Flexible Budgets, Variances, and Management Control: II

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Flexible Budgets, Variances,and Management
Control II

• Chapter 8

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Learning Objective 1
Explain in what ways the planning of variable
overhead costs and fixed overhead costs are
similar and in what ways they differ.
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Planning of Variable andFixed Overhead Costs
Effective planning of variable overhead
costs involves undertaking only those
variable overhead activities that add value
for customers using the product or service.
The key challenge with planning fixed overhead is
choosing the appropriate level of capacity
or investment that will benefit the company
over an extended time period.
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Learning Objective 2
Identify the features of a standard-costing
system.
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Standard Costing
Cost Object
Direct Cost
Standard input allowed for one output unit
Standard cost per input unit

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Developing Budgeted VariableOverhead Allocation
Rates
Step 1 Choose the time period used to compute
the budget. Pasadena Co. uses a twelve-month
budget period.
Step 2 Select the cost-allocation base. Pasadena
budgets 26,000 labor-hours for a budgeted output
of 13,000 suits in year 2004.
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Developing Budgeted VariableOverhead Allocation
Rates

• Step 3
• Identify the variable overhead costs.
• Pasadenas budgeted variable
• manufacturing costs for 2004 are 312,000.

• Step 4
• Compute the rate per unit of
• each cost-allocation base.
• 312,000 26,000 hours 12/hour

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Developing Budgeted VariableOverhead Allocation
Rates
What is the budgeted variable overhead cost rate
per output unit (dress suit)?
2.00 hours allowed per output unit 12 budgeted
variable overhead cost rate per input unit 24
per suit (output unit)
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Learning Objective 3
Compute the variable overhead efficiency variance
and the variable overhead spending variance.
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Variable OverheadCost Variances
The following data are for 2004 when Pasadena
produced and sold 10,000 suits
Output units 10,000
Labor-hours Actual results 21,500 Flexibl
e-budget amount 20,000
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Variable OverheadCost Variances
Labor-hours per output unit Actual
results 21,500 10,000 2.15 Flexible-budget
amount 20,000 10,000 2.00
Variable manufacturing overhead costs Actual
results 244,775 Flexible-budget
amount 240,000
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Variable OverheadCost Variances
Variable manufacturing overhead cost per
labor-hour
Actual results 244,775 21,500 11.3849
Flexible-budget amount 240,000 20,000 12.00
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Variable OverheadCost Variances
Variable manufacturing overhead cost per output
unit
Actual results 244,775 10,000 24.4775
Flexible-budget amount 240,000 10,000 24.00
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Flexible-Budget Analysis
The variable overhead flexible-budget
variance measures the difference between the
actual variable overhead costs and the
flexible-budget variable overhead costs.
Actual results 244,775 Flexible-budget amount
240,000 4,775 U
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Flexible-Budget Analysis
Actual Costs Incurred 21,500 11.3849 244,775
Budgeted Inputs Allowed for Actual Outputs at
Budgeted Rate 20,000 12.00 240,000
4,775 U Flexible-budget variance
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Flexible-Budget Analysis
Actual Quantity of Inputs at Budgeted Rate 21,500
12.00 258,000
Budgeted Inputs Allowed for Actual Outputs at
Budgeted Rate 20,000 12.00 240,000
18,000 U Variable overhead efficiency variance
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Flexible-Budget Analysis
Actual Costs Incurred 21,500 11.3849 244,775
Actual Quantity of Inputs at Budgeted Rate 21,500
12.00 258,000
13,225 F Variable overhead spending variance
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Variable Overhead Variances
Flexible-budget variance 4,775 U
Efficiency variance 18,000 U
Spending variance 13,225 F
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Learning Objective 4
Explain how the efficiency variance for a
variable indirect-cost item differs from the
efficiency variance for a direct-cost item.
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Efficiency Variance
In the Pasadena Co.s example, the 21,500
actual direct manufacturing labor-hours are 7.5
greater than the flexible-budget amount of 20,000
direct manufacturing labor-hours.
(21,500 20,000) 20,000 7.5
Actual variable overhead costs of 244,775 are
only 2 greater than the flexible-budget amount
of 240,000.
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Efficiency Variance
Because actual variable overhead costs
increase less than labor-hours, the actual
variable overhead cost per labor-hour (11.3849)
is lower than the budgeted amount (12.00).
The key cause for Pasadenas unfavorable efficienc
y variance is the higher-than-budgeted labor-hours
used.
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Learning Objective 5
Compute a budgeted fixed overhead cost rate.
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Developing Budgeted FixedOverhead Allocation
Rates

• Step 1
• Choose the time period used to compute the
  budget.
• The budget period is typically twelve months.

• Step 2
• Select the cost-allocation base.
• Pasadena budgets 26,000 labor-hours for a
  budgeted
• output of 13,000 suits in year 2004.

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Developing Budgeted FixedOverhead Allocation
Rates
Step 3 Identify the fixed overhead costs.
Pasadenas fixed manufacturing budget for 2004 is
286,000.
Step 4 Compute the rate per unit of
each cost-allocation base. 286,000 26,000 11
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Developing Budgeted FixedOverhead Allocation
Rates
What is the budgeted fixed overhead cost rate per
output unit (dress suit)?
2.00 hours allowed per output unit

11 budgeted fixed overhead cost rate per input
unit

22 per suit (output unit)
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Flexible-Budget Variance
Actual Costs Incurred 300,000
Flexible Budget Budgeted Fixed Overhead 286,000

14,000 U Fixed overhead spending variance Fixed
overhead flexible-budget variance
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Production-Volume Variance
Flexible Budget Budgeted Fixed Overhead 286,000
Fixed Overhead Allocated Using Budgeted Input
Allowed for Actual Output Units Produced 220,000

