6-21 Sales budget, service setting.

In 2017, Hart & Sons, a small environmental-testing firm,

performed 11,400 radon tests for $260 each and 15,000 lead tests for $210 each. Because newer
homes are being built with lead-free pipes, lead-testing volume is expected to decrease by 12%
next year. However, awareness of radon-related health hazards is expected to result in a 5%
increase in radon-test volume each year in the near future. Jim Hart feels that if he lowers his
price for lead testing to $200 per test, he will have to face only a 4% decline in lead-test sales in
2018.

Required:
1. Prepare a 2018 sales budget for Hart & Sons assuming that Hart holds prices at 2017 levels.
2. Prepare a 2018 sales budget for Hart & Sons assuming that Hart lowers the price of a lead test
to $200. Should Hart lower the price of a lead test in 2018 if the company’s goal is to
maximize sales revenue?

SOLUTION

(15 min.) Sales budget, service setting.

1.
Expected 2018
2017 At 2017 Expected 2018
Hart & Sons Volume Selling Prices Change in Volume Volume
Radon Tests 11,400 $260 + 5% 11,970
Lead Tests 15,000 $210 –12% 13,200

Hart & Sons Sales Budget

For the Year Ended December 31, 2018

Selling Units Total

Price Sold Revenues
Radon Tests $260 11,970 $3,112,200
Lead Tests $210 13,200 2,772,000
$5,884,200

2.
2017 Planned 2018 Expected 2018 Expected
Hart & Sons Volume Selling Prices Change in Volume 2018 Volume
Radon Tests 11,400 $260 +5% 11,970
Lead Tests 15,000 $200 –4% 14,400

Hart & Sons Sales Budget

For the Year Ended December 31, 2018

Sellin
g Total
Price Units Sold Revenues
Radon Tests $260 11,970 $3,112,200
Lead Tests $200 14,400 2,880,000

7-1
 $5,992,200

Expected revenues at the new 2018 prices are $5,992,200, which is higher than the expected
2018 revenues of $5,884,200 if the prices are unchanged. So, if the goal is to maximize sales
revenue and if Jim Hart’s forecasts are reliable, the company should lower its price for a lead test
in 2018.

6-22 Sales and production budget. The Coby Company expects sales in 2018 of 201,000
units of serving trays. Coby’s beginning inventory for 2018 is 13,000 trays, and its target ending
inventory is 29,000 trays. Compute the number of trays budgeted for production in 2018.

(5 min.) Sales and production budget.

Budgeted sales in units 201,000

Add target ending finished goods inventory 29,000
Total requirements 230,000
Deduct beginning finished goods inventory 13,000
Units to be produced 217,000

6-23 Direct material budget. Dawson Co. produces wine. The company expects to produce
2,535,000 two-liter bottles of Chablis in 2018. Dawson purchases empty glass bottles from an
outside vendor. Its target ending inventory of such bottles is 77,000; its beginning inventory is
54,000. For simplicity, ignore breakage. Compute the number of bottles to be purchased in 2018.

(5 min.) Direct materials purchases budget.

Direct materials to be used in production (bottles) 2,535,000

Add target ending direct materials inventory (bottles) 77,000
Total requirements (bottles) 2,612,000
Deduct beginning direct materials inventory (bottles) 54,000
Direct materials to be purchased (bottles) 2,558,000

6-24 Material purchases budget. The McGrath Company has prepared a sales budget of
42,000 finished units for a 3-month period. The company has an inventory of 13,000 units of
finished goods on hand at December 31 and has a target finished-goods inventory of 15,000
units at the end of the succeeding quarter.
It takes 3 gallons of direct materials to make one unit of finished product. The company has
an inventory of 61,000 gallons of direct materials at December 31 and has a target ending
inventory of 53,000 gallons at the end of the succeeding quarter. How many gallons of direct
materials should McGrath Company purchase during the 3 months ending March 31?

(10 min.) Budgeting material purchases.

Production Budget:
Finished Goods
(units)
Budgeted sales 42,000

7-2
 Add target ending finished goods inventory 15,000
Total requirements 57,000
Deduct beginning finished goods inventory 13,000
Units to be produced 44,000

Direct Materials Purchases Budget:

Direct Materials
(in gallons)
Direct materials needed for production (44,000  3) 132,000
Add target ending direct materials inventory 53,000
Total requirements 185,000
Deduct beginning direct materials inventory 61,000
Direct materials to be purchased 124,000

6-25 Revenues, production, and purchases budgets. The Yucatan Co. in Mexico has a
division that manufactures bicycles. Its budgeted sales for Model XG in 2018 are 95,000 units.
Yucatan’s target ending inventory is 7,000 units, and its beginning inventory is 11,000 units. The
company’s budgeted selling price to its distributors and dealers is 3,500 pesos per bicycle.
Yucatan buys all its wheels from an outside supplier. No defective wheels are accepted.
Yucatan’s needs for extra wheels for replacement parts are ordered by a separate division of the
company. The company’s target ending inventory is 14,000 wheels, and its beginning inventory
is 16,000 wheels. The budgeted purchase price is 400 pesos per wheel.

Required:
1. Compute the budgeted revenues in pesos.
2. Compute the number of bicycles that Yucatan should produce.
3. Compute the budgeted purchases of wheels in units and in pesos.
4. What actions can Yucatan’s managers take to reduce budgeted purchasing costs of wheels
assuming the same budgeted sales for Model XG?

SOLUTION

(15–20 min.) Revenues, production, and purchases budget.

1. 95,000 bicycles  3,500 pesos = 332,500,000 pesos

2. Budgeted sales (bicycles) 95,000

Add target ending finished goods inventory 7,000
Total requirements 102,000
Deduct beginning finished goods inventory 11,000
Units to be produced 91,000

3. Direct materials to be used in production,

91,000 × 2 (wheels) 182,000
Add target ending direct materials inventory 14,000

7-3
 Total requirements 196,000
Deduct beginning direct materials inventory 16,000
Direct materials to be purchased (wheels) 180,000
Cost per wheel in pesos × 400
Direct materials purchase cost in pesos 72,000,000

4. Nevertheless, Yucatan’s managers would want to check if the target ending inventory of
wheels (14,000) could be reduced even further. This would reduce budgeted purchasing costs
of wheels. That is, could the production process be streamlined and made more efficient to
reduce the need to hold more inventories?
Furthermore, Yucatan could help improve quality, efficiency, and productivity of its
wheels supplier to reduce the cost of manufacturing wheels and hence the price the supplier
charges Yucatan. Toyota routinely aids its suppliers in this way and also reduces costs
through better coordination between suppliers and the company.

6-26 Revenues and production budget. Saphire, Inc., bottles and distributes mineral water
from the company’s natural springs in northern Oregon. Saphire markets two products: 12-ounce
disposable plastic bottles and 1-gallon reusable plastic containers.

Required:
1. For 2018, Saphire marketing managers project monthly sales of 500,000 12-ounce bottles
and 130,000 1-gallon containers. Average selling prices are estimated at $0.30 per
12-ounce bottle and $1.60 per 1-gallon container. Prepare a revenues budget for Saphire,
Inc., for the year ending December 31, 2018.
2. Saphire begins 2018 with 980,000 12-ounce bottles in inventory. The vice president of
operations requests that 12-ounce bottles ending inventory on December 31, 2018, be no less
than 660,000 bottles. Based on sales projections as budgeted previously, what is the
minimum number of 12-ounce bottles Saphire must produce during 2018?
3. The VP of operations requests that ending inventory of 1-gallon containers on December 31,
2018, be 300,000 units. If the production budget calls for Saphire to produce 1,200,000
1-gallon containers during 2018, what is the beginning inventory of 1-gallon containers on
January 1, 2018?

SOLUTION

(30 min.) Revenues and production budget.

1.
Selling Units Total
Price Sold Revenues
12-ounce bottles $0.30 6,000,000a $1,800,000
1-gallon units 1.60 1,560,000b 2,496,000
$4,296,000
a
500,000 × 12 months = 6,000,000
b
130,000 × 12 months = 1,560,000

7-4
2. Budgeted unit sales (12-ounce bottles) 6,000,000
Add target ending finished goods inventory 660,000
Total requirements 6,660,000
Deduct beginning finished goods inventory 980,000
Units to be produced 5,680,000

3.
Beginning = Budgeted + Target  Budgeted
inventory sales ending inventory production

= 1,560,000 + 300,000  1,200,000

= 660,000 1-gallon units

6-27 Budgeting; direct material usage, manufacturing cost, and gross margin. Xander
Manufacturing Company manufactures blue rugs, using wool and dye as direct materials. One
rug is budgeted to use 36 skeins of wool at a cost of $2 per skein and 0.8 gallons of dye at a cost
of $6 per gallon. All other materials are indirect. At the beginning of the year Xander has an
inventory of 458,000 skeins of wool at a cost of $961,800 and 4,000 gallons of dye at a cost of
$23,680. Target ending inventory of wool and dye is zero. Xander uses the FIFO inventory cost-
flow method.
Xander blue rugs are very popular and demand is high, but because of capacity constraints
the firm will produce only 200,000 blue rugs per year. The budgeted selling price is $2,000 each.
There are no rugs in beginning inventory. Target ending inventory of rugs is also zero.
Xander makes rugs by hand, but uses a machine to dye the wool. Thus, overhead costs are
accumulated in two cost pools—one for weaving and the other for dyeing. Weaving overhead is
allocated to products based on direct manufacturing labor-hours (DMLH). Dyeing overhead is
allocated to products based on machine-hours (MH).
There is no direct manufacturing labor cost for dyeing. Xander budgets 62 direct
manufacturing labor-hours to weave a rug at a budgeted rate of $13 per hour. It budgets 0.2
machine-hours to dye each skein in the dyeing process.
The following table presents the budgeted overhead costs for the dyeing and weaving cost
pools:

Required:

7-5
 1. Prepare a direct materials usage budget in both units and dollars.
2. Calculate the budgeted overhead allocation rates for weaving and dyeing.
3. Calculate the budgeted unit cost of a blue rug for the year.
4. Prepare a revenues budget for blue rugs for the year, assuming Xander sells (a) 200,000 or
(b) 185,000 blue rugs (that is, at two different sales levels).
5. Calculate the budgeted cost of goods sold for blue rugs under each sales assumption.
6. Find the budgeted gross margin for blue rugs under each sales assumption.
7. What actions might you take as a manager to improve profitability if sales drop to 185,000
blue rugs?
8. How might top management at Xander use the budget developed in requirements 1–6 to
better manage the company?

