Overview of Widget Company's financial analysis for June 30, 2018
The purpose of my memo is to show the financial summary of both the flexible and static variance of my analysis of the Widget Company as of June 30, 2018. Which discloses unfavorable trends of low revenue as well as higher operating expenses. And the actual performance is higher revenue, and lower costs are not providing a favorable profit.
In June, the projected units of the Widget were 6,000 for the static budget. While an increase of 500 units in the flexible budget at the same cost per unit. Even with the static budget having a favorable outcome for revenue, the expenses that were incurred decreased the company's profit by $-1,960.00. The unfavorable variance also occurred with the increase of units in the flexible units. This is primary due to the decrease in the variable and fixed costs which caused an unfavorable variance.
In my analysis, Widget expected 6,000 units to sell at $10 per unit. However, Widget had to prepare a flexible budget, because the company sold 6,500 units and they assumed that the selling price would remain the same at $10.00 per unit. The $65,000 was based on 6,500 times $10 per unit. At the end of June, the company reported an unfavorable variance of ($1,760) for revenue. The company's budget shows that each unit sold at $9.73 per unit, instead of the $10.00 they originally budgeted.
Variable and Fixed Costs
Widget’s original budget expected that the variable cost would be $29,250 to produce 6,500 units, but the actual cost was $31,200 due to increases in materials and labor hours to create the additional units.
In my analysis, Widget had an unfavorable direct material price variance of $1,950 for June because the actual price paid $31,200 was more than the standard price allowed $29,250 for 6,500 units. The budget expected the cost per unit to be $4.50 per unit, but the actual cost was $4.80 per unit. The increase of $.30 per unit may have caused the rise in pricing for the material or management did not order enough material to cover the 6,500 units for June.
Furthermore, Widget forecasted the fixed costs of $24,000, but we had to rent new equipment to produce the 6,500 units which caused our fixed expense to increase to $25,000. The additional expense caused the fixed cost variance to be unfavorable of $1,000 for June. Due to the new spending, the company had a loss of profits.
Flexible and static variance of Widget Company's financial analysis
When we look at variances the are many causes. In sales price the favorable would be if the increase in price is planned, but the decrease in price would be unfavorable.
After my analysis of the Widget's performance, I suggest that management take a serious look at their budget versus the actual performance. I feel if the only way for the issue of the Widget to be corrected, we need to know the differences. So, I recommend that management look into other suppliers for a lower price for our material and making sure that each department is ordering the necessary material to cover production needs because the additional costs in shipping and handling will increase the price variance when the company must order on an urgent need basis.
This proposal is to inform you of some projects that your company may want to invest in — it' my understanding that you require a 16% return and a payback of 3 years. While the ones I'm proposing may not meet them dead-on, they come close to your needs. After my analysis of the two ventures A and B, my recommendation is to invest in Project B. I will show you different comparisons of the two to assist you.
Furthermore, before making a decision, It's my suggestion we look at how qualitative factors will play a role. According to Beers, (2018), Qualitative factors are not measured by numbers but provide you with an insight on which investment will be negative or positive to the company. The qualitative factors we need to consider before investing are mainly the product/services we provide. The others are the ethics for employees, air quality and environmental concerns. Now we all know that there are more factors to consider so below you will find more things to look at.
The first being to compare the Net Present Value (NPV) for both projects. When I compared them project B at the amount of $650,000 would be the better investment. Being that a future dollar is discounted before it can be added to the current dollar. Further, I believe that the return in Project B will lead to a better (NPV) than Project A which is $510,00.
Second, you preferred a payback period of 3 years. The results show that neither projects provide that period, but Project B is the closest with 3.25 years payback. This project will not only limit the risks but also maximize your profits although the method ignores the time value of money without a benchmark. (Zimmerman, 2014) Since the NPV has been positive for Project B, I would choose this project.
Third, the analysis shows that Project B has a 17% and Project A has a return of 16% on the (IRR). Many may think that Project A has a lower rate and is more likely not to exceed the net cash flow. I still recommend project B, because I believe the project will not exceed the net cash flows any more than project A.
Finally, the report shows that Project A yield a rate of 25% and Project B yield a rate of 18%. Project A on the Accounting rate of return (ARR). The company projected a rate of 16% during the investment. Since Project A shows a higher yield, I believe Project B is the project to approve. The time value of money is ignored by ARR and the income received now will be treated the same in the future. The method may create an incorrect result because the time value is not factor into the equation. Although ARR ignores the time value of money, the income received now will be treated the same in the future. Project B will provide a cash inflow of $200,000 per year over the 3.25 payback and Project A’s cash inflow will only be $145,000 per year over the 3.50 payback. I still feel that Project B would be a better investment for your company now.
In conclusion, when using various discounted methods in decision-making on investments, it can be confusing, because each technique may carry a different message toward the cash flow. But, when looking at the analysis report, I still believe Project B will be more profitable to the company than Project A.