Chapter 13

2. Chapter 13 The Flexible Budget and Standard Costing: Direct Materials and Direct Labor

3. Learning Objectives • Evaluate the effectiveness and efficiency of an operation and calculate and interpret the operating income variance • Develop and use flexible budgets to analyze operating results • Set proper standard costs for planning, control, and performance evaluation • Identify factors contributing to variances and analyze and explain variances

4. Learning Objectives • Assess the effects of the contemporary manufacturing environment on operational control and standard costing • Recognize behavioral implications in implementing standard cost systems • Describe cost flows through general ledger accounts and prepare journal entries for the acquisition and use of direct materials and direct labor in a standard cost system

5. Evaluating Operating Results Performance is evaluated by comparing actual results with the budget. Actual Budget

6. Learning Objective One Evaluate the effectiveness and efficiency of an operation and calculate and interpret the operating income variance

7. Effectiveness and Efficiency Anoperation is efficientif ithas not wastedresources. Anoperation is effective ifit has attainedor exceededits goals. An operation may be effective but inefficient,and it may be efficient but ineffective.

8. Hmm! Comparing actual results withthe master budget will helpme determine myeffectiveness. Consider the following examplefrom the Cheese Company . . . Assessing Effectiveness Master budgets are prepared for a single activity level. Comparing actual results with the master budget reveals operating income variances.

9. Assessing Effectiveness

10. Assessing Effectiveness U = Unfavorable variances – Cheese Company was ineffective in achieving its budgeted level of sales.

11. Assessing Effectiveness

12. Assessing Effectiveness U = Unfavorable operating income variance – Cheese Company was ineffective in achieving its budgeted operating income.

13. Assessing Effectiveness F = Favorable variance– actual costs are less than budgeted costs.

14. Assessing Effectiveness Since cost variances are favorable, has Cheese Company done a good job of controlling costs at the lower level of sales?

15. I do know that actualsales are below budgetedsales, which is unfavorable. But shouldn’t variable costsbe lower if actual salesare below budgeted sales? Assessing Effectiveness I don’t think I cananswer the questioncomparing actual resultswith the master budget.

16. Learning Objective Two Develop and use flexible budgets to analyze operating results

17. The Flexible Budget • The relevant question is . . . “How much of the favorable cost variance isdue to lower activity, and how much is due to good cost control?” • To answer the question, we must the budget to theactual activity. • A willhelp me evaluate efficiency. flexible budget

18. The Flexible Budget Show revenues and expensesthat should have occurred at theactual activity. May be prepared for any activity level in the relevant range. Reveal variances due to good cost control or lack of cost control. Improve performance evaluation.

19. The Flexible Budget Central Concept If you can tell me what your activity wasfor the period, I will tell you what your costs and revenue should have been.

20. The Flexible Budget To a budget for different activity levels, we must know how costs behave with changes in activity levels. • Total variable costs changein direct proportion to changes in activity. • Total fixed costsremain unchangedwithin the relevantrange. Variable Fixed

21. The Flexible Budget Let’s prepare a budget for the Cheese Company at 8,000 units.

22. A flexible budgetis prepared for thesame activity level (8,000 units) as actually achieved. The Flexible Budget

23. The Flexible Budget Variable costs are expressed as a constant amount per unit. In the original static budget, variable manufacturing costs were $30,000 for 10,000 units resulting in $3.00 per unit. Fixed costs are expressed as a total amounts thatdo not changewithin the relevant range of activity.

24. 8,000 units × $3.00 per unit = $24,000 The Flexible Budget

25. The Flexible Budget Note: There is no flexin the fixed costs.

26. The Flexible Budget Original actual results for Cheese Company that we saw earlier.

27. The Flexible Budget Variable costs have unfavorable variances because actual costs are more than the flexible budget costs.

28. Assessing Efficiency Now we can answer our original question: “What part of the variances is due to activity and what part is due to cost control?”

29. Assessing Efficiency Recall the original variances resulting from the comparison of actual results with the master budget.

30. Assessing Efficiency Now let’s insert our new tool, the budget for 8,000 units, into the analysis.

31. Assessing Efficiency Variances dueto cost control

32. Assessing Efficiency Variances dueto activity change

33. Selling Price Variance In the Cheese Company example, the budgetedand actual selling price was $10 per unit. Now assume that the selling price changes to $11 per unit, with all other information unchanged. A selling price variance is the difference betweenthe total sales revenue received and thetotal sales revenue of the flexible budget. Continue

34. Selling Price Variance 8,000 units × $10 per unit 8,000 units × $11 per unit

35. Selling Price Variance 8,000 units × ($11 per unit – $10 per unit)

36. Selling Price Variance Flexible budget variances are variances are unchanged.

37. Learning Objective Three Set proper standard costs for planning, control, and performance evaluation

38. Standard Costs are Standard Costs Based on carefullypredetermined amounts. Used for planning labor, materialand overhead requirements. Cost The expected levelof performance. Benchmarks formeasuring performance.

39. Standard Costs Standard A standard cost varianceis the amount by whichan actual cost differs fromthe standard cost. Product Cost

40. Standard Cost Variances This variance is unfavorable because the actual cost exceeds the standard cost. Standard A standard cost varianceis the amount by whichan actual cost differs fromthe standard cost. Product Cost

41. Standard Cost Variances Managers focus on quantities and coststhat exceed standards, a practice known asmanagement by exception. Standard Amount DirectMaterial DirectLabor Type of Product Cost

42. Variance Analysis Cycle Takecorrective actions Identifyquestions Receive explanations Conduct next period’s operations Analyze variances Prepare standard cost performance report Begin

43. Types of Standards An ideal standard demands perfect implementation and maximum efficiency in every aspect of the operation A currently attainable standard sets the performance criterion at a level that a person with proper training and experience can attain most of the time without having to exert extraordinary effort

44. Types of Standards Accountants, engineers, personnel administrators, and production managers combine efforts to set standards based on experience and expectations.

45. Standards should be setat levels that are currently attainablewith reasonable and efficient effort. Types of Standards Should we havestandards that aredifficult to achieveor standards that canbe achieved withminimal effort?

46. I agree. Unattainable standards are discouraging while standards that are too easy to achieve provide little motivation. Types of Standards

47. Selection of a Standard • Activity analysis • Historical data • Benchmarking • Market expectation • Strategic decisions

48. Nonfinancial Measures • Friendly service • On-time delivery • Quality • Cleanliness • Value

49. Learning Objective Four Identify factors contributing to variances and analyze and explain variances

50. Direct Materials Standards PriceStandards UsageStandards Use competitivebids for the qualityand quantity desired. Use product design specifications.