In: Accounting
Manila Company manufactures ceramic vases . To complete a vase, Manila requires the following input: Direct material standard 5 pounds at $1.50 pound Direct labor standard 0.5 hours at $6.40 per hour Budgeted fixed cost per quarter is $33,000 . Budgeted selling price $32.10 . During the year of 2019 the company budgeted to produce and sell $2,200 vases. Actual information for 2019 is provided below: Number of vases made and sold 2,090 Selling price $33.71 Direct materials used in production 10,032 pounds Direct labor used in production 993 hours Total cost of DM used $18,810 Total cost of direct labor $8,026 Fixed cost incurred $31,350
Requirements Assuming that direct labor and direct materials are the only variable costs in the company:
1 Prepare a static budget for 2019.
2 Prepare a flexible budget for 2019.
3 Compute direct material efficiency variance and direct material price variance, total direct material variance, and indicate whether each variance as favorable or unfavorable. Comment on findings.
1)
Static budget for 2019
Particulars |
Amount |
Amount |
Budgeted units to be sold |
2200 vases |
|
Sales |
2200 vases * $32.10 per vase |
$70620 |
Less: Variable expenses |
||
Direct material |
2200 vases* 5 pounds* $1.5 |
$16500 |
Direct labor |
2200 vases* 0.5 hours * $6.40 |
$7040 |
Total variable costs |
($23540) |
|
Contribution margin |
$70620- $23540 |
$47080 |
Less: Fixed costs |
($33000) |
|
Budgeted operating profit |
$47080- $33000 |
$14080 |
2)
Flexible budget for 2019
Particulars |
Amount |
Amount |
Actual units sold |
2090 vases |
|
Sales |
2090 vases * $32.10 per vase |
$67089 |
Less: Variable expenses |
||
Direct material |
2090 vases* 5 pounds* $1.5 |
$15675 |
Direct labor |
2090 vases* 0.5 hours * $6.40 |
$6688 |
Total variable costs |
($22363) |
|
Contribution margin |
$67089- $22363 |
$44726 |
Less: Fixed costs (will be same as budgeted, will be fixed for a relevant range of production) |
($33000) |
|
Operating profit |
$44726- $33000 |
$11726 |
Assuming that fixed costs are for an year and it is wrongly given that it is for a quarter.
3)
Actual quantity of direct material used (AQ)= 10032 pounds
Actual price for direct material (AP)= Total cost for direct material/ Total quantity used
= $18810/ 10032 pounds= $1.875 per pound
Standard quantity of material required for actual production (SQ)
= Actual quantity produced* Standard quantity required per unit
= 2090 vases* 5 pounds per unit= 10450 pounds
Standard price (SP) = $1.50 per pound
Direct material efficiency (Usage) Variance= (AQ- SQ) * SP
= (10032- 10450) * 1.5= $627 Favorable
Variance is favorable because actual usage is lower than standard quantity allowed. This may be due to company used high cost material with higher quality. Because price variance is unfavorable.
Direct material price variance= (AP- SP) * AQ
= (1.875- 1.50) * 10032= $3762 Unfavorable
Price variance is unfavorable due to usage of material with higher price compared to the standard rate. This may be due to company used high cost material with higher quality
Total direct material variance= (AQ* AP) – (SQ* SP)
= (10032* 1.875) – (10450* 1.50) = 18810- 15675= $3135 Unfavorable
Or
Direct material efficiency (Usage) Variance+ Direct material price variance
= $627 Favorable+ $3762 Unfavorable= $3135 Unfavorable
The increase in actual rate overcoming the decrease in the usage of material compared to standard. That’s why the total direct material variance is unfavorable. Material usage variance generating lower favorable variance comparing to the unfavorable variance of price.