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Chapter 23 Flexible Budgets and Standard Cost Systems

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Chapter 23 Flexible Budgets and Standard Cost Systems Chapter 23 Flexible Budgets and Standard Cost Systems Review Questions 1. What is a variance? A variance is the difference between an actual amount and the budgeted amount. 2. Explain the difference between a favorable and an unfavorable variance. A variance is favorable if it increases operating income. For example, if actual revenue is greater than budgeted revenue or if actual expense is less than budgeted expense, then the variance is favorable. If the variance decreases operating income, the variance is unfavorable. For example, if actual revenue is less than budgeted revenue or if actual expense is greater than budgeted expense, the variance is unfavorable. 3. What is a static budget performance report? A static budget is a budget prepared for only one level of sales volume. A static budget performance report compares actual results to the expected results in the static budget and reports the differences (static budget variances). 4. How do flexible budgets differ from static budgets? A flexible budget is a budget prepared for various levels of sales volume within a relevant range. A static budget is prepared for only one level of sales volume—the expected number of units sold— and it doesn’t change after it is developed. 5. How is a flexible budget used? Because a flexible budget is prepared for various levels of sales volume within a relevant range, it provides the basis for preparing the flexible budget performance report and understanding the two components of the overall static budget variance (a static budget is prepared for only one level of sales volume, and a static budget performance report shows only the overall static budget variance). 6. What are the two components of the static budget variance? How are they calculated? The overall static budget variance is the difference between actual operating income, based on the number of units actually sold, and the expected operating income in the static budget, based on the number of units expected to be sold. The two components of the overall static budget variance are the flexible budget variance and the sales volume variance. The flexible budget variance is the difference between actual operating income for the number of units actually sold and expected operating income in the flexible budget for the number of units actually sold. The individual flexible budget variances arise when the actual sales price per unit, variable cost per unit, and/or total fixed costs differ from those expected for the number of units actually sold. © 2018 Pearson Education, Inc. 23-1 The sales volume variance is the difference between expected operating income in the flexible budget for the number of units actually sold and expected operating income in the static budget based on the number of units expected to be sold. The sales volume variance and the individual volume variances for sales revenue, variable costs, and contribution margin arise only when the number of units actually sold differs from the number of units expected in the static budget. 7. What is a flexible budget performance report? A flexible budget performance report compares actual results to the expected results in the flexible budget for the number of units actually sold and compares the expected results in the flexible budget for the number of units actually sold to the expected results in the static budget based on the number of units expected to be sold. By so doing, a flexible budget performance report provides information for managers to understand the underlying causes of variances: (1) flexible budget variances that arise when the actual sales price per unit, variable cost per unit, and/or total fixed costs differ from those expected for the number of units actually sold, and (2) sales volume variances that arise only when the number of units actually sold differs from the number of units expected in the static budget. 8. What is a standard cost system? A standard cost system is an accounting system that uses standards for product costs—direct materials, direct labor, and manufacturing overhead. (A standard is a price, cost, or quantity that is expected under normal conditions.) 9. Explain the difference between a cost standard and an efficiency standard. Give an example of each. Each input (direct materials, direct labor, and manufacturing overhead) that goes into making a product has both a cost standard and an efficiency standard. A cost standard is the expected cost of each input and an efficiency standard is the expected quantity of each input to be put into the manufacturing process. For example, the cost standard for direct materials starts with the expected base purchase cost of each unit of materials then factors in expected purchase discounts, freight-in, and receiving costs. The efficiency standard for direct materials is the quantity of direct materials that should be used in the manufacturing process if employees are working efficiently without wasting materials. 10. Give the general formulas for determining cost and efficiency variances. The cost variance is the difference in costs (actual cost per unit minus standard cost per unit) of an input, multiplied by the actual quantity used of the input. The efficiency variance is the difference in quantities (actual quantity of input used minus standard quantity of input allowed for the actual number of units produced), multiplied by the standard cost per unit of the input. 11. How does the static budget affect cost and efficiency variances? A static budget is a budget prepared for only one level of sales volume—the number of units expected to be sold—and it doesn’t change after it is developed. The overall static budget variance shown on a static budget performance report is the difference between actual operating income, based on the number of units actually sold, and the expected operating income in the static budget, © 2018 Pearson Education, Inc. 23-2 based on the number of units expected to be sold. The report does not provide information about the two components of the overall static budget variance—the flexible budget variance and the sales volume variance. Cost and efficiency variances are components of flexible budget variances and are based on differences between actual results for the number of units actually sold and expected results for the number of units actually sold. Thus a static budget doesn’t provide the information required to understand cost and efficiency variances. 12. List the direct materials variances, and briefly describe each. The direct materials variances are the direct materials cost variance and the direct materials efficiency variance. The direct materials cost variance measures how well the company keeps the actual direct materials cost per unit within standard. A direct materials cost variance is favorable (unfavorable) if the actual direct materials cost per unit is less (greater) than the standard direct materials cost per unit. The direct materials efficiency variance measures how well the company keeps the actual usage of direct materials within standard. A direct materials efficiency variance is favorable (unfavorable) if the total quantity of direct materials actually used is less (greater) than the total standard allowed to manufacture the actual total quantity of units. 13. List the direct labor variances, and briefly describe each. The direct labor variances are the direct labor cost variance and the direct labor efficiency variance. The direct labor cost variance measures how well the company keeps direct labor cost per hour within standard. A direct labor cost variance is favorable (unfavorable) if the actual direct labor cost per hour is less (greater) than the standard direct labor cost per hour. The direct labor efficiency variance measures how well the company keeps the actual usage of direct labor hours within standard. A direct labor efficiency variance is favorable (unfavorable) if the total number of direct labor hours actually used is less (greater) than the total standard allowed to manufacture the actual total quantity of units. 14. List the variable overhead variances, and briefly describe each. The variable overhead variances are the variable overhead cost variance and the variable overhead efficiency variance. The variable overhead cost variance measures how well the company keeps variable overhead cost per unit within standard. A variable overhead cost variance is favorable (unfavorable) if the actual variable cost per unit is less (greater) than the standard variable overhead cost per unit. The variable overhead efficiency variance measures how well the company keeps actual usage of the allocation base for variable overhead within standard. A variable overhead efficiency variance is favorable (unfavorable) if the total quantity of the allocation base actually used is less (greater) than the total standard allowed to manufacture the actual total quantity of units. © 2018 Pearson Education, Inc. 23-3 15. List the fixed overhead variances, and briefly describe each. The fixed overhead variances are the fixed overhead cost variance and the fixed overhead volume variance. The fixed overhead cost variance measures how well the company keeps total fixed overhead cost within standards. A fixed overhead cost variance is favorable (unfavorable) if the actual total fixed overhead cost is less (greater) than the budgeted total fixed overhead cost. The fixed overhead volume variance is not a cost variance. It is a volume variance and explains why fixed overhead is overallocated or underallocated. A fixed overhead volume variance is favorable (unfavorable) if the number of units actually manufactured is greater (less) than the number of units budgeted. A favorable (unfavorable) fixed overhead volume variance indicates that total fixed overhead cost allocated to units manufactured was greater (less) than the total budgeted fixed overhead cost. 16. How is the fixed overhead volume variance different from the other variances? The fixed overhead volume variance is not a flexible budget variance (whereas the fixed overhead cost variance and the cost and efficiency variances for variable manufacturing inputs are).
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