1. Flexible Budgets and Standard Costs Chapter 24

2. Objective 1 Prepare a Flexible Budget for the Income Statement.

3. Oasis Pools Comparison of Actual Results with Static Budget For the Month Ended May 31, 2005 Actual Static Results Budget Variance Pools 10 8 2 F Revenues$150,000$120,000$30,000 F Expenses 119,000 95,000$24,000 U Income$ 31,000$ 25,000$ 6,000 F Static Versus Flexible Budgets

4. Static versus Flexible Budgets Expected Output Volume Only Static Budget (8 Pools)

5. Static versus Flexible Budgets Range of Output Volumes Flexible Budget (5 Pools)(8 Pools)(10 Pools)

6. Flexible Budgets What are the flexible budgets for Oasis Pools when expected volume is 5, 8, and 10 pools? Budgeted sales price per pool is $15,000. Budgeted variable expenses per pool are $10,375. Total budgeted fixed cost is $12,000.

7. Flexible Budgets Oasis Pools Flexible Budgets Units 5 8 10 Sales revenue$75,000$120,000$150,000 Variable expenses 51,875 83,000 103,750 Fixed expenses 12,000 12,000 12,000 Operating income $11,125$ 25,000$ 34,250

8. Graphing the Flexible Budget Formula $115,750 $95,000 $63,875 $12,000 Variable cost $10,375 per pool installed Fixed cost $12,000 per month Total cost line

9. Graphing the Flexible Budget Formula The flexible budget graph shows budgeted expenses for 10 pools. Variable expenses$103,750 Fixed expenses 12,000 Total expenses$115,750 May actual expenses were $119,000. They exceeded the budget by $3,250.

10. Objective 2 Use the Flexible Budget to Show Why Actual Results Differ from the Static Budget.

11. Oasis Pools Performance Report Actual Flexible Static Results Budget Budget Pools 10 10 8 Revenues$150,000$150,000$120,000 Variable expenses 105,000 103,750 83,000 Fixed expenses 14,000 12,000 12,000 Total expenses 119,000 115,750 95,000 Income$ 31,000$ 34,250$ 25,000

12. Oasis Pools Performance Report Flexible Budget Variance Sales Volume Variance Actual Results $31,000 Static Budget $25,000 Flexible Budget $34,250 $3,250 U $9,250 F

13. Oasis Pools Performance Report Static Budget Variance Actual Results $31,000 Static Budget $25,000 $6,000 U

14. The Flexible Budget and Variance Analysis The flexible budget variance is the difference between what the company spent at the actual level of output and what it should have spent to obtain the actual level of output. It highlights the difference between actual costs and flexible budget costs.

15. The Flexible Budget and Variance Analysis Oasis Pools actually incurred $105,000 of variable costs to install the 10 pools. This was $1,250 more than the $103,750 budgeted variable cost for 10 pools. Oasis Pools also spent $2,000 more than budgeted on fixed expenses ($14,000 – $12,000).

16. Objective 3 Identify the Benefits of Standard Costs and Learn How to Set Standards.

17. Benefits of Standard Costs Standard costs are carefully predetermined costs. They help managers plan by providing the unit amounts, which are the building blocks of budgeting. They help simplify record keeping. Standard quantity often is referred to as the quantity that should have been used.

18. Objective 4 Compute Standard Cost Variances for Direct Materials and Direct Labor.

19. Direct Material and Direct Labor Variances 1Price, or rate, which measures how well the business keeps unit prices of materials and labor within standards. 2Efficiency, or quantity, which measures whether the quantity of materials or labor used to make the actual number of outputs is within the budget.

