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Note On Variance Analysis

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Published in: Accounting
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Full topic of “Variance Analysis”

Sohail A / Sharjah

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Qualification: M.phill Chemistry (Physical) University of the punjab Lahore M.Sc Chemistry (physical) from Punjab university lahore, B.Sc – Botany – Zoology – Chemistry and Completed B.Ed. (Bachelors of Education)

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  1. Cost and Management Accounting [CAF3] Addendum to Chapter "Variance Analysis" CAF3 — Cost and Management Accounting
  2. Introduction to budgeting and variance analysis: When we set standard cost for our organisation, we must also determine the budgeted activity level (target sales/ production) as well. Then standard costs and budgeted activities are combined to provide us with a budget document. Budget can be defined as "an organisation's plan for the coming period, expressed in numbers". A normal budget will have following documents: 1. Profit or Loss Statement 2. Statement of Financial Position (Balance Sheet) 3. Cash Budget A budget has multiple benefits, including: • Helps in coordination between different departments and managers. • Motivates managers and provide a basis to evaluate their performance. The original budget prepared at the beginning of a budget period is known as the fixed budget. Difference between budget and actual result is called variances. However, the actual results cannot be compared with fixed budget because the actual activity may differ from budgeted activity, thus creating useless variance. Thus In order to calculate realistic variances, we revise our budget at year end at actual activity, which is termed as flexed budget. Fixed budget: The original budget prepared at the beginning of a budget period is known as the fixed budget. A fixed budget is a budget for a specific volume of output and sales activity, and it is the 'master plan' for the financial year that the company tries to achieve. Example 1 : Karachi Limited has budgeted to make 1,200 units and sell 1,000 units in January. The selling price per unit is budgeted at Rs. 15,000. The standard costs of production are as given below. Standard cost card (Karachi Limited) Direct materials Direct labour Variable overhead Marginal production cost Fixed production overhead Total absorption cost The budget activity planned for January is as follows: 5 kg @ Rs.1,OOO per kg 4 hours @ Rs. 500 per hour 4 hours @ Rs. 200 per hour 4 hours @ Rs. 600 per hour CAF3 - Unit sales Unit production Cost and Management Accounting Rs. 5,000 2,000 800 7,800 2,400 10,200 1 ,ooo 1 ,200 2
  3. Budget Sales Cost of sales: Materials Labour Variable overhead Fixed overhead Closing inventory Cost of sales Gross Profit (1 ,OOO units x15,000) (1 ,200 units xRs. 5,000 per unit) (1 ,200 units xRs. 2,000 per unit) (1 ,200 units xRs. 800 per unit) (1 ,200 units xRs. 2,400 per unit) (200 units xRs. 10,200 per unit) (1,000 units xRs. 10,200 per unit) Rs. '000 15,000 6,000 2,400 960 2,880 12,240 2,040) (10200) 4,800 One of the main purposes of budgeting is budgetary control and the control of costs. Costs can be controlled by comparing budgets with the results actually achieved. Differences between expected results and actual results are known as variances. Variances can be either favourable (F) or adverse (A) depending on whether the results achieved are better or worse than expected. Now consider the following: Example 2: At the end of January Karachi Limited recorded its actual results as follow's. Unit sales Unit production Sales Cost of sales: Materials Labour Variable overhead Fixed overhead Closing inventory Cost of sales Gross Profit Budget 1000 1 ,200 Rs. '000 15,000 6,000 2,400 960 2,880 12,240 (2,040) 10,200 4,800 Actual 900 1,000 Rs. '000 12,600 4,608 2, 121 945 2,500 10,174 (1 ,020) (9,154) 3,446 Note: The actual closing inventory of 100 units is measured at the standard cost of Rs. 10,200 per unit. This is what happens in standard costing systems. What does this tell us? The actual results (profit) was less than budgeted profit which indicates adverse situation. The profit was declined by Rs. 1,354,000 when compared with budget. To see why it was happened, we have to see each item separately. Major impact was caused by decline in sales by Rs. 2,400,000. CAF3 - Cost and Management Accounting 3
