality of the difference.
d. the personality of the top managers.
42. If costs are not responsive to changes in activity level, then these costs can be best
described as
a. mixed.
b. flexible.
c. variable.
d. fixed.
43. Assume that actual sales results exceed the planned results for the second quarter. This
favorable difference is greater than the unfavorable difference reported for the first quarter
sales. Which of the following statements about the sales budget report on June 30 is
true?
a. The year-to-date results will show a favorable difference.
b. The year-to-date results will show an unfavorable difference.
c. The difference for the first quarter can be ignored.
d. The sales report is not useful if it shows a favorable and unfavorable difference for the
two quarters.
44. A static budget is appropriate for

a. variable overhead costs.
b. direct material costs.
c. fixed overhead costs.
d. none of these.
45. A flexible budget

a. is prepared when management can't agree on objectives for the company.
b. projects budget data for various levels of activity.
c. is only useful in controlling fixed costs.
d. cannot be used for evaluation purposes because budgeted data are adjusted to reflect
actual results.
46. The master budget of Benedict Company shows that the planned activity level for next
year is expected to be 50,000 machine hours. At this level of activity, the following
manufacturing overhead costs are expected:
Indirect labor $360,000
Machine supplies 90,000
Indirect materials 105,000
Depreciation on factory building 75,000
Total manufacturing overhead $630,000
A flexible budget for a level of activity of 60,000 machine hours would show total
manufacturing overhead costs of
a. $741,000.
b. $630,000.
c. $756,000.
d. $681,000.
47. A department has budgeted monthly manufacturing overhead cost of $90,000 plus $3 per
direct labor hour. If a flexible budget report reflects $174,000 for total budgeted
manufacturing cost for the month, the actual level of activity achieved during the month
was
a. 88,000 direct labor hours.
b. 28,000 direct labor hours.
c. 58,000 direct labor hours.
d. cannot be determined.
48. Which one of the following would be the same total amount on a flexible budget and a
static budget if the activity level is different for the two types of budgets?
a. Direct materials cost
b. Direct labor cost
c. Variable manufacturing overhead
d. Fixed manufacturing overhead
49. In developing a flexible budget within a relevant range of activity,

a. only fixed costs are included.
b. it is necessary to relate variable cost data to the activity index chosen.
c. it is necessary to prepare a budget at 1,000 unit increments.
d. variable and fixed costs are combined and are reported as a total cost.
50. The flexible budget

a. is prepared before the master budget.
b. is relevant both within and outside the relevant range.
c. eliminates the need for a master budget.
d. is a series of static budgets at different levels of activity.
51. A flexible budget can be prepared for which of the following budgets comprising the
master budget?
a. Sales
b. Overhead
c. Direct materials
d. All of these
52. Another name for the static budget is

a. master budget.
b. overhead budget.
c. permanent budget.
d. flexible budget.
53. If a company plans to sell 16,000 units of product but sells 20,000, the most appropriate
comparison of the cost data associated with the sales will be by a budget based on
a. the original planned level of activity.
b. 18,000 units of activity.
c. 20,000 units of activity.
d. 16,000 units of activity.
54. Within the relevant range of activity, the behavior of total costs is assumed to be
a. linear and upward sloping.
b. linear and downward sloping.
c. curvilinear and upward sloping.
d. linear to a point and then level off.
55. Sales results that are evaluated by a static budget might show
1. favorable differences that are not justified.
2. unfavorable differences that are not justified.
a. 1
b. 2
c. both 1 and 2.
d. neither 1 nor 2.
56. The selection of levels of activity to depict a flexible budget

1. will be within the relevant range.
2. is largely a matter of expediency.
3. is governed by generally accepted accounting principles.
a. 1
b. 2
c. 3
d. 1 and 2
57. Management by exception

a. causes managers to be buried under voluminous paperwork.
b. means that all differences will be investigated.
c. means that only unfavorable differences will be investigated.
d. means that material differences will be investigated.
58. Under management by exception, which differences between planned and actual results
should be investigated?
a. Material and noncontrollable
b. Controllable and noncontrollable
c. Material and controllable
d. All differences should be investigated
59. A flexible budget depicted graphically

a. is identical to a CVP graph.
b. differs from a CVP graph in the way that fixed costs are shown.
c. differs from a CVP graph in the way that variable costs are shown.
d. differs from a CVP graph in that sales revenue is not shown.
60. The activity index used in preparing the flexible budget

a. is prescribed by generally accepted accounting principles.
b. is only applicable to fixed manufacturing costs.
c. is the same for all departments.
d. should significantly influence the costs that are being budgeted.
61. A static budget is not appropriate in evaluating a manager's effectiveness if a company

has
a. substantial fixed costs.
b. substantial variable costs.
c. planned activity levels that match actual activity levels.
d. no variable costs.
62. The accumulation of accounting data on the basis of the individual manager who has the
authority to make day-to-day decisions about activities in an area is called
a. static reporting.
b. flexible accounting.
c. responsibility accounting.
d. master budgeting.
63. A cost is considered controllable at a given level of managerial responsibility if

a. the manager has the power to incur the cost within a given time period.
b. the cost has not exceeded the budget amount in the master budget.
c. it is a variable cost, but it is uncontrollable if it is a fixed cost.
d. it changes in magnitude in a flexible budget.
64. As one moves up to each higher level of managerial responsibility,

a. fewer costs are controllable.
b. the responsibility for cost incurrence diminishes.
c. a greater number of costs are controllable.
d. performance evaluation becomes less important.
65. A responsibility report should

a. be prepared in accordance with generally accepted accounting principles.
b. show only those costs that a manager can control.
c. only show variable costs.
d. only be prepared at the highest level of managerial responsibility.
66. Top management can control

a. only controllable costs.
b. only noncontrollable costs.
c. all costs.
d. some noncontrollable costs and all controllable costs.
67. Not-for-profit entities

a. do not use responsibility accounting.
b. utilize responsibility accounting in trying to maximize net income.
c. utilize responsibility accounting in trying to minimize the cost of providing services.
d. have only noncontrollable costs.
68. Which of the following is not a true statement?

