Accounting 261 Ch. 7 & 8

Favorable Labor Rate Variance

Actual average wage is less than the standard wage

Unfavorable Labor Rate Variance

Actual average wage is more than the standard wage

Favorable Materials Price Variance

Actual price was less than the standard price

Unfavorable Materials Price Variance

Actual price was more than the standard price

Quantity Variance (Standard Cost Variance Analysis)

(SQ x SP) vs. (AQ x SP) The difference between how much of an input was actually used and how much should have been used and is stated in dollar terms using the standard price of the input.

Self-imposed budget (participative budget)

- A budget that is prepared with the full cooperation and participation of managers at all levels, which is a useful approach if the budget is used to evaluate managerial performance. - Should be reviewed by higher levels of management. Without such a review, they may have too much "budgetary slack," or may not be aligned with overall strategic objectives. - Most companies do not rely exclusively upon these budgets in the sense that top managers usually initiate the budget process by issuing broad guidelines in terms of overall target profits or sales. - Lower level managers are directed to prepare budgets that meet those targets.

Budgeted Balance Sheet

- Cash is taken from the ending cash balance of the cash budget - RM inventory is calculated by multiplying end inv. of RM by cost per unit. - Finshed goods inventory is taken from the ending finished goods inventory budget - Ending retained earnings is calculated by adding net income to the beginning retained earning and then subtracting dividends

Direct Labor budget

- DL hours required to satisfy production budget - Reduces risk of labor shortages or lay-offs

Manufacturing overhead budget

- DL hours required to satisfy production budget - Mixed costs (fixed + variable) - Deduct noncash depreciation charges from total budgeted MOH to determine expected cash disbursements

Production managers/supervisors can influence:

- Deployment of workers according to their skill level - Employee motivation within the department. - Quality of production supervision. - Quality of the training provided to the employees.

Responsibility Accounting

- Managers should be held responsible only for those items that they can control to a significant extent. - Enable organizations to react quickly to deviations from their plans and to learn from feedback obtained by comparing budgeted goals to actual results. (Penalizing individuals for missing targets is not the point.)

Choosing a budget period

- Operating budgets ordinarily cover a one-year period corresponding to a company's fiscal year. - Continuous or perpetual budget is a 12-month budget that rolls forward one month (or quarter) as the current month (or quarter) is completed. (Keeps managers focused on the future at least one year ahead).

DL Variances

- Partially controllable by employees within the Production Department, but not entirely controllable by one person or department. (Maintenance Department may do a poor job of maintaining production equipment. This may increase the processing time required per unit, thereby causing an unfavorable labor efficiency variance. Purchasing manager may purchase lower quality raw materials resulting in an unfavorable labor efficiency variance for the production manager.)

Planning Budget

- Prepared before the period begins - Valid for only the planned level of activity - When actual level of activity differs from what was planned, it would be misleading to evaluate performance by comparing actual costs to the static, unchanged planning budget.

DM Variances

- Purchasing manager held responsible for the Materials Price Variance - Production manager held responsible for the Materials Quantity Variance - Materials variances are not always entirely controllable by one person or department

Direct Materials Budget

- Quantifies the raw materials that must be purchased to fulfill the production budget and to provide for adequate inventories - Used when manufacturing inventory for sale - Prepared after production requirements have been computed

Problems with using Standard Cost Systems

- Reports are usually prepared on a monthly basis and amy contain outdated information - If variances are misused to negatively reinforce employees, morale may suffer and employees may make dysfunction decisions - Labor variances assumptions are often invalid in today's automated manufacturing environment where employees are essential a fixed cost, which include: 1. Production is labor-paced; if labor works faster, output will go up 2. Labor is a variable cost - In some cases a favorable variance can be as bad as or worse than an unfavorable variance - Excessive emphasis on meeting standards may overshadow other important objectives such as maintaining and improving quality, on-time delivery, and customer satisfaction - Just meeting standards may not be sufficient; continual improvement using techniques such as Six Sigma may be necessary to survive in a competitive environment/

Budgeted Income Statement

- Serves as a benchmark - Numbers for the budgeted income statement come from other budgets that have already been prepared: 1. Sales Revenue come from sales budget 2. COGS on a per unit basis comes from the ending finished goods inventory budget 3. Selling and Admin expenses come from the selling and admin expenses budget 4. Interest expense comes from the cash budget

Human factors in budgeting

- Top management must be enthusiastic and committed to the budgeting process; otherwise people will not take it seriously. -Top mgmt. shouldn't use the budget to pressure employees or blame them when something goes wrong, or it could lead to hostility and mistrust. -Highly achievable budget targets are usually preferred (rather than "stretch budget" targets) when managers are rewarded based on meeting budget targets.