  4. However, each item of cost also showed different results from budget. Favourable results shown by cost are primarily because of reduced production (1,000 units vs. 1 ,200 units). It is indeed not realistic to compare the results of 1200 units with cost of 1,000 units. Thus in order to make realistic comparison, we have to revised the budget at actual level of activity. The revised budget (flexed budget) should be compared with actual results, to get realistic variances. Flexed budget: This budget is prepared at actual level of activity, however, basis used (standard cost and prices) in preparation of budget are same as in fixed budget. Following example explain the concept of flexed budget Example 3: Continuing the example 2, the flexed budget prepared by Karachi Limited at the end of January (based on actual levels of activity and standard revenue per unit and standard cost per unit) is as follow's: Unit sales Unit roduction Budget at 900 units Sales Cost of sales: Materials Labour Variable overhead Fixed overhead Closing inventory Cost of sales Gross Profit (900 units x15,000) (1 ,OOO units xRs. 5,000 per unit) (1 ,OOO units xRs. 2,000 per unit) (1 ,OOO units xRs. 800 per unit) (1 ,OOO units xRs. 2,400 per unit) (100 units xRs. 10,200 per unit) (900 units xRs. 10,200 per unit) 1 ,ooo Rs. '000 13,500 Rs. '000 5,000 2,000 800 2,400 10,200 (1 ,020) (9,180) 4,320 This shows the amount that the company would have received for the actual number of units sold if they had been sold at the budgeted revenue per item. It shows what the actual number of units produced (1 ,OOO units) would have cost if they had been made at the standard cost. The flexed budget is a vital concept as variance analysis concept is purely based on it. Comparison of actual results to the flexed budget: After preparation of flexed budget, the actual results are compared with it to calculate variances. This practice is also known as control statement, because reasons on the basis of variances were highlighted. CAF3 - Cost and Management Accounting 4
  5. Example 4: At the end of January, Karachi Limited has recorded its actual results as follows (together with the original fixed budget and the flexed budget for the month). Fixed bud et by al CAF3 - unit sales Unit production Sales Cost of sales: Materials Labour Variable overhead Fixed overhead Closing inventory Cost of sales Gross Profit Cost and Management Accounting 1,000 1 ,200 15,000 6,000 2,400 960 2,880 12,240 (2,040) (10,200) 4,800 900 1,000 13,500 5,000 2,000 800 2,400 10,200 (1 ,020) (9,180) 4,320 900 1 ,ooo 12,600 4,608 2, 121 945 2,500 10,174 1 ,020 (9,154) 3,446 5
  6. Accounting treatment of variances Direct material variances in standard costinq: Journal Entries: — Rupees a. Material price variance is calculated using quantity purchased Materials Inventory (AQP x SP) Material price variance (If adverse) Material price variance (If favourable) Accounts payable (Record purchase of raw materials) Material is issued to production Work in progress control (SQ x SP) Material usage variance (If adverse) Material usage variance (If favourable) Material Inventory (AQU x SP) b. Material price variance is calculated using quantity used Materials Inventory (AQP x AP) Accounts payable (Record purchase of raw materials) Material is issued to production Work in progress control (SQ x SP) Material usage variance (If adverse) Material price variance (If adverse) Material usage variance (If favourable) Material price variance (If favourable) Material Inventory (AQU x SP) It can be explained with the help of following example. Example 5: Dr. x x x x x x x x cr. x x x x x x x x The Lahore Limited uses 12 meters of pipe at cost of Rs. 8 per meter as standard for the production of one of its chairs Model No. CHRA12. During one month's operations, 50,000 meters of pipe were purchased at Rs. 7.80 a meter and 3,600 chairs were produced using 43,800 meters of pipe. a) Assuming that material price variance is calculated using quantities purchased. Calculation of material price and usage variance along with journal entries are given below. CAF3 - Material price variance (SP - AP) x AQP (8 - 7.80) x 50,000 Material usage variance (SQ - AQ) x sp (3,600 x 12 - 43,800) x 8 Cost and Management Accounting Rupees 10,000 F 4,800 A 6
