Performance Evaluation Using Variances from Standard Costs 23 Performance Evaluation Using Variances from Standard Costs Student Version

Describe the types of standards and how they are established. 1 Describe the types of standards and how they are established. 23-2

1 Types of Standards Unrealistic standards that can be achieved only under perfect operating conditions (such as no idle time, no machine breakdowns, no materials spoilage) are called ideal standards or theoretical standards.

1 Currently attainable standards, sometimes called normal standards, can be attained with reasonable effort. Standards set at this level allow for disruptions, such as material spoilage and machine breakdowns.

Describe and illustrate how standards are used in budgeting. 2 Describe and illustrate how standards are used in budgeting. 23-5

Standard Cost per Unit = Standard Price × Standard Quantity 2 The standard cost per unit for direct materials, direct labor, and factory overhead is computed as follows: Standard Cost per Unit = Standard Price × Standard Quantity

Budget Performance Report 2 Budget Performance Report The report that summarizes actual costs, standard cost, and the differences for the units produced is called a budget performance report.

2 A favorable cost variance occurs when the actual cost is less than the standard cost (at actual volumes). An unfavorable cost variance occurs when the actual cost exceeds the standard cost (at actual volumes).

Direct Materials Variance 2 Direct Materials Variance The total direct materials variance is separated into price and quantity variances.

2 Direct Labor Variance The total direct labor variance is separated into rate and time variances.

Compute and interpret direct materials and direct labor variances. 3 Compute and interpret direct materials and direct labor variances. 23-11

Direct Materials Variances 3 Direct Materials Variances Actual Direct Materials Cost = Actual Price × Actual Quantity Actual Direct Materials Cost = $5.50 × (7,300 sq. yards.) Actual Direct Materials Cost = $40,150 Standard Direct Materials Cost = Standard × Standard Quantity Standard Direct Materials Cost = $5.00 × (7,300 sq. yards.) Standard Direct Materials Cost = $37,150 Actual costs ($40,150) – Standard costs ($37,500) = $2,650 Total Unfavorable Materials Variance

Direct Materials Price Variance 3 Direct Materials Price Variance Direct Materials Price Variance = (Actual Price – Standard Price) × Actual Quantity Direct Materials Price Variance = ($5.50 – $5.00) × 7,300 sq. yds. Direct Materials Price Variance = $3,650 Unfavorable Variance Western Rider paid $0.50 more per square yard of material than the standard.

Direct Materials Quantity Variance 3 Direct Materials Quantity Variance Direct Materials Quantity Variance = (Actual Quantity – Standard Quantity) × Standard Price Direct Materials Quantity Variance = (7,300 sq. yds. – 7,500 sq. yds. × $5.00 Direct Materials Price Variance = ($1,000) Favorable Variance Western Rider used 200 less square yards of material than the standard.

3 Exhibit 4 Direct Materials Variance Relationships Actual cost: Standard cost: Actual quantity × Actual price 7,300 × $5.50 = $40,150 Actual quantity × Standard price 7,300 × $5.00 = $36,500 Standard quantity × Standard price 7,500 × $5.00 = $37,500 Materials price variance Material quantity variance $3,650 U ($1,000) F Total direct materials cost variance $40,150 – $37,500 = $2,650 U

Direct Labor Variances 3 Direct Labor Variances Actual Direct Labor Cost = Actual Rate per Hour × Actual Time Actual Direct Labor Cost = $10.00 per hr. × 3,850 hrs. Actual Direct Labor Cost = $38,500 Standard Direct Labor Cost = Standard Rate per Hour × Standard Time Standard Direct Labor Cost = $9.00 per hr. × 4,000 hrs. Standard Direct Labor Cost = $36,000 Actual costs ($38,500) – Standard costs ($36,000) = $2,500 Total Unfavorable Labor Variance

Direct Labor Rate Variance 3 Direct Labor Rate Variance Direct Labor Rate Variance = (Actual Rate per Hour – Standard Rate per Hour) × Actual Hours Direct Labor Rate Variance = ($10.00 – $9.00) × 3,850 hours Direct Labor Rate Variance = $3,850 Unfavorable Variance If the actual direct labor rate for the units produced is less than the standard direct labor rate, the variance is favorable.

Direct Labor Time Variance 3 Direct Labor Time Variance Direct Labor Time Variance = (Actual Direct Labor Hours – Standard Direct Labor Hours) × Standard Rate per Hour Direct Labor Time Variance = (3,850 hours – 4,000 direct labor hours) × $9.00 Direct Labor Time Variance = ($1,350) Favorable Variance If the actual direct hours for the units produced exceeds the standard direct labor hours, the variance is unfavorable.