SOLUTION

(30 min.) Budgeting: direct material usage, manufacturing cost, and gross margin.

1.
Direct Material Usage Budget in Quantity and Dollars

Material
Wool Dye Total
Physical Units Budget
Direct materials required for
Blue Rugs (200,000 rugs × 36 skeins and 0.8 gal.) 7,200,000 skeins 160,000 gal.

Cost Budget
Available from beginning direct materials inventory:
(a)
Wool: 458,000 skeins $ 961,800
Dye: 4,000 gallons $ 23,680
To be purchased this period: (b)
Wool: (7,200,000 – 458,000) skeins × $2 per skein 13,484,000
Dye: (160,000 – 4,000) gal. × $6 per gal. 936,000
Direct materials to be used this period: (a) + (b) $14,445,800 $ 959,680$15,405,480

2.
= = $2.55 per DMLH
Weaving budgeted $31, 620, 000
overhead rate 12, 400, 000 DMLH

= = $12 per MH
Dyeing budgeted $17, 280, 000
overhead rate 1, 440, 000 MH

7-6
3.
Budgeted Unit Cost of Blue Rug

Input per
Cost per Unit of
Unit of Input Output Total
Wool $ 2 36 skeins $ 72.00
Dye 6 0.8 gal. 4.80
Direct manufacturing labor 13 62 hrs. 806.00
Dyeing overhead 12 7.21 mach-hrs. 86.40
Weaving overhead 2.55 62 DMLH 158.10
Total $1,127.30
1
0.2 machine hour per skein 36 skeins per rug = 7.2 machine-hrs. per rug.


4.
Revenue Budget

Selling
Units Price Total Revenues
Blue Rugs 200,000 $2,000 $400,000,000
Blue Rugs 185,000 $2,000 $370,000,000

5a.
Sales = 200,000 rugs
Cost of Goods Sold Budget

From Schedule Total

Beginning finished goods inventory $ 0
Direct materials used $ 15,405,480
Direct manufacturing labor ($806 × 200,000) 161,200,000
Dyeing overhead ($86.40 × 200,000) 17,280,000
Weaving overhead ($158.10 × 200,000) 31,620,000 225,505,480
Cost of goods available for sale 225,505,480
Deduct ending finished goods inventory 0
Cost of goods sold $225,505,480

5b.
Sales = 185,000 rugs
Production = 200,000 rugs
Cost of Goods Sold Budget

From Schedule Total

Beginning finished goods inventory $ 0
Direct materials used $ 15,405,480
Direct manufacturing labor ($806 × 200,000) 161,200,000

7-7
 Dyeing overhead ($86.40 × 200,000) 17,280,000
Weaving overhead ($158.10 × 200,000) 31,620,000 225,505,480
Cost of goods available for sale 225,505,480
Deduct ending finished goods inventory 16,909,500
($1,127.30 × 15,000)
Cost of goods sold $208,595,980

Some students assume that Xander will produce only 185,000 rugs to match 185,000 rugs that ar
expected to be sold and carry no finished good inventory of the rugs. In this case the Cost of
goods sold budget will be as follows. The Cost of Goods Sold budget is higher because the fixed
overhead costs in the dyeing and weaving cost pools do not get “inventoried” in the closing
inventory of rugs but are instead expensed in the current period.

Sales = 185,000 rugs

Cost of Goods Sold Budget for Producing 185,000 rugs

From Schedule Total

Beginning finished goods inventory $ 0
Direct materials useda $ 14,253,480
Direct manufacturing labor ($806 × 185,000) 149,110,000
Variable dyeing overhead ($70.55b × 185,000) 13,051,750
Fixed dyeing overheadc 3,170,000
Variable weaving overhead ($119.15d × 185,000) 22,042750
Fixed weaving overheade 7,790,000 209,417,980
Cost of goods available for sale 209,417,980
Deduct ending finished goods inventory 0
Cost of goods sold $209,417,980
a
[$961,800 + (185,000 rugs×36 skeins−458,000)×$2] + [$23,680 + (185,000 rugs×0.8 gallons−4,000)×$6]
b
Variable dyeing overhead cost per rug = ($6,560,000 + $7,550,000) ÷ 200,000 rugs = $70.55 per rug
c
Fixed dyeing overhead costs = $347,000 + $2,100,000 + $723,000 = $3,170,000
d
Variable weaving overhead cost per rug = ($15,400,000 + $5,540,000 + $2,890,000) ÷ 200,000 rugs = $119.15 per rug
e
Fixed weaving overhead costs = $1,700,000 + $274,000 + $5,816,000 = $7,790,000

6.
185,000 rugs sold 185,000 rugs sold
200,000 rugs sold 200,000 rugs produced 185,000 rugs produced
Revenue $400,000,000 $370,000,000 $370,000,000
Less: Cost of goods sold 225,505,480 208,595,980 209,417,980
Gross margin $174,494,520 $161,404,020 $160,582,020

7. If sales drop to 185,000 blue rugs, Xander should look to reduce fixed costs and produce
less to reduce variable costs and inventory costs.

8. Top management can look for ways to increase (stretch) sales and improve quality,
efficiency, and input prices to reduce costs in each cost category such as direct materials, direct
manufacturing labor, and overhead costs. Top management can also use the budget to coordinate
and communicate across different parts of the organization, create a framework for judging

7-8
performance and facilitating learning, and motivate managers and employees to achieve “stretch”
targets of higher revenues and lower costs.

6-29 Budgets for production and direct manufacturing labor. (CMA, adapted) DeWitt
Company makes and sells artistic frames for pictures of weddings, graduations, and other special
events. Ron Bahar, the controller, is responsible for preparing DeWitt’s master budget and has
accumulated the following information for 2018:

In addition to wages, direct manufacturing labor-related costs include pension contributions of

$0.40 per hour, worker’s compensation insurance of $0.10 per hour, employee medical insurance
of $0.50 per hour, and Social Security taxes. Assume that as of January 1, 2018, the Social
Security tax rates are 7.5% for employers and 7.5% for employees. The cost of employee
benefits paid by DeWitt on its direct manufacturing employees is treated as a direct
manufacturing labor cost.
DeWitt has a labor contract that calls for a wage increase to $12 per hour on April 1, 2018.
New labor-saving machinery has been installed and will be fully operational by March 1, 2018.
DeWitt expects to have 16,000 frames on hand at December 31, 2017, and it has a policy of
carrying an end-of-month inventory of 100% of the following month’s sales plus 50% of the
second following month’s sales.

Required:
1. Prepare a production budget and a direct manufacturing labor cost budget for DeWitt Company
by month and for the first quarter of 2018. You may combine both budgets in one schedule.
The direct manufacturing labor cost budget should include labor-hours and show the details for
each labor cost category.
2. What actions has the budget process prompted DeWitt’s management to take?
3. How might DeWitt’s managers use the budget developed in requirement 1 to better manage the
company?

SOLUTION

(15-25 min.) Budgets for production and direct manufacturing labor.

DeWitt Company
Budget for Production and Direct Manufacturing Labor
for the Quarter Ended March 31, 2018

January February March Quarter

7-9
Budgeted sales (units) 12,000 13,000 6,000 31,000
Add target ending finished goods
inventorya (units) 16,000 11,500 16,500 16,500
Total requirements (units) 28,000 24,500 22,500 47,500
Deduct beginning finished goods
inventory (units) 16,000 16,000 11,500 16,000
Units to be produced 12,000 8,500 11,000 31,500
Direct manufacturing labor-hours
(DMLH) per unit × 3.0 × 3.0  2.0
Total hours of direct manufacturing
labor time needed 36,000 25,500 22,000 83,500
Direct manufacturing labor costs:
Wages ($11.00 per DMLH) $396,000 $280,500 $242,000 $ 918,500
Pension contributions
($0.40 per DMLH) 14,400 10,200 8,800 33,400
Workers’ compensation insurance
($0.10 per DMLH) 3,600 2,550 2,200 8,350
Employee medical insurance
($0.50 per DMLH) 18,000 12,750 11,000 41,750
Social Security tax (employer’s share)
($11.00  0.075 = $0.825 per DMLH) 29,700 21,038 18,150 68,888
Total direct manufacturing
labor costs $461,700 $327,038 $282,150 $1,070,888
a
100% of the first following month’s sales plus 50% of the second following month’s sales.
Note that the employee Social Security tax of 7.5% is irrelevant. Such taxes are withheld from employees’
wages and paid to the government by the employer on behalf of the employees; therefore, the 7.5% amounts are not
additional costs to the employer.

2. The budget process would prompt DeWitt’s management to look for ways to reduce finished
goods inventories, the manufacturing labor hours needed to produce each unit both before and
after installing new labor-saving machinery; some of the other costs such as Social Security tax
and workers’ compensation insurance may be fixed by law, while pension contributions and
medical insurance might be features that make DeWitt an attractive employer.

3. We already see one example of a decision that DeWitt’s management took based on the
budgeted expenses—installing labor-saving machines ahead of wage increases. DeWitt’s
management should also continue to work with employees to increase labor productivity.