  7. Description Materials Inventory (50,000 x 8) Material price variance Accounts payable (50,000 x 7.80) (Record purchase of raw materials) Work in progress control (3,600 x 12 x 8) Material usage variance Material Inventory (43,800 x 8) (Record issue of material to production) Debit Credit — Rupees 400,000 10,000 390,000 345,600 4,800 350,400 b) Assuming that material price variance is calculated using quantities used. Calculation of material price and usage variance along with journal entries are given below. Material price variance (SP - AP) x AQU (8 - 7.80) x 43,800 Material usage variance (SQ - AQ) x sp (3,600 x 12 - 43,800) x 8 Description Materials Inventory (50,000 x 7.80) Accounts payable (50,000 x 7.80) (Record purchase of raw materials) Work in progress control (3,600 x 12 x 8) Material usage variance Material price variance Material Inventory (43,800 x 7.80) (Record issue of material to production) Direct labour variances in standard costing: Journal Entries: Debit Rupees 8,760 F 4,800 A Debit Credit — Rupees 390,000 390,000 345,600 4,800 8,760 361,640 Credit CAF3 - Description Work in progress control (SH x SR) Adverse variances Favourable variances Payroll (Actual) (Record charging direct labour cost to production) Cost and Management Accounting — Rupees x x x x 7
  8. Example 6: The standard cost card of Islamabad Limited shows that the processing of a product FDL560 requires 1 hour at a standard wage rate of Rs. 60 per hour. The 2,000 units actually taken 1,975 hours at a cost of Rs. 122,450, including 25 idle hours. Calculation of direct labour rate, efficiency and idle time variances and journal entry to charge direct labour to production, is given below. Labour rate variance (SR - AR) x AH (60 - [122,450/ 1,975 62) x 1,975 Labour efficiency variance (SH — AH) x SR [(2,000x 1)- (1,975-25)] x 60 Labour idle time variance Idle hours x SR 25 x 60 Journal entry to charge direct labour cost to production in standard costing is given below. Rupees (3,950) A Rupees 3,000 F Rupees (1,500) A Description Work in progress control (2,000 x 60) Labour rate variance Labour idle time variance Labour efficiency variance Payroll (Record charging direct labour cost to production) Variable roduction overhead variances: Journal Entries: Description Work in progress control (SH x VOAR) Adverse variances Favourable variances Production overhead control (Record charging variable production overheads to production) CAF3 - Cost and Management Accounting Debit Credit Rupees — 120,000 3,950 1 ,500 3,000 122,450 Debit Credit Rupees — x x x x 8
  9. Example 7: The normal capacity of Chiniot Limited is 20,000 direct labour hours per month. The standard cost card shows that 2 hours are required to produce one unit of product ABT. At normal capacity the budgeted variable production overhead rate is Rs. 1.50 per direct labour hour. During July, the plant operated 18,000 direct labour hours, with variable production overhead of Rs. 26,800. Actual production for the month of July is 9,200 units. The expenditure variance is adverse because the expenditure on variable overhead in the hours worked was more than it should have been. Variable production overhead expenditure variance (AH x VOARJhour) — Actual variable production overhead (18,000 x 1.50) - 26,800 Variable production overhead efficiency variance (SH - AH) x VOAR/hour (9,200 x 2-18,000) x 1.50 Rupees 200 F 600 F Journal entry to applied variable production overheads to product cost in standard costing is given as under: Description Work in progress control (9,200 x 2 x 1.50) Variable production overhead expenditure variance Variable production overhead efficiency variance Production overhead control (Record charging variable production overheads to production) Fixed production overhead variances: Journal Entries: Description Work in progress control (SH x FOAR) Adverse variances Favourable variances Production overhead control (Record charging fixed production overheads to production) Example 8: Debit Credit Rupees — 27,600 Debit 200 600 26,800 Credit Rupees — x x x x Okara Company operates a standard costing system for its only product. The standard cost card relating to fixed production overhead showed as 2 hours at Rs. 10 per hour. Fixed production overhead are absorbed on the basis of labour hours. Fixed overhead costs are budgeted at Rs. 12,000 per annum, arising at a constant rate during the year. Actual production during this period was 60 units, with actual fixed production overhead costs being Rs. 980. CAF3 — Cost and Management Accounting 9
