Chapter 22

Prepare a flexible budget for the income statement

Static BudgetFlexible Budget  Prepared for only one level of sales volume  Prepared for several different volume levels within a relevant range  Separates fixed and variable costs Copyright (c) 2009 Prentice Hall. All rights reserved. Variance = difference between actual and budget Favorable – actual amount increases income Unfavorable – actual amount decreases income 3

Prepare an income statement performance report

Sales Volume VarianceFlexible Budget Variance Actual Results Flexible Budget based on actual number of outputs Static Budget based on expected number of outputs Static Budget Variance Copyright (c) 2009 Prentice Hall. All rights reserved.5

Sales Volume Variance Flexible Budget (for the number of units actually sold) Flexible Budget (for the number of units actually sold) Master Budget (for the expected number of units to be sold) Master Budget (for the expected number of units to be sold) Flexible Budget Variance Actual results (for the actual number of units to be sold) Actual results (for the actual number of units to be sold) Flexible Budget (for the number of units actually sold) Flexible Budget (for the number of units actually sold) 6

Copyright (c) 2009 Prentice Hall. All rights reserved.7

8 White Pro Company Income Statement Performance Report Year Ended July 31, 2011 Actual Results at Actual Prices Flexible Budget Variance Flexible Budget for Actual Number of Output Units Sales Volume Variance Static (Master) Budget Output units 41, ,000 7,000 F 34,000 Sales revenue $215,000 $ 0$215,000 19,000 F$196,000 Variable costs 85, U84,412 14,412 U 70,000 Fixed costs 107,000 6,000 U 101,000 0 Total costs (192,000) (6,588) U (185,412) 14,412 U (171,000) Operating income $ 23,000$6,588 U$ 29,588 $4,588 F$ 25,000

Copyright (c) 2009 Prentice Hall. All rights reserved.9 SALES REVENUE: STATIC:$5.76 X 34,000=$196,000; FLEX:$5.76 X 41,000=$236,160; ACTUAL: $215,000 (Ave.$5.24 each) VARIABLE COSTS: STATIC:$2.059 X 34,000=$70,000; FLEX:$2.059 X 41,000=$84,412 ACTUAL: $85,000 (Ave.$2.07 each)

Copyright (c) 2009 Prentice Hall. All rights reserved.10 Actual Results at Actual Prices Flexible Budget Variance Flexible Budget for Actual Number of Output Units Sales Volume Variance Static (Master) Budget Output units14, , U 15,000 Sales revenue $126,900 a $21,150 F$105,750 b $6,750 U $112,500 c Variable expenses 38,070 1,410 U 36,660 e 2,340 F 39,000 f Fixed expenses 46,000 2,000 U 44,000 0 Total expenses (84,070) (3,410) U (80,660) 2,340 F 83,000 Operating income$ 42,830$17,740 F$ 25,090$4,410 U $29,500

Identify the benefits of standard costs and learn how to set standards

 Budget for a single unit  Each unit has standards for: Copyright (c) 2009 Prentice Hall. All rights reserved. QuantityPrice 12

Consider early-pay discounts, freight-in, and receiving costs Managers look for ways to cut costs Direct materials Consider pay rates, payroll taxes, and fringe benefits Accountants work with human resource managers Direct labor Accountants work with production managers Appropriate allocation base chosen Manufacturing overhead Copyright (c) 2009 Prentice Hall. All rights reserved.13

Consider product specifications, spoilage Direct materials Consider time requirements Use of time-and-motion studies and benchmarking Direct labor Based on overhead application rate Manufacturing overhead Copyright (c) 2009 Prentice Hall. All rights reserved.14

Price StandardQuantity Standard Direct Materials Responsibility: Production managers Responsibility: Production managers & engineers Factors: Purchase price, discounts, delivery, credit policy Factors: Product specifications, spoilage, production scheduling Direct Labor Responsibility: Human resource managers Responsibility: Production managers & engineers Factors: Wage rate, payroll taxes, fringe benefits Factors: Time requirements Manufacturing Overhead Responsibility: Production managers Factors: Nature and amount of resources needed for support activities Copyright (c) 2009 Prentice Hall. All rights reserved.15

Helps managers:  In budget preparation  Target levels of performance  Identify performance standards  Set sales prices  Decrease accounting costs Copyright (c) 2009 Prentice Hall. All rights reserved.16

Efficiency VariancePrice Variance Actual Price X Actual Quantity Standard Price X Actual Quantity Standard Price X Standard Quantity Total Cost Variance Copyright (c) 2009 Prentice Hall. All rights reserved.17