a. All costs are controllable at some level with a company.
b. Responsibility accounting applies to both profit and not-for-profit entities.
c. Fewer costs are controllable as one moves up to each higher level of managerial
responsibility.
d. The term segment is sometimes used to identify areas of responsibility in
decentralized operations.
69. Costs incurred indirectly and allocated to a responsibility level are considered to be
a. nonmaterial.
b. mixed.
c. controllable.
d. noncontrollable.
70. Management by exception

a. is most effective at top levels of management.
b. can be implemented at each level of responsibility within an organization.
c. can only be applied when comparing actual results with the master budget.
d. is the opposite of goal congruence.
71. The linens department of a large department store is

a. not a responsibility center.
b. a profit center.
c. a cost center.
d. an investment center.
72. The foreign subsidiary of a large corporation is

a. not a responsibility center.
b. a profit center.
c. a cost center.
d. an investment center.
73. The maintenance department of a manufacturing company is a(n)

a. segment.
b. profit center.
c. cost center.
d. investment center.
74. Which of the following is not a correct match?

1. Incurs costs
2. Generates revenue
3. Controls investment funds
a. Investment Center 1, 2, 3
b. Cost Center 1
c. Profit Center 1, 2, 3
d. All are correct matches.
75. A cost center

a. only incurs costs and does not directly generate revenues.
b. incurs costs and generates revenues.
c. is a responsibility center of a company which incurs losses.
d. is a responsibility center which generates profits and evaluates the investment cost of
earning the profit.
76. A manager of a cost center is evaluated mainly on

a. the profit that the center generates.
b. his or her ability to control costs.
c. the amount of investment it takes to support the cost center.
d. the amount of revenue that can be generated.
77. Performance reports for cost centers compare actual

a. total costs with static budget data.
b. total costs with flexible budget data.
c. controllable costs with static budget data.
d. controllable costs with flexible budget data.
78. In the performance report for cost centers,

a. controllable and noncontrollable costs are reported.
b. fixed costs are not reported.
c. no distinction is made between fixed and variable costs.
d. only material and controllable costs are reported.
79. Of the following choices, which contain both a traceable fixed cost and a common fixed
cost?
a. Profit center manager's salary and timekeeping costs for a responsibility center's
employees.
b. Company president's salary and company personnel department costs.
c. Company personnel department costs and timekeeping costs for a responsibility
center's employees.
d. Depreciation on a responsibility center's equipment and supervisory salaries for the
center.
80. Which of the following is not an indirect fixed cost?

a. Company president's salary
b. Depreciation on the company building housing several profit centers
c. Company personnel department costs
d. Profit center supervisory salaries
81. All of the following statements about a responsibility report are correct except that
a. only controllable costs are included.
b. it compares actual costs with flexible budget data.
c. a distinction is made between variable and fixed costs.
d. it continues the concept of management by exception.
82. The best measure of the performance of the manager of a profit center is the
a. rate of return on investment.
b. success in meeting budgeted goals for controllable costs.
c. amount of controllable margin generated by the profit center.
d. amount of contribution margin generated by the profit center.
83. Controllable margin is defined as

a. sales minus variable costs.
b. sales minus contribution margin.
c. contribution margin less controllable fixed costs.
d. contribution margin less noncontrollable fixed costs.
84. Controllable margin is most useful for

a. external financial reporting.
b. preparing the master budget.
c. performance evaluation of profit centers.
d. break-even analysis.
85. Which of the following will not result in an unfavorable controllable margin difference?
a. Sales exceeding budget; costs under budget
b. Sales exceeding budget; costs over budget
c. Sales under budget; costs under budget
d. Sales under budget; costs over budget
86. Given below is an excerpt from a management performance report:

Budget Actual Difference
Contribution margin $1,000,000 $1,050,000 $50,000
Controllable fixed costs $ 500,000 $ 450,000 $50,000
The manager's overall performance
a. is 20% below expectations.
b. is 20% above expectations.
c. is equal to expectations.
d. cannot be determined from information given.
87. Which of the following are financial measures of performance?

1. Controllable margin
2. Product quality
3. Labor productivity
a. 1
b. 2
c. 3
d. 1 and 3
88. Given below is an excerpt from a management performance report:

Budget Actual Difference
Contribution margin $600,000 $580,000 $20,000 U
Controllable fixed costs $200,000 $220,000 $20,000 U
The manager's overall performance
a. is 10% above expectations.
b. is 10% below expectations.
c. is equal to expectations.
d. cannot be determined from the information provided.
89. A responsibility report for a profit center will

a. not show controllable fixed costs.
b. not show indirect fixed costs.
c. show noncontrollable fixed costs.
d. not show cumulative year-to-date results.
90. The dollar amount of the controllable margin

a. is usually higher than the contribution margin.
b. is usually lower than the contribution margin.
c. is always equal to the contribution margin.
d. cannot be a negative figure.
91. A profit center is

