Explain the strategic role of the flexible budget in analyzing sales and productivity

Calculate and interpret the measures for partial operational productivity and partial financial productivity
Use the flexible budget to decompose partial financial productivity into input price and productivity components
Use the flexible budget to calculate and interpret the sales quantity variance and the sales mix variance
Use the flexible budget to calculate and interpret the market size variance and the market share variance
Use the flexible budget to analyze sales performance over time
Further Analysis of Sales & Productivity
The flexible budget can play a strategic role in analyzing sales and productivity
The strategic role of sales analysis is to understand the reasons behind an increase (or decrease) in total sales
dollars over the budgeted amount or an increase (or decrease) over the prior year
The selling price variance and the sales volume variance help managers see how changes in prices and volume
affect total sales, contribution, and profit
The strategic role of productivity analysis is to assist management in identifying the drivers of productivity
and to implement methods that improve productivity and profitability
The key determinants of productivity for most organizations are:
Control of waste
Control of labor costs
roduct and manufacturing process innovation
!luctuations in demand due to changes in business cycle (or other reasons)
Productivity Analysis
Productivity is the ratio of output to input
!or example, a firm that uses five days to manufacture "## units has a productivity of $# ("## units%& days) units
per day
A measure of productivity can either be operational or financial
Operational productivity is the ratio of output units to input units (both numerator and denominator are physical
measures)
Financial productivity is also a ratio of output to input, except that either the numerator or denominator is a
dollar amount
Partial vs. Total Productivity
A productivity measure may include all production factors or focus on a single factor or part of the
production factors that the firm uses in manufacturing
Partial productivity measures focus on the relationship between one input factor and the output attained
Examples include direct materials ('() productivity, wor)force productivity, and process productivity
Total productivity measures include all input resources used in production
Partial Productivity
Partial productivity measures are important because changes in the productivity of different resources do
not always occur in the same direction or at an e*ual rate
+e use Erie recision Tool Company as an example
Erie recision Tool Company manufactures drill bits, and its operating information for $##, and $#"# is
provided (see next slide)
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Partial Productivity: Summary Analysis
The partial operational productivity measure for direct materials decreased while the partial operational
productivity measure for direct labor increased
artial financial productivity measures for both direct materials and direct labor decreased
The discrepancy between the direct labor measures suggests that although employee productivity%hr1 increased,
the cost increase due to higher hourly wages more than offset the gain in productivity%hr1
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perational vs. Financial Productivity !easures
perational productivity measures
Use physical measures, which are easier for operational personnel to understand
The measures are unaffected by price changes and other factors, which ma)es them easier to benchmar)
Financial productivity measures
Considers the effect of cost (ma2or concern for management) and *uantity of an input resource on productivity
Can be used in operations that use more than one production factor
"imitations of Partial Productivity
(easures only the relationship between an input resource and the output3 ignores any effect that changes in
manufacturing factors have on productivity
4gnores any effect that changes in other production factors have on productivity, such as an increase in material
*uality
!ails to include effects that changes in the firm5s operating characteristics have on the productivity of the input
resources, such as installation of high6efficiency e*uipment
.n improved partial productivity does not necessarily mean the firm or division operates efficiently
Total Productivity
Total productivity is a financial measure that compares output to the total cost of all input resources used
to produce the output
#omputation of total productivity involves three steps:
'etermine the output of each period
Calculate the total variable costs incurred to produce the output
Compute total productivity by dividing the amount of output by the total cost of variable input resources
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$enefits and "imitations of Total Productivity
Total productivity measures the combined productivity of all operating factors, which decreases the possibility of
managers manipulating some manufacturing factors to improve productivity measures for others
ersonnel at the operational level may have difficulty lin)ing the results to day6to6day operations
'eterioration in total productivity can result from costs of resources that are beyond the manager5s control
$enefits and "imitations of Total Productivity %continued&
The basis for assessing changes in productivity could vary over time, so a constant base6year is suggested
roductivity measures often ignore the effects on productivity of changes in demand for the product, changes in
selling prices of the goods or services, and special purchasing or selling arrangements