  10. Calculation of fixed production overhead expenditure and volume variance, along with entry to absorb fixed production overhead in standard costing, is given below. CAF3 - Fixed production overhead expenditure variance Budgeted fixed cost — actual fixed cost (12,000/12) - 980 Fixed production overhead volume variance (AU- BU) x FOAR/ Unit 600/12= 50) x 20 Description Work in progress control (60 x 2 xlO) Fixed production overhead expenditure variance Fixed production overhead volume variance Production overhead control (Record charging fixed production overheads to production) Cost and Management Accounting Rupees 20 F Rupees 200 F Debit Credit Rupees - 1 ,200 20 200 980 10
  11. Sales variances: Sales variances are not recorded under standard costing system. However, these are reported to management in a variance analysis report. Variance Sale price variance Sales volume profit variance (A bsorption costing) Sales volume contribution margin variance (Marginal costing) Descri tion It is difference between standard sale price and actual sales price for actual sales volume It is difference between actual sales volume and budgeted sales volume at standard profit per unit. It is difference between actual sales volume and budgeted sales volume at standard contribution margin per unit. Formula (Standard Sale price — Actual Sale Price) Actual sale volume If actual sales price is greater than standard price the resultant variance will be favourable. (Budgeted Sale Volume — Actual Sale Volume) Standard profit per unit If actual sales volume is greater than budgeted sales volume the resultant variance will be favourable (Budgeted Sale Volume — Actual Sale Volume) Standard contribution margin per unit If actual sales volume is greater than budgeted sales volume the resultant variance will be favourable Example 9: Sales variances (Absorption costing) A company budgets to sell 7,000 units of Product P456. The standard sales price of Product P456 Rs. 50 per unit and the standard cost per unit using absorption costing is Rs. 42. Actual sales were 7,200 units, which sold for Rs. 351 ,360. Required: Calculate sales price variance and sales volume profit variance. Solution : Actual price Std. profit/ unit Rs. 351,360 * 7,200 Rs. 48.80 50-42 Rs. 8 Sale price variance Sales volume profit variance (Std. Sale price — Actual Sale Price) Actual sale volume (50 - 48.80) X 7,200 Rs. 8,640 (A) (Budgeted Sale Volume — Actual Sale Volume) Std. profit per unit = X 8 Rs. 1,600 (F) Example 10: Sales variances (Absorption costing) Umair Ltd budgeted sales of 13,000 units but actually sold only 12,000 units. Its standard cost card is as follows: Direct materials Direct wages Variable overhead CAF3 — Cost and Management Accounting (Rs.) 50 16 8 11
  12. Fixed overhead Total standard cost Standard profit Standard selling price 36 110 10 120 The actual selling price for the period was Rs. 122. Required: Calculate the sales price and sales volume variances for the period (using absorption costing). Solution: Sale price variance Sales volume profit variance (Std Sale price — Actual Sale Price) Actual sale volume (120 - 122) X 12,000 Rs. 24,000 (F) (Budgeted Sale Volume — Actual Sale Volume) Std. profit per unit (13,000 - 12,000) X 10 Rs. 10,000 (A) Example 11 : Sales variances (Marginal costing) Razzaq Ltd has budgeted sales of 600 units at Rs. 25 each. The variable costs are expected to be Rs. 18 per unit, and there are no fixed costs. The actual sales were 750 units at Rs. 20 each and actual costs were as expected. Required: Calculate the sales price and sales volume variances (using marginal costing). Solution: Std. contribution