# Flexible Budgets and Standard Costs by jonbf

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```									Flexible Budgets
and
Standard Costs

Chapter 24
Objective 1

Prepare a Flexible Budget
for the Income Statement.
Static Versus Flexible Budgets

Oasis Pools
Comparison of Actual Results with Static Budget
For the Month Ended May 31, 2005
Actual        Static
Results      Budget      Variance
Pools         10            8            2 F
Revenues \$150,000       \$120,000     \$30,000 F
Expenses 119,000          95,000     \$24,000 U
Income \$ 31,000         \$ 25,000     \$ 6,000 F
Static versus Flexible Budgets

Static Budget

(8 Pools)
Expected Output Volume Only
Static versus Flexible Budgets

Flexible Budget

(5 Pools)      (8 Pools)      (10 Pools)
Range of Output Volumes
Flexible Budgets

Budgeted sales price per pool is \$15,000.
Budgeted variable expenses per pool are \$10,375.
Total budgeted fixed cost is \$12,000.

What are the flexible budgets for Oasis Pools
when expected volume is 5, 8, and 10 pools?
Flexible Budgets

Oasis Pools Flexible Budgets
Units                      5          8        10
Sales revenue       \$75,000    \$120,000 \$150,000
Variable expenses    51,875      83,000 103,750
Fixed expenses       12,000      12,000   12,000
Operating income    \$11,125    \$ 25,000 \$ 34,250
Graphing the Flexible
Budget Formula
\$130,000                 Total cost line
\$115,750
Total Expenses

\$95,000
Variable cost
\$10,375
\$63,875                                                    per pool
installed

Fixed cost
\$12,000
\$12,000
\$0                                                   per month
0                    5          8        10
Number of Swimming Pools Installed
Graphing the Flexible
Budget Formula
The flexible budget graph shows
budgeted expenses for 10 pools.

Variable expenses        \$103,750
Fixed expenses             12,000
Total expenses           \$115,750

May actual expenses were \$119,000.
They exceeded the budget by \$3,250.
Objective 2

Use the Flexible Budget to
Show Why Actual Results
Differ from the Static
Budget.
Oasis Pools Performance Report

Actual    Flexible    Static
Results    Budget     Budget
Pools                  10         10          8
Revenues            \$150,000   \$150,000   \$120,000
Variable expenses    105,000    103,750     83,000
Fixed expenses        14,000     12,000     12,000
Total expenses       119,000    115,750     95,000
Income              \$ 31,000   \$ 34,250   \$ 25,000
Oasis Pools Performance Report

Actual                  Flexible                   Static
Results                  Budget                    Budget
\$31,000                  \$34,250                   \$25,000
\$3,250 U                     \$9,250 F
Flexible Budget Variance    Sales Volume Variance
Oasis Pools Performance Report

Actual                             Static
Results                            Budget
\$31,000                            \$25,000
\$6,000 U
Static Budget Variance
The Flexible Budget
and Variance Analysis
• The flexible budget variance is the
difference between what the company
spent at the actual level of output and what
it should have spent to obtain the actual
level of output.
• It highlights the difference between actual
costs and flexible budget costs.
The Flexible Budget
and Variance Analysis
• Oasis Pools actually incurred \$105,000 of
variable costs to install the 10 pools.
• This was \$1,250 more than the \$103,750
budgeted variable cost for 10 pools.
• Oasis Pools also spent \$2,000 more than
budgeted on fixed expenses (\$14,000 –
\$12,000).
Objective 3

Identify the Benefits
of Standard Costs and Learn
How to Set Standards.
Benefits of Standard Costs
• Standard costs are carefully predetermined
costs.
• They help managers plan by providing the
unit amounts, which are the building
blocks of budgeting.
• They help simplify record keeping.
• Standard quantity often is referred to as the
quantity that should have been used.
Objective 4