 Measures how well the business keeps unit costs within standards Copyright (c) 2009 Prentice Hall. All rights reserved. (Actual Price x Actual Quantity) (Standard Price x Actual Quantity) (Actual Price – Standard Price) Actual Quantity OR (AP – SP) x AQ 18

 Measures how well the business keeps unit costs within standards Copyright (c) 2009 Prentice Hall. All rights reserved. (Standard Price x Actual Quantity) (Standard Price x Standard Quantity) (Actual Quantity – Standard Quantity) Standard Price OR (AQ – SQ) x SP 19

Sales Volume VarianceFlexible Budget Variance Actual Results Flexible Budget based on actual number of outputs Static Budget based on expected number of outputs Static Budget Variance Efficiency Variance Price Variance Copyright (c) 2009 Prentice Hall. All rights reserved.20

 Questions? Copyright (c) 2009 Prentice Hall. All rights reserved.21

1. A flexible budget: A. is prepared for different activity levels. B. separates variable costs from fixed costs. C. shows variances as favorable or unfavorable. D. is all of the above. 22 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

1.A flexible budget: A.is prepared for different activity levels. B.separates variable costs from fixed costs. C.shows variances as favorable or unfavorable. D.is all of the above. 23 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

2. If the flexible budget sales amount is greater than the amount on the master (static) budget, the result is a(n): A. favorable sales volume variance. B. unfavorable sales volume variance. C. favorable flexible budget variance. D. unfavorable flexible budget variance. 24 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

2.If the flexible budget sales amount is greater than the amount on the master (static) budget, the result is a(n): A.favorable sales volume variance. B.unfavorable sales volume variance. C.favorable flexible budget variance. D.unfavorable flexible budget variance. 25 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

3. If a company was trying to improve its labor quantity variance, it would: A. consider pay rates. B. eliminate fringe benefits. C. use time-and-motion studies. D. do all of the above. 26 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

3.If a company was trying to improve its labor quantity variance, it would: A.consider pay rates. B.eliminate fringe benefits. C.use time-and-motion studies. D.do all of the above. 27 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

4. Over which variance do production managers have the least control? A. Direct material quantity variance B. Direct materials price variance C. Direct labor quantity variance D. Direct labor price variance 28 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

4.Over which variance do production managers have the least control? A.Direct material quantity variance B.Direct materials price variance C.Direct labor quantity variance D.Direct labor price variance 29 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

Compute standard cost variances for direct materials and direct labor

 Gather necessary data: ◦ Identify fixed and variable costs ◦ Compare actual results with flexible budget ◦ Prepare flexible budget based on standard costs ◦ Compute actual quantities and prices of materials and labor Copyright (c) 2009 Prentice Hall. All rights reserved.31

Copyright (c) 2009 Prentice Hall. All rights reserved. (Actual Price – Standard Price) Actual Quantity Direct materials price variance ($1.15 – $1.10) 2900 yards $145 U 32

Copyright (c) 2009 Prentice Hall. All rights reserved. (Actual Quantity – Standard Quantity) Standard Price Direct materials efficiency variance 2900 yards – (1000 units x 3 yards) $1.10 $110 F 33

Copyright (c) 2009 Prentice Hall. All rights reserved. Actual price x Actual quantity Standard price x Actual quantity Standard price x Standard quantity $1.15 x 2900 = $3,335$1.10 x 2900 = $3,190$1.10 x 3000 = $3,300 Price variance $145 U Efficiency variance $110 F Total materials variance $35 U 34

Copyright (c) 2009 Prentice Hall. All rights reserved. (Actual Price – Standard Price) Actual Hours Direct labor price variance ($9.50 – $10.00) 650 hours $325 F 35

Copyright (c) 2009 Prentice Hall. All rights reserved. (Actual Hours – Standard Hours) Standard Price Direct labor efficiency variance 650 hours – (1,000 units x 1 hour/unit) $10.00 $3,500 F 36

Copyright (c) 2009 Prentice Hall. All rights reserved. Actual price x Actual hours Standard price x Actual hours Standard price x Standard hours $9.50 x 650 = $6,175$10.00 x 650 = $6,500$10.00 x 1,000 = $10,000 Price variance $325 F Efficiency variance $3,500 F Total labor variance $3,825 F 37

Analyze manufacturing overhead in a standard cost system

Copyright (c) 2009 Prentice Hall. All rights reserved. Actual overhead cost Standard overhead allocated to production minus 39

Copyright (c) 2009 Prentice Hall. All rights reserved. Overhead allocated to production Standard (predetermined) overhead rate Standard quantity of the allocation base allowed for actual output 40

 Shows how well managers controlled overhead costs Copyright (c) 2009 Prentice Hall. All rights reserved. Actual overhead costs Flexible budget overhead for actual output 41