a. a responsibility center that always reports a profit.
b. a responsibility center that incurs costs and generates revenues.
c. evaluated by the rate of return earned on the investment allocated to the center.
d. referred to as a loss center when operations do not meet the company's objectives.
92. Each of the following are controllable by a profit center manager except
a. variable costs.
b. sales.
c. indirect fixed costs.
d. all of these options are controllable.
93. Direct fixed costs are
a. also called common costs.
b. not controllable by a profit center manager.
c. costs that apply to more than one center.
d. deducted from contribution margin on a responsibility report.
94. An indirect fixed cost is also called a
a. common fixed cost.
b. controllable fixed cost.
c. direct fixed cost.
d. traceable fixed cost.
95. All of the following statements about a profit center responsibility report are correct except
that
a. controllable fixed costs are deducted from controllable margin.
b. it shows budgeted and actual controllable revenues and costs.
c. noncontrollable fixed costs are not reported.
d. it may include cumulative year-to-date results.
96. The denominator in the formula for return on investment calculation is
a. investment center controllable margin.
b. dependent on the specific type of profit center.
c. average investment center operating assets.
d. sales for the period.
97. In the formula for ROI, idle plant assets are
a. included in the calculation of controllable margin.
b. included in the calculation of operating assets.
c. excluded in the calculation of operating assets.
d. excluded from total assets.
98. In computing ROI, land held for future use

a. will hurt the performance measurement of an investment center's manager.
b. is important in evaluating the performance of a profit center manager.
c. is included in the calculation of operating assets.
d. is considered a nonoperating asset.
99. If an investment center has a $15,000 controllable margin and $200,000 of sales, what
average operating assets are needed to have a return on investment of 10%?
a. $20,000.
b. $25,000.
c. $150,000.
d. $200,000.
100. Which of the following valuations of operating assets are not readily available from the
accounting records?
a. Cost
b. Book value
c. Market value
d. Both cost and market value
101. A distinguishing characteristic of an investment center is that

a. revenues are generated by selling and buying stocks and bonds.
b. interest revenue is the major source of revenues.
c. the profitability of the center is related to the funds invested in the center.
d. it is a responsibility center which only generates revenues.
102. A measure frequently used to evaluate the performance of the manager of an investment
center is
a. the amount of profit generated.
b. the rate of return on funds invested in the center.
c. the percentage increase in profit over the previous year.
d. departmental gross profit.
103. Return on investment is calculated by dividing

a. contribution margin by sales.
b. controllable margin by sales.
c. contribution margin by average operating assets.
d. controllable margin by average operating assets.
104. Which one of the following will not increase return on investment?
a. Variable costs are increased
b. An increase in sales
c. Average operating assets are decreased
d. Variable costs are decreased
105. If an investment center has generated a controllable margin of $60,000 and sales of
$300,000, what is the return on investment for the investment center if average operating
assets were $500,000 during the period?
a. 12%
b. 20%
c. 48%
d. 60%
106. The manager of an investment center can improve ROI by increasing

a. average operating assets.
b. controllable fixed costs.
c. controllable margin.
d. variable costs.
107. Behavioral principles included in performance evaluation include all of the following except
that the
a. evaluation should be based entirely on matters that are controllable by the manager
being evaluated.
b. top management should support the evaluation process.
c. evaluation process must allow managers to respond to their evaluation.
d. evaluation should identify only poor performance.
*108. The following information is available for Louie Company:

Average operating assets $500,000
Controllable margin 70,000
Contribution margin 100,000
Minimum rate of return 12%
Louie’s residual income is
a. $70,000.
b. $40,000.
c. $30,000.
d. $10,000.
*109. Residual income is defined as

a. contribution margin less controllable fixed costs.
b. contribution margin less the minimum rate of return on average operating assets.
c. controllable margin less the minimum rate of return on average operating assets.
d. controllable margin divided by average operating assets.
*110. All of the following are correct statements about residual income except that
a. its goal is to maximize the total amount of residual income.
b. it ignores the fact that one division’s operating assets might be substantially lower than
another division’s assets.
c. it is the difference between contribution margin and the minimum rate of return on
average operating assets.
d. it evaluates performance using a company’s minimum rate of return.
Answers to Multiple Choice Questions
Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. Item Ans. Item Ans.
31. b 43. a 55. c 67. c 79. c 91. c 103. d
32. d 44. c 56. d 68. c 80. d 92. c 104. a
33. d 45. b 57. d 69. d 81. c 93. d 105. a
34. d 46. a 58. c 70. b 82. c 94. a 106. c
35. c 47. b 59. d 71. b 83. c 95. a 107. d
36. d 48. d 60. d 72. d 84. c 96. c *108. d
37. c 49. b 61. b 73. c 85. a 97. c *109. c
38. d 50. d 62. c 74. c 86. b 98. d *110. c
39. a 51. d 63. a 75. a 87. a 99. c
40. b 52. a 64. c 76. b 88. b 100. c
41. c 53. c 65. b 77. d 89. b 101. c
42. d 54. a 66. c 78. c 90. b 102. b
EXERCISES
Ex. 111
Golden Company's master budget reflects budgeted sales information for the month of June,
2002, as follows:
Budgeted Quantity Budgeted Unit Sales Price
Product A 15,000 $7
Product B 18,000 $9
During June, the company actually sold 13,900 units of Product A at an average unit price of
$7.30 and 18,800 units of Product B at an average unit price of $8.90.
Instructions
Prepare a Sales Budget Report for the month of June for Golden Company which shows whether
the company achieved its planned objectives.
Solution 111 (10–15 min.)

