Managerial Accounting
Balakrishnan | Sivaramakrishnan | Sprinkle | Carty | Ferraro
Chapter 8: Budgetary Control and Variance Analysis
Prepared by Debbie Musil, Kwantlen Polytechnic University
Variance Analysis
• Compare budgeted and actual results to
isolate the impact of individual inputs
and outputs
• Used to
− Revise plan assumptions
− Evaluate employee performance
LO1: Understand how companies use budgets for control.
The Master Budget
• Benchmark for computing variances
• As you know, the master budget specifies in
detail
− Sales volumes and prices
− Input quantities and costs
• Planned efficiencies and prices
− Capacity costs
• Also termed overhead cost
• The master budget is like picking a point on
the profit line in the CVP graph
LO1: Understand how companies use budgets for control.
Cindy’s Master Budget
LO1: Understand how companies use budgets for control.
Many Possible Sources
• Variance could be due to
− Output quantities and/or prices
− Input efficiencies and/or prices
− Errors in estimated overhead costs
• Variance analysis
− Linear decomposition of overall profit
variance into above factors
− Turns “one dial” at a time
LO1: Understand how companies use budgets for control.
$20.95
1
$14.30
2
$6.65
3 $19,950
4 $14,000
1
$3.75 in materials + $10.00* in labour + $0.55 in variable overhead
*($10.00 = $20 per hour x 0.50 hours per cake)
2
$20.95 - $14.30
3
$3,000 x $6.65
4
$19,950 - $14,000
Variance Conventions
LO2: Perform variance analysis.
Actual Results Differ
Master
Budget
3,500
Actual
Results
3,800
Variance
300 F
$73,325
$75,810
$2,485 F
$13,125
$14,567
($1,442) U
35,000
39,000
-4,000 U
1,925
2,262
-337 U
$23,275
$19,981
($3,294) U
Rent
$2,500
$2,500
$0
Equipment costs
10,000
10,500
-500 U
1,500
1,500
0
$9,275
$5,481
Number of cakes sold
Revenue
Variable Costs
Raw materials
Direct labour
Variable overhead
Contribution Margin
Fixed Costs
Transportation
Profit before Taxes
($3,794) U
LO1: Understand how companies use budgets for control.
Conceptual Approach
Master
budget
Flexible
Budget
Flexible
budget
Flexible
budget
(actual
price)
(act.
efficiency)
Actual
results
Output Quantity Budget
Actual
Actual
Actual
Actual
Output Price
Budget
Budget
Actual
Actual
Actual
Input Efficiency Budget
Budget
Budget
Actual
Actual
Input Price
Budget
Budget
Budget
Actual
Budget
LO2: Perform variance analysis.
Structure of Variances
LO2: Perform variance analysis.
$79,610
$58,660
$40,040
$45,760
$21,280
$25,270
$14,000
$14,000
Sales Volume Variance
• Difference in profit between master and flexible
budgets
= Flexible Budget Profit – Master Budget Profit
= (Actual Sales Quantity – Budgeted Sales Quantity) x
Budgeted Unit Contribution Margin
• Flexible budget is at actual output quantity
− Sales volume is only change in plan assumption
− Profit difference is due to change in sales volume
• Focus on change in profit & not revenue
− Change in volume changes revenues and variable costs
− Fixed costs do not change if volume changes
LO2: Perform variance analysis.
Sales Volume Variance
Profit ($)
Profit ($)
Sales
Volume
Variance
+
Flexible
Budget
Variance
=
Total
Profit
Variance
Flexible
Budget
Profit
Master
Budget
Profit
Actual
Profit
Profit Line (per
CVP relation)
B
A
C
0
Volume of
Activity
Budgeted
volume
Actual
volume
(Fixed Costs)
Volume of Activity
LO2: Perform variance analysis.
Sales Volume Variance - Concept
Total Profit Variance
Sales Volume
Variance
Master budget
profit
Flexible Budget
Variance
Profit in flexible
budget
Sales volume variance
Actual
profit
Flexible budget variance
Total profit variance
LO2: Perform variance analysis.