Unfavorable Materials Quantity Variance

Actual quantity exceeds the standard quantity

Favorable Materials Quantity Variance

Actual quantity is less than the standard quantity

Advantages of Budgeting

1. Communicate management's plans throughout the organization. 2. Force managers to think about and plan for the future. 3. A means of allocating resources to those parts of the organization where they can be used most effectively. 4. Can uncover potential bottlenecks before they occur. 5. Coordinate the activities of the entire organization by integrating the plans of its various parts. 6. Define goals and objectives that can serve as benchmarks for evaluating subsequent performance

Advantage of self-imposed budgets

1. Individuals at all levels of the organization are viewed as members of the team whose judgments are valued by top management. 2. Budget estimates prepared by front-line managers (who have intimate knowledge of day-to-day operations) are often more accurate than estimates prepared by top managers. 3. Motivation is generally higher when individuals participate in setting their own goals than when the goals are imposed from above ("buy-in"). 4. A manager who is not able to meet a budget imposed from above can claim that it was unrealistic. Self-imposed budgets limit this excuse.

Selling and Administrative Expense Budget

1. Multiply the variable S, G & A rate by the number of units sold. 2. Add fixed S, G & A expenses to arrive at total S, G & A expenses. 3. Deduct noncash S, G & A expenses to arrive at cash disbursements for S, G & A expenses.

Variance Analysis Cycle Steps

1. Preparation of performance reports in the accounting department. - These reports highlight variances. 2. Significant variances are investigated to discover their root causes. 3. Corrective actions are taken. (Next period's operations are carried out and the process is repeated.)

Advantages of Standard Cost Systems

1. Standard costs are a key element of the management by exception approach, which helps managers focus their attention the most important issues 2. Standards that are viewed as reasonable by employees can serve as benchmarks that promote economy and efficiency 3. Standard costs can greatly simplify bookkeeping 4. Standard costs fit naturally into a responsibility accounting system

Unfavorable Labor Efficiency Variance

Actual quantity of hours exceeds the standard quantity

Favorable Labor Efficiency Variance

Actual quantity of hours is less than the standard quantity

Unfavorable Variable OH Efficiency Variance

Actual quantity of the activity is exceeds the standard quantity of the activity

Favorable Variable OH Efficiency Variance

Actual quantity of the activity is less than the standard quantity of the activity

Favorable Variable OH Rate Variance

Actual variable OH rate is less than the standard variable OH rate

Unfavorable Variable OH Rate Variance

Actual variable OH rate is more than the standard variable OH rate

Receipts

All cash inflows excluding cash received from financing

Disbursements

All cash payments excluding repayments of principal and interest

Standard Costs

A benchmark or norm for measuring performance. 2 Types: 1. Quantity standards 2. Price standards

Cash Budget

A detailed plan showing how cash resources will be acquired and used over a specified time period. - All of the operating budgets have an impact on this budget. Broken down into time periods that are as short as feasible. 4 major sections: 1.Receipts 2. Disbursements 3. Cash excess or deficiency 4. Financing

Variance Analysis and Management by Exception

All variances are not worth investigating. Methods for highlighting a subset of variances as exceptions include: - Looking at the size of the variance - Looking at the size of variance relative to the amount of spending

Price standard (MOH standards)

Comes from the variable portion of the predetermined OH rate.

Master Budget

Consists of a number of separate but interdependent budgets. 1. Sales Budget 2. Production Budget 3. Cash Budget 4. Prepare a budgeted income statement and a budgeted balance sheet

Standard Cost Card

Detailed listing of the standard amounts of DM, DL, and variable OH inputs that should of into a unit of product, multiplied by the standard price or rate that has been set for each input.

Budget

Detailed quantitative plan for acquiring and using financial and other resources over a specified forthcoming time period.

Financing

Details the borrowings and repayments projected to take place during the budget period

Price and quantity standards (Standard Cost Variance Analysis)

Determined separately because quantity and price variances usually have different causes. - The purchasing manager is responsible for RM purchase prices. - The production manager is responsible for the quantity of RM used. -Buying and using activities occur at different points in time. - RM purchases may be held in inventory for a period of time before being used in production.

