Flexible Budgets and Standard Costs

1. Flexible Budgets andStandard Costs Chapter 23

2. Budgets and Variances • Budget variance—the difference between an actual amount and a budgeted figure • Managers use variances to operate a business • Important to know why actual amounts differ from the budget • Enables managers to identify problems and decide upon actions to take

3. Static vs. Flexible Budgets • Static budget • Prepared for one level of sales volume • Does not change after developed • Variances classification • Favorable (F) if an actual amount increases operating income • Unfavorable (U) if an actual amount decreases operating income • Flexible budget • Prepared for several different volume levels within a relevant range • Separates fixed and variable costs • Variable costs put the “flex” in the flexible budget

4. Create a Flexible Budget • Need to know: • Selling price per unit • Variable cost per unit • Total fixed costs • Different volume levels within the relevant range

5. Using the Flexible Budget • Managers need to know why variance occurred • To pinpoint problems • To take corrective action • Managers divide the static budget variance into two broad categories • Flexible budget variance • Occurs because sales price per unit, variable cost per unit, and/or fixed cost was different than planned • Sales volume variance • Arises because actual number of units sold differs from the amount in the static budget

6. Using the Flexible Budget • Used to explain the cause of the $4,000 Variance • Volume • Changes in per unit Sale price and/or per unit variable cost and changes in Fixed Cost

7. Static Budget Variances • Computations

8. Income Statement Performance Report Per Unit Sale Price Actual $12.10 Budget $12Per Unit VC Actual $8.60 Budget $ 8

9. S23-3: Flexible budget preparation Moje, Inc., manufactures travel locks. The budgeted selling price is $19 per lock, the variable cost is $8 per lock, and budgeted fixed costs are $15,000. 1. Prepare a flexible budget for output levels of 4,000 locks and 7,000 locks for the month ended April 30, 2012.

10. Standard Costs • Budget for a single unit • Each unit has standards for price and quantity • Inputs: • Direct materials • Price – per unit cost of materials in each product • Quantity – amount used to make each product • Direct Labor • Price – wage rate for employees involved in making the product • Quantity – time used to make each product

11. Price Standards

12. Quantity Standards

13. Application Computing Standards • Determine cost standards for materials, labor, and overhead • Direct materials price standard for vinyl: Purchase price, net of discounts $1.90 per square footDelivery, receiving, and inspection 0.10 per square footTotal standard cost per square foot of vinyl $2.00 per square foot • Direct labor (DL) price (or rate) standard: Hourly wage $ 8.00 per direct labor hourPayroll taxes and fringe benefits 2.50 per direct labor hourTotal standard cost per direct labor hour $10.50 per direct labor hour • Variable overhead price (or rate) standard • Fixed overhead price (or rate) standard: • Estimated variable overhead cost $6,400 Estimated quantity of allocation base 3,200 DL hours = = $2.00 per DL hour • Estimated fixed overhead cost $9,600 Estimated quantity of allocation base 3,200 DL hours = = $3.00 per DL hour

14. Standard Setting Issues

15. Variance Analysis • Once established, use the standard cost to assign costs to production • Compare actual production costs to standard costs to locate variances • Variance Relationships How well material and labor prices are kept within standards How well a company uses its materials or human resources

16. Price Variance • Measures how well the business keeps unit costs within standards • Difference in price of an input, multiplied by the actual quantity used.

17. Efficiency (or Quantity) Variance • Measures how well the business uses its materials or human resources • It is the difference in quantities multiplied by the standard price per unit

18. Variances The Relationships Among Price, Efficiency, Flexible Budget, Sales Volume, and Static Budget Variances • This table illustrates two points: • First, the price and efficiency variances add up to the flexible budget variance • Second, static budgets play no role in the price and efficiency variances • The static budget is used to compute the sales volume variance

19. Analyzing the Flexible Budget Variance • Main concern: The $4,000 unfavorable flexible budget variance

20. Data for Standard Costing Example • Identify fixed and variable costs • Recall standard cost (computed earlier) • Materials - $2.00 per square foot of vinyl • Labor - $10.50 per direct labor hour • Overhead • Variable overhead price (or rate) standard is $2.00 per direct labor hour • Fixed overhead price (or rate) standard is $3.00 per direct labor hour • Identify the cost of one unit of production • Materials = 1 square foot per DVD = $2.00 • Labor = .40 hours per DVD = $4.20 • Variable Overhead = .40 hours per DVD = $0.80 • Actual Sales Results = 10,000