6-34 Cash flow analysis, sensitivity analysis. HealthMart is a retail store selling home oxygen
equipment. HealthMart also services home oxygen equipment, for which the company bills
customers monthly. HealthMart has budgeted for increases in service revenue of $200 each month
due to a recent advertising campaign. The forecast of sales and service revenue for the March–
June 2018 is as follows:

7-10
Almost all of the sales revenues of the oxygen equipment are credit card sales; cash sales are
negligible. The credit card company deposits 97% of the revenues recorded each day into
HealthMart’s account overnight. For the servicing of home oxygen equipment, 60% of oxygen
services billed each month is collected in the month of the service, and 40% is collected in the
month following the service.

Required:
1. Calculate the cash that HealthMart expects to collect in April, May, and June 2018 from sales
and service revenues. Show calculations for each month.
2. HealthMart has budgeted expenditures for May of $11,000 and requires a minimum cash
balance of $250 at the end of each month. It has a cash balance on May 1 of $400.
a. Given your answer to requirement 1, will HealthMart need to borrow cash to cover its
payments for May and maintain a minimum cash balance of $250 at the end of May?
b. Assume (independently for each situation) that (1) May total revenues might be 10% lower
or that (2) total costs might be 5% higher. Under each of those two scenarios, show the total
net cash for May and the amount HealthMart would have to borrow to cover its cash
payments for May and maintain a minimum cash balance of $250 at the end of May. (Again,
assume a balance of $400 on May 1.)
3. Why do HealthMart’s managers prepare a cash budget in addition to the revenue, expenses,
and operating income budget? Has preparing the cash budget been helpful? Explain briefly.

SOLUTION

(30 min.) Cash flow analysis, sensitivity analysis.

1. The cash that HealthMart can expect to collect during April, May and June is calculated
below.
Cash collected in April May June
From sales revenue (credit cards)
April ($8,000  0.97) $ 7,760

May ($7,500  0.97) $ 7,275

June ($9,000  0.97) $ 8,730
From service revenue
From March ($4,000  40%) 1,600
From April ($4,200  60%; 40%) 2,520 1,680
From May ($4,400  60%; 40%) 2,640 1,760
From June ($4,600  60%) _______ _______ 2,760

7-11
 Total collections $11,880 $11,595 $13,250

2. (a) Beginning balance $400 + Collections $11,595 – Expenditures $11,000 = $995. Yes,
HealthMart will be able to cover the budgeted expenditures and maintain a minimum ending
balance of more than $250.
(b)
May
Revenues
Original decrease May Costs
numbers 10% increase 5%
Beginning cash $ 400 $ 400.00 $ 400
a
Collections 11,595 10,603.50 11,595
Cash Costs 11,000 11,000.00 11,550b
Total $ 995 $ 3.50 $ 445
a
From requirement 1, this is 0.90 × $7,275 + $1,680 (since sales of April are not affected
+ 0.9 × $2,640 = $10,603.50
b
$11,000  1.05 = $11,550
If May revenues decrease 10%, HealthMart would have to borrow $246.50 (250 − $3.50) in
order to maintain an ending balance of $250. If May costs increase by as much as 5%, it would
not be necessary to borrow money since the ending balance exceeds $250.
3. HealthMart’s managers prepare a cash budget in addition to the operating income budget
to plan cash flows to ensure that the company has adequate cash to pay vendors, meet payroll,
and pay operating expenses as these payments come due. HealthMart could be very profitable on
an accrual accounting basis, but the pattern of cash receipts from revenues might be delayed and
result in insufficient cash being available to make scheduled payments for its expenses.
HealthMart’s managers may then need to initiate a plan to borrow money to finance any
shortfall. Building a profitable operating plan does not guarantee that adequate cash will be
available, so HealthMart’s managers need to prepare a cash budget in addition to an operating
income budget.

7-12
7-21 Flexible budget. Sweeney Enterprises manufactures tires for the Formula I motor racing
circuit. For August 2017, it budgeted to manufacture and sell 3,600 tires at a variable cost of $71
per tire and total fixed costs of $55,000. The budgeted selling price was $114 per tire. Actual
results in August 2017 were 3,500 tires manufactured and sold at a selling price of $116 per tire.
The actual total variable costs were $280,000, and the actual total fixed costs were $51,000.

Required:
1. Prepare a performance report (akin to Exhibit 7-2, page 254) that uses a flexible budget and a
static budget.
2. Comment on the results in requirement 1.

SOLUTION

(20–30 min.) Flexible budget.

Variance Analysis for Sweeney Enterprises for August 2017

Flexible-
Actual Budget Flexible Sales-Volume Static
Results Variances Budget Variances Budget
(1) (2) = (1) – (3) (3) (4) = (3) – (5) (5)
Units (tires) sold 3,500g 0 3,500 100 U 3,600g
Revenues $406,000a $ 7,000 F $399,000b $11,400 U $410,400c
Variable costs 280,000d 31,500 U 248,500e 7,100 F 255,600f
Contribution margin 126,000 24,500 U 150,500 4,300 U 154,800
Fixed costs 51,000g 4,000 F 55,000g 0 55,000g
Operating income $ 75,000 $20,500 U $ 95,500 $ 4,300 U $ 99,800

$20,500 U $ 4,300 U
Total flexible-budget variance
$24,800 U
Total static-budget variance
a
$116 × 3,500 = $406,000
b
$114 × 3,500 = $399,000
c
$114 × 3,600 = $410,400
d
Given. Unit variable cost = $280,000 ÷ 3,500 = $80 per tire
e
$71 × 3,500 = $248,500
f
$71 × 3,600 = $255,600
g
Given

2. The key information items are:

Actual Budgeted
Units 3,500 3,600
Unit selling price $ 116 $ 114
Unit variable cost $ 80 $ 71
Fixed costs $51,000 $55,000

The total static-budget variance in operating income is $24,800 U. There is both an unfavorable
total flexible-budget variance ($20,500) and an unfavorable sales-volume variance ($4,300).

7-13
 The unfavorable sales-volume variance arises solely because actual units manufactured and
sold were 100 less than the budgeted 3,600 units. The unfavorable flexible-budget variance of
$20,500 in operating income is due primarily to the $9 increase in unit variable costs. This
increase in unit variable costs is only partially offset by the $2 increase in unit selling price and
the $4,000 decrease in fixed costs.

7-22 Flexible budget. Bryant Company’s budgeted prices for direct materials, direct
manufacturing labor, and direct marketing (distribution) labor per attaché case are $43, $6, and
$13, respectively. The president is pleased with the following performance report:

Actual Costs Static Budget Variance

Direct materials $438,000 $473,000 $35,000 F

Direct manufacturing labor 63,600 66,000 2,400 F
Direct marketing (distribution) 133,500 143,000 9,500 F
labor

Required:
Actual output was 10,000 attaché cases. Assume all three direct-cost items shown are variable
costs.
Is the president’s pleasure justified? Prepare a revised performance report that uses a flexible
budget and a static budget.

SOLUTION

(15 min.) Flexible budget.

The existing performance report is a Level 1 analysis, based on a static budget. It makes no
adjustment for changes in output levels. The budgeted output level is 11,000 units––direct
materials of $473,000 in the static budget ÷ budgeted direct materials cost per attaché case of
$43.
The following is a Level 2 analysis that presents a flexible-budget variance and a sales-
volume variance of each direct cost category.

Variance Analysis for Bryant Company

Flexible- Sales-
Actual Budget Flexible Volume Static
Results Variances Budget Variances Budget
(1) (2) = (1) – (3) (3) (4) = (3) – (5) (5)
Output units 10,000 0 10,000 1,000 U 11,000
Direct materials $438,000 $ 8,000 U $430,000 $43,000 F $473,000
Direct manufacturing labor 63,600 3,600 U 60,000 6,000 F 66,000
Direct marketing labor 133,500 3,500 U 130,000 13,000 F 143,000
Total direct costs $635,100 $15,100 U $620,000 $62,000 F $682,000

7-14
 $15,100 U $62,000 F
Flexible-budget variance Sales-volume
variance
$46,900 F
Static-budget variance

The Level 1 analysis shows total direct costs have a $46,900 favorable variance.
However, the Level 2 analysis reveals that this favorable variance is due to the reduction in
output of 1,000 units from the budgeted 11,000 units. Once this reduction in output is taken into
account (via a flexible budget), the flexible-budget variance shows each direct cost category to
have an unfavorable variance indicating less efficient use of each direct cost item than was
budgeted, or the use of more costly direct cost items than was budgeted, or both.
Each direct cost category has an actual unit variable cost that exceeds its budgeted unit
cost:
Actual Budgeted
Units 10,000 11,000
Direct materials $ 43.80 $ 43.00
Direct manufacturing labor $ 6.36 $ 6.00
Direct marketing labor $ 13.35 $ 13.00

Analysis of price and efficiency variances for each cost category could assist in further the
identifying causes of these more aggregated (Level 2) variances.

7-23 Flexible-budget preparation and analysis. Bank Management Printers, Inc., produces
luxury checkbooks with three checks and stubs per page. Each checkbook is designed for an
individual customer and is ordered through the customer’s bank. The company’s operating budget
for September 2017 included these data:

Number of checkbooks 15,000

Selling price per book $ 20
Variable cost per book $ 8
Fixed costs for the month $145,000

The actual results for September 2017 were as follows:

Number of checkbooks produced and sold 12,000

Average selling price per book $ 21
Variable cost per book $ 7
Fixed costs for the month $150,000

7-15
The executive vice president of the company observed that the operating income for September
was much lower than anticipated, despite a higher-than-budgeted selling price and a lower-than-
budgeted variable cost per unit. As the company’s management accountant, you have been asked
to provide explanations for the disappointing September results.
Bank Management develops its flexible budget on the basis of budgeted per-output-unit
revenue and per-output-unit variable costs without detailed analysis of budgeted inputs.

