Question

The Burlington plant of Consumer Cosmetics is responsible for manufacturing all the lip gloss products that the company manufactures. In 2015 the plant had the following budgeted and actual costs.

		2015				2015
		Budget				Actual
Raw materials		$   100,000		10.0%		$   110,000		10.2%
Direct labour		250,000		25.0%		275,000		25.6%
Manufacturing overhead		400,000		40.0%		440,000		41.0%
Distribution costs		100,000		10.0%		110,000		10.2%
Administration		150,000		15.0%		140,000		13.0%
Total		$1,000,000		100.0%		$1,075,000		100.0%
Production units		850 kg				935 kg

Required

(a)      Head Office is complaining about cost over-runs. It says that all the manufacturing costs are higher than the budget in both $ and %. As manager of the plant, how would you respond to justify your position?

(b)     Ignoring price changes, etc., if you were told that the quantity to be manufactured in 2016 would be 1,000 kg, prepare the budget for 2016.

Answer 1

a. The planning budget is prepared for a production level of 850 kgs, while actual production acheived was 935 kgs. Therefore the comparison results in a distorted picture. The most sensible way to evaluate actual manufacturing performance would be to compare it against a flexible budget for a production level of 935 kgs.

Flexible Budget Performance Report
	Actual Results	Spending Variances	Flexible Budget	Volume Variances	Planning Budget
Production Level	935		935		850
Manufacturing costs
Raw materials	$ 110,000	$ 0	$ 110,000*	$ 10,000 U	$ 100,000
Direct labor	275,000	0	275,000	25,000 U	250,000
Manufacturing overhead	440,000	0	440,000	40,000 U	400,000
Distribution costs	110,000	0	110,000	10,000 U	100,000
Administration costs	140,000	10,000 F	150,000	0	150,000
Total	1,075,000	10,000 F	1,085,000	85,000 U	1,000,000

* $ 100,000 x 935 / 850 = $ 110,000

Contrary to the contention of the management that there were cost overruns, total cost as per actual results was $ 10,000 less than the total cost as per the flexible budget.

b.

Budget for 2016
Production level	1,000 kgs
Costs
Raw materials ( $ 100,000 x 1,000 / 850 )	$ 117,647.05
Direct labor ( $ 250,000 x 1,000 / 850)	294,117.65
Manufacturing overhead ( $ 400,000 x 1,000 / 850)	470,588.24
Distribution costs ( $ 100,000 x 1,000 / 850 )	117,647.06
Administration Cost	150,000
Total costs	$ 1,150,000