unit Sale price variance Sales volume variance = 25- 18 Rs. 7 (Std Sale price — Actual Sale Price) Actual sale volume (25 - 20) X 750 Rs. 3,750 (A) (Budgeted Sale Volume — Actual Sale Volume) Std. contribution per unit (600 - 750) X 7 Rs. 1,050 (F) Example 12: Sales variances The following data relates to 20X6. Actual sales Budgeted output and sales for the year Standard selling price Budgeted contribution per unit Budgeted profit per unit Required: 2,000 units @ Rs. 1,300 each 1 ,800 units Rs. 1,400 per unit Rs. 490 Rs. 410 Calculate the sales volume variance (under absorption and marginal costing) and the sales price variance. CAF3 — Cost and Management Accounting 12
  13. Solution : Sales volume variance: Absorption costing Marginal costing Sale price variance (Budgeted Sale Volume — Actual Sale Volume) Std. profit per unit (1,800 - 2,000) X 410 Rs. 82,000 (F) (Budgeted Sale Volume — Actual Sale Volume) Std. contribution per unit (1,800 - 2,000) X 490 Rs. 98,000 (F) (Std. Sale price — Actual Sale Price) Actual sale volume (1,400 - 1,300) X 2,000 Rs. 200,000 (A) Example 13: Sales and fixed cost variances Below is a standard cost card of a meal at CFE's canteen for the month of June Selling price Direct material (0.5 kg at Rs. 12 per kg) Direct labour (1 hour at Rs. 20 per hour) Fixed overheads (1 direct labour hour at Rs. 8 per hour) Standard rofit er meal Budgeted sale and production for June were 5,000 meals. Actual results were as under: Actual sales volume Actual production Actual revenue Actual fixed overheads Required: Calculate following variances for the college canteen for the month of June: i. Sales volume profit variance ii. Sales price variance Fixed overhead expenditure variance Fixed overhead volume variance Rs. 40.00 (6.00) (20.00) 8.00 6.00 5,200 meals 5,200 meals Rs. 197,600 Rs. 38,000 Solution : Sales volume profit variance (Budgeted Sale Volume — Actual Sale Volume) Std. profit per unit (5,000 - 5,200) X Rs. 6 = Rs. 1,200 (F) Sale price variance 'Actual price (Std. Sale price — Actual Sale Price) Actual sale volume (40 - 380 X 5,200 Rs. 10,400 (A) -FRS. 197,600 * 5,200 Rs. 38 Fixed overheads expenditure variance Fixed overheads volume variance Actual fixed overheads — Budgeted fixed overheads 38,000 - (5,000 X 8) Rs. 2,000 (F) Budgeted fixed overheads - Absorbed fixed overheads 40,000 - (5,200 X 8) Rs. 1,600 (F) CAF3 - Cost and Management Accounting 13
  14. Example 14: Basic variances Chaudhary Ltd manufactures a chemical called Redo. The following standard costs apply for the production of 100 containers: Materials Labour Fixed overheads 500 kg @ 8 per kg 20 hours @ 15 per hour 20 hours @ 10 per hour Rs. 4,000 300 200 4,500 Chaudhary Ltd uses absorption costing. The monthly production/sales budget is 10,000 containers sold at Rs. 60 per container. For the month of January the following actual production and sales information is available: Produced/ sold Sales value Material purchased and used (53,200 kg) Labour (2,040 hours) Fixed overheads Required: Calculate the following variances for January: Sales volume variance Sales price variance Materials price variance Materials usage variance Labour rate variance Labour efficiency variance Fixed overhead expenditure variance Fixed overhead volume variance Solution : Variances calculation: Sales volume variance Sale price variance 'Actual price Material price variance 'Actual price Material usage variance — 'Standard quantity Labour rate variance 'Actual rate 10,600 containers Rs. 629,640 Rs. 422,940 Rs. 31 ,008 Rs. 22,000 (Budgeted Sale Volume — Actual Sale Volume) Std. profit per unit (10,000 - 10,600) X (Rs. 60 - 4,500/100) Rs. 9,000 (F) (Std. Sale price — Actual Sale Price) Actual sale volume (60 - 59.40') X 10,600 Rs. 6,360 (A) -FRS. 629,640 * 10,600 Rs. 59.40 (SP - AP) AQ (8 - 7.95') X 53,200 Rs. 2,660 (F) Rs. 422,940 * 53,200 Rs. 7.95 - (SQ - AQ) sp - 53,200) X 8 Rs. 1,600 (A) 10,600 X (500 * 100) 53,000 kg (SR - AR) AH (15 - 15.20') X 2,040 Rs. 408 (A) Rs. 31,008 * 2,040 Rs. 15.20 CAF3 — Cost and Management Accounting 14
