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Standard Costs and Operating

Performance Measures
Chapter 11

© 2010 The McGraw-Hill Companies, Inc.


Standard Costs
Standards are benchmarks or “norms” for
measuring performance. In managerial accounting,
two types of standards are commonly used.

Quantity standards Price standards


specify how much of an specify how much
input should be used to should be paid for
make a product or each unit of the
provide a service. input.

Examples: Firestone, Sears, McDonald’s, hospitals,


construction and manufacturing companies.
McGraw-Hill/Irwin Slide 2
Standard Costs
Deviations from standards deemed significant
are brought to the attention of management, a
practice known as management by exception.

Standard
Amount

Direct
Material
Direct Manufacturing
Labor Overhead

Type of Product Cost


McGraw-Hill/Irwin Slide 3
Variance Analysis Cycle

Take
Identify Receive corrective
questions explanations actions

Conduct next
Analyze period’s
variances operations

Prepare standard
Begin
cost performance
report

McGraw-Hill/Irwin Slide 4
Setting Standard Costs

Accountants, engineers, purchasing


agents, and production managers
combine efforts to set standards that encourage
efficient future operations.

McGraw-Hill/Irwin Slide 5
Setting Standard Costs
Should we use I recommend using practical
ideal standards that standards that are currently
require employees to attainable with reasonable
work at 100 percent and efficient effort.
peak efficiency?

Engineer Managerial Accountant


McGraw-Hill/Irwin Slide 6
Learning Objective 1

Explain how direct


materials standards
and direct labor
standards are set.

McGraw-Hill/Irwin Slide 7
Setting Direct Material Standards

Price Quantity
Standards Standards

Final, delivered Summarized in


cost of materials, a Bill of Materials.
net of discounts.

McGraw-Hill/Irwin Slide 8
Setting Standards

Six Sigma advocates have sought to


eliminate all defects and waste, rather than
continually build them into standards.

As a result allowances for waste and


spoilage that are built into standards
should be reduced over time.

McGraw-Hill/Irwin Slide 9
Setting Direct Labor Standards

Rate Time
Standards Standards

Often a single Use time and


rate is used that reflects motion studies for
the mix of wages earned. each labor operation.

McGraw-Hill/Irwin Slide 10
Setting Variable Manufacturing Overhead
Standards

Rate Quantity
Standards Standards

The rate is the The quantity is


variable portion of the the activity in the
predetermined overhead allocation base for
rate. predetermined overhead.

McGraw-Hill/Irwin Slide 11
Standard Cost Card – Variable Production
Cost

A standard cost card for one unit


of product might look like this:
A B AxB
Standard Standard Standard
Quantity Price Cost
Inputs or Hours or Rate per Unit
Direct materials 3.0 lbs. $ 4.00 per lb. $ 12.00
Direct labor 2.5 hours 14.00 per hour 35.00
Variable mfg. overhead 2.5 hours 3.00 per hour 7.50
Total standard unit cost $ 54.50

McGraw-Hill/Irwin Slide 12
Price and Quantity Standards

Price and quantity standards are


determined separately for two reasons:

 The purchasing manager is responsible for raw


material purchase prices and the production manager
is responsible for the quantity of raw material used.

 The buying and using activities occur at different times.


Raw material purchases may be held in inventory for a
period of time before being used in production.
McGraw-Hill/Irwin Slide 13
A General Model for Variance Analysis

Variance Analysis

Price Variance Quantity Variance

Difference between Difference between


actual price and actual quantity and
standard price standard quantity

McGraw-Hill/Irwin Slide 14
A General Model for Variance Analysis

Variance Analysis

Price Variance Quantity Variance

Materials price variance Materials quantity variance


Labor rate variance Labor efficiency variance
VOH rate variance VOH efficiency variance

McGraw-Hill/Irwin Slide 15
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

McGraw-Hill/Irwin Slide 16
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual quantity is the amount of direct


materials, direct labor, and variable
manufacturing overhead actually used.

McGraw-Hill/Irwin Slide 17
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard quantity is the standard quantity


allowed for the actual output of the period.

McGraw-Hill/Irwin Slide 18
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Actual price is the amount actually


paid for the input used.

McGraw-Hill/Irwin Slide 19
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

Standard price is the amount that should


have been paid for the input used.