GOLDEN COMPANY
Sales Budget Report
For the Month Ended June 30, 2002
Product Line Budget Actual Difference

Product A $105,000 $101,470 $3,530 U
Product B 162,000 167,320 5,320 F
Total sales $267,000 $268,790 $1,790 F
Ex. 112
Heerey Company developed its annual manufacturing overhead budget for its master budget for
2002 as follows:
120,000 Direct
Expected annual operating capacity Labor Hours
Variable overhead costs
Indirect labor $ 480,000
Indirect materials 90,000
Factory supplies 60,000
Total variable costs 630,000
Fixed overhead costs
Depreciation 180,000
Supervision 144,000
Property taxes 96,000
Total fixed costs 420,000
Total costs $1,050,000
The relevant range for monthly activity is expected to be between 8,000 and 12,000 direct labor
hours.
Instructions
Prepare a flexible budget for a monthly activity level of 8,000 and 9,000 direct labor hours.

HEEREY COMPANY
Monthly Flexible Manufacturing Overhead Budget
Activity level
Direct labor hours 8,000 9,000
Variable costs
Indirect labor $32,000 $36,000
Indirect materials 6,000 6,750
Factory supplies 4,000 4,500
Total variable costs 42,000 47,250
Fixed costs
Depreciation 15,000 15,000
Supervision 12,000 12,000
Property taxes 8,000 8,000
Total fixed costs 35,000 35,000
Total costs $77,000 $82,250
Ex. 113
Eaton Company has prepared the following monthly flexible manufacturing overhead budget for
its Mixing Department:
EATON COMPANY
Mixing Department
Activity level
Variable costs
Indirect materials $ 2,100 $ 2,800
Indirect labor 15,000 20,000
Factory supplies 6,900 9,200
Total variable costs 24,000 32,000
Fixed costs
Depreciation 20,000 20,000
Supervision 10,000 10,000
Property taxes 15,000 15,000
Total fixed costs 45,000 45,000
Total costs $69,000 $77,000
Instructions
Prepare a flexible budget at the 5,000 direct labor hours of activity.

EATON COMPANY
Mixing Department
Activity level
Direct labor hours 5,000
Variable costs
Indirect materials $ 3,500
Indirect labor 25,000
Factory supplies 11,500
Fixed costs
Depreciation 20,000
Supervision 10,000
Total costs $85,000
Ex. 114
Drennon Company uses a flexible budget for manufacturing overhead based on machine hours.
Variable manufacturing overhead costs per machine hour are as follows:
Indirect Labor $8.00

Indirect Materials 2.50
Maintenance .80
Utilities .30
Fixed overhead costs per month are:

Supervision $600
Insurance 200
Property Taxes 300
Depreciation 900
The company believes it will normally operate in a range of 2,000 to 4,000 machine hours per
month.
Instructions
Prepare a flexible manufacturing overhead budget for the expected range of activity, using
increments of 1,000 machine hours.

DRENNON COMPANY
Activity level
Machine hours 2,000 3,000 4,000
Variable costs
Indirect labor $16,000 $24,000 $32,000
Indirect materials 5,000 7,500 10,000
Maintenance 1,600 2,400 3,200
Utilities 600 900 1,200
Total variable costs 23,200 34,800 46,400
Fixed costs
Supervision 600 600 600
Insurance 200 200 200
Property taxes 300 300 300
Depreciation 900 900 900
Total fixed costs 2,000 2,000 2,000
Total costs $25,200 $36,800 $48,400
Ex. 115
Drennon Company uses a flexible budget for manufacturing overhead based on machine hours.
Variable manufacturing overhead costs per machine hour as follows:
Indirect Labor $8.00
Indirect Materials 2.50
Maintenance .80
Utilities .30
Fixed overhead costs per month are:
Supervision $600
Insurance 200
Property Taxes 300
Depreciation 900
The company believes it will normally operate in a range of 2,000 to 4,000 machine hours per
month. During the month of August, 2002, the company incurs the following manufacturing
overhead costs:
Indirect Labor $22,000
Indirect Materials 8,100
Maintenance 2,500
Utilities 950
Supervision 720
Insurance 200
Property Taxes 300
Depreciation 950
Instructions
Prepare a flexible budget report, assuming that the company used 3,000 machine hours during
August. The company expected to use 3,000 machine hours.

DRENNON COMPANY
Manufacturing Overhead Budget Report (Flexible)
For the Month Ended August 31, 2002
Machine hours Difference
Expected 3,000 Budget at Actual at Favorable F
Actual 3,000 3,000 hrs. 3,000 hrs. Unfavorable U
Variable costs
Indirect labor $24,000 $22,000 $2,000 F
Indirect materials 7,500 8,100 600 U
Maintenance 2,400 2,500 100 U
Utilities 900 950 50 U
Total variable costs 34,800 33,550 1,250 F
Fixed Costs
Supervision 600 720 120 U
Insurance 200 200 —
Property taxes 300 300 —
Depreciation 900 950 50 U
Total fixed costs 2,000 2,170 170 U
Total costs $36,800 $35,720 $1,080 F
Ex. 116
Jeltz Company uses flexible budgets to control its selling expenses. Monthly sales are expected
to be from $300,000 to $360,000. Variable costs and their percentage relationships to sales are:
Sales commissions 6%
Advertising 4%
Traveling 5%
Delivery 1%
Fixed selling expenses consist of Sales Salaries $40,000 and Depreciation on Delivery Equip-
ment $10,000.
Instructions
Prepare a flexible budget for increments of $30,000 of sales within the relevant range.

JELTZ COMPANY
Monthly Flexible Selling Expense Budget
Activity level
Sales $300,000 $330,000 $360,000
Variable expenses
Sales commissions $ 18,000 $ 19,800 $ 21,600
Advertising 12,000 13,200 14,400
Traveling 15,000 16,500 18,000
Delivery 3,000 3,300 3,600
Fixed expenses
Sales salaries 40,000 40,000 40,000
Depreciation 10,000 10,000 10,000
Total costs $ 98,000 $102,800 $107,600
Ex. 117
Jeltz Company uses flexible budgets to control its selling expenses. Monthly sales are expected
to be from $300,000 to $360,000. Variable costs and their percentage relationships to sales are:
Sales commissions 6%
Advertising 4%
Traveling 5%
Delivery 1%
Fixed selling expenses consist of Sales Salaries $40,000 and Depreciation on Delivery
Equipment $10,000.
Ex. 117 (cont.)

