PowerPoint Authors: Susan Coomer Galbreath, Ph.D., CPA Charles W. Caldwell, D.B.A., CMA Jon A. Booker, Ph.D., CPA, CIA Cynthia J. Rooney, Ph.D., CPA Copyright © 2011 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Chapter 24 F LEXIBLE B UDGETS AND S TANDARD COSTS

Management uses budgets to monitor and control operations.  Develop the budget from planned objectives.  Compare actual with budget and analyze any differences.  Take corrective and strategic actions.  Revise objectives and prepare a new budget. B UDGETARY C ONTROL AND R EPORTING

Improve performance evaluation. May be prepared for any activity level in the relevant range. Show revenues and expenses that should have occurred at the actual level of activity. Reveal variances due to good cost control or lack of cost control. P URPOSE OF F LEXIBLE B UDGETS

P REPARATION OF F LEXIBLE B UDGETS To a budget for different activity levels, we must know how costs behave with changes in activity levels.  Total variable costs change in direct proportion to changes in activity.  Total fixed costs remain unchanged within the relevant range. Fixed Variable P 1

Benchmarks for measuring performance. The expected level of performance. Based on carefully predetermined amounts. Used for planning materials, labor, and overhead requirements. Standard costs are S TANDARD C OSTS C 1

Engineer Managerial Accountant I DENTIFYING S TANDARD C OSTS Production Manager Human Resources Manager C 1 Ideal standards, that are based on perfection, are unattainable and discouraging to most employees. Practical standards should be set at levels that are currently attainable with reasonable and efficient effort.

S ETTING S TANDARD C OSTS Quantity Standards Price Standards Direct Materials Time Standards Rate Standards Direct Labor Activity Standards Rate Standards Variable Overhead C 1

A standard cost card might look like this: C 1 S ETTING S TANDARD C OSTS

Standard Cost Variances C OST V ARIANCE C OMPUTATION Quantity VariancePrice Variance The difference between the actual price and the standard price. The difference between the actual quantity and the standard quantity. C 2

Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price Price VarianceQuantity Variance C OST V ARIANCE C OMPUTATION Standard quantity is the quantity that should have been used for the actual good output. Standard price is the amount that should have been paid for the resources acquired. C 2

AQ(AP - SP) SP(AQ - SQ) AQ = Actual Quantity SP = Standard Price AP = Actual Price SQ = Standard Quantity Actual Quantity Actual Quantity Standard Quantity × × × Actual Price Standard Price Standard Price Price VarianceQuantity Variance C OST V ARIANCE C OMPUTATION C 2

Actual Hours Actual Hours Standard Hours × × × Actual Rate Standard Rate Standard Rate Rate VarianceEfficiency Variance Materials price variance Materials quantity variance Labor rate variance Labor efficiency variance Variable overhead Variable overhead spending variance efficiency variance AH(AR - SR) SR(AH - SH) AH = Actual Hours SR = Standard Rate AR = Actual Rate SH = Standard Hours L ABOR C OST V ARIANCES P 2

High skill, high rate Low skill, low rate Using highly paid skilled workers to perform unskilled tasks results in an unfavorable rate variance. Production managers who make work assignments are generally responsible for rate variances. L ABOR C OST V ARIANCES P 2

Unfavorable Efficiency Variance Poorly trained workers Poor supervision of workers Poor quality materials Poorly maintained equipment L ABOR C OST V ARIANCES P 2

Recall that overhead costs are assigned to products and services using a predetermined overhead rate (POHR): Estimated total overhead costs Estimated activity POHR = Assigned Overhead = POHR × Standard Activity O VERHEAD S TANDARDS AND V ARIANCES P 3

Overhead Rate Contains a variable unit rate which stays constant at all levels of activity. Contains a fixed overhead rate which declines as activity level increases. Function of activity level chosen to determine rate. S ETTING O VERHEAD S TANDARDS Flexible budgets, showing budgeted amount of overhead for various levels of activity, are used to analyze overhead costs. P 3

C ONTROLLABLE AND V OLUME V ARIANCES Total Overhead Variance (OCV) Volume Variance Controllable Variance Overhead cost variance (OCV) Actual overhead incurred (AOI) Standard overhead applied (SOA) =– P 3

E ND OF C HAPTER 24