McGraw-Hill/Irwin Slide 20
A General Model for Variance Analysis

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price

Price Variance Quantity Variance

(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ × SP)


AQ = Actual Quantity SP = Standard Price
AP = Actual Price SQ = Standard Quantity

McGraw-Hill/Irwin Slide 21
Learning Objective 2

Compute the direct


materials price and
quantity variances and
explain their
significance.

McGraw-Hill/Irwin Slide 22
Material Variances – An Example

Glacier Peak Outfitters has the following direct


material standard for the fiberfill in its mountain
parka.

0.1 kg. of fiberfill per parka at $5.00 per kg.

Last month 210 kgs. of fiberfill were purchased and


used to make 2,000 parkas. The material cost a
total of $1,029.

McGraw-Hill/Irwin Slide 23
Material Variances Summary
Actual Quantity Actual Quantity Standard Quantity
× × ×
Actual Price Standard Price Standard Price
210 kgs. 210 kgs. 200 kgs.
× × ×
$4.90 per kg. $5.00 per kg. $5.00 per kg.
= $1,029 = $1,050 = $1,000

Price variance Quantity variance


$21 favorable $50 unfavorable

McGraw-Hill/Irwin Slide 24
Material Variances Summary
Actual Quantity Actual Quantity Standard Quantity
× × ×
Actual Price Standard Price Standard Price
210 kgs. 210 kgs. 200 kgs.
× $1,029 ÷× 210 ×
$4.90 per kg. kgs $5.00 perper
= $4.90 kg. $5.00 per kg.
= $1,029 =kg
$1,050 = $1,000

Price variance Quantity variance


$21 favorable $50 unfavorable

McGraw-Hill/Irwin Slide 25
Material Variances Summary
Actual Quantity Actual Quantity Standard Quantity
× × ×
Actual Price Standard Price Standard Price
210 kgs. 210 kgs. 200 kgs.
× × × 2,000
0.1 kg per parka ×
$4.90 per kg. $5.00
parkas per kgs
= 200 kg. $5.00 per kg.
= $1,029 = $1,050 = $1,000

Price variance Quantity variance


$21 favorable $50 unfavorable

McGraw-Hill/Irwin Slide 26
Material Variances:
Using the Factored Equations

Materials price variance


MPV = AQ (AP - SP)
= 210 kgs ($4.90/kg - $5.00/kg)
= 210 kgs (-$0.10/kg)
= $21 F
Materials quantity variance
MQV = SP (AQ - SQ)
= $5.00/kg (210 kgs-(0.1 kg/parka × 2,000 parkas))
= $5.00/kg (210 kgs - 200 kgs)
= $5.00/kg (10 kgs)
= $50 U

McGraw-Hill/Irwin Slide 27
Isolation of Material Variances
I need the price variance I’ll start computing
sooner so that I can better the price variance
identify purchasing problems. when material is
You accountants just don’t purchased rather
understand the problems that than when it’s used.
purchasing managers have.

McGraw-Hill/Irwin Slide 28
Material Variances

The price variance is


Hanson purchased and
computed on the entire
used 1,700 pounds.
quantity purchased.
How are the variances
computed if the amount The quantity variance
purchased differs from is computed only on
the amount used? the quantity used.

McGraw-Hill/Irwin Slide 29
Responsibility for Material Variances

Materials Quantity Variance Materials Price Variance

Production Manager Purchasing Manager

The standard price is used to compute the quantity variance


so that the production manager is not held responsible for
the purchasing manager’s performance.

McGraw-Hill/Irwin Slide 30
Responsibility for Material Variances

Your poor scheduling


I am not responsible for sometimes requires me to
this unfavorable material rush order material at a
quantity variance. higher price, causing
unfavorable price variances.
You purchased cheap
material, so my people
had to use more of it.

McGraw-Hill/Irwin Slide 31
Zippy
Quick Check 

Hanson Inc. has the following direct material


standard to manufacture one Zippy:
1.5 pounds per Zippy at $4.00 per pound
Last week, 1,700 pounds of material were
purchased and used to make 1,000 Zippies. The
material cost a total of $6,630.

McGraw-Hill/Irwin Slide 32
Zippy
Quick Check 

Hanson’s
Hanson’s material
material price
price variance
variance (MPV)
(MPV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.

