1. Planning of Variable and Fixed Overhead Costs Effective planning of VOH involves reducing non-value added costs & consumption of cost allocation bases FOH planning: appropriate level of capacity or investment that will benefit the company over an extended time period. Done much before the period begins.

2. Features of Standard Costing Standard input of allocation base for actual output Standard OH cost rate × Cost Object Direct Cost SQ X SP

3. Developing Budgeted Variable Overhead Absorption Rates Step 1: Choose the time period used to compute the budget. Webb uses a 12-month budget period. Step 2: Select the cost-allocation base. Webb budgets 57,600 MHs for a budgeted output of 144,000 jackets in year 2006.

4. Cont.. Step 3: Identify the variable overhead costs. Webb’s budgeted variable manufacturing costs for 2006 is Rs.17,28,000 Step 4: Compute the rate per unit of each cost-allocation base. Rs.17,28,000÷ 57,600 hours = Rs.30/MH

5. Cont.. What is the budgeted variable overhead cost rate per output unit (Jacket)? 0.40 MH allowed per output unit × Rs.30 budgeted variable overhead cost rate per input unit = Rs.12 per jacket (output unit)

6. Variable OH variances for April, 2006 Actual Flexible budget Output units 10,000 10,000 MHs/unit 0.45 0.40 MHs 4,500 4,000 Variable OH Rs.130500 Rs.120000 Variable mfg. OH/MH Rs.29.00 Rs.30.00 VMOH/jacket Rs.13.05 Rs.12.00

7. Variable Overhead Cost Variances Variable manufacturing overhead costs: Actual results:Rs.1,30,500 Flexible-budget amount:Rs.1,20,000 Variable mfg. OH variance = Rs.10,500(U)

8. Variable OH efficiency variance = [Actual qty. of VOH allocation base used for actual output – Budgeted qty. of VOH allocation base for actual output] X Budgeted rate per unit of allocation base = [4500 hours – 4000 hours] X Rs.30/hr. = Rs.15,000 U

9. Possible causes of adverse variance Cause: Less skilled workers Inefficient scheduling Bad machine maintenance Rush order acceptance Too tight standard Response: Hiring and training Improve Preventive maintenance Coordination between sales and production staff Revise/improve

10. Variable OH spending variance Actual quantity of inputs at actual rate 4,500 × Rs.29 =Rs.130,500 Actual quantity of inputs at budgeted rate 4,500 × Rs.30 = Rs.1,35,000 Rs.4,500 F Variable overhead spending variance

11. Reasons  % increase in MHs = 12.5  % increase in Variable OH cost = 8.75 Why: 1.Actual price of inputs included in VOH may be less 2.% increase in actual quantity usage of individual items in VOH is less than % increase in MHs

12. Cont… Reasons: Skillful negotiation Bad quality indirect material Oversupply in the market Is a favourable spending variance always desirable? Not always! (low-quality indirect material, less talented supervisor, bad maintenance)

13. Variable Overhead Variances- Summary Flexible-budget variance Rs.10,500 U Efficiency variance Rs.15,000 U Spending variance Rs.4,500 F

14. Developing Budgeted Fixed Overhead Allocation Rates Step 1: Choose the period used to compute the budget. The budget period is typically twelve months. Why should you use annual rates? Step 2: Select the cost-allocation base. Webb budgets 57,600 MHs for a budgeted output of 1,44,000 jacket in year 2006.

15. Cont… Step 3: Identify the fixed overhead costs. Webb’s fixed manufacturing budget for 2006 is Rs.33,12,000. Step 4: Compute the rate per unit of cost-allocation base: Rs.33,12,000÷ 57,600 = Rs.57.50

16. Cont.. What is the budgeted fixed overhead cost rate per output unit (jacket)? 0.40 hours allowed per output unit Rs.57.50 budgeted fixed OH cost rate per input unit Rs.23 per jacket (output unit) × =

17. Fixed OH cost variances Actual Costs Incurred Rs.2,85,000 Flexible Budget: Budgeted Fixed Overhead Rs.2,76,000 Rs.9,000 U Fixed OH spending variance [also, Fixed OH flexible-budget variance] –

18. Cont… Reasons for unfavourable Fixed OH spending variance: Higher plant leasing cost, higher depreciation, higher supervisory salary

19. Production-Volume Variance Flexible Budget: Budgeted Fixed Overhead Rs.2,76,000 Fixed Overhead Allocated Using Budgeted Input Allowed for Actual Output Units Produced 0.40 X 10,000 X Rs.57.50=230,000 Rs.46,000 U Production-volume variance 2,000 (jackets not produced) × 0.40X Rs.57.50 = Rs.46,000 –

20. Fixed Overhead Variances Fixed overhead variance Rs.55,000 U Volume variance Rs.46,000 U Spending variance Rs.9,000 U

21. Interpreting the Production- Volume Variance Had Webb manufactured 12,000 jackets instead of 10,000, allocated fixed overhead would have been = Rs.2,76,000 (12,000 × 0.40× Rs.57.50) Had Webb manufactured 12,000 jackets instead of 10,000, allocated fixed overhead would have been = Rs.2,76,000 (12,000 × 0.40× Rs.57.50) No production-volume variance would have occurred. No production-volume variance would have occurred.

22. Cont…  Lump-sum fixed costs represent cost of capacity acquired  Many a times capacity can be added in lump-sum fashion Why the unused capacity? Weak demand/poor quality/product and marketing strategy/strategic mistake

23. Integrated Analysis A 4-variance analysis presents spending and efficiency variances for variable overhead costs and spending and production-volume variances for fixed overhead costs. Managers can reconcile the actual overhead costs with the overhead amounts allocated during the period.

24. Integrated Analysis Actual manufacturing overhead incurred: Variable manufacturing overheadRs. 1,30,500 Fixed manufacturing overhead 2,85,000 TotalRs. 4,15,500 Overhead allocated: Variable manufacturing overheadRs. 1,20,000 Fixed manufacturing overhead 2,30,000 TotalRs. 3,50,000 Amount underallocatedRs. 65,500

25. Integrated Analysis 4-Variance Analysis: Variable manufacturing overhead: Spending variance Rs. 4,500 F Efficiency variance Rs.15,000 U Fixed manufacturing overhead: Spending variance 9,000 U Volume variance 46,000 U Total Rs.65,500 U

26. Integrated analysis 3-Variance Analysis Variable and fixed manufacturing overhead: Spending variance Rs.4,500 F + Rs.9,000 U = 4,500 U Variable manufacturing overhead: Efficiency variance 15,000 U Fixed manufacturing overhead: Volume variance 46,000 U Total Rs.65,500 U

27. Home task 2-Variance Analysis 1-variance analysis Production volume variance and Sales volume variance

28. Financial and Nonfinancial Performance Overhead variances are examples of financial performance measures. What are examples of nonfinancial measures? Actual labor time, relative to budgeted time Actual indirect materials usage per labor-hour, relative to budgeted indirect materials usage