Case Study about New Framework for Capacity Costing and Inventory Variance Analysis
Abstract: The proposed framework in this article presents a new framework for capacity costing and inventory variance analysis by introducing linear programming (LP) into variance analysis to allow for optimal budgeting in a firm with two production departments and two products. In addition, the proposed framework replaces the traditional concept of ex ante flexible budget, with the concept of ex post flexible budget, which allows management to optimally revise the budget in response to changes in market and operational conditions. Additionally, an inventory variable is added to the linear programming model to capture anagement’s planned and actual inventory decisions.
Introduction: This paper extends Yahya-Zadeh (2002) to integrate inventory variances into flexible budgeting and profit variance analysis. While traditional profit variance analysis “flexes” the static budget to actual sales volume, YahyaZadeh (2002) argued that a more appropriate benchmark for measuring the performance of a firm or its profit centres would be an ex post optimal budget. An ex post optimal budget, it was argued, was the result of an optimization program using the latest data available by the end of the budget period. Using linear programming as the optimization tool, the study showed that changes in market conditions, such as a change in the firm’s relative output and input prices, could render a traditional flexible budget misleading.
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