45 Questions
What is a favourable variance in budgeting?
Favourable variances occur when actual results are better than planned outcomes.
Define unfavourable variances in budgeting.
Unfavourable variances happen when actual results are worse than planned outcomes.
How are flexible budgets different from static budgets?
Flexible budgets adjust for changes in activity levels, while static budgets remain fixed regardless of actual activity.
What is the purpose of computing and interpreting static budget variances?
Static budget variances help assess differences between planned outcomes and actual results based on fixed budget figures.
How does setting standards influence the computation and interpretation of variances?
Setting standards affects variances by providing benchmarks for comparison, enabling the evaluation of performance against predetermined criteria.
What do price and quantity variances for materials and labor indicate?
Price variances reflect differences in the cost of materials or labor, while quantity variances indicate differences in the amount used compared to the standard.
Why is it important to compute variance overhead spending and efficiency variances?
Calculating these variances helps in understanding the differences between actual overhead costs incurred and the standard overhead costs, as well as the efficiency in utilizing overhead resources.
What is the impact of actual profits being greater than expected?
Good (favourable)
How is an unfavourable profit variance defined?
When actual profits are lower than budgeted profits
Explain the concept of favourable revenue variance.
When actual revenues are greater than projected revenues in the budget
What is the main difference between a static budget and a flexible budget?
Static budget does not change with activity levels, while flexible budget adjusts to different activity levels
How is a favourable price variance determined?
When the actual price paid is less than the expected price
What is the relevant range in the context of flexible budgets?
Normal operating level where managers focus on cost drivers
Explain the relationship between sales units and revenue in an activity-based flexible budget.
Sales revenue increases with the number of units sold
What are static budget variances?
Differences between actual results and what was planned in the static budget.
Explain flexible budget variances.
Differences between actual results and what the flexible budget would have forecasted based on the actual level of output.
Why might there be variances when comparing actual results to the static budget?
Differences from the master budget, sales and cost drivers, and revenue and cost variances.
What does the flexible budget variance show?
Differences between actual results and what the flexible budget would have predicted.
How is the sales activity variance calculated?
By taking the difference between actual units sold and budgeted units, then multiplying by the contribution margin per unit.
What is the role of standards in variance computation and interpretation?
Standards help determine if financial results are better or worse than expected.
Why are company-specific standards important?
Every company has its own expected cost targets.
What is a standard cost?
Cost a company expects to pay per unit of product under ideal conditions.
What is the difference between standard cost and expected cost?
Standard cost is ideal, while expected cost is a more realistic estimate under normal conditions.
What are perfection (ideal) standards in setting standards?
Standards that represent costs in cost-efficient operations under perfect conditions with no waste or equipment failure.
Why is it important to investigate variances in budgeted and actual costs or revenues?
To understand significant differences and ensure financial performance is on track.
What criteria are commonly used to decide when to investigate variances?
Any variance exceeding £5,000 or more than 15% of the expected cost.
What is the purpose of comparing most recent financial results with the same period from the previous year?
To evaluate growth or decline over a 12-month period.
How does a flexible budget differ from a static budget for performance evaluation?
A flexible budget is updated to reflect current conditions, providing a more accurate comparison.
What is the flexible budget amount for direct materials in this scenario?
£70,000
What is the flexible budget amount for direct labour in this scenario?
£56,000
What is the flexible budget variance for direct materials in this example?
£80 favourable
What is the flexible budget variance for direct labour in this example?
£5,500 unfavourable
What does the flexible budget column represent?
Adjusted budget figures of direct materials and direct labour based on actual level of activity and standard costs.
What does the actual costs column show?
What the company actually spent on direct materials and direct labour.
What does the price variance measure in the context of labour?
Labour rate variance
What is the difference between price and quantity variance in the context of direct materials flexible budget variance?
Price variance measures how much more or less you paid for materials compared to what was expected, while quantity variance measures how much more or less materials you used compared to what was expected.
Explain the concept of labour efficiency variance.
Labour efficiency variance measures how efficiently materials/labour are used in the production process by comparing the expected hours to produce goods with the actual hours used.
What is the purpose of breaking down flexible budget variances into price and quantity variances?
The purpose is to help managers focus on specific areas such as controlling material usage or labor hours worked.
Define variable overhead spending variance.
Variable overhead spending variance measures the difference between the actual variable overhead costs and the expected costs based on the standard variable overhead rate per unit of cost driver.
What does the fixed overhead spending variance represent?
The fixed overhead spending variance represents the difference between the actual fixed costs incurred and the budgeted fixed costs.
How is the variable overhead efficiency variance calculated?
The variable overhead efficiency variance is calculated as (actual cost driver activity - standard cost driver activity allowed) x standard variable overhead rate per cost-driver unit.
What is the purpose of computing labour efficiency variance?
The purpose is to assess how efficiently materials and labor are used in the production process compared to the expected usage.
Explain the significance of variable overhead spending variance.
Variable overhead spending variance is significant as it indicates how much more or less was spent on overhead costs compared to the planned amount.
Describe the calculation of variable overhead efficiency variance.
Variable overhead efficiency variance is calculated as (actual cost driver activity - standard cost driver activity allowed) x standard variable overhead rate per cost-driver unit.
What is the difference between direct materials flexible budget variance and direct labour flexible budget variance?
Direct materials flexible budget variance relates to materials used, while direct labour flexible budget variance relates to labor hours worked.
