Variance Analysis Flashcards
What is budgetary control?
Actual results are compared to planned outcomes- significant differences are called variances
What is control?
- Monitoring and looking back to determine what
actually happened - Taking corrective action over variances
What are standard costs?
The expected costs under normal conditions
What is the purpose of standard costs?
Used as a benchmark for standards when completing variance analysis
What do standard costs tends to be expressed in terms of?
Expressed on a per unit basis
What is a cost card?
List of standard costs of what a business has set
What are the main two types of standards when concerning standard costs?
Quantity standards and price standards
What are quantity standards?
How much of an input
should be used to make
a product or provide a
service
What are price standards?
How much should be
paid for each unit of input
What does the expression of standard costs depend on?
the type of company. E.g manufacturing per unit of airline per travelled km
Compare standard costs and budgets
Standard costs = target costs to make one unit of product
Budget = target costs at the total planned level of production
What do standard costs facilitate?
management by exception – focuses attention on significant
deviations from standards.
Act as a benchmark
What are tolerance limits?
Managers express a benchmark using standard costs, if the actual costs fall out of this limit not good
What is variance?
Difference between what happens and what you express in the budget
When is variance analysis possible?
when there are standards
What do detailed price and quantities allow for?
the variance to be broken down further to uncover
specific factors causing the variance
What is adverse variance?
Unfavourable
variance- actual worse than budgeted
What is favourable variance?
Actual sales/costs better than budgeted
What must you do in the exam in variance analysis labelling?
Always label F or A/U depending on how favourable the variance is
What is the problem with variance analysis by taking the budget away from the actual? How can you counteract this?
No adjustments have been made, need to consider amount of production
Use a flexed budget
What is a flexed budget?
Adjust original budget to the actual level of output so that what should happen at that production level
What costs need to be flexed and which ones don’t need to?
Variable costs and sales are flexed. Fixed costs are not.
How are budgets flexed?
Just off a relative basis. If you only produce 900 but budgeted 1000, divide by 1000 and times by 900
What are usually the key variances that a company would calculate?
Raw materials and labour
What is the total direct material variance?
Actual Direct Material Cost – Flexed Budget Direct Material Cost
How can we go into more detail about what the answering how to solve the total direct material variance?
(AP x AQ) – (SP x SQ)
AP = Actual material price (per unit of
material)
AQ = Actual quantity of material used to
make actual output
SP = Standard material price (per unit of
material)
SQ = Standard quantity of material used,
flexed to actual output (i.e., budgeted
material usage at actual output level)
How can total direct material variance = (AP x AQ) – (SP x SQ) be broken down?
= (AP x AQ) – (AQ x SP) + (AQ x SP) – (SP x SQ)
= (AP – SP) x AQ + (AQ – SQ) x SP
Where (AP – SP) x AQ is direct material price variance
and (AQ – SQ) x SP is the direct material usage variance
What can adverse direct material price mean?
- Poor buying decisions; poor
negotiation skills of buying
manager - Change in market conditions,
e.g., unexpected material
shortage
What can adverse direct material usage show?
- Faulty machinery
- Poor material quality leading to wastage
- Poor worker performance
- Misconduct e.g., theft
How do we calculate total direct labour variance?
Actual Direct Labour Cost – Flexed Budget Direct Labour Cost
How do we calculate total direct labour variance?
(AR x AH) – (SR x SH)
AR = Actual labour wage rate, £ per hour
AH = Actual labour hours used to make
actual output
SR = Standard labour wage rate, £ per hour
SH = Standard labour hours flexed to actual
output (i.e., budgeted labour hours for the
actual output level)
What can total direct labour variance = = (AR x AH) – (SR x SH) be broken down into?
= (AR x AH) – (AH x SR) + (AH x SR) – (SR x SH)
= (AR – SR) x AH + (AH – SH) x SR
where (AR – SR) x AH is direct labour rate variance
and (AH – SH) x SR is direct labour efficiency variance
What can explain adverse labour rate?
- Change in labour market
conditions - Use of higher skilled labour
What can explain adverse labour efficiency?
Poor worker performance
* Poor supervision
* Faulty machinery/poor
maintenance
* Inadequate training
* Poor quality materials slowing
down production
What does the quality of variance analysis depend largely on?
on the quality of standards used
How do you calculate the fixed overhead spending variance?
Budgeted fixed OH – actual fixed OH
What is included in the fixed OH
and what could cause it to
increase?
- Increase in supervisor salaries?
- Increase in indirect machine
costs due to poorer quality
material used?
Exercising control over fixed overheads is more challenging
compared to direct labour and direct material, why is this?
responsibility for
overhead costs is more difficult to determine
What is the fixed overhead variance assumption?
The implicit assumption here is that the business uses a marginalcosting system, in which all fixed costs including fixed production overheads are treated as period costs and not assigned to specific
products.
If an absorption costing system was used instead for Fixed overhead variance, what happens?
all production costs including fixed production overheads would be assigned to products. It would then be possible to calculate both FOH
spending variance and volume variance
What are the two sales variances needed for the exam?
Sales margin volume variance
Sales price variance
How do you calculate sales margin volume variance? (Not needed for exam)
=(Actual sales volume - static budget sales volume) x standard contribution margin per unit
where standard contribution margin per unit = standard sales price per unit - standard variable costs per unit
How do you calculate sales price variance?
=(Actual price per unit - standard sales price per unit) x actual sales volume
What are some of the considerations of setting standard costs?
Who sets the standards?
What information needs to be gathered and how
is it gathered?
What kind of standards should be used?
What are set seperately?
Price and quantity standards are set separately
Buying and usage of inputs are two different
spheres of activity and responsibility, why?
- Different timings
- Different personnel responsible
Setting standard costs: What kind of information is needed to set standards?
How might it be gathered?
Historical data analysis
Engineering studies
External benchmarking
What are engineering studies?
Detailed technical analysis and interviews to estimate input usage and
prices
What is external benchmarking?
Input consumed and input prices of peer firms with similar production
processes – but such data usually limited
Setting standard costs: What are 3 types of standards?
Basic standards
Currently attainable standards
Ideal standards
What are basic standards?
Standards left
unchanged over
long periods
What are currently attainable standards?
- Difficult but not impossible to
achieve - Allowances made for normal
spoilage, machine breakdowns etc - Achievable under efficient
operating conditions
What are ideal standards?
Achievable only
under the best of
circumstances
What are limitations of standard costs and variance analysis ?
Not applicable in all production settings, more suited to highly
standardized, repetitive production.
- Standards become obsolete quickly in certain environments
– volatile prices, and/or fast changing production processes
Undesirable consequences of using standard costs as a control tool, e.g., neglecting quality in quest to attain favourable price variances
- Unrealistic standards may demotivate employees
Use of standards may inhibit “out of the box” thinking –promote
mentality of conforming to existing standards rather than
outperforming or setting new standards