McGraw-Hill/Irwin Slide 33
Zippy
Quick Check 

Hanson’s
Hanson’s material
material price
price variance
variance (MPV)
(MPV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d. $800 favorable. MPV = AQ(AP - SP)
d. $800 favorable.MPV = 1,700 lbs. × ($3.90 - 4.00)
MPV = $170 Favorable

McGraw-Hill/Irwin Slide 34
Zippy
Quick Check 

Hanson’s
Hanson’s material
material quantity
quantity variance
variance (MQV)
(MQV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.

McGraw-Hill/Irwin Slide 35
Zippy
Quick Check 

Hanson’s
Hanson’s material
material quantity
quantity variance
variance (MQV)
(MQV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.
MQV = SP(AQ - SQ)
MQV = $4.00(1,700 lbs - 1,500 lbs)
MQV = $800 unfavorable

McGraw-Hill/Irwin Slide 36
Zippy
Quick Check 

Actual Quantity Actual Quantity Standard Quantity


× × ×
Actual Price Standard Price Standard Price
1,700 lbs. 1,700 lbs. 1,500 lbs.
× × ×
$3.90 per lb. $4.00 per lb. $4.00 per lb.
= $6,630 = $ 6,800 = $6,000

Price variance Quantity variance


$170 favorable $800 unfavorable
McGraw-Hill/Irwin Slide 37
Zippy
Quick Check  Continued

Hanson Inc. has the following material standard to


manufacture one Zippy:

1.5 pounds per Zippy at $4.00 per pound

Last week, 2,800 pounds of material were


purchased at a total cost of $10,920, and 1,700
pounds were used to make 1,000 Zippies.

McGraw-Hill/Irwin Slide 38
Zippy
Quick Check  Continued

Actual Quantity Actual Quantity


Purchased Purchased
× ×
Actual
2,800Price
lbs. Standard Price
2,800 lbs.
× ×
$3.90 per lb. $4.00 per lb.
= $10,920 = $11,200

Price variance increases


Price variance because quantity
$280 favorable purchased increases.
McGraw-Hill/Irwin Slide 39
Zippy
Quick Check  Continued

Actual Quantity
Used Standard
Quantity
× ×
Standard Price Standard Price
1,700 lbs. 1,500 lbs.
× ×
$4.00 per lb. $4.00 per lb.
= $6,800 = $6,000
Quantity variance is
unchanged because
actual and standard Quantity variance
quantities are unchanged. $800 unfavorable
McGraw-Hill/Irwin Slide 40
Learning Objective 3

Compute the direct


labor rate and
efficiency variances
and explain
their significance.

McGraw-Hill/Irwin Slide 41
Labor Variances – An Example

Glacier Peak Outfitters has the following direct labor


standard for its mountain parka.

1.2 standard hours per parka at $10.00 per hour

Last month, employees actually worked 2,500 hours


at a total labor cost of $26,250 to make 2,000
parkas.

McGraw-Hill/Irwin Slide 42
Labor Variances Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× × ×
$10.50 per hour $10.00 per hour. $10.00 per hour
= $26,250 = $25,000 = $24,000

Rate variance Efficiency variance


$1,250 unfavorable $1,000 unfavorable

McGraw-Hill/Irwin Slide 43
Labor Variances Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× $26,250× ÷ 2,500 hours ×
$10.50 per hour $10.00 per hour.
= $10.50 per hour $10.00 per hour
= $26,250 = $25,000 = $24,000

Rate variance Efficiency variance


$1,250 unfavorable $1,000 unfavorable

McGraw-Hill/Irwin Slide 44
Labor Variances Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× ×
1.2 hours per parka × 2,000 ×
$10.50 per hour parkas
$10.00 per hour.
= 2,400 hours $10.00 per hour
= $26,250 = $25,000 = $24,000

Rate variance Efficiency variance


$1,250 unfavorable $1,000 unfavorable

McGraw-Hill/Irwin Slide 45
Labor Variances:
Using the Factored Equations

Labor rate variance


LRV = AH (AR - SR)
= 2,500 hours ($10.50 per hour – $10.00 per hour)
= 2,500 hours ($0.50 per hour)
= $1,250 unfavorable
Labor efficiency variance
LEV = SR (AH - SH)
= $10.00 per hour (2,500 hours – 2,400 hours)
= $10.00 per hour (100 hours)
= $1,000 unfavorable

McGraw-Hill/Irwin Slide 46
Responsibility for Labor Variances

Production managers are Mix of skill levels


usually held accountable assigned to work tasks.
for labor variances
because they can
Level of employee
influence the:
motivation.

