MONITOR AND CONTROL FINANCES
Budget variation report
The budget variation report (on Excel) indicates both favourable and adverse variances in revenue and cost items. The full year’s sales are 3% less than the budgeted amount. Greater variations were seen in quarters 1 and 4 when the actual sales were 20% less than the budgeted sales. Quarters 2 and 3 saw an improved performance with favourable variances of 20% and 7% respectively. There were no variations in direct wages since they are based on contracts between the employees and the company. The favourable variance in commission expenses was due to the variance in sales hence, it is not a significant consideration. Commission is paid as a fixed percentage of total sales. The actual cost of goods sold was 5% less than the budgeted value. The actual gross profit is also 3% less than the budgeted amount.
The report also indicates an increase in several expenses during the year. The company spent 10% more on travel expenses than the budgeted figure. Other significant adverse variances in expense include telephone, advertising, staff amenities, and water and waste removal expenses. Telephone expense was 12% more than the budgeted while staff amenities had an adverse variance of 15%. The company spent $8,000 more than the budgeted amount of $200,000, which translates to 4% variance from the advertising budget. Water expense was $5,000 more than the budgeted amount, representing a 17% variation. Waste removal expenses were also 20% above the budget. The company spent $60,000 while the budget for waste removal was only $50,000. Expenses that showed significant favourable variances include legal fees, office supplies, repairs and maintenance and electricity. Both Legal fees and repairs and maintenance expenses were 10% less than the budgeted amounts. Office supplies showed a positive variation of 20% from the budget while electricity expense was 5% less than the budgeted amount.
The analysis indicates that most expenses had significant adverse variations from the budgeted amounts. The overall effect was a negative variation of 4% for the total expense. Net profit before tax and post-tax net profit were 11% less than the budgeted profits. As shown in the income statement, the company’s net profit before tax was less than $1 million. This is a result of poor sales and increase in several expenses. For the company to achieve its profit target of $1 million, measures must be undertaken to reduce expenses by eliminating inefficiencies in operations. Direct wages and commissions are one of the largest expenses hence, it must be strictly monitored and controlled. The firm should only engage contract employees when they are required to reduce direct wages expense. Commission has been increased from 2% to 2.5%. This must be coupled with a rise in sales to avoid a reduction in profits. Therefore, sales team members must improve their performance. It is imperative to identify factors limiting the performance of sales team members and find appropriate solutions.
Diversification will also help in improving sales by spreading risks. The firm’s expansion plans require finances hence controlling expenses to improve cash flows is critical to the successful implementation of the plan. It is also important to eliminate these inefficiencies before expanding into a new location to avoid transferring them to the new plants.
Revised implementation plan
Mandatory induction training for contract employees will help improve their performance and reduce time wastage and distraction to full-time employees. A review of overtime policy can help motivate employees. Although overtime is not allowed, there should be circumstances when it should be approved. Regular training sales team members on different topics will ensure that the needs of most sales team members are met. The budget can help in controlling expenses such as water, electricity, among others. Departmental heads should be responsible for controlling departmental expenditures and provide monthly reports. Employees can be engaged in budgetary decision-making through a structured employee suggestion program. A cross-functional team should be appointed to review employee suggestions and provide feedback. This will ensure that reasonable and achievable targets are set and improve the motivation of employees in the company.
REVIEW AND EVALUATE FINANCIAL MANAGEMENT PROCESSES
Average debtor days = Trade ReceivablesAnnual credit sales × 365 days
= 362,5002,900,000 × 365 days
Average creditor days = Trade creditorsCost of goods sold × 365 days
= 80,000800,000 × 365 days
= 36.5 days
Average stock turnover = Cost of salesAverage stock
= 4 times
Recommendations for improving cash flows
Improving cash flows in the company is essential to raise funds required for investments to achieve its strategic plans. The following measures can be implemented to improve cash flows:
Reviewing the credit policy
As shown above, the firm’s average debtors’ collection period is 45.625 days implying that it takes on average 45 days to receive cash from its debtors. The firm also takes 36.5 days to pay its creditors as shown by the average creditor days (Marney and Tarbert, 2011, p.363). This implies that it takes a shorter time to pay creditors than the period it takes to collect receivables. The firm should employ an aggressive debt collection policy to reduce the debt collection period. The average debtor days should be less than or equal to the average creditor days to avoid cash flow problems. A review of credit policy will also ensure that the firm only advances credit facilities to creditworthy customers. The debtors ageing budget indicates that 15% of its debtors exceed its credit policy of 30 days. 15% is a significant amount considering the firm’s total sales. A review of credit policy should also involve training salespersons on the firm’s debt policy.