3 Exhibit 5 Direct Labor Variance Relationships Actual cost: Standard cost: Actual hours × Actual rate 3,850 × $10 = $38,500 Actual hours × Standard rate 3,850 × $9 = $34,650 Standard hours × Standard rate 4,000 × $9 = $36,000 Direct labor rate variance Direct labor time variance $3,850 U ($1,350) F Total direct labor cost variance $38,500 – $36,000 = $2,500 U

4 Compute and interpret factory overhead controllable and volume variances. 23-20

The Factory Overhead Flexible Budget 4 The Factory Overhead Flexible Budget Budgeted Factory Overhead at Normal Capacity Normal Productive Capacity Factory Overhead Rate = Factory Overhead Rate = $30,000 5,000 direct labor hours Factory Overhead Rate = $6.00 per direct labor hour

Fixed Factory Overhead Rate 4 Fixed Factory Overhead Rate Budgeted Fixed Overhead at Normal Capacity Normal Productive Capacity Fixed Factory Overhead Rate = $12,000 5,000 direct labor hours Fixed Factory Overhead Rate = Fixed Factory Overhead Rate = $2.40 per direct labor hour

Variable Factory Overhead Rate 4 Variable Factory Overhead Rate Budgeted Fixed Overhead at Normal Capacity Normal Productive Capacity Variable Factory Overhead Rate = $18,000 5,000 direct labor hours Variable Factory Overhead Rate = Variable Factory Overhead Rate = $3.60 per direct labor hour

Variable Factory Overhead Variances 4 Variable Factory Overhead Variances Variable Factory Overhead Controllable Variance Actual Variable Factory Overhead Budgeted Variable Factory Overhead = – Standard Hours for Actual Units Produced Variable Factory Overhead Rate ×

Variable Factory Overhead Variances 4 Variable Factory Overhead Variances $14,400 Variable Factory Overhead Controllable Variance Actual Variable Factory Overhead Budgeted Variable Factory Overhead = – 4,000 direct labor hours × $3.60

4 Variable Factory Overhead Controllable Variance Actual Variable Factory Overhead $14,400 = – Variable Factory Overhead Controllable Variance = $10,400 – $14,400 Variable Factory Overhead Controllable Variance = $(4,000) Favorable Variance

Fixed Factory Overhead Variances 4 Fixed Factory Overhead Variances Fixed Factory Overhead Rate Fixed Factory Overhead Volume Variance Standard Hours for 100% of Normal Capacity Standard Hours for Actual Units Produced × = – = Fixed Factory Overhead Volume Variance 5,000 direct labor hours 4,000 direct labor hours $2.40 × – = Fixed Factory Overhead Volume Variance $2,400 Unfavorable Variance

4 Total Factory Overhead Cost Variance Actual Factory Overhead Applied Factory Overhead = – Standard Hours for Actual Units Produced Total Factory Overhead Rate ×

4 Total Factory Overhead Cost Variance Actual Factory Overhead Applied Factory Overhead = – 5,000 jeans x 0.80 direct labor hr. per pair of jeans $6.00 ×

4 Actual Factory Overhead Total Factory Overhead Cost Variance = – Total Factory Overhead Cost Variance Applied Factory Overhead $24,000 5,000 jeans x 0.80 direct labor hr. per pair of jeans $6.00 ×

4 Actual Factory Overhead Total Factory Overhead Cost Variance = - Total Factory Overhead Cost Variance Applied Factory Overhead $24,000 $22,400 = – Total Factory Overhead Cost Variance $24,000 Total Factory Overhead Cost Variance = $(1,600) Favorable Variance

Overapplied factory overhead 4 Factory Overhead Actual factory overhead 22,400 Applied factory overhead 24,000 Balance, June 30 1,600 Overapplied factory overhead

Budgeted Factory Overhead for Amount Produced 4 Factory Overhead Actual factory overhead 22,400 Applied factory overhead 24,000 Budgeted Factory Overhead for Amount Produced Variable factory OH $14,400 Fixed factory OH 12,000 Total $26,400 Actual Factory Overhead $22,400 Applied Factory Overhead $24,000 $(4,000) F $2,400 U Controllable Variance Volume Variance $(1,600) F Total Factory Overhead Cost Variance

5 Journalize the entries for recording standards in the accounts and prepare an income statement that includes variances from standards. 23-34

Recording and Reporting Variances from Standards 5 Recording and Reporting Variances from Standards Western Rider Inc. purchased, on account, the 7,300 square yards of blue denim at $5.50 per square yard. The standard price was $5.00 per square yard.

Western Rider Inc.’s Purchase of Materials Entry 5 Western Rider Inc.’s Purchase of Materials Entry $5.50 × 7,300 = $40,150 $5.00 × 7,300 = $36,500 $3,650 U Direct materials price variance

5 Western Rider Inc. used 7,300 square yards of blue denim to produce 5,000 pairs of XL jeans, compared to the standard of 7,500 square yards.

Western Rider Inc.’s Use of Materials Entry 5 Western Rider Inc.’s Use of Materials Entry $5.00 × 7,500 = $37,500 $5.00 × 7,300 = $36,500 $(1,000) F Direct materials quantity variance