The actual selling expenses incurred in February, 2002, by Jeltz Company are as follows:
Sales commissions $20,600
Advertising 12,000
Traveling 16,900
Delivery 2,400
Fixed selling expenses consist of Sales Salaries $41,500 and Depreciation on Delivery Equip-
ment $10,000.
Instructions
Prepare a flexible budget performance report, assuming that February sales were $330,000.
Expected and actual sales are the same.

JELTZ COMPANY
Selling Expense Budget Report (Flexible)
For the Month Ended February 28, 2002
Difference
Activity level Favorable F
Expected $330,000 Budget Actual Unfavorable U
Actual 330,000 $330,000 $330,000
Variable expenses
Sales commissions $ 19,800 $ 20,600 $ 800 U
Advertising 13,200 12,000 1,200 F
Traveling 16,500 16,900 400 U
Delivery 3,300 2,400 900 F
Total variable costs 52,800 51,900 900 F
Fixed expenses
Sales salaries 40,000 41,500 1,500 U
Depreciation 10,000 10,000 —
Total fixed costs 50,000 51,500 1,500 U
Total expenses $102,800 $103,400 $ 600 U
Ex. 118
A flexible budget graph for the Assembly Department shows the following:
1. At zero direct labor hours, the total budgeted cost line intersects the vertical axis at $60,000.
2. At normal capacity of 50,000 direct labor hours, the line drawn from the total budgeted cost
line intersects the vertical axis at $180,000.
Instructions
Develop the budgeted cost formula for the Assembly Department and identify the fixed and
variable costs.
Solution 118 (5 min.)

Budgeted Costs:
Assembly $60,000 + $2.40.
Fixed costs are $60,000.

Variable costs are $2.40 per labor hour.
($180,000 – $60,000) ÷ 50,000.
Ex. 119
Duncan Company uses flexible budgeting to control manufacturing overhead. The budget below
was prepared for the month ending June 30, 2003.
Direct Labor Hours

12,000 15,000 18,000
Indirect materials $36,000 $45,000 $ 54,000
Indirect labor 9,000 11,250 13,500
Utilities 6,000 7,500 9,000
Rent 10,000 10,000 10,000

Depreciation 8,000 8,000 8,000
Insurance 5,500 5,500 5,500
Total costs $74,500 $87,250 $100,000
During the month of June, 16,200 direct labor hours were worked and the following costs were
incurred:
Indirect materials $49,200
Indirect labor 11,980
Utilities 7,800
Rent 10,000
Depreciation 8,200
Insurance 5,620
Instructions
a. Prepare a flexible budget at the 16,200 direct labor hour level of activity.
b. Prepare a manufacturing overhead budget at the 16,200 direct labor hour level of activity.

a.
DUNCAN COMPANY
Flexible Budget
Indirect materials 16,200 DLH @ $3.00 = $48,600

Indirect labor 16,200 DLH @ $ .75 = 12,150
Utilities 16,200 DLH @ $ .50 = 8,100
Rent $10,000
Depreciation 8,000
Insurance 5,500
Total Costs $92,350
b.
DUNCAN COMPANY
Manufacturing Overhead Budget Report
Difference
Favorable F
Manufacturing Costs Budget Actual Unfavorable U
Variable costs
Indirect materials $48,600 $49,200 $600 U
Indirect labor 12,150 11,980 170 F
Utilities 8,100 7,800 300 F
Total variable costs 68,850 68,980 130 U
Fixed costs
Rent 10,000 10,000 0
Depreciation 8,000 8,200 200 U
Insurance 5,500 5,620 120 U
Total fixed costs 23,500 23,820 320 U
Total costs $92,350 $92,800 $450 U
Ex. 120
Data concerning manufacturing overhead for Friendly Company are presented below. The Mixing
Department is a cost center.
An analysis of the overhead costs reveals that all variable costs are controllable by the manager
of the Mixing Department and that 50% of supervisory costs are controllable at the department
level.
The flexible budget formula and the cost and activity for the months of July and August are as
follows:
Ex. 120 (cont.)

Flexible Budget Per
Direct Labor Hour Actual Costs and Activity
July August
Overhead costs
Variable
Indirect materials $3.00 $ 17,600 $ 21,500
Indirect labor 6.00 39,500 40,700
Factory supplies 1.00 8,600 8,500
Fixed
Depreciation $20,000 15,000 15,000
Supervision 24,000 21,600 25,000
Property taxes 5,000 12,000 12,000
Total costs $114,300 $122,700
Instructions
(a) Prepare the responsibility reports for the Mixing Department for each month.
(b) Comment on the manager's performance in controlling costs during the two month period.

(a) FRIENDLY COMPANY
Mixing Department
Manufacturing Overhead Cost Responsibility Report
For the Months of July and August
July August
Controllable Cost Budget Actual Difference Budget Actual Difference
Indirect materials 18,000 17,600 400 F 21,000 21,500 500 U
Indirect labor 36,000 39,500 3,500 U 42,000 40,700 1,300 F
Factory supplies 6,000 8,600 2,600 U 7,000 8,500 1,500 U
Supervision 12,000 10,800 1,200 F 12,000 12,500 500 U
Total costs 72,000 76,500 4,500 U 82,000 83,200 1,200 U
(b) The manager did a much better job of controlling costs in August ($1,200 U) than in July
($4,500 U).
Ex. 121
Dreer Company's manufacturing overhead budget for the first quarter of 2002 contained the
following data:
Variable Costs
Indirect Materials $25,000
Indirect Labor 12,000
Utilities 14,000
Maintenance 6,000
Ex. 121 (cont.)

