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# ACCT 2302 Fundamentals of Accounting II Spring 2011 Lecture 14 Professor Jeff Yu - PowerPoint PPT Presentation

ACCT 2302 Fundamentals of Accounting II Spring 2011 Lecture 14 Professor Jeff Yu. Review: Flexible Budget. Flexible budget is prepared based on the actual activity level and is used for performance evaluation ( control ) purpose.

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Fundamentals of Accounting II

Spring 2011

Lecture 14

Professor Jeff Yu

Flexible budgetis prepared based on the actual activity level and is used for performance evaluation (control) purpose.

Activity Variance = Flexible budget amount – planning (static) budget amount

Spending Variance = Actual cost – flexible budget cost

Spending variance is unfavorable if positive, favorable if negative;

Spending variance captures the efficiency of cost control.

Revenue Variance = Actual revenue – flexible budget revenue

Revenue variance is favorable if positive, unfavorable if negative;

• Standard vs. Budget:

• A budget is set for total costs;

• A standard is set for per unit cost;

• Quantity standardsare set for each unit of production

(How much units of input are needed for each unit of output?)

SQ = standard quantity of materials allowed for the actual output

SH = standard hours allowed for the actual output

Price standards are set for each unit of input

(How much should be paid for each unit of input?)

Standard Price (SP) for materials

Standard Rate (SR) for labor and overhead

AQ(AP - SP)

Labor/VOH Rate Variance

AH(AR – SR)

Materials Quantity Variance

SP(AQ - SQ)

Labor/VOH Efficiency Variance

SR(AH – SH)

Review: Variance Analysis

AP (AR)= Actual Price (Actual Rate): the amount actually paid for

each unit of the materials (labor or VOH).

SP (SR)= Standard Price (Standard Rate): the amount that should

Have been paid for each unit of the materials (labor or VOH).

AQ (AH)= Actual Quantity (Actual Hour): the amount of materials

(labor or VOH activity) actually used in the production.

SQ (SH)= Standard Quantity (Stan. Hour) allowed for the actual output

= actualproductionin units * standard quantity (hours) per unit

When material purchased ≠ material used

• To compute the PRICE variance, use the total quantity of raw materials PURCHASED.

• To compute the QUANTITY Variance, use only the quantity of raw materials USED.

Example: Labor Variances

Bella has the following direct labor standard to manufacture one Zippy: 1.5 standard hours per Zippy at \$6.00 per direct labor hour.

Last week 1,550 direct labor hours were worked at a total labor cost of \$9,610 to make 1,000 Zippies.

Q: (1)What was Bella’s actual rate for labor for the week?

(2) What was Bella’s labor rate variance for the week?

(3) What is the standard hours of labor that should have been worked to produce 1,000 Zippies?

(4)What was Bella’s labor efficiency variance for the week?

Mix of skill levelsassigned to work tasks.

Level of employee motivation.

Quality of production supervision.

Production Manager

Quality of training provided to employees.

Responsibility for Labor Variances

Production managers areusually held accountablefor labor variancesbecause they caninfluence the:

Osborne Co. has the following DL standards to produce each unit of horn: 5 direct labor hours at \$20 per hour. In May, the actual hourly rate for direct labor is \$22, with the labor variances reported below:

Labor rate variance \$30,400 U

Labor efficiency variance \$4,000 U

Q: How many horns did Osborne Co. produce in May?

Practice Problem: Labor Variances

Foster Inc.’s direct labor standard for each unit of product is 3 hours at \$8 per hour. In April, total direct labor cost of \$240,000 was paid to make 10,000 units of product. Labor rate variance is \$16,000 F.

Q: What is Foster Inc.’s labor efficiency variance in April?

Example: Variable OH Variances

Cola Co’s Variable OH is applied based on machine hours. The standard allows for 3,200 machine hours for the actual production in March. In March, actual machine hours worked were 3,300, actual variable OH incurred was \$6,740, and the variable OH efficiency variance was \$200 U.

Q: What is the amount of variable OH rate variance?

Learning Objectives

• Understand performance evaluation tools for cost center, profit center and investment center

• Prepare a segmented income statement

• Compute ROI and Residual Income

• Understand the pros and cons of performance evaluation using ROI, Residual Income and the Balanced Scorecard.

Quick Mart

A Sales Territory

A Service Center

Decentralization and Segments

Asegmentis any part or activity of an organization about which a manager seeks cost, revenue, or profit data. A segment can be . . .

Evaluating Managers’ Performance

Evaluation Tool

Cost Center

(controlscosts only)

Flexible Budget Variances;

Standard Cost Variances

Profit Center

(controls costs & revenues)

Segmented

Income Statement

(Segment Margin)

Investment Center

(controls costs & revenues

& Investments)

Return on Investment (ROI);

Residual Income

There are two keys to building segmented income statements:

A contribution format should be used because it separates fixed from variable costs and it enables the calculation of a contribution margin.

Traceable fixed costs should be separated from common fixed costs to enable the calculation of a segment margin.

No computer division

manager.

Identifying Traceable Fixed Costs

Traceable fixed costsarise because of the existence of a particular segment and would disappearif the segment itself disappeared.

division but . . .

We still have a

company president.

Identifying Common Fixed Costs

Common fixed costsarise because of the overall operation of the company and would not disappear if any particular segment was eliminated.

Sales

- Variable Expenses

Contribution Margin

- Traceable Fixed costs

Segment Margin

• Do NOT subtract Common fixed costs!!

• Segment margin is a valuable tool for performance evaluation and is also useful in decisions such as dropping or retaining a segment.

Segment reporting uses the contribution format.

Contribution margin

is computed by taking sales minus variable costs.

Segment margin is

Television Division’s

contribution

to profits.

Common fixed costs should not be allocated to the divisions. These costs would remain even if one of the divisions were eliminated.

In the above reports, staff of the law firm FDS allocated common fixed expenses the two segments proportionally based on their revenues.

Q: (1) Would the firm be better off financially if family law division were dropped? Prepare segmented income statements to support your answer.

(2) Managers propose that an ad campaign costing \$20,000 will increase family law revenue by \$100,000. If other expenses and revenues remain constant, how would this proposal affect the family law segment margin and the firm’s overall NOI?

Bolvine Co. had a net loss of \$10,000 in May. The CEO asked for a segmented monthly income statement to isolate the problem.

Q: (1) Prepare a segmented income statement by divisions.

(2) What is the amount of common fixed costs for the company?

(3)The manager of Division B proposes that an increase of \$20,000 in the division’s monthly advertising costs will increase Division B sales by 10%. If this plan is adopted, what would be the new segment margin for Division B?

• Continue on Chapter 12

• Cover ROI, RI and the Balanced Scorecard

Xavier Co. applies MOH based on direct labor hours. The standard costs for one unit of product are as follows:

Direct Material: 6 ounces at \$0.50 per ounce

Direct Labor: 1.8 hours at \$10 per hour

Variable MOH: 1.8 hours at \$5 per hour

2,000 units were produced in June with the following cost data:

Material purchased: 18,000 ounces at \$0.6 per ounce

Material used in production: 14,000 ounces

Direct labor: 4,000 hours at \$9.75 per hour

Variable MOH cost: \$20,800

Q: Compute materials, labor and VOH variances.

Q: (1) Store B Sales will increase by \$30,000 if its advertising costs increase by \$7,000. How would store B’s segment margin change?

(2) Managers propose that an increase of \$8,000 in traceable fixed costs will lower variable expense ratio in Store A to 62%. If sales and everything else remain constant, how would this proposal affect overall company’s NOI?