VARIANCE ANALYSIS AND STANDARD COSTING

Topic Objectives
1. Explain and illustrate how standards are used in budgeting 2. Explain the standard-setting process 3. Describe the types of standards and how they are established for businesses. a. Ideal standards b. Normal standards 4. Explain how to calculate and interpret direct material price and quantity variance 5. Explain how to calculate and interpret direct labour rate and time variance 6. Explain how to interpret factory overhead controllable and volume variances.
2

The usage of standard costing Setting of standard cost and types of standard Calculation of variance:
Direct material Direct labor Factory overhead

The cost that has been pre-determined after considering other factors. Those are estimated costs which are considered to be ideal for each of the cost component ( direct material, direct labor and factory overhead ). The standard cost system enable the management to determine how much a product should cost.

Planning and controlling:

Increase efficiency
Product costing:

Provide readily available unit cost

Involve joint efforts on:

Analysis on the historical cost experience:

Engineering studies:
Determine the most efficient way to operate

Input from operating personnel:

Ideal standard
Maximum efficiency

Can be achieved if everything operates perfectly.

Normal standard
Currently attainable standard
Allowance is made for breakdown, interruptions etc..

Variances are the difference between the actual manufacturing cost and the standard cost at the actual level of production.

The significance of the variance for each element in manufacturing cost needs further analysis to determine the corrective actions.

1.

Direct material

2. 3.

Direct labor Factory overhead

The expected cost per unit product

Illustration 1: The followings are the standard cost for each unit (bottle) of peanut butter produced by Syarikat Sedap Selalu :

10

Standard Price Direct material:

Standard Usage

Standard Cost RM

Peanut Butter Sugar

2.80/kg 2.70/kg 1.20/kg

0.15kg 0.10kg 0.25kg

0.42 0.27 0.30

0.99

0.11

0.17 1.27
11

Standard cost per unit

If Syarikat Sedap Selalu produces 10,000 bottles of peanut butter, the expected total cost would be:

Direct material Direct labor Factory overhead Total cost

10,000 x 0.99 10,000 x 0.11 10,000 x 0.17

9,900 1,100 1,700 12,700

12

Cost element
Direct material

Actual cost
9,500

Standard cost
9,900

Variance
400 (F)

Direct labor
Factory overhead

1,050
2,000

1,100
1,700

50 (F)
300 (U)

F = (Favorable)

U = (Unfavorable)

13

To measure the difference between the actual cost and the standard cost of direct materials.

Direct Material Price Variance

Direct Material Usage (Quantity) Variance

14

(Actual Price x Actual Quantity) - (Standard Price x Actual Quantity)

Simplified to be:
Actual Quantity (Actual Price Standard Price)

AQ ( AP SP )
15

(Standard Price x Actual Quantity) - (Standard Price x Standard Quantity)

Simplified to be:
Standard Price (Actual Quantity Standard Quantity)

SP ( AQ SQ )
16

Actual Price x Actual Qty

Std Price x Actual Qty

Std Price x Std Qty

Price Variance

Usage Variance

Direct material variance

17

Illustration 2 The followings are the actual price and quantity for direct material used by the company in producing 10,000 bottles of peanut butter: Actual Price Peanut RM2.70/kg Actual Quantity 1,400kg

Butter
Sugar

RM2.505/kg 1,200kg
RM1.18/kg 2,300kg

18

Direct material price variance: Peanut: Butter: Sugar: 1,400 (2.70 2.80) 1,200 (2.505 2.70) 2,300 (1.18 1.20)

AQ ( AP SP )

= 140 (F)
= 234 (F) = 46 (F) 420 (F)

19

Direct material usage variance: Peanut: Butter: Sugar: 2.80 (1,400 1,500) 2.70 (1,200 1,000) 1.20 (2,300 2,500)

SP ( AQ SQ )

= 280 (F)
= 540 (U) = 240 (F) 20 (U)

Therefore , Total direct material variance = 420 (F) + 20 (U)

= 400 (F)
20

Measures the differences between the actual cost and the cost that suppose to be paid to the labor.

Direct Labor Rate Variance

Direct Labor Efficiency Variance

21

(Actual Hour x Actual Rate) - (Actual Hour x Standard Rate)

Simplified to be:

Actual Hour ( Actual Rate Standard Rate )

AH ( AR SR )
22

(Standard Rate x Actual Hour) - (Standard Rate x Standard Hour)

Simplified to be:
Standard Rate ( Actual Hour Standard Hour )

SR ( AH SH )

*time variance
23

Actual Hour x Actual Rate

Std Hour x Actual Rate

Std Hour x Std Rate

Rate Variance

Efficiency Variance

Direct Labor Variance

24

Illustration 3: The followings are actual rate and labor hour in the production of 10,000 bottles of peanut butter: Actual labor rate Machine operator Packaging RM3.90/hour RM2.81/hour Actual labor hour 190 hours 110 hours

25

Direct Labor Rate Variance:

AH ( AR SR )

Machine Operator: 190 (3.90 4.00 ) Packaging:

19 (F)

110 (2.81 3.00)

= 21 (F)

40 (F)

26

Direct Labor Efficiency Variance:

SR ( AH SH )

Machine Operator: 4.00 (190 200) Packaging: 3.00 (110 100)

40 (F)

= 30 (U)

10 (F)
Therefore, total direct labor variance: = 40 (M) + 10 (M) = 50 (M)
27

Measures the differences between the actual cost and the supposed related cost of factory overhead.

Factory Overhead Flexible Budget Variance

Factory Overhead Volume Variance

28

Actual Overhead Costs - Flexible Overhead Costs

Flexible OH Costs = Variable OH + Fixed OH

= (Variable OH rate x Actual production) +

29

Flexible OH Costs - Standard OH at actual production

Standard OH at actual production

Variable OH + Fixed OH

Variable OH rate x Actual production

+ Fixed OH rate x Actual production

30

Actual OH Costs

Flexible OH Costs

Std OH at actual prod.

Flexible Budget Variance

Production Volume Variance

Overhead Variance

31

Illustration 4

The followings are the actual factory OH costs incurred in producing 10,000 unit / bottles of peanut butter: Variable OH costs Fixed OH costs RM560 RM1,440

Note: Standard fixed OH costs per unit is calculated based on normal capacity of 12,000 units.

32

Flexible budget variance: Variable OH: Actual cost - (Std OH per unit x actual production ) = = 560 - (0.05 x 10,000) 60 (U)

Fixed OH : Actual cost - (Std OH per unit x std production ) = 1,440 - (0.12 x 12,000) = 0

Total flexible budget variance

60 (U)
33

Production volume variance: Variable OH : Variable OH costs - (Std OH per unit x actual production ) = = 560 - (0.05 x 10,000) 60 U

Fixed OH : Flexible OH costs - (Std OH per unit x actual production ) = 1,440 - (0.12 x 10,000)
= 240 (U)

Total production volume variance =

300 (U)
34

Total factory OH variance :

Flexible budget variance + Production volume variance = = 60 (U) + 240 (U) 300 (U)

35

Actual Costs: Direct material Direct Labor Factory OH 9,500 1,050 2,000

Variance: DM DL FOH 400 (F) 50 (F) 300 (U) 150 (F)

12,550 Standard cost: (1.27 x 10,000) 12,700

36

37