Fixed Costs
Supervisor's Salary $40,000
Depreciation 8,000
Actual variable costs for the first quarter were:

Indirect Materials $23,300
Indirect Labor 13,200
Utilities 14,600
Maintenance 5,300
Actual fixed costs were as expected except for property taxes which were $4,800. All costs are
considered controllable by the department manager except for the supervisor's salary.
Instructions
Prepare a manufacturing overhead responsibility performance report for the first quarter.

DREER COMPANY
Manufacturing Overhead Cost Responsibility Report
For the Quarter Ended March 31, 2002
Controllable Costs Budget Actual Difference

Indirect materials $25,000 $23,300 $1,700 F
Indirect labor 12,000 13,200 1,200 U
Utilities 14,000 14,600 600 U
Maintenance 6,000 5,300 700 F
Depreciation 8,000 8,000 —
Property taxes 4,000 4,800 800 U
Total costs $69,000 $69,200 $ 200 U
Ex. 122
The Ace Division, a profit center of Crowe Engineering Company, reported the following data for
the first quarter of 2002:
Sales $6,000,000
Variable costs 4,500,000
Controllable direct fixed costs 600,000
Noncontrollable direct fixed costs 400,000
Indirect fixed costs 150,000
Instructions
(a) Prepare a performance report for the manager of the Ace Division.
(b) What is the best measure of the manager's performance? Why?
(c) How would the responsibility report differ if the division was an investment center?

(a) CROWE ENGINEERING COMPANY
Ace Division
Management Performance Report
For the Quarter Ended March 31, 2002
Sales ........................................................................................... $6,000,000

Variable costs .............................................................................. 4,500,000
Contribution margin ..................................................................... 1,500,000
Controllable fixed costs ............................................................... 600,000
Controllable margin ..................................................................... $ 900,000
(b) Controllable margin is the best measure of the manager's performance because this amount
equals the excess of controllable revenues over controllable costs.
(c) For an investment center, the responsibility report would also show the return on investment
for the period.
Ex. 123
Reese Company has two investment centers and has developed the following information:
Department ADepartment B
Departmental controllable margin $150,000 ?
Average operating assets ? $500,000
Sales 800,000 250,000
ROI 10% 12%
Instructions
Answer the following questions about Department A and Department B.
1. What was the amount of Department A's average operating assets? $____________.
2. What was the amount of Department B's controllable margin? $____________.
3. If Department B is able to reduce its operating assets by $100,000, Department B's new
ROI would be ____________.
4. If Department A is able to increase its controllable margin by $30,000 as a result of reducing

variable costs, Department A's new ROI would be _________________.

1. $1,500,000 ($150,000 ÷ .10)
2. $60,000 ($500,000 × .12)
3. 15% [$60,000 ÷ ($500,000 – $100,000)]
4. 12% [($150,000 + $30,000) ÷ $1,500,000]
Ex. 124
The Appliance Division of Malone Manufacturing Company reported the following results for
2002:
Sales $4,000,000
Variable costs 3,200,000
Controllable fixed costs 200,000
Average operating assets 3,000,000
Management is considering the following independent alternative courses of action in 2003 in

order to maximize the return on investment for the division.
1. Reduce controllable fixed costs by 15% with no change in sales or variable costs.
2. Reduce average operating assets by 20% with no change in controllable margin.
3. Increase sales $600,000 with no change in the contribution margin percentage.
Instructions
(a) Compute the return on investment for 2002.
(b) Compute the expected return on investment for each of the alternative courses of action.

(a) Controllable margin
Return on investment = ————————————
Average operating assets
$600,000
2002 ROI = ————— = 20%
$3,000,000
$630,000 (a)
(b) 1. —————— = 21%
$3,000,000
$600,000
2. ——————— = 25%
$2,400,000 (b)
$720,000 (c)
3. —————— = 24%
$3,000,000
(a) $600,000 + ($200,000 × 15%) = $630,000.
(b) $3,000,000 – ($3,000,000 × .20) = $2,400,000.
$4,000,000 – $3,200,000
(c) Contribution margin 20% (———————————— );
$4,000,000
$600,000 + ($600,000 × 20%) = $720,000.

Ex. 125
Data for the following subsidiaries of Timmons Company which are operated as investment
centers are as follows:
Black Company Greer Company
Sales $3,000,000 $2,000,000
Controllable Margin (1) (3)
Average Operating Assets (2) 6,000,000
Contribution Margin 900,000 900,000
Controllable Fixed Costs 400,000 150,000
Return on Investment 10% (4)
Instructions
Compute the missing amounts using the ROI formula.

(1) Controllable Margin ($900,000 – $400,000) $500,000
(2) Average Operating Assets ($500,000 ÷ .10) $5,000,000
(3) Controllable Margin ($900,000 – $150,000) $750,000
(4) ROI ($750,000 ÷ $6,000,000) 12.5%
Ex. 126
The data for an investment center is given below.
1/1/02 12/31/02
Current Assets $ 400,000 $ 600,000
Plant Assets 3,000,000 4,000,000
Idle Plant Assets 250,000 330,000
Land held for future use 1,200,000 1,200,000
The controllable margin is $960,000. What is the return on investment for the center for 2002?