Compute Standard Cost
Variances
for Direct Materials and
Direct Labor.
Direct Material and
Direct Labor Variances
1 Price, or rate, which measures how well
the business keeps unit prices of materials
and labor within standards.
2 Efficiency, or quantity, which measures
whether the quantity of materials or labor
used to make the actual number of outputs
is within the budget.
Price Variance...
…is the difference between the actual price
and standard price of inputs used
multiplied by the actual quantity of inputs.
• Price variance = (Actual quantity × Actual
price) – (Actual quantity × Standard price)
or...
• Actual quantity × (AP – SP)
Efficiency Variance...
…is the difference between the actual and
standard quantity of inputs allowed
multiplied by the standard price of input.
• Efficiency variance = (Actual quantity ×
Standard price) – (Standard quantity ×
Standard price) or...
• Standard price × (AQ – SQ)
Example of Standard Costing

Variance analysis begins with a total variance
to be explained – in this example, \$3,250.

Actual variable expenses         \$105,000
Flexible budget                  –103,750
Difference                          1,250

Actual fixed expenses were \$2,000
more than budgeted.
Materials Variances
Standards
Direct materials cost was \$3.575 per cubic foot.
Materials allowed (gunite)
was 1,000 cubic feet per pool.
Actual Results
(10 pools were built)
AP paid per cubic foot = \$3.00
AQ of materials used = 12,000 cubic feet
Materials Variances

Price variance:
12,000(\$3.00 – \$3.575) = \$6,900 favorable

Efficiency variance:
\$3.575(12,000 – 10,000) = \$7,150 unfavorable

Flexible budget variance:
\$6,900 – \$7,150 = \$250 unfavorable
Labor Variances

Standards
Direct labor cost was \$6,000 per pool.
The rate was \$15 per hour.
Standard hours per pool were 400.

Actual Results
(10 pools were built)
AP (actual rate) was \$16.10 per hour.
AQ (actual hours) was 3,800.
Labor Variances

Price (or rate) variance:
3,800(\$16.10 – \$15.00) = \$4,180 unfavorable

Efficiency variance:
\$15.00(3,800 – 4,000) = \$3,000 favorable

Flexible budget variance:
\$4,180 – \$3,000 = \$1,180 unfavorable
Flexible Budget Variances
for Materials and Labor
Flexible budget variance for materials \$ 250 U
Flexible budget variance for labor      1,180 U
Total variances                        \$1,430 U

Total flexible budget variance        \$3,250 U
Materials and labor variances          1,430 U
Flexible budget overhead variances    \$1,820 U
Objective 5

Analyze Manufacturing
in a Standard Cost System.
Variances
• The flexible budget variance for manufacturing
overhead shows whether managers are keeping
total overhead costs within the budgeted amount
for the actual production of the period.
• The production volume variance arises when
actual production differs from the level in the
static budget.
Production
• Oasis Pools allocates manufacturing
overhead to production based on standard
direct labor hours for the actual number of
outputs.
• The static budget, which is based on
expected output of 8 pools, is known at the
beginning of the period.
Production
Standards
Variable overhead cost was \$800 per pool.
Standard hours per pool were 400.
Actual Results (10 pools were built)
Actual hours were 3,800, fixed overhead was
\$14,000, and total overhead was \$21,820.
Production
• In a standard cost system, manufacturing
overhead is allocated to production based
• Most companies base their predetermined
overhead rates on amounts from the static
(master) budget which is known at the
beginning of the year.
Production
Oasis Pools
Budget Data for the Month Ended May 30, 2005
Budget type                  Static   Flexible
Pools                           8         10
Standard direct labor hours 3,200        4,000
Variable              \$ 6,400    \$ 8,000
Fixed                     12,000     12,000
Total                      \$18,400    \$20,000
Production

Standard variable overhead rate per hour:
\$6,400 ÷ 3,200 = \$2.00

Standard fixed overhead rate per hour:
\$12,000 ÷ 3,200 = \$3.75
Total Manufacturing
…is the amount of underallocated or
• This is the difference between actual
Total Manufacturing
is allocated to production?