Tabular Format
F
U
F
U
LO2: Perform variance analysis.
1
300
$6.65
2 $2,445
1
3,800 cakes – 3,500 cakes
2
300 x $6.65
Flexible Budget Variance
LO2: Perform variance analysis.
Cost Variances
• Cost in flexible budget is the right
benchmark
− Activity volume the same in flexible budget
and actual operations
• Can compare line items
− Materials
− Labour
− Overhead costs
LO2: Perform variance analysis.
Flexible Budget Variances
LO2: Perform variance analysis.
Cost Variances - Concept
Variable Cost
Variance
Quantity
Variances
Cost item in
flexible budget
Quantity variance
Price
Variances
“as if”
cost item
Cost item in
actual results
Price variance
Flexible budget variance for given cost
LO2: Perform variance analysis.
1
19.95
20.95
3,800
2
1
$75,810 actual revenue / 3,800 cakes actually sold
2
($19.95 - $20.95) x 3,800 = $3,800 U
Tabular Format
Data for Butter
Master Budget : 0.75 lbs @ $2.40/lb
Flexible budget: 0.75 lbs @ $2.40/lb
Actual:
? lbs @ $2.40/lb
2,625 lbs for $6,300 for 3,500 cakes
2,850 lbs for $6,840 for 3,800 cakes
2,775 lbs for $6,660 for 3,800 cakes
Flexible
Budget
“As if”
budget
input quantity ×
budgeted price)
(Actual input
quantity ×
budgeted price)
Input
Quantity
(Flexible budget Variance
Input
Price
Variance
Actual
Results
(Actual input
quantity ×
Actual price)
Raw materials
Butter
$6,840
$180 F
$6,660
$0
$6,660
Total (raw material)
$14,250
$192 F
$14,058
($509) U
$14,567
Direct labour
$38,000 ($1,000) U
$39,000
$0
$39,000
Variable overhead
Total Variable
Costs
$2,090
($55) U
$2,145
($117) U
$2,262
$54,340
($863) U
$55,203
($626) U
$55,829
LO2: Perform variance analysis.
Profit Reconciliation
Master Budget Profit
Sales volume variance
Flexible budget variances
Sales price variance
M aterials variances
Price variances (total)
Efficiency variances (total)
Total
Labour variances
Price variance
Efficiency variance
Total
Variable overhead
Price variance
Efficiency variance
Total
Fixed cost spending
Actual Profit
$1,995 F
$9,275
$1,995
($3,800) U
($3,800)
($509) U
192 F
($317) U
($317)
$0
($1,000) U
($1,000) U
($1,000)
($117)
($55)
($172)
($500)
U
U
U
U
($172)
($500)
$5,481
LO2: Perform variance analysis.
$0.14
$0.12
18,600
19,000
2
3
1
5 eggs per cake x 3,800 cakes
2
$372 U = [($0.12 - $0.14) x 18,600]
3
$48 F = [(19,000 – 18,600) x $0.12]
1
Interpreting Variances
• Investigate all significant variances
− Large variance shows poor plan / execution
• Examine trends
− Consistent sign may be related to plan
assumptions
• Consider the total picture
− Variances ignore interactions
− Price-quantity, input substitution
LO3: Interpret variances to determine possible corrective actions.
Non-financial Controls
• Non financial measures better on
− Timeliness
− Specificity
• Non-financial measures used for
− Process control
• Provide localized feedback for immediate action
− Agency control (Chapter 12 & 13)
LO4: Explain how nonfinancial measures complement variance analysis.
(Appendix A)
PURCHASE PRICE VARIANCE
Appendix A
Rationale
• We calculated materials price variance based
on quantity of materials used
− This can differ from quantity purchased
− Firms want to know a variance sooner than later
− Thus, many calculate the materials price variance on
the quantity of materials purchased.
• Which approach is better?
