Cost Accounting, Chapter 7 11ch07

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Flexible Budgets, Variances,

and Management Control: I

Flexible Budgets, Variances,

and Management Control: I

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Distinguish

a static budget

from a flexible budget.

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Static and Flexible Budgets

Static Budget

Planned level of output at start of the budget period Based on

Flexible Budget

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Static Budget Example

Assume that Pasadena Co. manufactures and sells dress suits.

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Budgeted selling price is $155 per suit. Fixed manufacturing costs are expected

to be $286,000 within a relevant range between 9,000 and 13,500 suits.

Variable and fixed period costs are ignored. The static budget for year 2004 is based

on selling 13,000 suits.

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Static Budget Example

Revenues (13,000 × $155) $2,015,000 Less Expenses:

Variable (13,000 × $115) 1,495,000

Fixed 286,000 Budgeted operating income $ 234,000

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Revenues (10,000 × $160) $1,600,000 Less Expenses:

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Static-Budget Variance Example

What is the static-budget variance of operating income?

Actual operating income $100,000 Budgeted operating income 234,000 Static-budget variance of

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Static-Budget Variance Example

Static-Budget Based Variance Analysis (Level 1) in (000)

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Learning Objective 2

Develop a flexible budget

and compute flexible-budget

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Steps in Developing

Flexible Budgets

Steps in Developing

Flexible Budgets

Step 1:

Determine budgeted selling price, variable cost per unit, and budgeted fixed cost.

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Steps in Developing

Flexible Budgets

Steps in Developing

Flexible Budgets

Step 2:

Determine the actual quantity of output. In the year 2004, 10,000 suits were

produced and sold.

Step 3:

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Steps in Developing

Flexible Budgets

Steps in Developing

Flexible Budgets

Step 4:

Determine the flexible budget for costs. Variable costs: 10,000 × $115 = $1,150,000 Fixed costs 286,000

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Variances

Level 2 analysis provides information on the two components of the

static-budget variance. 1. Flexible-budget variance

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Flexible-Budget Variance

Flexible-Budget Variance (Level 2) in (000)

Flexible

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Actual quantity sold: 10,000 suits

Flexible-budget variance

$14,000 U

Actual results operating income

$100,000

Flexible-budget operating income

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Flexible-Budget Variance

Total flexible-budget variance = Total actual results

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Why is the flexible-budget variance $14,000 U? Selling-price variance $50,000 F Actual variable costs exceeded

flexible budget variable costs 50,000 U Actual fixed costs exceeded

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Sales-Volume Variance

Sales-Volume Variance (Level 2) in (000)

Flexible Static Sales-Volume Budget Budget Variance

Suits 10 13 3 U

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Actual quantity sold: 10,000 suits

Sales-volume variance $120,000 U

Flexible-budget operating income

$114,000

Static-budget operating income

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Sales-Volume Variance

Total sales-volume variance $120,000 U

=

Actual sales unit – Master budgeted sales units 13,000 – 10,000 = 3,000

×

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Budget Variances

Static-budget variance $134,000 U

Flexible-budget variance

$14,000 U Level 1

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Standards

Pasadena’s budgeted cost for each variable direct cost item is computed as follows:

Standard input allowed for one output unit

Standard cost per input unit

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Standards

4.00 square yards allowed per output unit at $16.25 standard cost per square yard.

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Standards

2.00 manufacturing labor-hours of input allowed per output unit at $13.00 standard

cost per hour.

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Actual Data

Direct materials purchased and used: 42,500 square yards at $15.95

Labor hours: 21,500 at $12.90 Cost of direct materials = $677,875

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Price Variance Example

Direct-material price variance

Actual price –

Budgeted price

×

Actual quantity

($15.95 – $16.25) × 42,500 = $12,750 F

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Direct-labor price variance

Actual price –

Budgeted price

×

Actual quantity

($12.90 – $13.00) × 21,500 = $2,150 F

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Price Variance Example

What is the journal entry when the materials price variance is isolated at the time of purchase?

Materials Control 690,625

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Efficiency Variance Example

Direct-material efficiency variance

Actual quantity – Standard

quantity

×

Standard

price

(42,500 – 40,000) × $16.25 = $40,625 U

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Efficiency Variance Example

Direct-labor efficiency variance

Actual quantity – Standard

quantity

×

Standard

price

(21,500 – 20,000) × $13.00 = $19,500 U

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Efficiency Variance

What is the journal entry to record materials used? Work in Process Control 650,000

Direct-Materials Efficiency Variance 40,625

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Price and Efficiency Variance

What is the journal entry for direct manufacturing labor? Work in Process Control 260,000

Direct Manufacturing

Labor Efficiency Variance 19,500 Direct-Manufacturing

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Flexible Budget Material

Variance Example

Flexible Budget Material

Variance Example

Actual Cost $677,875

BQ × BP

40,000 × $16.25 $650,000

AQ × BP

42,500 × $16.25 $690,625

$12,750 F $40,625 U

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Flexible Budget Labor

Variance Example

Flexible Budget Labor

Variance Example

Actual Cost $277,350

BQ × BP

20,000 × $13.00 $260,000

AQ × BP

21,500 × $13.00 $279,500

$2,150 F $ 19,500 U

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Static-budget variance Materials $167,125 F Labor 60,650 F Total $227,775 F

Flexible-budget variance Materials $27,875 U Labor 17,350 U Total $45,225 U

Sales-volume variance Materials $195,000 F Labor 78,000 F Total $273,000 F Level 1

Level 2

Variance Analysis

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Flexible-budget variance Materials $27,875 U Labor 17,350 U Total $45,225 U

Price variance

Materials $12,750 F Labor 2,150 F

Efficiency variance Materials $40,625 U Labor 19,500 U Level 2

Level 3

Variance Analysis

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Explain why purchasing

performance measures should

focus on more factors than

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Performance Measurement

Using Variances

Performance Measurement

Using Variances

Effectiveness is the degree to which a predetermined objective or target is met.

Efficiency is the relative amount of inputs used to achieve a given level of output.

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When to Investigate Variances

When should variances be investigated? Subjective judgments

Rules of thumb as “investigate all variances exceeding $10,000 or 25% of expected cost,

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Integrate continuous

improvement

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Continuous Improvement

Assume that the budgeted direct materials cost for each suit that Pasadena Co. manufactures is $65.

Pasadena Co. wants to implement continuous improvement budgets based on a target 1%

materials cost reduction each period. What should the budgeted cost be for the

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Continuous Improvement

Prior Period Reduction Revised Budgeted in Budgeted

Amount Budget Amount

This Period: – – $65.00

Period 1: $65.00 $0.650 $64.35

Period 2: $64.35 $0.644 $63.71

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Flexible Budgeting and

Activity-Based Costing

Materials costs and direct manufacturing labor costs are examples of output-unit level costs.

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Flexible Budgeting and

Denver Co. produces metal planters (MP). Assume that material-handling labor costs vary

with the number of batches produced rather than the number of units in a batch.

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Activity-Based Costing

Static Actual Budget Amounts Units produced and sold 18,000 15,660 Batch size 180 174 Number of batches 100 90 Material-handling

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Static Actual Budget Amounts Total labor-hours 500 468 Cost per material-handling

labor-hour $14.00 $14.50 Total material-handling

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Flexible Budgeting and

How many batches should have been employed to produce the actual output units?

15,660 units ÷ 180 units per batch = 87 batches How many material-handling hours

should have been used?

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Flexible Budgeting and

What is the flexible budget for material-handling labor-hours?

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Price and Efficiency Variances

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Describe benchmarking

and how it is used

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Benchmarking

It refers to the continuous process of

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