4,000 × \$2.00              \$ 8,000 variable
4,000 × \$3.75               15,000 fixed
Total                      \$23,000

\$23,000 – \$21,820 = \$1,180 favorable
Total Manufacturing
• The total manufacturing overhead variance is
split into the manufacturing flexible budget
variance and the production volume variance.
• Flexible budget overhead for actual production
= \$12,000 + (4,000 × \$2) = \$20,000.
Variance
Oasis Pools – a comparison of actual results with
the flexible budget overhead for actual production:
Actual Results Flexible Budget Variance
Pools              10          10
Variable     \$ 7,820 \$ 8,000 \$ 180 F
Fixed            14,000      12,000 \$2,000 U
Total           \$21,820 \$20,000 \$1,820 U
Overhead flexible variance is \$1,820 unfavorable.
• Actual cost incurred:
(Actual inputs × Actual price) = \$7,820
• Standard cost of actual inputs:
(Actual inputs × Standard price) = \$7,600
• Flexible budget:
(Standard inputs × Standard price) =
\$8,000
Production Volume Variance...
– is the difference between the overhead cost
in the flexible budget for actual production
and the standard overhead allocated to
production.
• 4,000 × \$3.75 = \$15,000 allocated
• How much is the volume variance?
• \$12,000 – \$15,000 = \$3,000 favorable
volume variance

Flexible budget variance       \$1,820 U
Volume variance            3,000 F
Total                          \$1,180 F
Flexible Budget Variance

Flexible budget variance: \$3,250 U
Materials                        \$ 250 U
Labor                             1,180 U
Flexible budget for overhead      1,820 U
Total                            \$3,250 U
Total Variances
• Why was actual income \$3,250 less than
the flexible budget for 10 pools?
• Variable costs exceeded the flexible budget
by \$1,250 and actual fixed costs exceeded
the static budget by \$2,000.
Objective 6

Record Transactions at
Standard Cost and Prepare a
Standard Cost Income
Statement.
Standard Costs in the Accounts

What is the entry to record the purchase
of 12,000 cubic feet of materials (actual
price paid was \$3.00 per cubic foot and
the standard being \$3.575/cubic foot)?
Materials Inventory                  42,900
Direct Materials Price Variance             6,900
Accounts Payable                            36,000

To record purchases of direct materials
Standard Costs in the Accounts
What is the entry to record the transfer of
12,000 actual cubic feet of materials to
work in process inventory?
Work in Process Inventory        35,750*
Direct Materials
Efficiency Variance               7,150
Materials Inventory                                42,900

To record use of materials
*10,000 standard cubic feet × \$3.575 standard price
Standard Costs in the Accounts
• Notice that in these entries, the direct
materials price variance is recorded at the
time of purchase.
• An unfavorable variance has a debit
balance which increases the expense.
• A favorable variance has a credit balance
in the accounts and is a reduction in
expenses.
Standard Costs in the Accounts

Accounts Payable,
Accumulated Depreciation,
and Other accounts                       21,820

To record actual overhead costs incurred
Standard Costs in the Accounts

What is the entry to record allocated
Work in Process Inventory        23,000
Other Entries

Finished Goods Inventory      118,750
Work in Process Inventory          118,750
To record completion of 10 pools

Cost of Goods Sold          118,750
Finished Goods Inventory         118,750
To record sale of 10 pools
Closing Variances

Unfavorable Variances
Materials efficiency \$ 7,150
Labor rate             4,180
Flexible budget        1,820
Total                \$13,150 Favorable Variances
Materials price    \$ 6,900
Labor efficiency      3,000
Production volume     3,000
Total              \$12,900
Closing Variances

\$13,150 unfavorable – \$12,900 favorable
= \$250 unfavorable

Income Summary                 250
Net Variance                      250
To close various variances

This entry increases the cost of goods sold.
Standard Cost Income
Statement for Management
Standard Costing
Revenues                \$150,000
Cost of goods sold       118,750
Actual Costing
Revenues                \$150,000
Cost of goods sold       119,000