In: Accounting
Question 1
Cannes Inc. produces and sells a single product. The company uses standard costing for accounting purposes. The standard cost for the product is as follows:
Standard Cost Data |
Standard Cost Per Unit |
||
Direct material |
2 metres at $6.45 per metre |
$12.90 |
|
Direct labour |
1.4 |
DLH at $12 per DLH |
$16.80 |
Variable overhead |
1.4 |
DLH at $2.50 per DLH |
$3.50 |
Fixed overhead |
1.4 |
DLH at $6 per DLH |
$8.40 |
$41.60 |
|||
For the year just completed, the company manufactured 30,000 units of products during the year. 1,000 of the 30,000 units produced did not pass inspection at the end of the manufacturing process. However, the production manager decided to consider this as normal spoilage and included the costs as part of cost of good units produced. A total of 64,000 metre of material was purchased during the year at a cost of $6.55 per metre. All of this material was used to manufacture the 30,000 units. There is no beginning or ending inventories for the year. The company worked 43,500 direct labour hours (“DLH”) during the year at a direct labour cost of $11.80 per hour. Overhead is applied to products based on DLH. The data relating to manufacturing overhead costs is as follows:
Budgeted activity level |
35,000 units |
Budgeted fixed overhead costs |
$294,000 |
Actual variable overhead costs incurred |
$108,000 |
Actual fixed overhead costs incurred |
$311,800 |
Cannes Inc. has the policy of paying its staff a bonus if they meet the budgeted sales or cost targets. Cost targets are defined as cost variances that are within 5.0% of standard costs for the year.
At the year-end meeting, the production manager was eager to claim that the overall manufacturing cost variance is only 4.8% of the standard cost of products manufactured during the year, and that his staff should be in line for a bonus this year. The CEO, however, disagrees. By the CEO’s computation, summation of all manufacturing cost variances works out to be 8.1% of the total standard cost of products manufactured.
Required:
Question a. Material Price and Quantity Variances
The formula for calculating Material Price variance is (Actual Price (AP)- Standard price (SP)) * Actual Quantity (AQ)
In the question above,
AP= $6.55
SP= $6.45
AQ= 64,000
Hence Material Price Variance ($6.55-$6.45)*64,000 which is equal to = $6,400 (Adverse)
Formula for Material quantity variance = (AQ- Standard Quantity for actual production(SQ))*SP
In this question
AQ= 64,000
SQ= 30,000*2=60,000
SP=$6.45
Hence Material Quantity Variance (64,000-60,000 )*6.45 which is equal to = $25,800 (Adverse)
Question B Labour rate and efficiency variances
Formula for Labour Rate Efficiency Variance = (Actual Rate (AR)- Standard Rate (SR))* Actual Labour Hours (AH)
In this question:
AR=$11.80 per labour hour
SR=$12 per labour hour
AH= 43,500
Hence Labour Rate Variance = ($11.80-$12)*43,500= $8,700 (Favourable)
The formula for Labour efficiency variance =(AH- Standard hours for Actual output (SH))*SR
In this question
AH=43,500
SH= 30,000*1.4=42,000
SR=$12
Hence Labour efficiency variance= (43,500-42,000)*12= $18,000 (Adverse)
Question C Based on 30,000 units produced, compute (i) the variable manufacturing overhead spending and efficiency variances; and (ii) the fixed overhead budget and volume variances for the year.