Required:
1. Prepare a static-budget-based variance analysis of the September performance.
2. Prepare a flexible-budget-based variance analysis of the September performance.
3. Why might Bank Management find the flexible-budget-based variance analysis more
informative than the static-budget-based variance analysis? Explain your answer.

SOLUTION

(25–30 min.) Flexible-budget preparation and analysis.

1. Variance Analysis for Bank Management Printers for September 2017

Level 1 Analysis
Actual Static-Budget Static
Results Variances Budget
(1) (2) = (1) – (3) (3)
Units sold 12,000 3,000 U 15,000
Revenue $252,000a $ 48,000 U $300,000c
Variable costs 84,000d 36,000 F 120,000f
Contribution margin 168,000 12,000 U 180,000
Fixed costs 150,000 5,000 U 145,000
Operating income $ 18,000 $ 17,000 U $ 35,000

$17,000 U
Total static-budget variance
2. Level 2 Analysis

Flexible- Sales
Actual Budget Flexible Volume Static
Results Variances Budget Variances Budget
(1) (2) = (1) – (3) (3) (4) = (3) – (5) (5)
Units sold 12,000 0 12,000 3,000 U 15,000
a
Revenue $252,000 $12,000 F $240,000b $60,000 U $300,000c
Variable costs 84,000d 12,000 F 96,000e 24,000 F 120,000f
Contribution margin 168,000 24,000 F 144,000 36,000 U 180,000
Fixed costs 150,000 5,000 U 145,000 0 145,000
Operating income $ 18,000 $19,000 F $ (1,000) $36,000 U $ 35,000

7-16
 $19,000 F $36,000 U
Total flexible-budget Total sales-volume
variance
$17,000 U
Total static-budget variance
a d
12,000 × $21 = $252,000 12,000 × $7 = $ 84,000
b e
12,000 × $20 = $240,000 12,000 × $8 = $ 96,000
c f
15,000 × $20 = $300,000 15,000 × $8 = $120,000

3. Level 2 analysis breaks down the static-budget variance into a flexible-budget variance
and a sales-volume variance. The primary reason for the static-budget variance being
unfavorable ($17,000 U) is the reduction in unit volume from the budgeted 15,000 to an actual
12,000. One explanation for this reduction is the increase in selling price from a budgeted $20 to
an actual $21. Operating management was able to reduce variable costs by $12,000 relative to
the flexible budget. This reduction could be a sign of efficient management. Alternatively, it
could be due to using lower quality materials (which in turn adversely affected unit volume).

7-17
7-24 Flexible budget, working backward. The Clarkson Company produces engine parts for
car manufacturers. A new accountant intern at Clarkson has accidentally deleted the company’s
variance analysis calculations for the year ended December 31, 2017. The following table is what
remains of the data.

Required:
1. Calculate all the required variances. (If your work is accurate, you will find that the total
static-budget variance is $0.)
2. What are the actual and budgeted selling prices? What are the actual and budgeted variable costs
per unit?
3. Review the variances you have calculated and discuss possible causes and potential
problems. What is the important lesson learned here?

SOLUTION

(30 min.) Flexible budget, working backward.

1. Variance Analysis for The Clarkson Company for the year ended December 31, 2017

Flexible-
Actual Budget Flexible Sales-Volume Static
Results Variances Budget Variances Budget
(1) (2)=(1)(3) (3) (4)=(3)(5) (5)
Units sold 130,000 0 130,000 10,000 F 120,000
Revenues $715,000 $260,000 F $455,000a $35,000 F $420,000
Variable costs 515,000 255,000 U 260,000b 20,000 U 240,000
Contribution margin 200,000 5,000 F 195,000 15,000 F 180,000
Fixed costs 140,000 20,000 U 120,000 0 120,000
Operating income $ 60,000 $ 15,000 U $ 75,000 $15,000 F $ 60,000
a
130,000 × $3.50 = $455,000; $420,000 $15,000
120,000 = $3.50 U $15,000 F
 flexible-budget variance
Total $0 Total sales volume variance
b
130,000 × $2.00 = $260,000; $240,000 120,000 = $2.00 Total static-budget

variance

7-18
2. Actual selling price: $715,000
130,000= $5.50
Budgeted selling price: 420,000
120,000= $3.50
Actual variable cost per unit: 515,000
130,000= $3.96
Budgeted variable cost per unit: 240,000
120,000= $2.00

3. A zero total static-budget variance may be due to offsetting total flexible-budget and total
sales-volume variances. In this case, these two variances exactly offset each other:

Total flexible-budget variance $15,000 Unfavorable

Total sales-volume variance $15,000 Favorable

A closer look at the variance components reveals some major deviations from plan. Actual variable costs
increased from $2.00 to $3.96, causing an unfavorable flexible-budget variable cost variance of $255,000. Such an
increase could be a result of, for example, a jump in direct material prices. Clarkson was able to pass most of the
increase in costs onto their customers—actual selling price increased by 57% [($5.50 – $3.50) $3.50], bringing

about an offsetting favorable flexible-budget revenue variance in the amount of $260,000. An increase in the actual
number of units sold also contributed to more favorable results. The company should examine why the units sold
increased despite an increase in direct material prices. For example, Clarkson’s customers may have stocked up,
anticipating future increases in direct material prices. Alternatively, Clarkson’s selling price increases may have been
lower than competitors’ price increases. Understanding the reasons why actual results differ from budgeted amounts
can help Clarkson better manage its costs and pricing decisions in the future. The important lesson learned here is
that a superficial examination of summary level data (Levels 0 and 1) may be insufficient. It is imperative to
scrutinize data at a more detailed level (Level 2). Had Clarkson not been able to pass costs on to customers, losses
would have been considerable.

7-19
7-25 Flexible-budget and sales volume variances. Cascade, Inc., produces the basic fillings used in many popular
frozen desserts and treats—vanilla and chocolate ice creams, puddings, meringues, and fudge. Cascade uses standard costing and carries
over no inventory from one month to the next. The ice-cream product group’s results for June 2017 were as follows:

Jeff Geller, the business manager for ice-cream products, is pleased that more pounds of ice cream were sold than budgeted and that
revenues were up. Unfortunately, variable manufacturing costs went up, too. The bottom line is that contribution margin declined by
$52,900, which is just over 2% of the budgeted revenues of $2,592,600. Overall, Geller feels that the business is running fine.

Required:
1. Calculate the static-budget variance in units, revenues, variable manufacturing costs, and contribution margin. What percentage
is each static-budget variance relative to its static-budget amount?
2. Break down each static-budget variance into a flexible-budget variance and a sales-volume variance.
3. Calculate the selling-price variance.
4. Assume the role of management accountant at Cascade. How would you present the results to Jeff Geller? Should he be more
concerned? If so, why?

SOLUTION

(30-40 min.) Flexible budget and sales volume variances, market-share and market-size variances.

1. and 2.

7-20
 Performance Report for Cascade, Inc., June 2017

Static Budget
Flexible Static Variance as
Budget Flexible Sales Volume Static Budget % of Static
Actual Variances Budget Variances Budget Variance Budget
(7) = (6) (5)

(1) (2) = (1) – (3) (3) (4) = (3) – (5) (5) (6) = (1) – (5)
Units (pounds) 460,000 - 460,000 13,000 F 447,000 13,000 F 2.91%
Revenues $2,626,600 $ 41,400 U $2,668,000a $75,400 F $2,592,600 $34,000 F 1.31%
Variable mfg. costs 1,651,400 41,400 U 1,610,000b 45,500 U 1,564,500 86,900 U 5.55%
Contribution margin $975,200 $ 82,800 U $1,058,000 $ 29,900 F $1,028,100 $52,900 U 5.15%

$82,800 U $ 29,900 F
Flexible-budget variance Sales-volume variance

$52,900 U
Static-budget variance
a
Budgeted selling price = $2,592,600 ÷ 447,000 lbs = $5.80 per lb.
Flexible-budget revenues = $5.80 per lb. × 460,000 lbs. = $2,668,000
b
Budgeted variable mfg. cost per unit = $1,564,500 ÷ 447,000 lbs. = $3.50
Flexible-budget variable mfg. costs = $3.50 per lb. × 460,000 lbs. = $1,610,000

7-21
3. The selling price variance, caused solely by the difference in actual and budgeted selling
price, is the flexible-budget variance in revenues = $41,400 U.

4. The flexible-budget variances show that for the actual sales volume of 460,000 pounds,
selling prices were lower and costs per pound were higher. The favorable sales volume variance
in revenues (because more pounds of ice cream were sold than budgeted) helped offset the
unfavorable variable cost variance and shored up the results in June 2017. Geller should be more
concerned because the static-budget variance in contribution margin of $52,900 U is actually
made up of a favorable sales-volume variance in contribution margin of $29,900, an unfavorable
selling-price variance of $41,400 and an unfavorable variable manufacturing costs variance of
$41,400. Adler should analyze why each of these variances occurred and the relationships among
them. Could the efficiency of variable manufacturing costs be improved? The sales volume
appears to have increased due to the lower average selling price per pound.

7-26 Price and efficiency variances. Sunshine Foods manufactures pumpkin scones. For
January 2017, it budgeted to purchase and use 14,750 pounds of pumpkin at $0.92 a pound.
Actual purchases and usage for January 2017 were 16,000 pounds at $0.85 a pound. Sunshine
budgeted for 59,000 pumpkin scones. Actual output was 59,200 pumpkin scones.

Required:
1. Compute the flexible-budget variance.
2. Compute the price and efficiency variances.
3. Comment on the results for requirements 1 and 2 and provide a possible explanation for
them.

SOLUTION

(20–30 min.) Price and efficiency variances.

1. The key information items are:

Actual Budgeted
Output units (scones) 59,200 59,000
Input units (pounds of pumpkin) 16,000 14,750
Cost per input unit $ 0.85 $ 0.92

Sunshine budgets to obtain 3 pumpkin scones from each pound of pumpkin.