  15. Labour efficiency variance 'Standard hours (SH - AH) SR (2,120 - 2,040) X 15 Rs. 1,200 (F) 10,600 X (20 * 100) 2,120 hours Fixed overheads expenditure variance Fixed overheads volume variance Operating Statement: Actual fixed overheads — Budgeted fixed overheads 22,000 - (10,000 X 200 * 100) Rs. 2,000 (A) Budgeted fixed overheads - Absorbed fixed overheads 20,000 - (10,600 X 200 * 100) Rs. 1,200 (F) Operating statement is control statement which represents all possible variances in order to reconcile the budgeted profit with actual profit. All variances related to sales, direct material, direct labour, variable production overheads are added in this statement. Standard marginal costing: Under marginal costing, an operating statement starts off with the expected figure of budgeted contribution and ends up with the actual contribution and then actual fixed production overhead is deducted to calculate the actual profit. Any favourable variance is added in budgeted contribution and adverse variance is deducted. Format of operating statement is given below: Operating statement — Marginal costing Budgeted contribution (Budgeted sales in units x standard cont. per unit) Sales price variance (Add: Favourable and Less: Adverse) Sales volume contribution variance Cost variances: Material price variance Material usage variance Labour rate variance Labour efficiency variance Labour idle time variance Variable production overhead expenditure variance Variable production overhead efficiency variance Actual contribution Less: Actual fixed production overhead Actual profit Fav. x Adv. (X) Rupees x x x x The following comprehensive explains the concept of operating statement under marginal costing. Example 15: Vehari Limited manufactures one standard product and operates a system of variance accounting using a fixed budget. As assistant management accountant, you are responsible for preparing the monthly operating statements. Data from the budget, the standard product cost and actual data for the month of October are given below. CAF3 - Cost and Management Accounting 15
  16. Budgeted and standard cost data: Budgeted sales and production Standard cost for each unit of product: Material MM (15 kg at Rs. 2 per kg) Material NN (10 kg at Rs. 2.50 per kg) Direct wages (7.5 hours at Rs. 10 per hour) Variable production overhead (7.5 hours at Rs. 6 per hour) Fixed production overhead (80% of direct wages) Budgeted profit (20% of sales price) Budgeted sales price Actual data for the month of October: Production and sales 5,800 units at a price of Rs. 280 per unit. Direct materials MM consumed 90,000 kg at Rs. 1.90 per kg Direct materials NN consumed 55,000 kg at Rs. 2.70 per kg Direct wages incurred 45,000 hours at Rs. 10.80 per hour Variable production overhead incurred Fixed production overhead incurred Required: Units 6,000 Rupees 30.00 25.00 75.00 45.00 60.00 235.00 58.75 293.75 Rs. 171,000 148,500 486,000 268,000 352,000 Using marginal costing principle prepare operating statement showing all possible variance. Solution: Operating statement — Marginal costing Budgeted contribution (6,000 x 118.75) Sales price variance Sales volume contribution variance Cost variances: Material price variance-MM Material price variance-NN Material usage variance-MM Material usage variance-NN Labour rate variance Labour efficiency variance Variable production overhead expenditure variance Variable production overhead efficiency variance Actual contribution Less: Actual fixed production overhead Actual profit F av. 9,000 7,500 2,000 18,500 11,000 6,000 36,000 15,000 9,000 77,000 CAF3 - Cost and Management Accounting Rs. 712,500 (79, 750) (23, 750) 609,000 (58,500) 550,500 (352,000) 198,500 16
  17. Calculation of all variances: Material price variance (SP - AP) x AQ MM- (2.00-1.90) x 90,000 NN- (2.50-2.70) x 55,000 Material usage variance (SQ - AQ) x sp MM- (87 x 2 NN- (58,000-55,000) x 2.50 Labour rate variance (SR — AR) x AH (10.00-10.80) x 45,000 Labour efficiency variance (SH — AH) x SR x 10 Variable production overhead expenditure variance (AH x VOARJH) — Actual Variable production overhead (45,000 x 6) -268,000 Variable production overhead efficiency variance (SH — AH) x VOAR/H (43,500 - 45,000) x 6 Sales price variance (AP - SP) x AUS (280-293.75) x 5,800 Sales contribution volume variance (AUS — BUS) x Standard contribution per unit x 118.75 Standard absorption costing Rupees 9,000 F (11,000) A (6,000) A 7,500 F (36,000) A (15,000) A 2,000 F (9,000) A (79,750) A (23,750) A Under absorption costing, an operating statement starts off with the expected figure of budgeted profit and ends up with the actual profit. Only difference between statements under marginal and absorption is that in absorption costing, few additional variances are included in operating statement which are fixed production overhead expenditure and volume. In addition, sales volume profit variance is used in place of sales volume contribution variance. CAF3 - Cost and Management Accounting 17