Variable Overhead (Variable OH)
Actual Variable OH= 108,000
Actual Labour Hours= 43,500
Actual Rate of OH Per Labour Hour= 108,000/43,500= $2.482759
Standard Rate of OH per labour hour= $2.50
Variable OH rate variance formula = (Actual Rate of OH Per Labour Hour-Standard Rate of OH per labour hour)* Actual Labour hours
Substituting for values Variable OH rate variance formula = ($2.482759-$2.50)*43500= $750 (Favourable)
Actual Labour Hours = 43,500
Standard Labour hours for actual output= 30000*1.4= 42,000
Standard rate for Variable OH per labour hour= $2.50
Variable OH Efficiency variance= (Actual Labour Hours-Standard Labour hours for actual output)*Standard rate for Variable OH per labour hour
Substituting values Variable OH Efficiency variance= (43,500-42,000)*$2.50= $3,750 (Adverse)
Fixed Overheads (Fixed OH) variance
Fixed OH Budget variance (aka Fixed OH Spend variance) = Actual Fixed OH- Budget fixed OH
Actual Fixed OH= $311,800
Budget fixed OH= 35,000 (Budgeted units)* $8.40 (Standard rate per unit budgeted)= $294,000
Hence Fixed OH Budget variance = $311,800- $294,000= $17,800 (Adverse)
Fixed Overhead volume variance = Budget fixed OH- Standard Fixed OH applied
Budgeted fixed OH= $294,000
Standard Fixed OH applied = (Standard Rate* Standard input for actual output) = $8.40* 30,000= 252,000
Hence Fixed Overhead volume variance = $294,000-$252,000= $42,000 (Adverse)
Question D Journal entries
Variance | Accounts | DR $ | CR $ |
Material Price Variance | Dr. Raw material Inventory (64,000*6.45) | 412,800 | |
Dr. Raw Material Price variance (Adverse) | 6,400 | ||
Cr. Accounts Payable (64,000*6.55) | 419,200 | ||
Material Qty variance | Dr. Work in Progress (60,000*$6.45) | 387,000 | |
Dr. Material Volume variance (Adverse) | 25,800 | ||
Cr. Raw material inventory | 412,800 | ||
Labour variance | Dr. Work in progress (1.4*12*30,000) | 504,000 | |
Dr. Labour efficiency variance | 18,000 | ||
Cr. Labour rate variance (Favourable) | 8,700 | ||
Cr. Wages payable | 513,300 | ||
OH Variances | |||
Dr Fixed OH (Actual $) | 311,800 | ||
Dr Variable OH (Actual $) | 108,000 | ||
Cr. Various accounts (like Rent salary etc.) | 419,800 | ||
Dr. WIP (OH applied at Std rate and qty) | 357,000 | ||
Cr. Fixed OH (1.4* 6*30,000) | 252,000 | ||
Cr. Variable OH (1.4*30,000*2.5) | 105,000 |
At this stage the total under applied variance is $62,800 of which $3,000 is representing Variable OH and $59,800 represent Fixed OH. These need to be moved to Cost of goods sold. These are in turn split as:
Under-applied Variable OH | $ |
Variable OH Efficiency variance (Adverse) | 3,750 |
Variable OH Rate variance (Favourable) | (750) |
Total Variable OH Under-applied | 3,000 |
Under-applied Fixed OH | $ |
Fixed OH Budget variance | 17,800 |
Fixed OH Volume variance | 42,000 |
Total Variable OH Under-applied | 59,800 |
Question E
Explain, by showing clear computations, how the production manager and CEO came up with their respective cost variance percentages of 4.8% and 8.1%. In addition, explain (with clear supporting computations) if you recommend that bonuses be paid for achievement of cost targets at Cannes Inc. this year.
Standard cost per unit=41.60
Total standard cost =30,000*41.60 = $1,248,000
Actual Cost incurred
Actual Cost | $ |
Material (64,000*$6.55) | 419,200 |
Labour (43,500*$11.8) | 513,300 |
Variable OH | 108,000 |
Fixed OH | 311,800 |
Total | 1,352,300 |
Production Manager calculation
Total Cost = 1,352,300
Less Fixed OH Variance =59,800
Cost (excluding Fixed OH variance)= 1,292,500
Variance to Budget =4%
MD Calculation
Total Cost= 1,352,300
Budget=1,248,000
Variance to budget =8%
In terms of budget, it makes sense to consider all cost in terms of determining bonus. Hence no bonus is required to be paid for the year.