Quality of production
supervision.

Quality of training
provided to employees.
Production Manager

McGraw-Hill/Irwin Slide 47
Responsibility for Labor Variances
I think it took more time
to process the
I am not responsible for materials because the
the unfavorable labor Maintenance
efficiency variance! Department has poorly
maintained your
You purchased cheap equipment.
material, so it took more
time to process it.

McGraw-Hill/Irwin Slide 48
Zippy
Quick Check 

Hanson Inc. has the following direct labor


standard to manufacture one Zippy:
1.5 standard hours per Zippy at
$12.00 per direct labor hour
Last week, 1,550 direct labor hours were
worked at a total labor cost of $18,910
to make 1,000 Zippies.

McGraw-Hill/Irwin Slide 49
Zippy
Quick Check 

Hanson’s
Hanson’s labor
labor rate
rate variance
variance (LRV)
(LRV) for
for the
the
week
week was:
was:
a.
a. $310
$310 unfavorable.
unfavorable.
b.
b. $310
$310 favorable.
favorable.
c.
c. $300
$300 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.

McGraw-Hill/Irwin Slide 50
Zippy
Quick Check 

Hanson’s
Hanson’s labor
labor rate
rate variance
variance (LRV)
(LRV) for
for the
the
week
week was:
was:
a.
a. $310
$310 unfavorable.
unfavorable.
b.
b. $310
$310 favorable.
favorable.
c.
c. $300 LRV = AH(AR - SR)
$300 unfavorable.
unfavorable.
LRV = 1,550 hrs($12.20 - $12.00)
d.
d. $300
$300 favorable.
favorable.LRV = $310 unfavorable

McGraw-Hill/Irwin Slide 51
Zippy
Quick Check 

Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $590
$590 unfavorable.
unfavorable.
b.
b. $590
$590 favorable.
favorable.
c.
c. $600
$600 unfavorable.
unfavorable.
d.
d. $600
$600 favorable.
favorable.

McGraw-Hill/Irwin Slide 52
Zippy
Quick Check 

Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $590
$590 unfavorable.
unfavorable.
b.
b. $590
$590 favorable.
favorable.
c.
c. $600
$600 unfavorable.
unfavorable.
d.
d. $600
$600 favorable.
favorable.
LEV = SR(AH - SH)
LEV = $12.00(1,550 hrs - 1,500 hrs)
LEV = $600 unfavorable

McGraw-Hill/Irwin Slide 53
Zippy
Quick Check 

Actual Hours Actual Hours Standard Hours


× × ×
Actual Rate Standard Rate Standard Rate
1,550 hours 1,550 hours 1,500 hours
× × ×
$12.20 per hour $12.00 per hour $12.00 per hour
= $18,910 = $18,600 = $18,000

Rate variance Efficiency variance


$310 unfavorable $600 unfavorable
McGraw-Hill/Irwin Slide 54
Learning Objective 4

Compute the variable


manufacturing
overhead rate and
efficiency variances.

McGraw-Hill/Irwin Slide 55
Variable Manufacturing Overhead Variances
– An Example

Glacier Peak Outfitters has the following direct variable


manufacturing overhead labor standard for its mountain
parka.
1.2 standard hours per parka at $4.00 per hour
Last month, employees actually worked 2,500 hours to
make 2,000 parkas. Actual variable manufacturing
overhead for the month was $10,500.

McGraw-Hill/Irwin Slide 56
Variable Manufacturing Overhead Variances
Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× × ×
$4.20 per hour $4.00 per hour $4.00 per hour
= $10,500 = $10,000 = $9,600

Rate variance Efficiency variance


$500 unfavorable $400 unfavorable

McGraw-Hill/Irwin Slide 57
Variable Manufacturing Overhead Variances
Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× $10,500×÷ 2,500 hours ×
$4.20 per hour $4.00 per per
= $4.20 hourhour $4.00 per hour
= $10,500 = $10,000 = $9,600

Rate variance Efficiency variance


$500 unfavorable $400 unfavorable

McGraw-Hill/Irwin Slide 58
Variable Manufacturing Overhead Variances
Summary
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× ×
1.2 hours per parka × 2,000 ×
$4.20 per hour parkas$4.00 per hour
= 2,400 hours $4.00 per hour
= $10,500 = $10,000 = $9,600

