Using Variances under Standard Cost SystemStandardsStandard Cost SystemsTypes of StandardsBudgetary Performance EvaluationExampleBudget Performance ReportSlide 8Variance AnalysisDirect Materials VarianceSlide 11Slide 12Direct Labor VarianceSlide 14Slide 15Slide 16Slide 17Factory Overhead VarianceSlide 19Controllable VarianceSlide 21Standard direct labor hoursVariable costs per unitBudgeted Variable Factory OverheadSlide 25Volume Variance – Fixed costsSlide 27Volume VarianceUsing Variances under Standard Cost SystemACG 2071Module 10Chapter 22Fall 2007StandardsAre performance goals.Service, merchandising, and manufacturing businesses may all use standards to evaluate and control operations.Manufacturers normally use standard costs for each of the three manufacturing costsDirect materialsDirect laborFactory overheadStandard Cost SystemsAccounting systems that use standards for these costs are called standard cost systems.Management determines how much a product should cost – Standard CostHow much it does cost – Actual CostThe causes of any differences – VariancesWhen actual costs are compared with standard costs, only the exceptions or variances are reported for cost control. Called Principle of Exceptions.Standard costs assists management in controlling costs and in motivating employees to focus on costs.Types of StandardsTheoretical or ideal standards – achieved only under perfect conditionsCurrently attainable or normal standards – attained with reasonable effortBudgetary Performance EvaluationWhen using standard cost system, direct materials, direct labor, and factory overhead are separated into two componentsA price standardA quantity standardExampleAssume that Halycon Balloons produced and sold 5,000 hot air balloons. It incurred direct material costs of $40,150, direct labor costs of $38,500, and factory overhead costs of $22,400. The standard costs for the company are listed below:Manufacturing CostsStandard Price Standard Quantity per unitStandard Cost per UnitDirect materials $5.00 per yard 1.5 yards $7.50Direct labor $9.00 per hour 0.80 hour per unit $7.20Factory overhead $6.00 0.80 hour per unit $4.80Total standard cost per unit$19.50Budget Performance ReportManufacturing CostsActual Costs Standard Costs at Actual VolumeCost Variance (Favorable) UnfavorableDirect materials $40,150 $37,500 $2,650Direct labor $38,500 $36,000 $2,500Factory overhead$22,400 $24,000 ($1,600)Total standard cost per unit$101, 050 $97,500 $3,550Budget Performance ReportFavorable cost variance occurs when the actual cost is less than the standard costUnfavorable variance occurs when the actual cost is greater than the standard costVariance AnalysisTypes of variancesDirect MaterialsDirect LaborFactory OverheadDirect Materials VariancePrice variance = (Actual price – Standard Price) X Actual QuantityQuantity variance = (Actual Quantity – Standard Quantity) X Actual PriceTotal Direct Materials Variance = Quantity Variance + Price VarianceExampleMaterial used in the production of Z Cleaner has a standard cost of $3 per lb. and standard use of 10,000 lbs. Actual records show 15,000 lbs were used with an actual cost of $2.50 per lb. Compute the direct material variances.ExamplePrice Variance = (Actual Price – Standard Price) X Actual Quantity = ($2.50 – $3) X 15,000 lbs = -$0.50 X 15,000 lbs = -$7,500 favorableQuantity Variance = (Actual Quantity – Standard Quantity) X Standard Price = (15,000 lbs – 10,000 lbs) X $3.00 = 5,000 lbs x $3.00 = $15,000 UnfavorableTotal direct materials variance = Quantity variance + Price variance = $15, 000 + (-$7,500) = $7,500 UnfavorableDirect Labor VarianceRate variance = (Actual Rate – Standard Rate) X Actual HoursTime variance = ( Actual Hours – Standard Hours) X Actual RateTotal Direct Labor Variance = Time Variance + Rate VarianceExampleExample 4: Factory records show that each product produced requires 3 direct labor hours. Production during the period consisted of 10,000 units with 29,500 hours of labor used. Labor has a standard cost of $10 per hour and actual cost was $11 per hour. Compute the direct labor variances.ExampleRate Variance = (Actual Rate – Standard Rate) X Actual hours = ($11 - $10) X 29,500 hours = $29,500 UnfavorableExampleTime Variance = (Actual hrs – Standard hrs) X Standard rate = [29,500 hrs – ( 3 x 10,000)] x $10 = -500 hours x $10 = -$5,000 FavorableExampleTotal Direct labor variance = Rate variance + Time variance = $29,500 + (-$5,000) = $24,500 UnfavorableFactory Overhead VarianceDetermine the impact of changing production on fixed and variable factory overhead cost.Variances from standard for factory overhead cost result from:Actual variable factory overhead cost greater or less than budgeted variable factory overhead for actual productionControllable variance for variable factory overheadActual production at a level above or below 100% of normal capacity.Volume variance for fixed factory overheadExamplePercentofnormalcapacity 80% 90% 100% 110%Unitsproduced 5,000 5,625 6,250 6,875Directlaborhours(.8perunit) 4,000 4,500 5,000 5,500BudgetedfactoryoverheadVariablecosts:Indirectfactorywages $8,000 $9,000 $10,000 $11,000Powerandlight 4,000 4,500 5,000 5,500Indirectmaterials 2,400 2,700 3,000 3,300Totalvariablecost $14,400 $16,200 $18,000 $19,800Fixedcosts:Supervisorysalaries $5,500 $5,500 $5,500 $5,500Depreciation 4,500 4,500 4,500 4,500Insurance 2,000 2,000 2,000 2,000Totalfixedcost $12,000 $12,000 $12,000 $12,000Totalfactoryoverhead $26,400 $28,200 $30,000 $31,800Controllable VarianceControllable VarianceDeals with variable costActual variable factory overhead-Budgeted variable factory overhead* Controllable Variance*at actual production levelExampleHalycon produced 5,000 balloons and each unit required 0.80 standard labor hour for production. Actual variable factory overhead was $10,400 and fixed