Cash excess or deficiency

Determines if the company will need to borrow money or if it will be able to repay funds previously borrowed

Planning

Developing objectives and preparing various budgets to achieve those objectives

Spending variance

Difference between how much a cost should have been, given the actual level of activity, and the actual amount of the cost. (SH x SR) vs (AH x AR) - Standard costs per unit for DM, DL, and variable MOH can be used to compute this - Become more useful by breaking them down into price and quantity variances - Can be used to decompose a spending variance into its price and quantity components

Variable OH Efficiency Variance

Difference between the actual activity of a period and the standard activity allowed, multiplied by the variable part of the predetermined OH rate.

Labor Rate Variance

Difference between the actual average hourly wage paid and the standard hourly wage

Labor Efficiency Variance

Difference between the actual quantity of labor hours and the quantity allowed according to the standard

Variable OH Rate Variance

Difference between the actual variable OH costs incurred during the period and the standard cost that should have been incurred based on the actual activity of the period

Revenue variance

Difference between what the total should have been, given the actual level of activity for the period, and the actual total.

Flexible Budget

Estimate of what revenues and costs should have been, given the actual level of activity for the period (Actual x Standard) 1. May be prepared for any activity level in the relevant range. 2. Enable "apples to apples" cost comparisons. 3. Help managers control costs. 4. Help evaluate managerial performance. Variable costs change in direct proportion to changes in activity Total fixed costs remain unchanged within the relevant range.

Quantity standard (MOH standards)

Expressed in either DLH or machine hours depending on which is used as the allocation base in the predetermined OH rate.

Standard rate per hour (DL standards)

Includes wages earned, fringe benefits, and other labor costs. - May use a single rate for all employees within a department that reflects the mix of wage rates earned.

Good Budgeting Systems

Must provide planning and control. Good planning (otherwise time is wasted)

Production Budget

Prepared after the Sales Budget - Must be adequate to meet budgeted sales and to provide for the desired Ending Inventory. -Lists the # of units that must be produced during each budget period to meet sales needs and to provide for the desired ending inv. - Directly influences the DM, DL, and MOH budgets, which enable the preparation of the ending finished goods inventory budget.

Standard hours per unit (DL standards)

Reflects the labor hours required to complete one unit of the product. - Can be determined by using available references that estimate the time needed to perform a given task, or by relying on time and motion studies.

Actual Quantity

Represents the actual amount of DM, DL, and variable MOH used

Actual Price

Represents the actual amount paid for the input used

Standard Price

Represents the amount that should have been paid of the input used.

Standard Quantity

Represents the standard quantity allowed for the actual output of the period

Standard quantity per unit (DM standards)

Should reflect the amount of material required for each unit of finished product, as well as an allowance for unavoidable waste, spoilage, and other normal inefficiencies.

Standard price per unity (DM standards)

Should reflect the final, delivered cost of the materials

Merchandise Purchases Budget - Inventory purchases

Shows amount of goods to be purchased from supplier - Used when purchasing finished products for resale Budgeted COGS + Desired end inv. = Total Needs (Begin. inv.) = Required purchases

Sales Budget

Shows the expected sales for the budget period expressed in dollars and units. - Usually based on a company's sales forecast - All other parts of the master budget are dependent on this budget. - Multiples the budgeted sales in units for the period by the selling price per unit. - Schedule of expected cash collections is prepared after the sales budget, which includes collections made on credit sales in prior periods plus current period cash collections.

Quantity Standards

Specify how much of an input should be used to make a product or provide a service.

Price Standards

Specify how much should be paid for each unit of the input.

Control

Steps taken by management to increase the likelihood that objectives set down at the planning stage are attained and that all parts of the organization are working together toward that goal

Budgeting

The act of preparing a budget

Price Variance (Standard Cost Variance Analysis)

The difference between the actual price of an input and its standard price, multiplied by the actual amount of the input purchased.

Materials Quantity Variance

The difference between the quantity of materials used in production and the quantity that should have been used according to the standard. - Computed using the actual quantity in production

Material Price Variance

The difference between what is paid for a quantity of materials and what should have been paid according to the standard - Computed using the actual quantity purchased

Variances

The differences between actual results and what should have occurred according to the budget. Raise questions such as: Why did this occur? Why is this change larger than it was last period?

Budgetary Control

The use of budgets to control an organization's activities

Ending Finished Goods Inventory

Unit Product Cost x Ending Finished Goods Inventory = ?

Materials Variances

When the quantity of materials purchased differs from the quantity used in production, the quantity variance is based on the quantity used in production and the price variance is based on the quantity purchased