The flexible-budget variance is $16 F.

Flexible-
Actual Budget Flexible Sales-Volume Static
Results Variance Budget Variance Budget
(1) (2) = (1) – (3) (3) (4) = (3) – (5) (5)
Pumpkin costs $13,600a $16 F $13,616b $46 U $13,570c
a
16,000 × $0.85 = $13,600
b
59,200 × 0.25 × $0.92 = $13,616

8-U
c
59,000 × 0.25 × $0.92 = $13,570

2. Flexible Budget
Actual Costs (Budgeted Input
Incurred Qty. Allowed for
(Actual Input Qty. Actual Input Qty. Actual Output
× Actual Price) × Budgeted Price × Budgeted Price)
$13,600a $14,720b $13,616c

$1,120 F $1,104 U
Price variance Efficiency variance
$16 F
Flexible-budget variance
a
16,000 × $0.85 = $13,600
b
16,000 × $0.92 = $14,720
c
59,200 × 0.25 × $0.92 = $13,616

3. The favorable flexible-budget variance of $16 has two offsetting components:

(a) favorable price variance of $1,120––reflects the $0.85 actual purchase cost being
lower than the $0.92 budgeted purchase cost per pound.
(b) unfavorable efficiency variance of $1,104––reflects the actual materials yield of 3.80
scones per pound of pumpkin (59,200 ÷ 16,000 = 3.70) being less than the budgeted
yield of 4.00 (59,000 ÷ 14,750 = 4.00). The company used more pumpkins (materials)
to make the scones than was budgeted.

One explanation may be that Sunshine purchased lower quality pumpkins at a lower cost per
pound.

7-27 Materials and manufacturing labor variances. Consider the following data collected
for Great Homes, Inc.:

Direct
Direct Manufacturing
Materials Labor

Cost incurred: Actual inputs  actual prices $200,000 $90,000

Actual inputs  standard prices 214,000 86,000

Standard inputs allowed for actual output  standard 225,000 80,000

prices

Required:
Compute the price, efficiency, and flexible-budget variances for direct materials and direct
manufacturing labor.

8-U
SOLUTION

(15 min.) Materials and manufacturing labor variances.

Flexible Budget
Actual Costs (Budgeted Input
Incurred Qty. Allowed for
(Actual Input Qty. Actual Input Qty. Actual Output
× Actual Price) × Budgeted Price × Budgeted Price)
Direct $200,000 $214,000 $225,000
Materials
$14,000 F $11,000 F
Price variance Efficiency variance

$25,000 F
Flexible-budget variance

Direct $90,000 $86,000 $80,000

Mfg. Labor $4,000 U $6,000 U
Price variance Efficiency variance

$10,000 U
Flexible-budget variance

7-28 Direct materials and direct manufacturing labor variances. Rugged Life, Inc.,
designs and manufactures fleece quarter-zip jackets. It sells its jackets to brand-name outdoor
outfitters in lots of one dozen. Rugged Life’s May 2017 static budget and actual results for direct
inputs are as follows:

Static Budget
Number of jacket lots (1 lot = 1 dozen) 300

Per Lot of Jackets:

Direct materials 18 yards at $4.65 per yard = $83.70
Direct manufacturing labor 2.4 hours at $12.50 per hour = $30.00

Actual Results
Number of jacket lots sold 325

Total Direct Inputs:

Direct materials 6,500 yards at $4.85 per yard = $31,525
Direct manufacturing labor 715 hours at $12.60 = $9,009

8-U
 Rugged Life has a policy of analyzing all input variances when they add up to more than 8% of the
total cost of materials and labor in the flexible budget, and this is true in May 2017. The production
manager discusses the sources of the variances: “A new type of material was purchased in May.
This led to faster cutting and sewing, but the workers used more material than usual as they learned
to work with it. For now, the standards are fine.”

Required:
1. Calculate the direct materials and direct manufacturing labor price and efficiency variances
in May 2017. What is the total flexible-budget variance for both inputs (direct materials and
direct manufacturing labor) combined? What percentage is this variance of the total cost of
direct materials and direct manufacturing labor in the flexible budget?
2. Comment on the May 2017 results. Would you continue the “experiment” of using the new
material?

SOLUTION

(20 min.) Direct materials and direct manufacturing labor variances.

1.
Actual
Quantity

Actual Price Budgeted Efficiency Flexible
May 2017 Results Variance Price Variance Budget
(1) (2) = (1)–(3) (3) (4) = (3) – (5) (5)
Lots 325 325
$3,022.5
Direct materials $31,525.00 $1,300.00 U $30,225.00a 0 U $27,202.50b
Direct labor $ 9,009.00 $ 71.50 U $ 8,937.50c $812.50 F $9,750.00d
Total price variance $1,371.50 U
Total efficiency variance $2,210.00 U
a
6,500 yards × $4.65 per yard = $30,225
b
325 lots × 18 yards per lot × $4.65 per yard = $27,202.50
c
715 hours × $12.50 per hour = $8,937.50
d
3250 lots × 2.4 hours per lot × $12.50 per hour = $9,750.00

Total flexible-budget variance for both inputs = $1,371.50 U + $2,210.00 U = $3,581.50 U

Total flexible-budget cost of direct materials and direct labor = $27,202.50 + $9,750.00 = $36,952.50
Total flexible-budget variance as % of total flexible-budget costs = $3,581.50 ÷ $36,952.50 = 9.69%

8-U
2. It is unclear whether the excess use of materials will continue, or whether it was indeed
a result of workers getting accustomed to the new fabric. The time required was indeed lower as
predicted, but not nearly enough to overcome the unfavorable direct material efficiency variance.
However, direct labor usage will probably decline even further as workers gain experience in
working with the new material. The unfavorable direct labor price variance is insignificant and
unlikely to be related to the change of material. Rugged Life may wish to continue to use the
new material, especially in light of its superior quality and feel, but it may want to keep the
following points in mind:
 The new material costs substantially more than the old ($4.85 versus $4.65 per yard).
Its price is unlikely to come down even more within the coming year. Standard
material price should be reexamined and possibly changed.
 Rugged Life should continue to work to reduce direct materials and direct
manufacturing labor usage.

7-29 Price and efficiency variances, journal entries. The Schuyler Corporation
manufactures lamps. It has set up the following standards per finished unit for direct materials
and direct manufacturing labor:

Direct materials: 10 lb. at $4.50 per lb. $45.00

Direct manufacturing labor: 0.5 hour at $30 per hour 15.00

The number of finished units budgeted for January 2017 was 10,000; 9,850 units were actually
produced.
Actual results in January 2017 were as follows:

Direct materials: 98,055 lb. used

Direct manufacturing labor: 4,900 hours $154,350

Assume that there was no beginning inventory of either direct materials or finished units.
During the month, materials purchased amounted to 100,000 lb., at a total cost of $465,000.
Input price variances are isolated upon purchase. Input-efficiency variances are isolated at the
time of usage.

Required:
1. Compute the January 2017 price and efficiency variances of direct materials and direct
manufacturing labor.
2. Prepare journal entries to record the variances in requirement 1.
3. Comment on the January 2017 price and efficiency variances of Schuyler Corporation.
4. Why might Schuyler calculate direct materials price variances and direct materials efficiency
variances with reference to different points in time?

8-U
SOLUTION

(30 min.) Price and efficiency variances, journal entries.

1. Direct materials and direct manufacturing labor are analyzed in turn:

Flexible Budget
Actual Costs (Budgeted Input
Incurred Qty. Allowed for
(Actual Input Qty. Actual Input Qty. Actual Output
× Actual Price) × Budgeted Price × Budgeted Price)
Purchases Usage

Direct (100,000 × $4.65a) (100,000 × $4.50) (98,055 × $4.50) (9,850 × 10 × $4.50)

Materials $465,000 $450,000 $441,248 $443,250

$15,000 U $2,002 F
Price variance Efficiency variance

Direct (9,850 × 0.5 × $30) or

Manufacturing (4,900 × $31.5b) (4,900 × $30) (4,925 × $30)
Labor $154,350 $147,000 $147,750

$7,350 U $750 F
Price variance Efficiency variance
a
$465,000 ÷ 100,000 = $4.65
b
$154,350 ÷ 4,900 = $31.5

2. Direct Materials Control 450,000

Direct Materials Price Variance 15,000
Accounts Payable or Cash Control 465,000

Work-in-Process Control 443,250

Direct Materials Control 441,248
Direct Materials Efficiency Variance 2,002

Work-in-Process Control 147,750

Direct Manuf. Labor Price Variance 7,350
Wages Payable Control 154,350
Direct Manuf. Labor Efficiency Variance 750

3. Some students’ comments will be immersed in conjecture about higher prices for materials, better quality
materials, higher grade labor, better efficiency in use of materials, and so forth. A possibility is that approximately
the same labor force, paid somewhat more, is taking slightly less time with better materials and causing less waste
and spoilage.

A key point in this problem is that all of these efficiency variances are likely to be
insignificant. They are so small as to be nearly meaningless. Fluctuations about standards are
bound to occur in a random fashion. Practically, from a control viewpoint, a standard is a band
or range of acceptable performance rather than a single-figure measure.

8-U
4. The purchasing point is where responsibility for price variances is found most often. The
production point is where responsibility for efficiency variances is found most often. The
Schuyler Corporation may calculate variances at different points in time to tie in with these
different responsibility areas.

7-30 Materials and manufacturing labor variances, standard costs. Dawson, Inc., is a
privately held furniture manufacturer. For August 2017, Dawson had the following standards for
one of its products, a wicker chair:

Standards per Chair

Direct materials 3 square yards of input at $5.50 per square

yard
Direct manufacturing labor 0.5 hour of input at $10.50 per hour

The following data were compiled regarding actual performance: actual output units (chairs)
produced, 2,200; square yards of input purchased and used, 6,200; price per square yard, $5.70;
direct manufacturing labor costs, $9,844; actual hours of input, 920; labor price per hour, $10.70.