Rate variance Efficiency variance


$500 unfavorable $400 unfavorable

McGraw-Hill/Irwin Slide 59
Variable Manufacturing Overhead
Variances: Using Factored Equations

Variable manufacturing overhead rate variance


VMRV = AH (AR - SR)
= 2,500 hours ($4.20 per hour – $4.00 per hour)
= 2,500 hours ($0.20 per hour)
= $500 unfavorable
Variable manufacturing overhead efficiency variance
VMEV = SR (AH - SH)
= $4.00 per hour (2,500 hours – 2,400 hours)
= $4.00 per hour (100 hours)
= $400 unfavorable

McGraw-Hill/Irwin Slide 60
Zippy
Quick Check 

Hanson Inc. has the following variable


manufacturing overhead standard to
manufacture one Zippy:
1.5 standard hours per Zippy at
$3.00 per direct labor hour
Last week, 1,550 hours were worked to make
1,000 Zippies, and $5,115 was spent for
variable manufacturing overhead.

McGraw-Hill/Irwin Slide 61
Zippy
Quick Check 

Hanson’s
Hanson’s rate
rate variance
variance (VMRV)
(VMRV) for for variable
variable
manufacturing
manufacturing overhead
overhead for
for the
the week
week was:
was:
a.
a. $465
$465 unfavorable.
unfavorable.
b.
b. $400
$400 favorable.
favorable.
c.
c. $335
$335 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.

McGraw-Hill/Irwin Slide 62
Zippy
Quick Check 

Hanson’s
Hanson’s rate
rate variance
variance (VMRV)
(VMRV) for for variable
variable
manufacturing
manufacturing overhead
overhead for
for the
the week
week was:
was:
a.
a. $465
$465 unfavorable.
unfavorable.
b.
b. $400
$400 favorable.
favorable.
VMRV = AH(AR - SR)
c. $335 unfavorable.
c. $335 unfavorable. VMRV = 1,550 hrs($3.30 - $3.00)
d.
d. $300
$300 favorable.
favorable. VMRV = $465 unfavorable

McGraw-Hill/Irwin Slide 63
Zippy
Quick Check 

Hanson’s
Hanson’s efficiency
efficiency variance
variance (VMEV)
(VMEV) forfor
variable
variable manufacturing
manufacturing overhead
overhead for
for the
the week
week
was:
was:
a.
a. $435
$435 unfavorable.
unfavorable.
b.
b. $435
$435 favorable.
favorable.
c.
c. $150
$150 unfavorable.
unfavorable.
d.
d. $150
$150 favorable.
favorable.

McGraw-Hill/Irwin Slide 64
Zippy
Quick Check 

Hanson’s
Hanson’s efficiency
efficiency variance
variance (VMEV)
(VMEV) for for
variable
variable manufacturing
manufacturing overhead
overhead forfor the
the week
week
was:
was:
a.
a. $435
$435 unfavorable.
unfavorable.
b.
b. $435
$435 favorable.
favorable. 1,000 units × 1.5 hrs per unit
c.
c. $150
$150 unfavorable.
unfavorable.
d.
d. $150
$150 favorable.
favorable.
VMEV = SR(AH - SH)
VMEV = $3.00(1,550 hrs - 1,500 hrs)
VMEV = $150 unfavorable
McGraw-Hill/Irwin Slide 65
Zippy
Quick Check 

Actual Hours Actual Hours Standard Hours


× × ×
Actual Rate Standard Rate Standard Rate
1,550 hours 1,550 hours 1,500 hours
× × ×
$3.30 per hour $3.00 per hour $3.00 per hour
= $5,115 = $4,650 = $4,500

Rate variance Efficiency variance


$465 unfavorable $150 unfavorable
McGraw-Hill/Irwin Slide 66
Variance Analysis and Management by
Exception

Larger variances, in
How do I know dollar amount or as
which variances to a percentage of the
investigate? standard, are
investigated first.

McGraw-Hill/Irwin Slide 67
A Statistical Control Chart

Warning signals for investigation

Favorable Limit
• •
• • •
Desired Value
• •
Unfavorable Limit •

1 2 3 4 5 6 7 8 9
Variance Measurements

McGraw-Hill/Irwin Slide 68
Advantages of Standard Costs

Management by Promotes economy


exception and efficiency

Advantages
Enhances
Simplified responsibility
bookkeeping accounting

McGraw-Hill/Irwin Slide 69
Potential Problems with Standard Costs
Emphasizing standards Favorable
may exclude other variances may
important objectives. be misinterpreted.
Potential
Problems
Standard cost Emphasis on
reports may negative may
not be timely. impact morale.