 Occurs when actual production differs from expected production Copyright (c) 2009 Prentice Hall. All rights reserved. Standard overhead allocated to actual production Flexible budget overhead for actual output 42

Record transactions at standard cost and prepare a standard cost income statement

 Materials inventory and Manufacturing wages are recorded at standard prices  Unfavorable variances are recorded as debits; favorable variances are recorded as credits  Work in process inventory is recorded at standard quantities and standard prices Copyright (c) 2009 Prentice Hall. All rights reserved.44

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Materials inventory Direct materials price variance Accounts payable To record purchase of direct materials Copyright (c) 2009 Prentice Hall. All rights reserved. standard price) actual price) (if U-debit, if F-credit) 45

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Work in process inventory Direct materials efficiency variance Materials inventory To record use of direct materials Copyright (c) 2009 Prentice Hall. All rights reserved. standard price & quantity) standard price & actual quantity) (If U-debit, if F-credit) 46

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Manufacturing wages Direct labor price(rate) variance Wages payable To record labor costs Copyright (c) 2009 Prentice Hall. All rights reserved. standard rate) actual rate) (If U-debit, if F-credit) 47

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Work in process inventory Direct labor efficiency variance Manufacturing wages To allocate direct labor to production Copyright (c) 2009 Prentice Hall. All rights reserved. standard rate & hours) standard rate & actual hours) (If U-debit, if F-credit 48

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Manufacturing overhead Various accounts To record actual overhead costs incurred Work in process inventory Manufacturing overhead To allocate overhead costs to production Copyright (c) 2009 Prentice Hall. All rights reserved. (actual costs incurred) (standard OH rate x standard allocation base ) 49

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Finished goods inventory Work in process inventory To record completion of goods at standard cost Cost of goods sold Finished goods inventory To record the cost of goods sold at standard cost Copyright (c) 2009 Prentice Hall. All rights reserved.50

GENERAL JOURNAL DATEDESCRIPTION REF DEBITCREDIT Overhead flexible budget variance Overhead production volume variance Manufacturing overhead To record overhead variances and close out the Manufacturing overhead account Copyright (c) 2009 Prentice Hall. All rights reserved.51

Copyright (c) 2009 Prentice Hall. All rights reserved.52

Review Questions?  Overhead Variance  Standard Cost  Price Variance

9. Which overhead variance shows how well managers controlled overhead costs? A. Total overhead variance B. Overhead flexible budget variance C. Overhead production volume variance D. Overhead price variance 54 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

9.Which overhead variance shows how well managers controlled overhead costs? A.Total overhead variance B.Overhead flexible budget variance C.Overhead production volume variance D.Overhead price variance 55 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

10. When a company uses a standard cost accounting system, for which amount is the Materials inventory account debited when purchases are made? A. Standard quantity x standard price B. Actual quantity x actual price C. Standard quantity x actual price D. Actual quantity x standard price 56 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

10.When a company uses a standard cost accounting system, for which amount is the Materials inventory account debited when purchases are made? A.Standard quantity x standard price B.Actual quantity x actual price C.Standard quantity x actual price D.Actual quantity x standard price 57 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

11. In a standard costing income, how would an unfavorable labor price variance affect Cost of goods sold? A. Increase B. Decrease C. No effect 58 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

11.In a standard costing income, how would an unfavorable labor price variance affect Cost of goods sold? A.Increase B.Decrease C.No effect 59 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.

 Use the following data to answer the next questions: ◦ During the current month, a company produces 500 widgets. ◦ The standard costs are as follows:  2 pounds of direct material at $6 per pound  3 hours of direct labor at $15 per hour ◦ Actual costs incurred:  1060 pounds of direct material at a total cost of $6,095  1480 hours of labor at a total cost of $22,570 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed.60

5. Compute the direct materials price variance. 61 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed. (Actual Price – Standard Price) Actual Quantity ($5.75 – $6.00) Actual price = $6,095/1060 lbs $ lbs $265 F

6. Compute the direct materials quantity variance. 62 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed. (Actual Quantity – Standard Quantity) Standard Price 1060 lbs. – 1000 lbs Standard quantity = 500 units x 2 lbs 1000 lbs. $6 $360 U

7. Compute the direct labor price variance. 63 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed. (Actual Price – Standard Price) Actual Hours ($15.25 – $15.00) Actual price = $22,570 /1480 $ $370 U

8. Compute the direct labor quantity variance. 64 Co pyr igh t (c) Pr ent ice Ha ll. All rig hts res erv ed. (Actual Hours – Standard Hours) Standard Price 1485 hrs – 1500 hrs Standard hours = 500 units x 3 lbs 1500 hours $15 $225 F