Controllable Margin ÷ Average Operating Assets
Average current assets ($400,000 + $600,000) ÷ 2 = $500,000

Plant assets ($3,000,000 + $4,000,000) ÷ 2 = $3,500,000
Note: Idle plant assets and land held for future use are not included in average operating assets.
ROI = $960,000 ÷ $4,000,000 = 24%

Ex. 127
The owner of Bronx Bagels has recently expanded his business in order to add additional product
lines. In addition to bagels, Bronx Bagels now sells muffins and sandwiches. The company has a
minimum rate of return of 16%.
Bagels Muffins Sandwiches
Sales $1,000,000 $75,000 $ 900,000
Controllable margin 350,000 15,750 270,000
Average operating costs 1,750,000 105,000 1,500,000
Instructions
a. Compute the return on investment (ROI) for each investment center.
b. Compute the residual income for each investment center.

a. Return on investment:
Bagels $350,000 ÷ $1,750,000 = 20%
Muffins $15,750 ÷ $105,000 = 15%
Sandwiches $270,000 ÷ $1,500,000 = 18%
b. Bagels Muffins Sandwiches

Controllable margin $350,000 $15,750 $270,000
Average assets × 16% 280,000 16,800 240,000
Residual income $ 70,000 $ (1,050) $ 30,000
COMPLETION STATEMENTS
128. A major aspect of budgeting control is the use of budget reports that compare
_____________________ with _______________________.
129. In analyzing differences from planned objectives, management may take

___________________, or it could decide to modify ___________________.
130. The master budget is a __________________ budget which is based on operating at one
budgeted activity level.
131. A __________________ budget projects budget data for various levels of activity.
132. Total ________________ costs will be the same on the master budget and on a flexible
budget which reflects the actual level of activity.
133. Under ___________________ accounting, the evaluation of a manager's performance is

based on the costs and revenues directly under that manager's control.
134. A cost is __________________ at a given level of managerial responsibility if a manager

has the authority to incur the cost in a given time period.
135. In general, costs ____________________ directly by the level of responsibility are

_______________, whereas costs that are ____________________ to the responsibility
level are __________________.
136. Responsibility centers may be classified into three types: (1)____________________,

(2)___________________ and, (3)____________________.
137. The primary basis for evaluating the performance of a manager of an investment center is
_________________.
138. Return on investment is calculated by dividing _________________________ by

________________________.
Answers to Completion Statements

128. actual results, planned objectives
129. corrective action, future plans
130. static
131. flexible
132. fixed
133. responsibility
134. controllable
135. incurred, controllable, allocated, noncontrollable
136. cost centers, profit centers, investment centers
137. return on investment (ROI)
138. controllable margin, average operating assets
MATCHING
139. Match the items below by entering the appropriate code letter in the space provided.
A. Budgetary control G. Responsibility reporting system

B. Static budget H. Return on Investment
C. Flexible budget I. Profit center
D. Responsibility accounting J. Investment center
E. Controllable costs K. Indirect fixed costs
F. Management by exception L. Direct fixed costs
____ 1. The review of budget reports by top management directed entirely or primarily to
differences between actual results and planned objectives.
____ 2. A part of management accounting that involves accumulating and reporting revenues
and costs on the basis of the individual manager who has the authority to make the
day-to-day decisions about the items.
____ 3. The preparation of reports for each level of responsibility shown in the company's
organization chart.
____ 4. A projection of budget data at one level of activity.
____ 5. Costs that a manager has the authority to incur within a given period of time.
____ 6. The use of budgets to control operations.
____ 7. A projection of budget data for various levels of activity.
____ 8. A responsibility center that incurs costs, generates revenues, and has control over the
investment funds available for use.
____ 9. Costs that relate specifically to a responsibility center and are incurred for the sole
benefit of the center.
____ 10. A responsibility center that incurs costs and also generates revenues.
____ 11. Costs which are incurred for the benefit of more than one profit center.
____ 12. A measure of the profitability of an investment center computed by dividing

controllable margin (in dollars) by average operating assets.
Answers to Matching
1. F 7. C
2. D 8. J
3. G 9. L
4. B 10. I
5. E 11. K
6. A 12. H
SHORT-ANSWER ESSAY QUESTIONS

S-A E 140
The master budget and flexible budgets are important aids to management in performing the
management functions of planning and control. Briefly describe how planning and control are
facilitated by preparing a master budget and flexible budgets. How are these two types of
budgets interrelated with planning and control?
Solution 140
The system of responsibility reporting begins with the lowest level of responsibility and moves up
through each level. At the lowest level each manager receives detailed information concerning
the controllable costs for which they are responsible. At higher levels of responsibility the detail of
the lower levels may be omitted but the report encompasses all the areas for which the higher
level has responsibility. For example, a plant manager will receive reports concerning the
controllable costs of each of the plant departments.
Management by exception is possible in such a system because, if management at the higher

levels of responsibility identifies a significant variance, they can receive detailed reports for each
lower level of responsibility. This allows management to investigate causes and remedies for
variances as they feel necessary.
S-A E 141
Managers are motivated to accomplish objectives if they feel that their efforts will be fairly
evaluated. Explain why an organization may use different bases for evaluating the performance
of managers of different types of responsibility centers.
Solution 141
Because a manager should only be evaluated based on the performance results of matters that
are controllable by the manager, it is necessary to use different bases for evaluation. An
investment center manager can control the investment funds available as well as costs and
revenues. Return on investment is therefore an appropriate basis for evaluation. A profit center,
however, controls only revenues and expenses but not investment, so controllable margin is a
more appropriate basis relating only to the areas controllable by the profit center. Similarly,
because only costs are controllable for a cost center, such a center is evaluated only on the basis
of its controllable costs.
S-A E 142 (Ethics)

Edwards Corporation evaluates its managers based on return on investment (ROI). Kim Tilley
and Sara Trane, managers of the electronics and housewares departments respectively, have
recently suffered from declining profits in their departments. Over lunch, they discuss the
problem, and how they could improve performance. Most of the discussion centers around ways
to increase sales. Near the end of the lunch period, however, Sara remarks that there are two
components to consider, and that they have considered only one. She wonders whether there is
some way to reduce investment, and by decreasing the denominator of the ROI fraction, to
improve the final result.
S-A E 142 (cont.)

