Variance Analysis Chapter 7 Prepared by Diane Tanner University of North Florida

Are all favorable variances good? Variance Analysis Often performed separately for each of the four manufacturing costs Direct labor variances Direct materials variances Variable manufacturing overhead variances Fixed manufacturing overhead variances Are all favorable variances good? Unfavorable Variance  actual cost > standard Favorable Variance  actual cost < standard

Causes of Labor Variances Two causes Price (P) Paid too much per hour or paid less than expected per hour Quantity (Q) Used too many DL hours or used fewer DL hours than expected

Labor Quantity Variance Labor Variances P Q A S S A A S Labor Price (Rate) Variance Labor Quantity (Efficiency) Variance Rate per hour is more or less than allowed. Incurred too many or less than allowed hours. Total Labor Variance Labor Price Variance + Labor Quantity Variance

Responsibility for Labor Variances Production supervisors make work assignments, monitor the efficiency of employees, authorize pay raises, and terminate employees. I am responsible for the labor rate and labor efficiency variances.

Causes of Material Variances Two causes Price (P) Paid too much or paid less than expected for material per unit Quantity (Q) Used too much or used less than expected

Isolation of Material Variances Price Variance Computed on the entire quantity purchased Quantity Variance Computed only on the quantity used The material price variance is isolated at the purchase date. Why? I need to know as early as possible to make product pricing or quantity changes As a purchasing manager, I need the price variance sooner so that I can better identify purchasing problems.

P Q A S S S A A A S Material Variances Total Material Variance u Material Price Variance Material Quantity Variance Indicates if materials cost more or less per material unit than allowed. Indicates if more or less materials were used. Total Material Variance Material Price Variance + Material Quantity Variance

Responsibility for Material Variances You used too much material because of poorly trained workers and shoddy equipment maintenance, and you are a lousy scheduler! You make me overnight the material making it cost more, causing unfavorable price variances. I am not responsible for this unfavorable material quantity variance. You purchased cheap material, so my people had to use more of it. Production Manager Purchasing Manager

Variable Overhead Variances Actual VOH Cost Actual DLH x Std Rate VOH Flexible Budget Applied VOH VOH Spending Variance VOH Efficiency Variance VOH Production Volume Variance VOH Flexible Budget Variance VOH Production Volume Variance Total VOH Variance This is the underapplied or overapplied variable overhead amount.

Fixed Overhead Variances Actual FOH Cost FOH Static Budget FOH Flexible Budget Applied FOH FOH Spending Variance FOH Efficiency Variance FOH Production Volume Variance FOH Flexible Budget Variance FOH Production Volume Variance Total FOH Variance This is the underapplied or overapplied fixed overhead amount.

Applied VOH = [VOHR × Actual Activity] Applied Overhead Overhead costs are applied to products and services using a predetermined overhead rate (POHR). Estimated VOH Variable OH rate = Estimated Activity Estimated FOH Fixed OH rate = Applied VOH = [VOHR × Actual Activity] Applied FOH = [FOHR × Actual Activity]

Overhead Variance Responsibility Spending variances Production supervisor – if he selects specific OH items Purchasing manager – if he works with supplier on cost Efficiency variances Production supervisor – controls use of overhead items Production volume variance No one is responsible  We know why it exists. Exists because the volume of production/sales is less/more than budgeted

Predictable Variances Variances that always have zero balances VOH production volume variance Amount allowed per activity on the flexible budget is the same as the VOH applied FOH efficiency variance It is not possible to reduce a FOH cost simply by being more efficient.

Behavioral Considerations Standard costs and variance analysis can Provide very useful control measures Aid in performance evaluations Cause dysfunctional behavior among employees and managers

The End