Transcript Material Price Variance

Chapter 11
Standard Costs and Variance
Analysis
Presentation Outline
I. Types of Standards
II. Variance Calculations
III. Investigation of Standard Cost Variances
I. Types of Standards
Ideal Standards
Can only be attained
under the best
circumstances. No
allowance for machine
breakdowns or work
interruptions
Attainable Standards
Tight but attainable
standards. Allows for
machine downtime
and employee rest
periods.
II. Variance Calculations
A.
B.
C.
D.
E.
F.
G.
H.
I.
Material Price Variance
Material Price Variance Journal Entry
Material Quantity Variance
Material Quantity Variance Journal Entry
Labor Rate Variance
Labor Efficiency Variance
Journal Entry for Direct Labor Variances
Controllable Overhead Variance
Overhead Volume Variance
A. Material Price Variance
MPV = (AP – SP) AQ
where:
MPV = Material price variance
AP = Actual unit price of materials
SP = Standard unit price of materials
AQ = Actual quantity of materials purchased
Decision Rule:
AP > SP
Unfavorable
AP < SP
Favorable
B. Material Price Variance
Journal Entry
(Recorded at Time of Purchase)
Raw Materials (AQ x SP)
XXX
Materials Price Variance [(AP-SP)AQ] XXX or XXX
Accounts Payable (AQ x AP)
XXX
C. Material Quantity Variance
MQV = (AQ – SQ) SP
where:
MQV = Material quantity variance
AQ = Actual quantity of materials put into production
SQ = Standard quantity allowed for the output produced
SP = Standard unit price of materials
Decision Rule:
AQ > SQ
Unfavorable
AQ < SQ
Favorable
D. Material Quantity Variance Journal
Entry
(Recorded when materials are put into production)
Work in Process (SQ x SP)
XXX
Materials Quantity Variance [(AQ-SQ)SP] XXX or XXX
Raw Materials (AQ x SP)
XXX
E. Labor Rate Variance
LRV = (AR – SR) AH
where:
LRV = Labor rate variance
AR = Actual labor rate
SR = Standard labor rate
AH = Actual labor hours worked
Decision Rule:
AR > SR
Unfavorable
AR < SR
Favorable
F. Labor Efficiency Variance
LEV = (AH – SH) SR
where:
LEV = Labor efficiency variance
AH = Actual labor hours worked
SH = Standard hours allowed for the output produced
SR = Standard labor rate
Decision Rule:
AH > SH
Unfavorable
AH < SH
Favorable
G. Journal Entry for Direct Labor
Variances
Work in Process (SH x SR)
XXX
Labor Rate Variance [(AR-SR)AH]
XXX or XXX
Labor Efficiency Variance [(AH-SH)SR]
XXX or XXX
Wages Payable (AH x AR)
XXX
H. Controllable Overhead
Variance
Flexible budget
Controllable
overhead = Actual - level of overhead
for the actual level
overhead
variance
of production
Decision Rule:
Actual > Flexible budget
Unfavorable
Actual < Flexible budget
Favorable
I. Overhead Volume Variance
Flexible
budget
level
Overhead
Overhead applied
of
overhead
volume =
to
production
using
for
actual
variance
standard overhead
level of
rate
production
Decision Rule:
Flexible budget > O/H applied Unfavorable
Flexible budget < O/H applied Favorable
III. Investigation of Standard
Cost Variances
A. Management by Exception
B. “Favorable” Variances May be
Unfavorable
C. Process Improvements and “Unfavorable
Variances
D. Variance Evaluation and Excess
Production
E. Variance Analysis and Performance
Evaluation
A. Management by Exception
Most managers take a “management by
exception” approach and investigate only
those variances that they deem to be
exceptional.
The absolute dollar value of the variance or
the variance as a percent of actual or
standard cost is often used as the criterion.
B. “Favorable” Variances May be
Unfavorable
The fact that a variance is favorable does not mean that it
should not be investigated. Indeed, a favorable variance
may be indicative of poor management decisions. For
example:
A favorable material price variance may be arisen from
purchasing goods of inadequate quality for production.
A favorable overhead volume variance could mean that
excessive inventory has been produced beyond customer
demand.
C. Process Improvements and
Unfavorable Variances
Production workers suggest a change in the
manufacturing process so that the standard
for labor time per unit is reduced from 4 to
3 hours. If the company does not need to
increase production and keeps the same
number of workers, an unfavorable labor
efficiency variance will arise.
(See Illustration on page 397)
D. Variance Evaluation and
Excess Production
The Theory of Constraints tells us that production
departments in front of bottleneck departments should
not produce excess work-in-process inventory.
Evaluation in terms of standard cost variances could
result in this dysfunctional behavior.
For example, rather than lay off workers, a department
with a temporary demand slump may produce excess
units simply to avoid an unfavorable labor efficiency
variance.
E. Variance Analysis and
Performance Evaluation
Responsibility accounting states that
managers should only be held accountable
for variance that they can control.
Unfavorable variances do not imply poor
performance. For example, an unfavorable
labor efficiency variance could result from
the purchase of inferior goods (which by the
way resulted in a favorable material price
variance).
Summary
Ideal vs. Attainable Standards
Material Variances
Labor Variances
Overhead Variances