Question

Question 5 (23 marks) Cleanup Ltd produces an industrial chemical and uses a standard costing system to keep tight control over its costs. At the beginning of 2017, the following standard cost sheet (for one unit) was prepared: Direct materials (10kg @ $1.60/kg) Direct labour (0.75 hrs @$18.00hr) Fixed overhead (? /hr) Variable overhead (? /hr) Standard cost per unit $16.00 13.50 3.00 2.25 $34.75 Manufacturing overhead is allocated based on direct labour hours. The budgeted overhead rate is determined using a practical capacity of 72,000 units (the denominator level of activity). Actual results for 2017 were as follow: Units produced: 70,000 Materials purchased: 744,000 kilograms at $1.50/kg Materials used in production: 736,000 kilograms Direct labour: 56,000 hours at $17.90hour Total fixed overhead incurred: $214,000 Total variable overhead incurred: $175,400 The company isolates variances at the earliest point in time. Required: (For your variance calculations make sure to indicate if they are favourable or unfavourable) Calculate the price and efficiency (quantity) variances for materials for the year (a) and briefly explain the two variances you have calculated indicating if they would be investigated using 'management by exception'. (5 marks) Calculate the labour rate (price) and labour efficiency variances for the year. (3 marks) (b) Calculate the fixed overhead budget (spending) and production volume variances and interpret the production volume variance you have calculated. (4 Marks) (c) Calculate the variable overhead spending and efficiency variances for the period. (3 Marks) (d) When overhead is allocated based on direct labour hours as for Cleanup Ltd, is it possible to have an unfavourable labour efficiency variance and at the same time have a favourable variable overhead efficiency variance? Briefly explain.(Hint: consider the formula) (e) (3 Marks) Unrelated to the information above, explain the use of the Flexible Budget Variance and the Sales Volume Variance (as calculated for a Level 2 Analysis). Consider how they differ and why management use a level 2 analysis? (5 marks) (0)

Answer 1

a.

Material price Variance

As it is given that the company isolates variances at the earliest point in time, actual quantity purchased which happens before quantity consumed , is used here.

MPV=(Std.Price-Actual price)*Actual quantity purchased

(1.60-1.50)*744000=

74400

F

Material Efficiency / Quantity Variance

MQV=(Total Std.qty. for actual prodn.-Total Actual qty.)*Std.price/qty.

((70000*10)-736000)*1.6=

-57600

UF

Yes.As for MQV,the management can enquire & analyse about the excess usage of materials per unit of production---like any wastage ,etc.

With respect to MPV, as it depends on the market price, the management has to ensure that they do not compromise on quality , as there is the possibility that it may reflect as negative MQV , as above.

Positive variance also needs to be analysed & understood , in conjunction with other variances.

b..

Labor rate/ price Variance

LRV=(Std.rate/hr-Actual rate/hr.)*Actual labor hrs. used

(18-17.9)*56000=

5600

F

Labor Efficiency Variance

LEV=(Total Std.hrs.for actual prodn.-Total Actual hrs.)*Std.labor rate/hr.

((70000*0.75)-56000)*18=

-63000

UF

c. FOH Budget /Spending variance

FOH budgeted-Actual FOH incurred

(72000*3)-214000=

2000

F

Production Volume Variance

(Budgeted units of production- Actual units produced)*Std.FOH rate/unit

(72000-70000)*3=

6000

UF

Actual Expenses on FOH is mathematically $ 2000 ((72000*3)-216000-214000=2000) less than that budgeted.

As the no.of units produced is less, FOH absorbed/applied will be less

Lesser amounts of FOH are absorbed by units produced as per this volume variance

d.VOH Spending Variance

VOHSV=(Std.VOH rate/hr-Actual VOH rate/hr.)*Actual labor hrs. used

((2.25/0.75)-(175400/56000))*56000=

-7400

UF

VOH Efficiency Variance

VOHEV=(Total Std.hrs.for actual prodn.-Total Actual hrs.)*Std.VOH rate/hr.

((70000*0.75)-56000)*3=

-10500

UF

e.

Labor Efficiency Variance

LEV=(Total Std.hrs.for actual prodn.-Total Actual hrs.)*Std.labor rate/hr.

VOH Efficiency Variance

VOHEV=(Total Std.hrs.for actual prodn.-Total Actual hrs.)*Std.VOH rate/hr.

No, not possible. Both will have the same type of variance.

(Total Std.hrs.for actual prodn.-Total Actual hrs.)--- this part is common to both the formulae.

If std. hrs.are more it will result in an unfavourable variance &

If actual hrs. are more it will result in a favourable variance &