1. Show computations of price and efficiency variances for direct materials and direct
manufacturing labor. Give a plausible explanation of why each variance occurred.
2. Suppose 8,700 square yards of materials were purchased (at $5.70 per square yard), even
though only 6,200 square yards were used. Suppose further that variances are identified at
their most timely control point; accordingly, direct materials price variances are isolated and
traced at the time of purchase to the purchasing department rather than to the production
department. Compute the price and efficiency variances under this approach.

SOLUTION

(2030 min.) Materials and manufacturing labor variances, standard costs.

1. Direct Materials
Flexible Budget
Actual Costs (Budgeted Input
Incurred Qty. Allowed for
(Actual Input Qty. Actual Input Qty. Actual Output
× Actual Price) × Budgeted Price × Budgeted Price)
(2,200 × 3 × $5.50)
(6,200 sq. yds. × $5.70) (6,200 sq. yds. × $5.50) (6,600 sq. yds. × $5.50)
$35,340 $34,100 $36,300

$1,240 U $2,200 F
Price variance Efficiency variance
$960 F
Flexible-budget variance

8-U
 The unfavorable materials price variance may be unrelated to the favorable materials efficiency variance.
For example, (a) the purchasing officer may be less skillful than assumed in the budget, or (b) there was an
unexpected increase in materials price per square yard due to reduced competition. Similarly, the favorable materials
efficiency variance may be unrelated to the unfavorable materials price variance. For example, (a) the production
manager may have been able to employ higher-skilled workers, or (b) the budgeted materials standards were set too
loosely. It is also possible that the two variances are interrelated. The higher materials input price may be due to
higher quality materials being purchased. Less material was used than budgeted due to the high quality of the
materials.

Direct Manufacturing Labor

Flexible Budget
Actual Costs (Budgeted Input
Incurred Qty. Allowed for
(Actual Input Qty. Actual Input Qty. Actual Output
× Actual Price) × Budgeted Price × Budgeted Price)
(2,200 × 0.5 × $10.50)
(920 hrs. × $10.70) (920 hrs. × $10.50) (1,100 hrs. × $10.50)
$9,844 $9,660 $11,550

$184 U $1,890 F
Price variance Efficiency variance
$1,706 F
Flexible-budget variance

The unfavorable labor price variance may be due to, say, (a) an increase in labor rates due
to a booming economy, or (b) the standard being set without detailed analysis of labor
compensation. The favorable labor efficiency variance may be due to, say, (a) more efficient
workers being employed, (b) a redesign in the plant enabling labor to be more productive, or (c)
the use of higher quality materials.

8-U
2.

Flexible Budget
(Budgeted Input
Actual Costs Qty. Allowed for
Incurred Actual Output
Control (Actual Input Qty. Actual Input Qty. × Budgeted
Point × Actual Price) × Budgeted Price Price)
Purchasing (8,700 sq. yds.× $5.70) (8,700 sq. yds. × $5.50)
$49,590 $47,850

$1,740 U
Price variance

Production (6,200 sq. yds.× $5.50) (2,200 × 3 × $5.50)

$34,100 $36,300

$2,200 F
Efficiency variance

Direct manufacturing labor variances are the same as in requirement 1.

7-31 Journal entries and T-accounts (continuation of 7-30). Prepare journal

entries and post them to T-accounts for all transactions in Exercise 7-30, including requirement 2.
Summarize how these journal entries differ from the normal-costing entries described in Chapter 4,
pages 120–123.

SOLUTION

(2025 min.) Journal entries and T-accounts (continuation of 7-30).

For requirement 1 from Exercise 7-30:

a. Direct Materials Control 34,100
Direct Materials Price Variance 1,240
Accounts Payable Control 35,340
To record purchase of direct materials.

b. Work-in-Process Control 36,300

Direct Materials Efficiency Variance 2,200
Direct Materials Control 34,100
To record direct materials used.

c. Work-in-Process Control 11,550

Direct Manufacturing Labor Price Variance 184
Direct Manufacturing Labor Efficiency Variance 1,890
Wages Payable Control 9,844
To record liability for and allocation of direct labor costs.

8-U
 Direct Direct Materials Direct Materials
Materials Control Price Variance Efficiency Variance
(a) 34,100 (b) 34,100 (a) 1,240 (b) 2,200

Direct Manufacturing Direct Manuf. Labor

Work-in-Process Control Labor Price Variance Efficiency Variance
(b) 36,300 (a) 184 (c) 1,890
(c) 11,550

Wages Payable Control Accounts Payable Control

(c) 9,844 (a) 35,340

For requirement 2 from Exercise 7-30:

The following journal entries pertain to the measurement of price and efficiency variances when
8,700 sq. yds. of direct materials are purchased:

a1. Direct Materials Control 47,850

Direct Materials Price Variance 1,740
Accounts Payable Control 49,590
To record direct materials purchased.

a2. Work-in-Process Control 36,300

Direct Materials Control 34,100
Direct Materials Efficiency Variance 2,200
To record direct materials used.

Direct Direct Materials

Materials Control Price Variance
(a1) 47,850 (a2) 34,100 (a1) 1,740

Accounts Payable Control Work-in-Process Control

(a1) 49,590 (a2) 36,300

Direct Materials
Efficiency Variance
(a2) 2,200

The T-account entries related to direct manufacturing labor are the same as in requirement 1. The
difference between standard costing and normal costing for direct cost items is:

8-U
 Standard Costs Normal Costs
Direct Costs Standard price(s) Actual price(s)
× Standard input × Actual input
allowed for actual
outputs achieved

These journal entries differ from the normal costing entries because Work-in-Process Control is
no longer carried at “actual” costs. Furthermore, Direct Materials Control is carried at standard
unit prices rather than actual unit prices. Finally, variances appear for direct materials and direct
manufacturing labor under standard costing but not under normal costing.

8-21 Variable manufacturing overhead, variance analysis. Esquire Clothing is a

manufacturer of designer suits. The cost of each suit is the sum of three variable costs (direct
material costs, direct manufacturing labor costs, and manufacturing overhead costs) and one

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fixed-cost category (manufacturing overhead costs). Variable manufacturing overhead cost is
allocated to each suit on the basis of budgeted direct manufacturing labor-hours per suit. For
June 2017, each suit is budgeted to take 4 labor-hours. Budgeted variable manufacturing
overhead cost per labor-hour is $12. The budgeted number of suits to be manufactured in June
2017 is 1,040.
Actual variable manufacturing costs in June 2017 were $52,164 for 1,080 suits started and
completed. There were no beginning or ending inventories of suits. Actual direct manufacturing
labor-hours for June were 4,536.

Required:
1. Compute the flexible-budget variance, the spending variance, and the efficiency variance for
variable manufacturing overhead.
2. Comment on the results.

SOLUTION
(20 min.) Variable manufacturing overhead, variance analysis.

1. Variable Manufacturing Overhead Variance Analysis for Esquire Clothing for June 2017

Flexible Budget: Allocated:

Actual Costs Budgeted Input Qty. Budgeted Input Qty.
Incurred Allowed for Allowed for
Actual Input Qty. Actual Input Qty. Actual Output Actual Output
× Actual Rate × Budgeted Rate × Budgeted Rate × Budgeted Rate
(1) (2) (3) (4)
(4,536 × $11.50) (4,536 × $12) (4 × 1,080 × $12) (4 × 1,080 × $12)
$52,164 $54,432 $51,840 $51,840

$2,268 F $2,592 U
Spending Efficiency Never a
variance variance
$324 U
Flexible-budget variance Never a
variance
2. Esquire had a favorable spending variance of $2,268 because the actual variable overhead rate was $11.50
per direct manufacturing labor-hour versus $12 budgeted. It had an unfavorable efficiency variance of $2,592 U
because each suit averaged 4.2 labor-hours (4,536 hours ÷ 1,080 suits) versus 4.0 budgeted labor-hours.

8-22 Fixed manufacturing overhead, variance analysis (continuation of 8-21).

Esquire Clothing allocates fixed manufacturing overhead to each suit using budgeted direct
manufacturing labor-hours per suit. Data pertaining to fixed manufacturing overhead costs for
June 2017 are budgeted, $62,400, and actual, $63,916.

Required:
1. Compute the spending variance for fixed manufacturing overhead. Comment on the results.

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2. Compute the production-volume variance for June 2017. What inferences can Esquire
Clothing draw from this variance?

SOLUTION
(20 min.) Fixed-manufacturing overhead, variance analysis (continuation of 8-21).

1 & 2. =
Budgeted fixed overhead $62,400
rate per unit of 1,040 4
allocation base
=
$62,400
4,160
= $15 per hour

Fixed Manufacturing Overhead Variance Analysis for Esquire Clothing for June 2017

Flexible Budget:

Same Budgeted Same Budgeted

Allocated:
Lump Sum Lump Sum Budgeted Input Qty.
(as in Static Budget) (as in Static Budget) Allowed for Actual
Actual Costs Regardless of Regardless of Output
Incurred Output Level Output Level × Budgeted Rate
(1) (2) (3) (4)
(4 × 1,080 × $15)
$63,916 $62,400 $62,400 $64,800

$1,516 U $2,400 F
Spending variance Never a variance Production-volume variance

$1,516 U $2,400 F
Flexible-budget variance Production-volume variance

The fixed manufacturing overhead spending variance and the fixed manufacturing flexible budget variance
are the same––$1,516 U. Esquire spent $1,516 above the $62,400 budgeted amount for June 2017.