Invalid assumptions Continuous


about the relationship improvement may
between labor be more important
cost and output. than meeting standards.
McGraw-Hill/Irwin Slide 70
Learning Objective 5

Compute delivery cycle


time, throughput time,
and manufacturing
cycle efficiency (MCE).

McGraw-Hill/Irwin Slide 71
Delivery Performance Measures

Order Production Goods


Received Started Shipped

Process Time + Inspection Time


Wait Time + Move Time + Queue Time

Throughput Time

Delivery Cycle Time

Process time is the only value-added time.

McGraw-Hill/Irwin Slide 72
Delivery Performance Measures

Order Production Goods


Received Started Shipped

Process Time + Inspection Time


Wait Time + Move Time + Queue Time

Throughput Time

Delivery Cycle Time


Manufacturing
Value-added time
Cycle =
Efficiency Manufacturing cycle time
McGraw-Hill/Irwin Slide 73
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the throughput
throughput time?
time?
a.
a. 10.4
10.4 days.
days.
b.
b. 0.2
0.2 days.
days.
c.
c. 4.1
4.1 days.
days.
d.
d. 13.4
13.4 days.
days.
McGraw-Hill/Irwin Slide 74
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the throughput
throughput time?
time?
a.
a. 10.4
10.4 days.
days.
b.
b. 0.2
0.2 days.
days.
Throughput time = Process + Inspection + Move + Queue
c.
c. 4.1
4.1 days.
days. = 0.2 days + 0.4 days + 0.5 days + 9.3 days
d.
d. 13.4 days. = 10.4 days
13.4 days.
McGraw-Hill/Irwin Slide 75
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the Manufacturing
Manufacturing Cycle
Cycle Efficiency
Efficiency (MCE)?
(MCE)?
a.
a. 50.0%.
50.0%.
b.
b. 1.9%.
1.9%.
c.
c. 52.0%.
52.0%.
d.
d. 5.1%.
5.1%.
McGraw-Hill/Irwin Slide 76
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the Manufacturing
Manufacturing Cycle
Cycle Efficiency
Efficiency (MCE)?
(MCE)?
a.
a. 50.0%.
50.0%.
MCE = Value-added time ÷ Throughput time
b.
b. 1.9%.
1.9%. = Process time ÷ Throughput time
c.
c. 52.0%.
52.0%. = 0.2 days ÷ 10.4 days
d.
d. 5.1%.
5.1%. = 1.9%
McGraw-Hill/Irwin Slide 77
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the delivery
delivery cycle
cycle time
time (DCT)?
(DCT)?
a.
a. 0.5
0.5 days.
days.
b.
b. 0.7
0.7 days.
days.
c.
c. 13.4
13.4 days.
days.
d.
d. 10.4
10.4 days.
days.
McGraw-Hill/Irwin Slide 78
Quick Check 

AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the delivery
delivery cycle
cycle time
time (DCT)?
(DCT)?
a.
a. 0.5
0.5 days.
days.
b.
b. 0.7
0.7 days.
days. DCT = Wait time + Throughput time
c.
c. 13.4
13.4 days.
days. = 3.0 days + 10.4 days
d.
d. 10.4
10.4 days.
days. = 13.4 days

McGraw-Hill/Irwin Slide 79
Predetermined Overhead Rates and Overhead
Analysis in a Standard Costing System

Appendix 11A

© 2010 The McGraw-Hill Companies, Inc.


Learning Objective 6

(Appendix 11A)
Compute and interpret
the fixed overhead
budget and volume
variances.