20. Price Variance... …is the difference between the actual price and standard price of inputs used multiplied by the actual quantity of inputs. Price variance = (Actual quantity × Actual price) – (Actual quantity × Standard price) or... Actual quantity × (AP – SP)

21. Efficiency Variance... …is the difference between the actual and standard quantity of inputs allowed multiplied by the standard price of input. Efficiency variance = (Actual quantity × Standard price) – (Standard quantity × Standard price) or... Standard price × (AQ – SQ)

22. Variance analysis begins with a total variance to be explained – in this example, $3,250. Actual variable expenses$105,000 Flexible budget–103,750 Difference 1,250 Actual fixed expenses were $2,000 more than budgeted. Example of Standard Costing

23. Materials Variances Direct materials cost was $3.575 per cubic foot. Materials allowed (gunite) was 1,000 cubic feet per pool. Standards Actual Results (10 pools were built) AP paid per cubic foot = $3.00 AQ of materials used = 12,000 cubic feet

24. Price variance: 12,000($3.00 – $3.575) = $6,900 favorable Efficiency variance: $3.575(12,000 – 10,000) = $7,150 unfavorable Flexible budget variance: $6,900 – $7,150 = $250 unfavorable Materials Variances

25. Labor Variances Standards Actual Results (10 pools were built) Direct labor cost was $6,000 per pool. The rate was $15 per hour. Standard hours per pool were 400. AP (actual rate) was $16.10 per hour. AQ (actual hours) was 3,800.

26. Labor Variances Price (or rate) variance: 3,800($16.10 – $15.00) = $4,180 unfavorable Efficiency variance: $15.00(3,800 – 4,000) = $3,000 favorable Flexible budget variance: $4,180 – $3,000 = $1,180 unfavorable

27. Flexible Budget Variances for Materials and Labor Flexible budget variance for materials$ 250 U Flexible budget variance for labor 1,180 U Total variances$1,430 U Total flexible budget variance$3,250 U Materials and labor variances 1,430 U Flexible budget overhead variances$1,820 U

28. Objective 5 Analyze Manufacturing Overhead in a Standard Cost System.

29. Manufacturing Overhead Variances The flexible budget variance for manufacturing overhead shows whether managers are keeping total overhead costs within the budgeted amount for the actual production of the period. The production volume variance arises when actual production differs from the level in the static budget.

30. Allocating Overhead to Production Oasis Pools allocates manufacturing overhead to production based on standard direct labor hours for the actual number of outputs. The static budget, which is based on expected output of 8 pools, is known at the beginning of the period.

31. Allocating Overhead to Production Standards Actual Results (10 pools were built) Variable overhead cost was $800 per pool. Standard hours per pool were 400. Fixed overhead cost was $12,000. Actual variable overhead was $7,820. Actual hours were 3,800, fixed overhead was $14,000, and total overhead was $21,820.

32. Allocating Overhead to Production In a standard cost system, manufacturing overhead is allocated to production based on a predetermined overhead rate. Most companies base their predetermined overhead rates on amounts from the static (master) budget which is known at the beginning of the year.

33. Allocating Overhead to Production Oasis Pools Budget Data for the Month Ended May 30, 2005 Budget type Static Flexible Pools 8 10 Standard direct labor hours 3,200 4,000 Overhead cost: Variable$ 6,400$ 8,000 Fixed 12,000 12,000 Total$18,400$20,000

34. Allocating Overhead to Production Standard variable overhead rate per hour: $6,400 ÷ 3,200 = $2.00 Standard fixed overhead rate per hour: $12,000 ÷ 3,200 = $3.75

35. Total Manufacturing Overhead Variance... …is the amount of underallocated or overallocated manufacturing overhead. This is the difference between actual manufacturing overhead and allocated manufacturing overhead.

36. Total Manufacturing Overhead Variance How much standard overhead is allocated to production? 4,000 × $2.00$ 8,000 variable 4,000 × $3.75 15,000 fixed Total$23,000 Total manufacturing overhead cost variance: $23,000 – $21,820 = $1,180 favorable

37. Total Manufacturing Overhead Variance The total manufacturing overhead variance is split into the manufacturing flexible budget variance and the production volume variance. Flexible budget overhead for actual production = $12,000 + (4,000 × $2) = $20,000.