The production-volume variance is $2,400 F. This arises because Esquire utilized its
capacity more intensively than budgeted (the actual production of 1,080 suits exceeds the
budgeted 1,040 suits). This results in overallocated fixed manufacturing overhead of $2,400 (4 ×
40 × $15). Esquire would want to understand the reasons for a favorable production-volume
variance. Is the market growing? Is Esquire gaining market share? Will Esquire need to add
capacity?

8-23 Variable manufacturing overhead variance analysis. The Sourdough Bread

Company bakes baguettes for distribution to upscale grocery stores. The company has two

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direct-cost categories: direct materials and direct manufacturing labor. Variable manufacturing
overhead is allocated to products on the basis of standard direct manufacturing labor-hours.
Following is some budget data for the Sourdough Bread Company:

Direct manufacturing labor use 0.02 hours per baguette

Variable manufacturing overhead $10.00 per direct manufacturing labor-hour

The Sourdough Bread Company provides the following additional data for the year ended
December 31, 2017:

Planned (budgeted) output 3,100,000 baguettes

Actual production 2,600,000 baguettes
Direct manufacturing labor 46,800 hours
Actual variable manufacturing overhead $617,760

Required:
1. What is the denominator level used for allocating variable manufacturing overhead? (That is,
for how many direct manufacturing labor-hours is Sourdough Bread budgeting?)
2. Prepare a variance analysis of variable manufacturing overhead. Use Exhibit 8-4 (page 304)
for reference.
3. Discuss the variances you have calculated and give possible explanations for them.

SOLUTION

(30 min.) Variable manufacturing overhead variance analysis.

1. Denominator level = (3,100,000 × 0.02 hours) = 62,000 hours

2. Actual Flexible
Results Budget Amounts
1. Output units (baguettes) 2,600,000 2,600,000
2. Direct manufacturing labor-hours 46,800 52,000a
3. Labor-hours per output unit (2 1) 0.018 0.020
4. Variable manuf. overhead (MOH) costs $617,760 $520,000
5. Variable MOH per labor-hour (4 2) $13.20 $10
6. Variable MOH per output unit (4 1) $0.238 $0.200
a
2,600,000 baguettes 0.02 hours per baguette = 52,000 hours


Variable Manufacturing Overhead Variance Analysis for Sourdough Bread Company for 2017:

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 Flexible Budget: Allocated:
Actual Costs Budgeted Input Qty. Budgeted Input Qty.
Incurred Allowed for Allowed for
Actual Input Qty. Actual Input Qty. Actual Output Actual Output
× Actual Rate × Budgeted Rate × Budgeted Rate × Budgeted Rate
(1) (2) (3) (4)
(46,800 × $13.20) (46,800 × $10) (52,000 × $10) (52,000 × $10)
$617,760 $468,000 $520,000 $520,000

$149,760 U $52,000 F
Spending Efficiency Never a
variance variance variance
$97,760 U
Flexible-budget variance Never a

3. Spending variance of $149,760 U. It is unfavorable because variable manufacturing overhead

was 32% higher than planned. A possible explanation could be an increase in energy rates
relative to the rate per standard labor-hour assumed in the flexible budget.
Efficiency variance of $52,000 F. It is favorable because the actual number of direct manufacturing labor-
hours required was lower than the number of hours in the flexible budget. Labor was more efficient in producing
baguettes than management had anticipated in the budget. This could occur because of improved morale in the
company, which could result from an increase in wages or an improvement in the compensation scheme.
Flexible-budget variance of $97,760 U. It is unfavorable because the favorable efficiency variance was not
sufficient to compensate for the large unfavorable spending variance.

8-24 Fixed manufacturing overhead variance analysis (continuation of 8-23). The

Sourdough Bread Company also allocates fixed manufacturing overhead to products on the basis
of standard direct manufacturing labor-hours. For 2017, fixed manufacturing overhead was
budgeted at $3.00 per direct manufacturing labor-hour. Actual fixed manufacturing overhead
incurred during the year was $294,000.

Required:
1. Prepare a variance analysis of fixed manufacturing overhead cost. Use Exhibit 8-4 (page 304)
as a guide.
2. Is fixed overhead underallocated or overallocated? By what amount?
3. Comment on your results. Discuss the variances and explain what may be driving them.

SOLUTION

(30 min.) Fixed manufacturing overhead variance analysis (continuation of 8-23).

1. Budgeted standard direct manufacturing labor used = 0.02 per baguette

Budgeted output = 3,100,000 baguettes
Budgeted standard direct manufacturing labor-hours

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 = 3,100,000 × 0.02
= 62,000 hours
Budgeted fixed manufacturing overhead costs
= 62,000 × $3.00 per hour
= $186,000
Actual output = 2,600,000 baguettes
Allocated fixed manufacturing overhead
= 2,600,000 × 0.02 × $3
= $156,000

Fixed Manufacturing Overhead Variance Analysis for Sourdough Bread Company for 2017

Flexible Budget:
Allocated:
Same Budgeted Budgeted Input Qty.
Same Budgeted
Allowed for
Lump Sum
Actual Costs Lump Sum Actual Output
(as in Static Budget)
Incurred (as in Static Budget) × Budgeted Rate
Regardless of
(1) Regardless of (4)
Output Level
Output Level (3)
(2)
(2,600,000 × 0.02 × $3)
$294,000 $186,000 $186,000 $156,000

$108,000 U $30,000 U
Spending Never a variance Production-volume
variance variance

$108,000 U $30,000 U
Flexible-budget variance Production-volume
variance
$138,000 U
Underallocated fixed overhead
(Total fixed overhead variance)

2. The fixed manufacturing overhead is underallocated by $138,000.

3. The production-volume variance of $30,000 U captures the difference between the budgeted
3,100,0000 baguettes and the lower actual 2,600,000 baguettes produced—the fixed cost
capacity not used. The spending variance of $108,000 unfavorable means that the actual
aggregate spending on fixed costs ($294,000) exceeds the budgeted amount ($186,000).
For example, monthly leasing rates for baguette-making machines may have increased
above those in the budget for 2017.

8-25 Manufacturing overhead, variance analysis. The Rotations Corporation is a

manufacturer of centrifuges. Fixed and variable manufacturing overheads are allocated to each

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centrifuge using budgeted assembly-hours. Budgeted assembly time is 2 hours per unit. The
following table shows the budgeted amounts and actual results related to overhead for June 2017.

Required:
1. Prepare an analysis of all variable manufacturing overhead and fixed manufacturing overhead
variances using the columnar approach in Exhibit 8-4 (page 304).
2. Prepare journal entries for Rotations’ June 2017 variable and fixed manufacturing overhead
costs and variances; write off these variances to Cost of Goods Sold for the quarter ending
June 30, 2017.
3. How does the planning and control of variable manufacturing overhead costs differ from the
planning and control of fixed manufacturing overhead costs?

SOLUTION
(30–40 min.) Manufacturing overhead, variance analysis.

1. The summary information is:

Flexible Static
The Rotations Corporation (June 2017) Actual Budget Budget
Outputs units (number of assembled units) 220 220 150
Hours of assembly time 396 440c 300a
Assembly hours per unit 1.80b 2.00 2.00
Variable mfg. overhead cost per hour of assembly time $ 32.05d $ 31.00 $ 31.00
Variable mfg. overhead costs $12,693 $13,640e $ 9,300f
Fixed mfg. overhead costs $15,510 $14,100 $14,100
Fixed mfg. overhead costs per hour of assembly time $ 39.17g $ 47.00h

a
150 units 2 assembly hours per unit = 300 hours


b
396 hours 220 units = 1.80 assembly hours per unit


c
220 units 2 assembly hours per unit = 440 hours


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d
$12,693 396 assembly hours = $33.15 per assembly hour


e
440 assembly hours $31 per assembly hour = $13,640


f
300 assembly hours $31 per assembly hour = $9,300


g
$15,510 396 assembly hours = $33.83 per assembly hour


h
$14,100 300 assembly hours = $49 per assembly hour


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 Flexible Budget: Allocated:
Actual Input Qty.
 Budgeted Input Budgeted Input Budgete
Actual Costs Qty. Allowed Budgeted Qty. Allowed d
for Actual Output Rate for Actual Output Rate
 
Incurred Budgeted Rate
  
Variable 396 $31.00 440 $31.00 440 $31.00
Manufacturin
g assy. hrs. per assy. hr. assy. hrs. per assy. hr. assy. hrs. per assy. hr.
Overhead $12,693 $12,276 $13,640 $13,640

$417 U $1,364 F
Spending variance Efficiency variance Never a variance
$947 F
Flexible-budget variance Never a variance

$947 F
Overallocated variable overhead

Flexible Budget: Allocated:

Budgeted Input
Actual Costs Static Budget Lump Sum Static Budget Lump Sum Allowed Budgeted
for Actual Output Rate

Incurred Regardless of Output Level Regardless of Output Level

Fixed 440 $47.00
Manufacturin
g assy. hrs. per assy. hr.
Overhead $15,510 $14,100 $14,100 $20,680

$1,410 U $6,580 F

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Spending Variance Never a Variance Production-volume variance

$1,410 U $6,580 F
Flexible-budget variance Production-volume variance

$5,170 F
Overallocated fixed overhead

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The summary analysis is:

Spending Efficiency Production-Volume

Variance Variance Variance
Variable
Manufacturing $417 U $1,364 F Never a variance
Overhead
Fixed Manufacturing
Overhead $1,410 U Never a variance $6,580 F

2. Variable Manufacturing Costs and Variances

12,
a. Variable Manufacturing Overhead Control 693
Accounts Payable Control and various other accounts 12,693
To record actual variable manufacturing overhead costs
incurred.

b. Work-in-Process Control 13,640

Variable Manufacturing Overhead Allocated 13,640
To record variable manufacturing overhead allocated.

c. Variable Manufacturing Overhead Allocated 13,640

Variable Manufacturing Overhead Spending Variance 417
Variable Manufacturing Overhead Control 12,693
Variable Manufacturing Overhead Efficiency Variance 1,364
To isolate variances for the accounting period.

d. Variable Manufacturing Overhead Efficiency Variance 1,364

Variable Manufacturing Overhead Spending Variance 417
Cost of Goods Sold 947
To write off variable manufacturing overhead variances to cost of goods sold.