21. Computation of Flexible Budget and Actual Results

22. Computing Variances: Materials • To compute variances, use the cost computed for the flexible budget and actual results • Follow the direct materials variance of $2,800

23. Direct Materials Variance • Two types of direct materials variances: • Direct materials price variance • Direct materials efficiency variance

24. Computing Variances: Labor • To compute variances, use the cost computed for the flexible budget and actual results • Follow the direct labor variance of $ 200

25. Direct Labor Variances • Two types of direct labor variances: • Direct labor price (rate) variance • Direct labor efficiency variance

26. S23-6 : Calculate materials variances Johnson, Inc., is a manufacturer of lead crystal glasses. The standard materials quantity is 0.8 pound per glass at a price of $0.30 per pound. The actual results for the production of 6,900 glasses was 1.1 pounds per glass, at a price of $0.40 per pound. • Calculate the materials price variance and the materials efficiency variance. Materials Price Variance = (AP – SP) x AQ = ($0.30 per pound – $0.40 per pound) x 6,900 glasses x 1.1 lb = (– $0.10 per pound) x 7,590 pounds = – $759 unfavorable Direct Materials Efficiency Variance = (AQ – SQ) x SP = (7,590 – 5,520) x $0.30 per pound = (2,070) x $0.30 per pound = $621 unfavorable

27. S23-7: Calculate labor variances Johnson, Inc., manufactures lead crystal glasses. The standard direct labor time is 0.3 hour per glass, at a price of $13 per hour. The actual results for the production of 6,900 glasses were 0.2 hour per glass, at a price of $10 per hour. • Calculate the labor price variance and the labor efficiency variance. Direct Labor Price Variance = (AP – SP) x AH = ($10.00 – $13.00) x 1,380 hours = ($3.00) x 1,380 hours = $4,140 favorable Direct Labor Efficiency Variance = (AH – SH) x SP = (1,380 hours – 2,070 hours) x $13.00 per hour = (690 hours) x $13.00 per hour = $8,970 favorable

28. Manufacturing Overhead Variances • Total overhead variance—the difference between actual overhead cost and standard overhead allocated to production Allocating Overhead in a Standard Cost System

29. Computing Variances: Variable Overhead • To compute variances, use the cost computed for the flexible budget and actual results • Follow the variable overhead variance of $1,000

30. Variable Overhead Variances • Two types of variable overhead variances: • Variable overhead spending (price) variance • Variable overhead efficiency variance

31. Computing Variances: Fixed Overhead • To compute variances, use the cost computed for the flexible budget and actual results • Follow the fixed overhead variance of $2,700

32. Fixed Overhead Variances • Two types of variable overhead variances • Fixed overhead spending variance • Fixed overhead volume variance

33. S23-9: Standard overhead rates Refer to the data from Johnson, Inc., in S23-6 and S23-7. The following information relates to the company’s overhead costs: Static budget variable overhead $ 9,000 Static budget fixed overhead $ 4,500 Static budget direct labor hours 1,800 hours Static budget number of glasses 6,000 Johnson allocates manufacturing overhead to production based on standard direct labor hours. Last month, Johnson reported the following actual results: actual variable overhead, $10,200; actual fixed overhead, $2,830. • Compute the standard variable overhead rate and the standard fixed overhead rate. Budgeted overhead cost Budgeted direct labor hours Standard overhead rate = Standard variable = $9,000 / 1,800 hours = $5 per DL hour Standard fixed = $4,500 / 1,800 hours = $2.50 per DL hour

34. Standard Cost Accounting Systems Journal Entries • Records variances from standards as soon as possible • Records direct materials price variances when materials are purchased • Work in process inventory is debited at standard input quantities and standard prices

35. Flow of Costs in a Standard Costing System

36. Standard Cost Accounting Systems Journal Entries • Manufacturing wages is debited at standard prices for direct labor hours actually used • Work in process inventory is debited for the standard cost per direct labor hour that should have been used

37. Flow of Costs in a Standard Costing System

38. Standard Cost Accounting Systems Journal Entries • Record actual overhead cost for June • Record the overhead allocated to Work in process inventory computed

39. Flow of Costs in a Standard Costing System

40. Standard Cost Accounting Systems Journal Entries • Record the transfer of the standard cost of the DVDs completed from Work in process inventory to Finished goods • Record the transfer of the cost of sales of the 10,000 DVDs sold at standard cost

41. Flow of Costs in a Standard Costing System

42. Standard Cost Accounting Systems Journal Entries • Closes the Manufacturing overhead account and records the overhead variances

43. Flow of Costs in a Standard Costing System

44. Standard Cost Income Statement for Management