Changes in demand alter the size of operations and productivity measures (but not necessarily productivity itself)
0eceiving or offering a discount in price can alter total and partial productivity measures without affecting
productivity
Analyzing Sales for the !ulti'Product Firm
The fle(ible budget helps ans)er strategic *uestions about sales performance by )ay of the selling price
variance and the sales volume variance %#hapter +,&
The selling price variance for each product 7 actual sales units times the difference between budgeted and actual
selling price per unit
The total sales volume variance 7 weighted6average contribution margin%unit (based on budgeted sales mix)
times the difference between budgeted and actual sales volume
The sales volume variance for a multi'product firm can be partitioned into a sales quantity variance and a
sales-mix variance
$reakdo)n of Total Sales -ariance
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$reakdo)n of Total Sales -ariance
The sales quantity variance measures the effect on contribution and income of deviations in the
number of units sold from the total number of units budgeted to be sold. The sales *uantity variance
for each product is calculated as follo)s:
(-.(/.0)
Sales'!i( -ariance
Sales mix % is the relative proportion of a given product.s sales %in units& to total sales %in units&
The sales mix variance attributable to each product is the effect that a change in sales mi( / for the
product %budgeted mi( / vs. actual mi( /& has on the total contribution margin %#!& of the period:
#alculating the Sales -ariances
Take as an e(ample the Schmidt !achinery #ompany %introduced in #hapter +,& )hose budgeted
information appears belo)
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chmidt !achinery #ompany actual results for 01+1
2A!$A3
To begin4 )e calculate the actual and budgeted sales mi( /s for 01+1:
There are several things a manger )ould learn from this analysis:
Sales -olume -ariance: Summary #omments
The change in sales mix in favor of 896" has a net positive effect on C( and profit because 896" has a higher
budgeted cm%unit than !/6::
The favorable *uantity variance reflects the fact that total unit sales were greater than the total units reflected in
the master (static) budget for the period
!arket Size -ariance
The market size variance measures the effect of changes in the market size of the firm.s product
on the operating results of the firm4 including total contribution margin:
2A!$A3
The )eighted'average budgeted cm5unit is the total $672T87 #! divided by
TTA" $6728T87 69:TS
;''
!arket Share -ariance
The market share variance assesses the effect that changes in the firm5s proportion of the total mar)et
have on the operating results of the firm, including total contribution margin and operating income;
2A!$A3
The mar)et size and mar)et share variances for <chmidt (achinery Company, assuming budgeted mar)et size of
=#,### units and a budgeted mar)et share of "#>, appears on the next slide
;
#alculating the !arket -ariances %continued&
2A!$A3
.lthough the mar)et size was ?,@&# units smaller than expected, the company5s mar)et share was A> higher
than the budgeted proportion1 The increase in mar)et share offset the unfavorable variance of the contracting
mar)et1
;
The Five Steps of Strategic 7ecision !aking for Schmidt !achinery
7etermine the Strategic :ssues Surrounding the Problem: Schmidt is a differentiated firm, based on quality,
design, and functionality
:dentify the Alternative Actions: reduce marketing and sales of one or both the firms products!
btain :nformation and #onduct Analyses of the Alternatives: calculate sales quantity, market share, and
market size variances" pro#ect possible change in $%S% dollar
$ased on Strategy and Analysis4 #hoose and :mplement the 7esired Alternative: based on variance
analysis and consideration of the fluctuation in the dollar, Schmidt decides to plan for possible reduction in the
F&'(( product
Provide an n'going 8valuation of the 8ffectiveness of implementation in Step ,.
#omparison )ith Prior'<ear 3esults
A common application of sales performance analysis is to analyze the difference bet)een current sales
and prior year sales
Suppose Schmidt !achinery #ompany has another month of operations to consider4 the month of
=anuary. The company.s actual performance for the months of 7ecember and =anuary appear on the ne(t
slide
#hapter Summary
The flexible budget can play a strategic role in analyzing sales and productivity
The strategic role of sales analysis is to understand the reasons behind an increase (or decrease) in total sales
dollars over the master budgeted amount or an increase (decrease) over the prior year
The strategic role of productivity analysis is to assist management in identifying the drivers of productivity and
to implement methods that improve productivity and profitability

Productivity is the ratio of output to input, and productivity measures can be either operational or
financial in nature
Operational productivity is the ratio of output units to input units (both numerator and denominator are physical
measures)
Financial productivity is also a ratio of output to input, except that either the numerator or denominator is a
dollar amount
. productivity measure may include all production factors or focus on a single factor or part of the
production factors that the firm uses in manufacturing
. partial productivity measure focuses on the relationship between one input factor and the output attained
Total productivity measures includes all input resource used in production
The sales volume variance (Chapter "=) can be partitioned into two further parts, the sales quantity variance and
sales'mix variance
The sales *uantity variance can be further partitioned into the market size variance and the market share
variance