McGraw-Hill/Irwin Slide 81
Fixed Overhead Budget Variance
Actual Budgeted Fixed
Fixed Fixed Overhead
Overhead Overhead Applied

Budget
variance

Actual Budgeted
Budget
= fixed – fixed
variance
overhead overhead

McGraw-Hill/Irwin Slide 82
Fixed Overhead Volume Variance
Actual Budgeted Fixed
Fixed Fixed Overhead
Overhead Overhead Applied

Volume
variance

Fixed
Budgeted
Volume overhead
= fixed –
variance applied to
overhead
work in process
McGraw-Hill/Irwin Slide 83
Fixed Overhead Volume Variance
Actual Budgeted Fixed
Fixed Fixed Overhead
Overhead Overhead Applied
DH × FR SH × FR

Volume
variance
Volume variance = FPOHR × (DH – SH)

FPOHR = Fixed portion of the predetermined overhead rate


DH = Denominator hours
SH = Standard hours allowed for actual output
McGraw-Hill/Irwin Slide 84
Computing Fixed Overhead Variances

ColaCo
Production and Machine-Hour Data
Budgeted production 30,000 units
Standard machine-hours per unit 3 hours
Budgeted machine-hours 90,000 hours
Actual production 28,000 units
Standard machine-hours allowed for the actual production 84,000 hours
Actual machine-hours 88,000 hours

McGraw-Hill/Irwin Slide 85
Computing Fixed Overhead Variances

ColaCo
Cost Data
Budgeted variable manufacturing overhead $ 90,000
Budgeted fixed manufacturing overhead 270,000
Total budgeted manufacturing overhead $ 360,000

Actual variable manufacturing overhead $ 100,000


Actual fixed manufacturing overhead 280,000
Total actual manufacturing overhead $ 380,000

McGraw-Hill/Irwin Slide 86
Predetermined Overhead Rates

Predetermined Estimated total manufacturing overhead cost


=
overhead rate Estimated total amount of the allocation base

Predetermined $360,000
=
overhead rate 90,000 Machine-hours

Predetermined
= $4.00 per machine-hour
overhead rate

McGraw-Hill/Irwin Slide 87
Predetermined Overhead Rates
Variable component of the $90,000
=
predetermined overhead rate 90,000 Machine-hours

Variable component of the


= $1.00 per machine-hour
predetermined overhead rate

Fixed component of the $270,000


=
predetermined overhead rate 90,000 Machine-hours

Fixed component of the


= $3.00 per machine-hour
predetermined overhead rate

McGraw-Hill/Irwin Slide 88
Applying Manufacturing Overhead

Overhead Predetermined Standard hours allowed


= ×
applied overhead rate for the actual output

Overhead $4.00 per


= × 84,000 machine-hours
applied machine-hour

Overhead
= $336,000
applied

McGraw-Hill/Irwin Slide 89
Computing the Budget Variance

Actual Budgeted
Budget
= fixed – fixed
variance
overhead overhead

Budget
= $280,000 – $270,000
variance

Budget
= $10,000 Unfavorable
variance

McGraw-Hill/Irwin Slide 90
Computing the Volume Variance
Fixed
Budgeted
Volume overhead
= fixed –
variance applied to
overhead
work in process

Volume
variance
= $270,000 – ( $3.00 per
machine-hour
×
$84,000
machine-hours )
Volume
= $18,000 Unfavorable
variance

McGraw-Hill/Irwin Slide 91
Computing the Volume Variance
Volume variance = FPOHR × (DH – SH)

FPOHR = Fixed portion of the predetermined overhead rate


DH = Denominator hours
SH = Standard hours allowed for actual output

Volume
variance
=
$3.00 per
machine-hour
× ( 90,000
mach-hours

84,000
mach-hours )
Volume = 18,000 Unfavorable
variance

McGraw-Hill/Irwin Slide 92
A Pictorial View of the Variances

Actual Budgeted Fixed Overhead


Fixed Fixed Applied to
Overhead Overhead Work in Process
280,000 270,000 252,000

Budget variance, Volume variance,


$10,000 unfavorable $18,000 unfavorable

Total variance, $28,000 unfavorable

McGraw-Hill/Irwin Slide 93
Fixed Overhead Variances –
A Graphic Approach

Let’s look at a
graph showing
fixed overhead
variances. We will
use ColaCo’s
numbers from the
previous example.

McGraw-Hill/Irwin Slide 94
Graphic Analysis of Fixed
Overhead Variances

Budget
$270,000

at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Denominator
3 .0 hours
$
0
0 Machine-hours (000) 90

McGraw-Hill/Irwin Slide 95
Graphic Analysis of Fixed
Overhead Variances
Actual
$280,000
Budget { Budget Variance 10,000 U
$270,000

at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Denominator
3 .0 hours
$
0
0 Machine-hours (000) 90

McGraw-Hill/Irwin Slide 96
Graphic Analysis of Fixed
Overhead Variances
Actual
$280,000
Budget { Budget Variance 10,000 U
$270,000
Applied { Volume Variance 18,000 U
$252,000
at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Standard Denominator
3 .0 hours hours
$
0
0 Machine-hours (000) 84 90

McGraw-Hill/Irwin Slide 97
Reconciling Overhead Variances and
Underapplied or Overapplied Overhead

In a standard
cost system:

Unfavorable Favorable
variances are equivalent variances are equivalent
to underapplied overhead. to overapplied overhead.