Fixed Manufacturing Costs and Variances

a. Fixed Manufacturing Overhead Control 15,510

Salaries Payable, Acc. Depreciation, various other accounts 15,510
To record actual fixed manufacturing overhead costs incurred.

b. Work-in-Process Control 20,680

Fixed Manufacturing Overhead Allocated 20,680
To record fixed manufacturing overhead allocated.

c. Fixed Manufacturing Overhead Allocated 20,680

Fixed Manufacturing Overhead Spending Variance 1,410

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 Fixed Manufacturing Overhead Production-Volume Variance 6,580
Fixed Manufacturing Overhead Control 15,510
To isolate variances for the accounting period.

d. Fixed Manufacturing Overhead Production-Volume Variance 6,580

Fixed Manufacturing Overhead Spending Variance 1,410
Cost of Goods Sold 5,170
To write off fixed manufacturing overhead variances to cost of goods sold.

3. Planning and control of variable manufacturing overhead costs has both a long-run and a
short-run focus. It involves Rotations planning to undertake only value-added overhead activities
(a long-run view) and then managing the cost drivers of those activities in the most efficient way
(a short-run view). Planning and control of fixed manufacturing overhead costs at Rotations have
primarily a long-run focus. It involves undertaking only value-added fixed-overhead activities
for a budgeted level of output. Rotations makes most of the key decisions that determine the
level of fixed-overhead costs at the start of the accounting period.

8-26 4-variance analysis, fill in the blanks. ProChem, Inc., produces chemicals for
large biotech companies. It has the following data for manufacturing overhead costs during
August 2017:
Variable Fixed
Actual costs incurred $35,000 $16,500
Costs allocated to products 36,000 15,200
Flexible budget –––––– 16,000
Actual input × budgeted rate 31,500 ––––––

Fill in the blanks. Use F for favorable and U for unfavorable:

Variable Fixed
(1) Spending variance $ $
(2) Efficiency variance
(3) Production-volume variance
(4) Flexible-budget variance
(5) Underallocated (overallocated) manufacturing
overhead

SOLUTION
(1015 min.) 4-variance analysis, fill in the blanks.

Variable Fixed

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1. Spending variance $3,500 U $ 500 U
2. Efficiency variance 4,500 F NEVER
3. Production-volume variance NEVER 800 U
4. Flexible-budget variance 1,000 F 500 U
5. Underallocated (overallocated) MOH 1,000 F 1,300 U

These relationships could be presented in the same way as in Exhibit 8-4.

Flexible Budget: Allocated:

Budgeted Input Qty. Budgeted Input Qty.
Allowed for Allowed for
Actual Costs Actual Input Qty. Actual Output Actual Output
Incurred × Budgeted Rate × Budgeted Rate × Budgeted Rate
(1) (2) (3) (4)
Variable $35,000 $31,500 $36,000 $36,000
MOH

$3,500 U $4,500 F
Spending Efficiency Never a variance
variance variance
$1,000 F
Flexible-budget variance Never a variance
$1,000 F
Overallocated variable overhead
(Total variable overhead variance)

Flexible Budget:
Allocated:
Same Budgeted Budgeted Input Qty.
Same Budgeted Allowed for
Actual Costs Lump Sum Actual Output
Incurred Lump Sum (as in Static Budget) × Budgeted Rate
(1) (as in Static Budget) Regardless of (4)
Regardless of Output Level
Output Level (3)
(2)
Fixed $16,500 $16,000 $16,000 $15,200
MOH
$500 U $800 U
Spending Never a variance Production-volume

$500 U $800 U
Flexible-budget variance Production-volume
variance
$1,300 U
Underallocated fixed overhead
(Total fixed overhead variance)

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An overview of the 4 overhead variances is:

Production-Volume
4-Variance Spending Efficiency Variance
Analysis Variance Variance
Variable
Overhead $3,500 U $4,500 F Never a variance
Fixed
Overhead $ 500 U Never a variance $800 U

8-27 Straightforward 4-variance overhead analysis. The Lopez Company uses

standard costing in its manufacturing plant for auto parts. The standard cost of a particular auto
part, based on a denominator level of 4,000 output units per year, included 6 machine-hours of
variable manufacturing overhead at $8 per hour and 6 machine-hours of fixed manufacturing
overhead at $15 per hour. Actual output produced was 4,400 units. Variable manufacturing
overhead incurred was $245,000. Fixed manufacturing overhead incurred was $373,000. Actual
machine-hours were 28,400.

Required:
1. Prepare an analysis of all variable manufacturing overhead and fixed manufacturing
overhead variances, using the 4-variance analysis in Exhibit 8-4 (page 304).
2. Prepare journal entries using the 4-variance analysis.
3. Describe how individual fixed manufacturing overhead items are controlled from day to day.
4. Discuss possible causes of the fixed manufacturing overhead variances.

SOLUTION
(20–30 min.) Straightforward 4-variance overhead analysis.

1. The budget for fixed manufacturing overhead is 4,000 units × 6 machine-hours × $15
machine-hours/unit = $360,000.

An overview of the 4-variance analysis is:

4-Variance Spending Efficiency Production-

Analysis Variance Variance Volume Variance
Variable
Manufacturing $17,800 U $16,000 U Never a Variance
Overhead

Fixed
Manufacturing $13,000 U Never a Variance $36,000 F
Overhead

Solution Exhibit 8-27 has details of these variances.

A detailed comparison of actual and flexible budgeted amounts is:

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 Actual Flexible Budget
Output units (auto parts) 4,400 4,400
Allocation base (machine-hours) 28,400 26,400a
Allocation base per output unit 6.45b 6.00
Variable MOH $245,000 $211,200c
Variable MOH per hour $8.63d $8.00
Fixed MOH $373,000 $360,000e
Fixed MOH per hour $13.13f –
a
4,400 units × 6.00 machine-hours/unit = 26,400 machine-hours
b
28,400 ÷ 4,400 = 6.45 machine-hours per unit
c
4,400 units × 6.00 machine-hours per unit × $8.00 per machine-hour = $211,200
d
$245,000 ÷ 28,400 = $8.63
e
4,000 units × 6.00 machine-hours per unit × $15 per machine-hour = $360,000
f
$373,000 ÷ 28,400 = $13.13
2. Variable Manufacturing Overhead Control 245,000
Accounts Payable Control and other accounts 245,000

Work-in-Process Control 211,200

Variable Manufacturing Overhead Allocated 211,200

Variable Manufacturing Overhead Allocated 211,200

Variable Manufacturing Overhead Spending Variance 17,800
Variable Manufacturing Overhead Efficiency Variance 16,000
Variable Manufacturing Overhead Control 245,000

Fixed Manufacturing Overhead Control 373,000

Wages Payable Control, Accumulated Depreciation
Control, etc. 373,000

Work-in-Process Control 396,000

Fixed Manufacturing Overhead Allocated 396,000

Fixed Manufacturing Overhead Allocated 396,000

Fixed Manufacturing Overhead Spending Variance 13,000
Fixed Manufacturing Overhead Production-Volume Variance 36,000
Fixed Manufacturing Overhead Control 373,000

3. Individual fixed manufacturing overhead items are not usually affected very much by
day-to-day control. Instead, they are controlled periodically through planning decisions and
budgeting procedures that may sometimes have horizons covering six months or a year (for
example, management salaries) and sometimes covering many years (for example, long-term
leases and depreciation on plant and equipment).

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4. The fixed overhead spending variance is caused by the actual realization of fixed costs
differing from the budgeted amounts. Some fixed costs are known because they are
contractually specified, such as rent or insurance, although if the rental or insurance contract
expires during the year, the fixed amount can change. Other fixed costs are estimated, such as
the cost of managerial salaries which may depend on bonuses and other payments not known at
the beginning of the period. In this example, the spending variance is unfavorable, so actual
FOH is greater than the budgeted amount of FOH.
The fixed overhead production volume variance is caused by production being over or
under expected capacity. You may be under capacity when demand drops from expected levels,
or if there are problems with production. Over capacity is usually driven by favorable demand
shocks or a desire to increase inventories. The fact that there is a favorable volume variance
indicates that production exceeded the expected level of output (4,400 units actual relative to a
denominator level of 4,000 output units).

SOLUTION EXHIBIT 8-27

Flexible Budget: Allocated:

Budgeted Input Budgeted Input
Allowed for Allowed for
Actual Costs Actual Input Actual Output Actual Output
Incurred × Budgeted Rate × Budgeted Rate × Budgeted Rate
(1) (2) (3) (4)
Variable (28,400 × $8) (4,400 × 6 × $8) (4,400 × 6 × $8)
MOH $245,000 $227,200 $211,200 $211,200

$17,800 U $16,000 U
Spending Efficiency Never a
variance variance variance
$33,800 U
Flexible-budget variance Never a

$33,800 U
Underallocated variable
overhead

Flexible Budget:
Allocated:
Same Budgeted Budgeted Input
Same Budgeted Allowed for
Actual Costs Lump Sum Actual Output
Incurred Lump Sum (as in Static Budget) × Budgeted Rate
(1) (as in Static Budget) Regardless of (4)
Regardless of Output Level
Output Level (3)
(2)
Fixed (4,000 × 6 × $15) (4,000 × 6 × $15) (4,400 × 6 × $15)
MOH $373,000 $360,000 $360,000 $396,000

$13,000 U $36,000 F
Spending Never a variance Production-volume
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 $13,000 U $36,000 F
Flexible-budget variance Production-volume
$23,000 F variance
Overallocated fixed overhead
(Total fixed overhead variance)

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