Back at work, Kim continues to mull over Sara's remarks. She decides to pursue the matter
further, and before the end of the quarter she has sold quite a bit of older equipment and replaced
it with equipment obtained with a short-term lease. Her performance, measured by ROI, is
markedly improved, although sales continue to be disappointing.
Required:
1. Who are the stakeholders in this situation?
2. Is Kim's action ethical? Briefly explain.
Solution 142
1. The stakeholders include
Kim Tilley
Sara Trane
managers of Edwards Corporation
shareholders of Edwards Corporation
2. Kim's action is probably not ethical. It appears that she has replaced equipment that had been
purchased only because such a move would improve her ROI. Of course, it is possible that
the leased equipment will allow her department to function better, resulting in a benefit for the
company. Any action to promote one's own benefit at the expense of the company's welfare
is unethical.
S-A E 143 (Communication)

Clara County Electronics manufactures circuit boards for computer-controlled appliances for the
home. The sales have been very volatile, sometimes stressing the plant's capacity, and
sometimes depressingly slow. During a recent slow period, Earl Linton, a production supervisor,
complained to Ann Royer, accounting manager, about the flexible budget.
"I try as hard as I can to meet the budget," he says, "and then I find out that just meeting the
budget's not good enough. Last month, when we sold 8,000 units, I was $10,000 under my
budget, and then you all blow me out of the water with your report that I actually was $5,000 over,
because sales were slow. I thought this responsibility accounting business was supposed to
mean we are held accountable just for things we can control. How do we control sales? At the
beginning of the year, you gave us all targets. Mine says that for an average month of 10,000
unit sales, I should spend about $82,000. I spend less, and get an unfavorable budget report.
What gives?"
Required:
Write a short memo to respond to Mr. Linton.
Solution 143
TO: Earl Linton
FROM: Ann Royer
RE: Budget results
I appreciate your coming to me with your questions about the budget. I

understand that the new procedures can be frustrating, especially when you
receive an unfavorable report that you were not expecting.
Actually, the flexible budget does mean that you are held accountable only for
the costs that you can control. Last month, we calculated the cost of
producing 8,000 units that were actually sold (and not the 10,000 that were
estimated to be sold). Your costs were greater than that, although still less
than the amount you would have been allowed had the full 10,000 been sold.
Please check the individual items on your budget report. We noted which
ones exceeded the budget. You can then focus attention on those items for
cost control.
Please contact the Accounting Department if you have further questions.
(signed)

Budgetary CONTROL AND RESPONSIBILITY ACC

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BUDGETARY CONTROL AND

4. The master budget is not used in the budgetary control process.

5. A master budget is most useful in evaluating a manager's performance in controlling

6. A static budget is one that is geared to one level of activity.

8. A static budget is most useful for evaluating a manager's performance in controlling

10. A flexible budget is a series of static budgets at different levels of activities.

13. A flexible budget is prepared before the master budget.

23. In a responsibility accounting reporting system, as one moves up each level of

Answers to True-False Statements

MULTIPLE CHOICE QUESTIONS

32. Budget reports should be prepared

33. On the basis of the budget reports,

34. The purpose of the departmental overhead cost report is to

35. The purpose of the sales budget report is to

36. The comparison of differences between actual and planned results

37. A static budget

38. A static budget report

39. A static budget is appropriate in evaluating a manager's performance if

44. A static budget is appropriate for

45. A flexible budget

49. In developing a flexible budget within a relevant range of activity,

50. The flexible budget

52. Another name for the static budget is

56. The selection of levels of activity to depict a flexible budget

57. Management by exception

59. A flexible budget depicted graphically

60. The activity index used in preparing the flexible budget

61. A static budget is not appropriate in evaluating a manager's effectiveness if a company

63. A cost is considered controllable at a given level of managerial responsibility if

64. As one moves up to each higher level of managerial responsibility,

65. A responsibility report should

66. Top management can control

67. Not-for-profit entities

68. Which of the following is not a true statement?

70. Management by exception

71. The linens department of a large department store is

72. The foreign subsidiary of a large corporation is

73. The maintenance department of a manufacturing company is a(n)

74. Which of the following is not a correct match?

75. A cost center

76. A manager of a cost center is evaluated mainly on

77. Performance reports for cost centers compare actual

78. In the performance report for cost centers,

80. Which of the following is not an indirect fixed cost?

83. Controllable margin is defined as

84. Controllable margin is most useful for

86. Given below is an excerpt from a management performance report:

87. Which of the following are financial measures of performance?

88. Given below is an excerpt from a management performance report:

89. A responsibility report for a profit center will

90. The dollar amount of the controllable margin

91. A profit center is

98. In computing ROI, land held for future use

101. A distinguishing characteristic of an investment center is that

103. Return on investment is calculated by dividing

106. The manager of an investment center can improve ROI by increasing

*108. The following information is available for Louie Company:

*109. Residual income is defined as

Answers to Multiple Choice Questions

Solution 111 (10–15 min.)

Product Line Budget Actual Difference

Solution 112 (15–20 min.)

Solution 113 (15–20 min.)