The sum of the overhead variances


equals the under- or overapplied
overhead cost for the period.
McGraw-Hill/Irwin Slide 98
Reconciling Overhead Variances and
Underapplied or Overapplied Overhead

ColaCo
Computation of Underapplied Overhead
Predetermined overhead rate (a) $ 4.00 per machine-hour
Standard hours allowed for the actual output (b) 84,000 machine hours
Manufacturing overhead applied (a) × (b) $ 336,000
Actual manufacturing overhead $ 380,000
Manufacturing overhead underapplied or
overapplied $ 44,000 underapplied

McGraw-Hill/Irwin Slide 99
Computing the Variable Overhead Variances

Variable manufacturing overhead rate variance


VMRV = (AH × AR) – (AH × SR)
= $100,000 – (88,000 hours × $1.00 per hour)

= $12,000 unfavorable

McGraw-Hill/Irwin Slide 100


Computing the Variable Overhead Variances

Variable manufacturing overhead efficiency variance


VMEV = (AH × SR) – (SH × SR)
= $88,000 – (84,000 hours × $1.00 per hour)
= $4,000 unfavorable

McGraw-Hill/Irwin Slide 101


Computing the Sum of All Variances

ColaCo
Computing the Sum of All variances
Variable overhead rate variance $ 12,000 U
Variable overhead efficiency variance 4,000 U
Fixed overhead budget variance 10,000 U
Fixed overhead volume variance 18,000 U
Total of the overhead variances $ 44,000 U

McGraw-Hill/Irwin Slide 102


Journal Entries to Record
Variances
Appendix 11B

© 2010 The McGraw-Hill Companies, Inc.


Learning Objective 7

(Appendix 11B)
Prepare journal entries
to record standard
costs and variances.

McGraw-Hill/Irwin Slide 104


Appendix 11B
Journal Entries to Record Variances
We will use information from the Glacier Peak Outfitters
example presented earlier in the chapter to illustrate journal
entries for standard cost variances. Recall the following:

Material
Material Labor
Labor
AQ
AQ ×× AP
AP == $1,029
$1,029 AH
AH ×× AR
AR == $26,250
$26,250
AQ
AQ ×× SP
SP == $1,050
$1,050 AH
AH ×× SR
SR == $25,000
$25,000
SQ
SQ ×× SP
SP == $1,000
$1,000 SH
SH ×× SR
SR == $24,000
$24,000
MPV
MPV == $21
$21 FF LRV
LRV == $1,250
$1,250 UU
MQV
MQV == $50
$50 UU LEV
LEV == $1,000
$1,000 UU

Now, let’s prepare the entries to record


the labor and material variances.
McGraw-Hill/Irwin Slide 105
Appendix 11B
Recording Material Variances

GENERAL JOURNAL Page 4


Post.
Date Description Ref. Debit Credit
Raw Materials 1,050
Materials Price Variance 21
Accounts Payable 1,029
To record the purchase of material

Work in Process 1,000


Materials Quantity Variance 50
Raw Materials 1,050
To record the use of material

McGraw-Hill/Irwin Slide 106


Appendix 11B
Recording Labor Variances

GENERAL JOURNAL Page 4


Post.
Date Description Ref. Debit Credit
Work in Process 24,000
Labor Rate Variance 1,250
Labor Efficiency Variance 1,000
Wages Payable 26,250
To record direct labor

McGraw-Hill/Irwin Slide 107


Cost Flows in a Standard Cost System

Inventories are recorded at standard cost.


Variances are recorded as follows:
 Favorable variances are credits, representing
savings in production costs.
 Unfavorable variances are debits, representing
excess production costs.
Standard cost variances are usually closed out
to cost of goods sold.
 Unfavorable variances increase cost of goods sold.
 Favorable variances decrease cost of goods sold.

McGraw-Hill/Irwin Slide 108


End of Chapter 11

McGraw-Hill/Irwin Slide 109

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