MSE608C – Engineering and Financial
Cost Analysis
Budgeting and Variance Analysis
A Monthly Budget Variance
Report
June 2005
Direct Labor
Direct Material
Overhead
Budget
$50,000
60,000
150,400
Actual
$49,896
62,042
148,500
Variance
$104
(2,042)
1,900
Positive and Negative Variances
• Definition
– Positive Variances = increase profits
• They are sometimes called Credit Variances
– Negative Variances = decrease profits
• They are sometimes called Debit Variances
– Positive Variances are not necessarily good for a
company and a Negative Variance is not necessarily
bad.
Variance Analysis
There are two sources of Variance between
BUDGETS and ACTUALS.
– Spending differences
• Variance due to the COST paid for resources (price or rate)
• AQ (AP – SP)
– Volume differences
• Variance in the QUANTITY used (volume or level of activity)
• SP (AQ – SQ)
The Variance Format
ACTUAL QUANTITY AT
STANDARD PRICE
AQ x SP
ACTUAL QUANTITY AT
ACTUAL PRICE (ACTUALS)
AQ x A P
1
STANDARD QUANTITY AT
STANDARD PRICE
SQ x S P
2
1 – 2 = PRICE VARIANCE
AQ(AP-SP)
3
2 – 3 = QUANTITY VARIANCE
SP(AQ-SQ)
TOTAL VARIANCE (1 - 2) + (2 - 3)
• Negative Variances are Favorable (a credit to Overhead Variance)
• Positive Variances are Unfavorable (a debit to Overhead Variance)
AQ = Actual Quantity or Actual Volume or Actual Hours
AP = Actual Price or Actual Rate
SQ = Standard Quantity or Standard Volume or Standard Hours
SP = Standard Price or Standard Rate
Where is the information found?
(1) Actual $$$ given on monthly Variance Analysis report
(3) Budgeted $$$ given on monthly Variance Analysis report
(2) Calculated by getting AQ and SP from Accounting or other source of budget information
ACTUAL COSTS
(PROVIDED BY ACCOUNTING)
ACTUAL AMOUNT OF RESOURCE
AT STANDARD PRICE
(CALCULATED)
1
BUDGETED COSTS
(PROVIDED BY ACCOUNTING)
2
1-2
SPENDING VARIANCE
3
2-3
VOLUME VARIANCE
TOTAL VARIANCE (1 - 2) + (2 - 3)
Graphical Analysis
OH $$
Spending Variance due to Price (rate)
Volume Variance due to activity (quantity)
2
Expected $$
@ Actual volume
1
Actual $$
3
Budgeted $$
Budgeted Volume
Actual Volume
Activity
Level
A Monthly Budget Variance
Report
June 2005
Direct Labor
Direct Material
Overhead
Budget
$50,000
60,000
150,400
Actual
$49,896
62,042
148,500
Variance
$104
(2,042)
1,900
Overhead Variances under Fullabsorption Costing
• Variation for
2
Y = mx + b
Where Y = applied overhead
m = Variable Overhead rate (budgeted)
x = actual quantity of overhead vehicle (i.e. hours)
b = Fixed Overhead expenses (budgeted)
ACTUAL QUANTITY AT
ACTUAL PRICE (ACTUALS)
AQ x A P
ACTUAL QUANTITY AT
STANDARD PRICE
Y = mx + b
1
STANDARD QUANTITY AT
STANDARD PRICE
SQ x S P
2
1 – 2 = PRICE VARIANCE
AQ(AP-SP)
3
2 – 3 = QUANTITY VARIANCE
SP(AQ-SQ)
TOTAL VARIANCE (1 - 2) + (2 - 3)
Full-absorption Overhead Variance
Analysis
Variance due to Price (rate)
OH $$
3
1
2
Variance due to Volume (quantity)
Applied (Absorbed)
Actual Overhead
Spending
Volume-adjusted
Budgeted OH $$
Budgeted Volume
Actual Volume
Activity
Level
Fixed (Static) vs.Flexible Budgets
• Fixed (Static) Budgets
– Geared to one level of activity.
– Costs are always based on this one level.
• Flexible Budgets
– Separates Fixed and Variable Expenses
– Considers different levels of business activity
– More accurate and effective for managing
profits.
Fixed (Static) Budget
Budget based on 1500 units/month
Direct Labor (@ $12.00/unit)
Direct Materials (@ $24.50/unit)
Indirect Production Costs
Supervisor
Supplies
Maintenance
Utilities
Rent
Budget
18,000
36,750
2,200
1,200
4,000
1,500
6,000
Actual Variance
13,500
4500
23,900
12850
2,200
1,400
3,600
1,900
6,000
0
(200)
400
(400)
0
Flexible (Volume Adjusted)
Budget
Flexible Volume Budget (1000 units for Month)
Direct Labor (1000 @ $12.00/unit)
Direct Materials (1000 @ $24.50/unit)
Indirect Production Costs
Supervisor
Supplies
Maintenance
Utilities
Rent
Budget
12,000
24,500
2,200
1,200
4,000
1,500
6,000
Actual Variance
13,500
(1500)
23,900
600
2,200
1,400
3,600
1,900
6,000
0
(200)
400
(400)
0
Example of a Flexible Budget
Matador Company
Variances to Sales Budget for March 2003 ($000)
March
Year-To-Date
Adjusted
Budget
Sales (1096 units @ 5% discount)
Adjusted
Actual
$1,370.0
Variance
$1,370.0
$0.0
Budget
Actual
$3,870.0
$3,870.0
Variance
$0.0
Expenses
Variable
Sales commissions
2.0%
27.4
27.4
0.0
75.0
Discounts and freight allow ed
Total Variable Expenses
77.4
(2.4)
0.4%
5.5
68.5
(63.0)
2.4%
32.9
95.9
(63.0)
15.0
81.0
(66.0)
90.0
158.4
(68.4)
Salaries
40.0
41.1
(1.1)
120.0
132.0
(12.0)
Travel and entertainment
Fixed
16.0
19.0
(3.0)
48.0
45.0
3.0
Telephone
4.0
3.8
0.2
12.0
13.0
(1.0)
Advertising
8.5
8.0
0.5
25.5
25.0
0.5
Rent
3.5
4.6
(1.1)
10.5
13.8
(3.3)
Total Fixed Expenses
72.0
76.5
(4.5)
216.0
228.8
(12.8)
Total
$104.9
$172.4
($67.5)
$306.0
$387.2
($81.2)
Assessment
• What is the difference between Fixed
(static) and Flexible budgets?
• The equation that represents budgeted Fullabsorption Overhead is __________ ?
• Budgeted and allocated (absorbed)
Overhead can only intersect at one point.
True or False?