Study Notes
Profits, Revenue, and Costs
- Profits:
- Favourable profit variance: actual profits > expected profits
- Unfavourable profit variance: actual profits < expected profits
- Revenue:
- Favourable revenue variance: actual revenue > expected revenue
- Unfavourable revenue variance: actual revenue < expected revenue
- Costs:
- Favourable cost variance: actual costs < expected costs
- Unfavourable cost variance: actual costs > expected costs
Determining Favourable and Unfavourable Variances
- Using logic to determine if a variance is favourable or unfavourable
- Price variance:
- Favourable: actual price paid < expected price
- Unfavourable: actual price paid > expected price
- Quality variance:
- Favourable: actual quantity used < standard quantity
- Unfavourable: actual quantity used > standard quantity
Flexible Budgets and Static Budgets
- Static budget:
- Set for a specific level of activity and does not change
- Does not adapt to changes in activity levels
- Flexible budget:
- Adjusts to different levels of activity
- Changes in response to actual activity levels
Constructing a Flexible Budget
- Managers need to understand how revenues and costs behave in response to changes in activity levels
- Focus on the changes within a "relevant range" (normal operating level)
- Identify cost drivers and how they affect costs
Activity-Based Flexible Budget
- Created by considering the costs associated with each specific activity a business undertakes
- Takes into account cost drivers and how they affect costs
- Budget changes based on actual cost-driving activities
Variances and Performance Evaluation
- Static budget variances:
- Differences between actual results and what was planned in the static budget
- Show how actual results compare to original expectations
- Flexible budget variances:
- Differences between actual results and what the flexible budget would have forecasted
- Show how well the company performed compared to expected performance
- Sales-activity variance:
- Difference between what the flexible budget predicted for the actual sales volume and what was expected
- Shows whether performance was better or worse than expected based on sales activity
Setting Standards and Interpreting Variances
- Role of standards:
- Help determine if financial results are better or worse than expected
- Budget costs depend on costs that were planned
- Standard costs:
- Expected costs to produce one unit of output
- Two types: direct material and direct labour
- Flexible-budget variance:
- Comparison that helps businesses understand differences between what they have budgeted for and what the actual outcomes are
- Can be broken down into price and quantity variances
Price and Quantity Variances
- Price variance:
- Difference between actual price and standard price
- Measures how much more or less you paid for materials or labour compared to what was expected
- Quantity variance:
- Difference between actual quantity used and standard quantity allowed
- Measures how much more or less materials or labour were used compared to what was expected
Variable Overhead Variances
- Variable overhead spending variance:
- How much you spend on overhead costs that change with level of production
- Measures the difference between actual and budgeted variable overhead costs
- Variable overhead efficiency variance:
- Measures the efficiency of using variable overheads
- Measures the difference between actual and standard cost driver activity
Fixed Overhead Spending Variance
- Fixed overhead spending variance:
- Costs that do not change with level of production
- Measures the difference between actual and budgeted fixed overhead costs
Key Concepts
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Favourable and unfavourable variances
-
Flexible and static budgets
-
Price and quantity variances
-
Variable overhead and fixed overhead spending variances
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Setting standards and interpreting variances### Flexible Budget and Variances
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Flexible budget is the amount of money allocated for direct materials and direct labour based on the actual level of production.
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For direct materials, the flexible budget amount is £10, with no variance since the actual cost is the same as the standard cost.
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For direct labour, the flexible budget amount is £8, with no variance since the actual cost is the same as the standard cost.
Standard Costs Allowed
- Direct material cost allowed: 7,000 units x 5 pounds/unit x £2.00/pound = £70,000
- Direct labour cost allowed: 7,000 units x 0.5 hours/unit x £16/hour = £56,000
Actual Results
- Direct material actual costs: 36,600 pounds x £1.90/pound = £69,920
- Direct labour actual costs: 3,750 hours x £16.40/hour = £61,500
Flexible Budget Concept
- To calculate the total standard cost allowed (flexible budget), multiply the actual number of good units produced, standard amount of input allowed for each unit, and standard price per unit of input.
- This calculation gives the expected cost that the company would have incurred if everything had operated according to standard costs.
Variances for Material and Labour Standards
- Flexible budget cost represents the cost that the company would have expected to incur given the actual production output if everything had operated according to standard costs.
- Material and labour variances are calculated by subtracting the actual cost from the flexible budget cost.
Material and Labour Variances
- Direct materials: £70,000 (flexible budget) - £69,920 (actual cost) = £80 favourable variance
- Direct labour: £56,000 (flexible budget) - £61,500 (actual cost) = £5,500 unfavourable variance
Flexible Budget Column and Actual Costs Column
- Flexible budget column shows adjusted budget figures of direct materials and direct labour based on actual level of activity and standard costs.
- Actual costs column shows the actual costs incurred by the company.
Analysis
- For direct materials, the company did slightly better than the flexible budget, resulting in a favourable variance.
- For direct labour, the company did significantly worse than the flexible budget, resulting in an unfavourable variance.
Price and Quantity Variances
- Price variance: the difference between the expected cost and actual cost of input.
- Labour rate variance: measures how much the actual pay rate for labour differs from the standard pay rate.
Test your knowledge on understanding variances in financial outcomes, differentiating between flexible and static budgets, utilizing flexible budget formulas, and interpreting budget variances. Get ready to assess sales-activity variances and the impact of setting standards on variance analysis.
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