38. Overhead Flexible Budget Variance Oasis Pools – a comparison of actual results with the flexible budget overhead for actual production: Actual Results Flexible Budget Variance Pools 10 10 Overhead cost: Variable$ 7,820$ 8,000 $ 180 F Fixed 14,000 12,000 $2,000 U Total$21,820$20,000 $1,820 U Overhead flexible variance is $1,820 unfavorable.

39. Variable Overhead Variances Actual cost incurred: (Actual inputs × Actual price) = $7,820 Standard cost of actual inputs: (Actual inputs × Standard price) = $7,600 Flexible budget: (Standard inputs × Standard price) = $8,000

40. Production Volume Variance... –is the difference between the overhead cost in the flexible budget for actual production and the standard overhead allocated to production. 4,000 × $3.75 = $15,000 allocated How much is the volume variance? $12,000 – $15,000 = $3,000 favorable volume variance

41. Flexible budget variance$1,820 U Volume variance 3,000 F Total$1,180 F Total Overhead Variances

42. Flexible Budget Variance Flexible budget variance: $3,250 U Materials$ 250 U Labor 1,180 U Flexible budget for overhead 1,820 U Total$3,250 U

43. Total Variances Why was actual income $3,250 less than the flexible budget for 10 pools? Variable costs exceeded the flexible budget by $1,250 and actual fixed costs exceeded the static budget by $2,000.

44. Record Transactions at Standard Cost and Prepare a Standard Cost Income Statement. Objective 6

45. What is the entry to record the purchase of 12,000 cubic feet of materials (actual price paid was $3.00 per cubic foot and the standard being $3.575/cubic foot)? Standard Costs in the Accounts Materials Inventory42,900 Direct Materials Price Variance 6,900 Accounts Payable36,000 To record purchases of direct materials

46. What is the entry to record the transfer of 12,000 actual cubic feet of materials to work in process inventory? Standard Costs in the Accounts Work in Process Inventory35,750* Direct Materials Efficiency Variance 7,150 Materials Inventory42,900 To record use of materials *10,000 standard cubic feet × $3.575 standard price

47. Standard Costs in the Accounts Notice that in these entries, the direct materials price variance is recorded at the time of purchase. An unfavorable variance has a debit balance which increases the expense. A favorable variance has a credit balance in the accounts and is a reduction in expenses.

48. Standard Costs in the Accounts Manufacturing Overhead21,820 Accounts Payable, Accumulated Depreciation, and Other accounts21,820 To record actual overhead costs incurred

49. Standard Costs in the Accounts What is the entry to record allocated manufacturing overhead? Work in Process Inventory23,000 Manufacturing Overhead23,000 To allocate overhead

50. Other Entries Finished Goods Inventory118,750 Work in Process Inventory118,750 To record completion of 10 pools Cost of Goods Sold118,750 Finished Goods Inventory118,750 To record sale of 10 pools

51. Closing Variances Unfavorable Variances Favorable Variances Materials price$ 6,900 Labor efficiency 3,000 Production volume 3,000 Total$12,900 Materials efficiency$ 7,150 Labor rate 4,180 Flexible budget 1,820 Total$13,150

52. Closing Variances $13,150 unfavorable – $12,900 favorable = $250 unfavorable Income Summary250 Net Variance250 To close various variances This entry increases the cost of goods sold.

53. Standard Cost Income Statement for Management Standard Costing Revenues$150,000 Cost of goods sold 118,750 Unadjusted income$ 31,250 Actual Costing Revenues$150,000 Cost of goods sold 119,000 Adjusted income$ 31,000

54. Standard Cost Income Statement for Management Closing the $250 net unfavorable variance to income summary increases the cost of goods sold to $119,000. This produces the $31,000 income figure.

55. End of Chapter 24