Improving inventory turnover
The firm has a low inventory turnover as shown by the average stock turnover ratio calculated above. This indicates that the company is not efficient in converting its stock into revenues (Moles, 2011, p. 125). A large stock balance reduces the firm’s profitability and cash flows. Large inventories tie up the firm’s capital that could be used to finance other operations and investments. Besides, a low inventory turnover increases stock holding costs thus reducing the company’s profitability (Brigham and Ehrhardt, 2016, p. 668). As indicated by the scenario information, high warehousing costs are one of the challenges facing the company. Proper forecasting of demand can reduce inventory turnover. The sales and marketing department should avail adequate information to enable accurate forecasting of future demand. It should also coordinate with the production department and other relevant departments to ensure there is no overproduction.
Turnover can also be improved by enhancing the performance of salespersons. Aggressive selling and marketing can boost the company’s sales thus improving its cash flows (Moles, 2011). This involves aggressive advertising and sales promotion as well as motivating sales team members. As give in the scenario information, the sales team members were motivated when the commission was raised from 2% to 2.5%. However, it is essential to recognise the impact of non-monetary factors in motivation. The sales team members lost enthusiasm citing the threatening tone of emails from their superiors. The firm should organise training for the persons in charge to improve their skills in managing the sales team. Training should be properly structured to ensure it creates value. Training that does not add value reduces the firm's the firm’s cash flows. It is stated that the previous training of the sales team was irrelevant to about half of the team members.
Dismissing out-of-contract short-term contract employees
As shown in the financial statements and scenario information, the company incurs a significant cost on direct wages of short-term contract employees. In the year, 2011/2012, it spent $200,000 on direct wages. 50% of this cost was on short-term contract employees who were already out-of-contract and were no longer needed. Dismissing these employees will increase the firm’s cash flow by $100,000 a year. It will also improve the performance of full-time employees who are resentful over the distraction and time wastage by contract employees. Besides, it should review its employment policies and payroll management to ensure that short-term contract employees are only engaged when their services are required.
a) Units required to achieve the target profit
Selling price = $500
Variable cost per unit = $250
Fixed cost = $1,280,000
Target profit = $1,000,000
Units required = (Fixed Cost+Target profit)Contribution margin
= 9,120 bicycles
b) Variable cost
Current capacity = 8,000 units
Units required = (Fixed Cost+Target profit)Contribution margin
(1,280,000+1,000,000)CM = 8,000
= 500 – 285
The above calculations indicate that the company will need to sell 9,120 bicycles to cover its fixed costs plus a target profit of $1,000,000. Selling any quantity below this amount (the break-even quantity) will lead to losses. The capacity in Indonesia is only 8,000 hence the company will not be able to sell the quantity sufficient to meet its target profit. On the other hand, the Indian plant has a capacity of 10,000 units thus, the firm will be able to sell more than the minimum quantity required to achieve the desired profit level. As shown above, for the company to attain the profit target at the current manufacturing capacity in the Indonesian plant, the variable cost per unit must fall to $215. Since raw materials form a significant part of variable costs, the firm can reduce the variable cost by renegotiating raw material costs with suppliers (Brigham and Ehrhardt, 2016). However, this may not be possible since the company has limited ability to do so. Other strategies include reducing direct labour costs, enhancing the efficiency of operations, among other measures (Graham and Smart, 2011).
It may be difficult to reduce the variable cost per unit. Therefore, the company should move to the Indian plant since its capacity is more than that for Indonesia. Besides, the company can earn more profits in the Indian plant since it can sell up to 10,000 units. The growing market would enable it to sell all units produced. Sources of information required to complete this activity are product cost statements, sales reports, schedule of suppliers, among other sources.
ATO requires that GST records be kept for a minimum of five years after their preparation or after the completion of the relevant transactions, whichever comes later. GST Liability
Implementation plan for reviewing credit policy
Brigham, E. and Ehrhardt, M. (2013). Financial management. 14th ed. New York: Cengage Learning.
Graham, J. and Smart, S. (2011). Introduction to Corporate Finance: What Companies Do. 3rd ed. New York: Cengage Learning.
Marney, J. and Tarbert, H. (2011). Corporate finance for business. Oxford: Oxford University Press.
Moles, P. (2011). Corporate finance. Hoboken, N.J.: Wiley.