  18. Format of operating statement is given below: Operating statement — Absorption costing Budgeted profit (Budgeted sales in units x standard profit per unit) Sales price variance (Add: Favourable and Less: Adverse) Sales profit volume variance Cost variances: Material price variance Material usage variance Labour rate variance Labour efficiency variance Labour idle time variance Fav. Adv. Variable production overhead expenditure variance Variable production overhead efficiency variance Fixed production overhead expenditure variance Fixed production overhead volume variance x Actual profit Example 16: x x x Vehari Limited manufactures one standard product and operates a system of variance accounting using a fixed budget. As assistant management accountant, you are responsible for preparing the monthly operating statements. Data from the budget, the standard product cost and actual data for the month of October are given below. Budgeted and standard cost data: Budgeted sales and production Standard cost for each unit of product: Material MM (15 kg at Rs. 2 per kg) Material NN (10 kg at Rs. 2.50 per kg) Direct wages (7.5 hours at Rs. 10 per hour) Variable production overhead (7.5 hours at Rs. 6 per hour) Fixed production overhead (80% of direct wages) Budgeted profit (20% of sales price) Budgeted sales price Actual data for the month of October: Production and sales 5,800 units at a price of Rs. 280 per unit. Direct materials MM consumed 90,000 kg at Rs. 1.90 per kg Direct materials NN consumed 55,000 kg at Rs. 2.70 per kg Direct wages incurred 45,000 hours at Rs. 10.80 per hour Variable production overhead incurred Fixed production overhead incurred Required: Units 6,000 Rupees 30.00 25.00 75.00 45.00 60.00 235.00 58.75 293.75 171,000 148,500 486,000 268,000 352,000 Using absorption costing principle prepare operating statement showing all possible variance. CAF3 - Cost and Management Accounting 18
  19. Solution : Operating statement — Absorption costing Budgeted profit (6,000 x 58.75) Sales price variance Sales profit volume variance Cost variances: Material price variance-MM Material price variance-NN Material usage variance-MM Material usage variance-NN Labour rate variance Labour efficiency variance Variable production overhead expenditure variance Variable production overhead efficiency variance Fixed production overhead expenditure variance Fixed production overhead volume variance Actual profit Calculation of all variances: Material price variance (SP - AP) x AQ MM- (2.00-1.90) x 90,000 NN- (2.50-2.70) x 55,000 Material usage variance (SQ - AQ) x sp MM- (87 x 2 NN- (58,000-55,000) x 2.50 Labour rate variance (SR — AR) x AH (10.00-10.80) x 45,000 Labour efficiency variance (SH — AH) x SR 10 Fav. 9,000 7,500 2,000 8,000 26,500 Adv. 11,000 6,000 36,000 15,000 9,000 12,000 89,000 Variable production overhead expenditure variance (AH x VOARJH) — Actual Variable production overhead (45,000 x 6) -268,000 Variable production overhead efficiency variance (SH — AH) x VOAR/H (43,500 - 45,000) x 6 Fixed production overhead Expenditure variance Budgeted cost — Actual cost (6,000 x 60 - 352,000) CAF3 - Cost and Management Accounting 352,500 (79,750) (11,750) 261,000 (62,500) 198,500 Rupees 9,000 F (11,000) A (6,000) A 7,500 F (36,000) A (15,000) A 2,000 F (9,000) A 8,000 F 19
  20. CAF3 - Fixed production overhead volume variance (AU - Bid) x FOAR/U (5,800 - 6,000) x 60 Sales price variance (AP - SP) x AUS (280-293.75) x 5,800 Sales profit volume variance (AUS — BUS) x Standard profit per unit (5,800 - 6,000) x 58.75 Cost and Management Accounting Rupees (12,000) A (79,750) A (11,750) A 20

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