CONCEPTUAL
Standard costs are the normal costs that
should be incurred to produce a product or perform a service. They
should be based on a careful examination of the processes used
to produce a product or perform a service as well as the
quantities and prices that should be incurred in carrying
out those processes. On a performance report, standard costs (which are
flexible budget amounts) are compared to actual costs, and the
differences are presented as variances. Standard
cost accounting provides management information about costs that differ
from budgeted (expected) amounts. Performance reports
disclose the costs or areas of operations that have
significant variances from budgeted amounts. This allows managers to focus
more attention on the exceptions and less attention on areas
proceeding normally.
Management can use
variances to monitor and control activities. Total cost variances
can be broken into price and quantity variances to direct
management’s attention to those responsible for quantities used and
prices paid.
ANALYTICAL
Actual sales can differ from budgeted sales, and
managers can investigate this difference by computing both the sales price and
sales volume variances. The sales price variance refers to that
portion of total variance resulting from a difference between actual and
budgeted selling prices. The sales volume variance refers to that
portion of total variance resulting from a difference between
actual and budgeted sales quantities.
PROCEDURAL
A flexible budget expresses variable costs in per
unit terms so that it can be used to develop budgeted amounts for
any volume level within the relevant range. Thus, managers compute budgeted
amounts for evaluation after a period for the volume that actually occurred. To prepare
a flexible budget, we express each variable cost as a constant amount per
unit of sales (or as a percent of sales dollars). In contrast, the
budgeted amount of each fixed cost is expressed as a total amount
expected to occur at any sales volume within the relevant range. The flexible budget
is then determined using these computations and amounts for fixed and
variable costs at the expected sales volume.
Materials and labor
variances are due to differences between the actual costs incurred and
the budgeted costs. The price (or rate) variance is computed by comparing the
actual cost with the flexible budget amount that should have been incurred to acquire the actual
quantity of resources. The quantity (or efficiency) variance is computed by
comparing the flexible budget amount that should have been incurred to acquire the actual quantity of resources
with the flexible budget amount that should have been incurred to acquire
the standard quantity of resources.
Overhead variances are due to
differences between the actual overhead costs incurred and the overhead applied to production.
The overhead controllable variance equals the actual overhead minus the
budgeted overhead, based on a flexible budget. The volume variance equals
the budgeted fixed overhead minus the applied fixed overhead.
An overhead spending variance
occurs when management pays an amount different from the standard price to acquire an item.
An overhead efficiency variance occurs when the standard amount of the
allocation base to assign overhead differs from the actual amount of
the allocation base used.
When a company records
standard costs in its accounts, the standard costs of direct materials,
direct labor, and overhead are debited to the Work in Process Inventory
account. Based on an analysis of the material, labor, and overhead
costs, each quantity variance, price variance, volume variance, and controllable variance is recorded in a
separate account. At period-end, if the variances are not material, they are debited (if unfavorable) or credited (if
favorable) to the Cost of Goods Sold account.
Guidance Answers to Decision
Maker
Entrepreneur
From the complaints, this performance report appears to compare actual
results with a fixed budget.
This comparison is useful in determining whether the amount of work actually performed was more or less than
planned, but it is not useful
in determining whether the divisions
were more or less efficient
than planned. If the two consulting divisions worked on more assignments than expected,
some costs will certainly increase. Therefore, you should prepare a flexible budget using
the actual number
of consulting assignments and then compare
actual performance to the flexible budget.
As production manager, you should investigate the causes for any
labor-related variances although you
may not be responsible for them. An unfavorable labor efficiency variance
occurs because more
labor hours than standard were
used during the period. There are at least three possible reasons for this: (1)
materials quality could be poor, resulting in more labor consumption due to rework; (2)
unplanned interruptions (strike, breakdowns, accidents) could have occurred during the period; and (3) a different
labor mix might have occurred for a
strategic reason such as to expedite orders. This new labor mix could have consisted of a larger proportion of untrained
labor, which resulted
in more labor hours.
Sales
Manager
The unfavorable sales price variance suggests that actual prices were lower
than budgeted prices. As the sales manager,
you want to know the reasons for a lower than expected price. Perhaps your salespeople
lowered the price of certain products by offering quantity discounts. You then might want to know what prompted them to offer the
quantity discounts (perhaps competitors
were offering discounts). You want to break the sales volume variance into both the sales mix and sales quantity
variances. You
could find that although the sales quantity variance is favorable, the sales
mix variance is not. Then you need to investigate why the actual sales mix differs
from the budgeted sales mix.
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