2. EMBA 8021 Agenda Today Refine some points from last Wednesday Review examples of the results of your homework assignment Make some observations Clarify our views of the activity paradigm Discuss efficiency & effectiveness Talk about standard costs of activities

3. EMBA 8022 Differential Profitability View Revenue$1,000,000 Variable expenses 300,000 Contribution margin$ 700,000 Nonvariable expenses 400,000 Income from operations$ 300,000 Income taxes 90,000 Net income$ 210,000

4. EMBA 8023 Profitability - Internal Report Revenue$1,000,000 Variable production cost 300,000 Contrib.margin on production$ 700,000 Nonvariable mfg. cost 400,000 Gross margin$ 300,000 Selling & admin. expenses 120,000 Income from operations$ 180,000 Income taxes 60,000 Net income$ 120,000

5. EMBA 8024 Profitability - External Report Revenue$1,000,000 Cost of goods sold 700,000 Gross margin $ 300,000 Selling & admin. expenses 120,000 Income from operations$ 180,000 Income taxes 60,000 Net income$ 120,000

6. EMBA 8025 Outputs Inputs Basic Activity View

7. EMBA 8026 Activity Terminology Statistics represent the numeric values assigned to the metrics for a period. Data sources are the primary or secondary sources of the statistics.

8. EMBA 8027 Efficiency in Accounting In accounting we use cost standards, flexible budgets and profitability measures to evaluate efficiency. These standards relate the work done to the cost incurred to achieve that work. Physical measures are useful, but the ultimate measures include profitability. We may measure other operating variables because we believe they relate to profitability in the longer run.

9. EMBA 8028 Just in time Basic Activity View Outputs INPUTS Input/Output

10. EMBA 8029 Input/Output Relationships INPUTSOUTPUTS Yield or Productivity Efficiency

11. EMBA 80210 Sales Mix and Volume Just as we have focused on contribution margin to make product mix and other differential profitability decisions, we are going to focus on contribution margins in evaluating the results of operations. In anticipation of what comes later, let us consider the idea of sales mix and volume variances.

12. EMBA 80211 Sales Mix & Volume Planned Sales Mix: TotalPlainDeluxe Sales price $11 $10 $12 Variable cost 6 6 6 Contribution margin $ 5 $ 4 $ 6 Planned mix 50% 50%

13. EMBA 80212 Sales Mix & Volume Suppose actual sales were 10 units: 4 units of Plain, and 6 units of Deluxe. QuantityContribution Actual -PlanUCM - ACM P: (4 - 5 units) x ($4 - $5)= +$1 D: (6 - 5 units) x ($6 - $5)= + 1 Total mix variance= +$2

14. EMBA 80213 Observe The effect is easy to see because we sold one fewer of the low margin, plain model, and one more of the deluxe model for an increase in contribution margin of $2. There was a clear trade- off.

15. EMBA 80214 Calculated another way-- Contribution margin at standard for actual sales of 10 units: (4 units @ $4 + 6 units @ $6= $52 Contribution margin at standard for planned sales of 10 units: (10 units @ $5 weighted avg.)= 50 Total mix variance $ 2

16. EMBA 80215 More Complicated Next, let us consider a more complicated case involving three products and a different sales mix than planned.

17. EMBA 80216 More complicated example PlainSo-SoDeluxe Price$ 10 $ 11$ 12 Variable cost 6 6 6 Contribution$ 4 $ 5$ 6 Planned mix30% 50%20% ACM = 0.3($ 4) + 0.5($ 5) + 0.2($ 6) = 1.2 + 2.5 + 1.2 = $ 4.9/unit

18. EMBA 80217 More Complicated Actual sales: 4 Plain, 5 SoSo, 1 Deluxe (Actual - Plan) x (UCM - ACM) PL (4 - 3 u) x ($4 - 4.9)= $- 0.9 So (5 - 5 u) x ($5 - 4.9)= 0 Dx (1 - 2 u) x ($6 - 4.9)= - 1.1 Total mix variance $-2.0 UCM is unit contribution marg., ACM is average

19. EMBA 80218 Alternative Formulation Item(Actual - Standard) x UCM Plain (4 - 3) x $ 4 = $ 4 SoSo (5 - 5) x $ 5 = 0 Deluxe (1 - 2) x $ 6 = - 6 Total mix variance $- 2 UCM is unit contribution margin

20. EMBA 80219 Comparing Totals Planned contribution margin = 3 units @ $4 + 5 units @ $5 + 2 units @ $6 = $ 12 + $ 25 + $ 12 = $ 49 Actual units at standard margin: 4 units @ $4 + 5 units @ $5 + 1 units @ $6 = $16 + $25 + $6 = $ 47 Total variance = Actual - Plan = $ -2

21. EMBA 80220 Still More Complicated Next, let us consider the case in which both the total volume and the mix of product sales differ from plan.

22. EMBA 80221 Volume Variance If we sell more units than planned, then there is an overall volume effect in addition to a possible mix effect. We could have one without the other, except at very low volume levels: Volume variance = (Q A - Q P )ACM (11 u - 10 u) @ $4.90 = $4.90 F where Q A is actual volume, Q P is planned volume, and ACM is the weighted-average planned contrib. margin.

23. EMBA 80222 More Complicated Actual sales: 4 Plain, 5 SoSo, 2 Deluxe (Actual -Plan) x (CM - ACM) PL (4 -.3[11]) x ($4 - 4.9) = 0.7($-0.9) So (5 -.5[11]) x ($5 - 4.9) =-0.5($ 0.1) Dx (2 -.2[11]) x ($6 - 4.9) =-0.2($ 1.1 Totalmix variance= $-0.90 U Total variance = $ 4.90 - $ 0.90 = $ 4.00

24. EMBA 80223 Compare the Totals for Variance Actual volume at standard cm: = 4 @ $4 + 5 @ $5 + 2 @ $ 6 = $ 16 + $ 25 + $ 12 = $53 Planned contribution margin: = 10 units @ $ 4.90 = $ 49 Variance = $ 53 - $ 49, or $ 4 Favorable

25. EMBA 80224 Under What Conditions.....? When a mix variance makes sense: Products are substitutes in the eyes of customers. There are one or more constraints that force trade-offs in the production, distribution or sales of products and services.

26. EMBA 80225 Interpreting the Mix Variance Under most conditions, only the total mix variance makes sense as a measure of the over-all impact of a change in sales mix. If one were looking for a particular shift in mix, then one can look at the variances for individual products, but the variances do not reveal exactly which products are being substituted for which. At best, variances can only confirm hypotheses.

27. EMBA 80226 Break for it!