66,000 U Production-volume variance
10,000 2.00 11 220,000
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Fixed Overhead Variances
Fixed overhead variance 80,000 U
Volume variance 66,000 U
Spending variance 14,000 U
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Learning Objective 6
Explain two concerns when interpreting the
production-volume variance as a measure of the
economic cost of unused capacity.
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Interpreting the Production-Volume Variance
Management may have maintained some extra
capacity.
Production volume variance focuses only on costs.
This variance results from unitizing fixed
costs.
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Interpreting the Production-Volume Variance
Had Pasadena manufactured 13,000 suits instead of
10,000, allocated fixed overhead would have been
286,000 (13,000 2.00 11).
No production-volume variance would have occurred.
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Learning Objective 7
Show how the 4-variance analysis approach
reconciles the actual overhead incurred with
the overhead amounts allocated during the period.
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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.
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Integrated Analysis
Actual variable overhead costs incurred 244,775
Flexible budget budgeted inputs allowed
budgeted rate 240,000

Flexible-budget variance 4,775 U
Underallocated variable overhead
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Integrated Analysis
Actual variable overhead costs incurred 244,775
Actual inputs budgeted rate 258,000

Variable overhead spending variance 13,225 F
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Integrated Analysis
Actual inputs budgeted rate 258,000
Flexible budget budgeted inputs allowed
budgeted rate 240,000

Variable overhead efficiency variance 18,000 U
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Integrated Analysis
Actual fixed overhead costs incurred 300,000
Budgeted fixed overhead costs 286,000

Fixed overhead spending variance 14,000 U
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Integrated Analysis
Budgeted fixed overhead costs 286,000
Budgeted inputs allowed budgeted rate 220,000

Volume variance 66,000 U
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Integrated Analysis

• Actual manufacturing overhead incurred
• Variable manufacturing overhead 244,775
• Fixed manufacturing overhead 300,000
• Total 544,775
• Overhead allocated
• Variable manufacturing overhead 240,000
• Fixed manufacturing overhead 220,000
• Total 460,000
• Amount underallocated 84,775

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Integrated Analysis

• 4-Variance Analysis
• Variable manufacturing overhead
• Spending variance 13,225 F
• Efficiency variance 18,000 U
• Fixed manufacturing overhead
• Spending variance 14,000 U
• Volume variance 66,000 U
• Total 84,775 U

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Integrated Analysis

• 3-Variance Analysis
• Variable and fixed manufacturing overhead
• Spending variance
• 13,225 F 14,000 U 775 U
• Variable manufacturing overhead
• Efficiency variance 18,000 U
• Fixed manufacturing overhead
• Volume variance 66,000 U
• Total 84,775 U

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Integrated Analysis

• 2-Variance Analysis
• Variable and fixed manufacturing overhead
• Spending variance 775 U
• Variable manufacturing overhead
• Efficiency variance 18,000 U
• Flexible-budget variance 18,775 U
• Fixed manufacturing overhead
• Volume variance 66,000 U
• Total 84,775 U

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Different Purposes of Overhead Cost Analysis
The greater the number of output
units manufactured, the higher the budgeted total
variable manufacturing overhead costs and the
higher the total variable manufacturing overhead
costs allocated to output units.
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Different Purposes of Overhead Cost Analysis
Every output unit that Pasadena manufactures will
increase the fixed overhead allocated to products
by 22.
Managers should not use this unitization of fixed
manufacturing overhead costs for planning and
control.
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Journal Entries for Overhead Costs and Variances
What is the journal entry to record
variable manufacturing overhead?
Variable Manufacturing Overhead Control
244,775 Accounts Payable 244,775 To
record actual variable manufacturing
overhead costs incurred
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Journal Entries for Overhead Costs and Variances
What is the journal entry to allocate
variable manufacturing overhead?
Work in Process Control 240,000 Variable
Manufacturing Overhead Allocated
240,000 To record variable manufacturing overhead
cost allocated (2.00 10,000 12)
What is the journal entry to isolate variances?
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Journal Entries for Overhead Costs and Variances

• Variable Manufacturing
• Overhead Allocated 240,000
• Variable Overhead
• Efficiency Variance 18,000
• Variable Manufacturing
• Overhead Control 244,775
• Variable Overhead
• Spending Variance 13,225
• To isolate variances for the accounting period

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Journal Entries for Overhead Costs and Variances
What is the journal entry to record
fixed manufacturing overhead?
Fixed Manufacturing Overhead Control
300,000 Accumulated Depreciation, etc.
300,000 To record actual fixed manufacturing overh
ead costs incurred
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Journal Entries for Overhead Costs and Variances
What is the journal entry to allocate
fixed manufacturing overhead?
Work in Process Control 220,000 Fixed
Manufacturing Overhead Allocated
220,000 To record fixed manufacturing
overhead cost allocated (2.00 10,000 11)
What is the journal entry to isolate variances?
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Journal Entries for Overhead Costs and Variances

• Fixed Manufacturing
• Overhead Allocated 220,000
• Fixed Overhead
• Spending Variance 14,000
• Fixed Overhead
• Volume Variance 66,000
• Fixed Manufacturing
• Overhead Control 300,000
• To isolate variances for the accounting period

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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
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Learning Objective 8
Illustrate how the flexible- budget variance
approach can be used in activity-based costing.
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Activity-Based Costing and Variance Analysis
ABC systems classify costs of various activities
into a cost hierarchy (output-unit level, batch
level, product sustaining, and facility
sustaining).
The basic principles and concepts for
variable and fixed manufacturing overhead costs
can be extended to ABC systems.
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End of Chapter 8