− “Quantity purchased” is the pure approach and is
consistent with a traditional accounting view
− We continue to employ “quantity used”
• Helps with profit reconciliation
Appendix A
(Appendix B and C)
MARKETING VARIANCES
Appendix B and C
Appendix B: Market Size and Share
• This is a drill down of sales volume
variance
− Similar in principle to breaking down labour
variance into labour rate and labour quantity
variances
− Volume (in units or $) = Size × Share
• Sales Volume Variance does not distinguish
• The decomposition calculates the variance of
each
Appendix B and C
Decomposition: Graphical
Static budget profit
Planned market size
x Planned market share
x Planned UCM
Flexible budget profit
Actual market size
x Planned market share
x Planned UCM
Market size variance
Actual market size
x Actual market share
x Planned UCM
Market share variance
Sales volume variance
Appendix B and C
Example
Static budget profit
Flexible budget profit
(3,500 cakes)
(3,800 cakes)
17,500 cakes
x 20% share
x $6,65/cake = $28,525
20,000 cakes
x 20% share
x $6.65/cake = $32,600
Market size variance
$3,325 F
20,000
x 19% share
x $6.65/cake = $30,970
Market share variance
$1,330 U
Sales volume variance
$1,995 F
Appendix B and C
Appendix C: Multiple Products
• Thus, far we have considered a one product case
− Budget was budgeted quantity and UCM. Flexible budget
based on actual quantity and budgeted UCM
− Thus: Sales volume variance = (Actual quantity – budgeted
quantity) * budgeted UCM
• With Multi-product case
− Budget at budgeted quantity and budgeted UCM for each
product
− Flexible budget at actual quantity and budgeted UCM for
each product
• We can perform analysis in two ways
− Analyze each product separately
• Appropriate when products are independent
− Consider each product as a (total quantity * % share of
product)
• Useful when products are substitutes / complements
Appendix B and C
Multi-product Variance Analysis
• Focus on second type of analysis
− Recall that in CVP, when we considered multiple products,
we used sales mix (% sales of each kind) to calculate
Weighted Unit Contribution Margin (WUCM).
− Identical concept used here
• Use budgeted total sales (in units) and budgeted WUCM to compute
master budget
• Use actual total sales (in units) and actual WUCM in flexible budget
• But, this affects two amounts – total sales and WUCM
− Can decompose into a sales mix variance and a sales
quantity variance
Appendix B and C
Pacific Telephones
Budgeted Results
Product
PT1000
PT2000
Total
Sales
Unit
Sales (in
Price per Variable
Units)
$29.95
$8.50
150,000
$59.95
$24.00
50,000
200,000
UCM
$21.45
$35.95
Actual Results
Product
PT1000
PT2000
Sales
Unit
Price per Variable Sales (in
Unit
Cost
Units)
$29.00
$8.45
154,000
$60.50
$24.25
47,000
201,000
UCM
$20.55
$36.25
Appendix B and C
Sales Volume Variance
Static budget profit
200,000 plan units
x $25.075 plan WUCM
Profit in flexible budget
201,000 Actual units
x $25.075 Plan WUCM
Sales quantity variance
$25,075 F
201,000 Actual units
x $24.841 WUCM in
flexible budget
Sales mix variance
$47,125 U
Sales volume variance
$22,050 U
Appendix B and C
Exercise 8.34
Calculating materials and labour price and quantity variances (LO2).
The Glass Vessel Company has established the following
budget for producing one of its hand-blown vases:
Materials (silica) 2 kilograms @ 1.25 per kilogram
Labour
1.5 hours @ $15.00 per hour
In March of the most recent year, Glass Vessel produced 300
vases using 650 kilograms of materials. Glass Vessel
purchased the 650 kilograms of materials for $845. Labour
costs for March were $7,200 for 480 hours worked.
Required:
a) What were Glass Vessel’s materials price and materials quantity
variances for March?
b) What were Glass Vessel’s labour price and labor quantity
variances for March?
Exercise 8.34 (Continued)
a) What were Glass Vessel’s materials price and materials quantity
variances for March?
To calculate the materials price and quantity variances, we need to know:
(1) the flexible budget for materials; (2) the “as if” budget for materials
with actual efficiencies; and (3) the actual results. The table below
provides the required computations and accompanying variances.
Flexible
1
Materials
Budget
$750
Quantity
Variance
$62.50 U
“As if”
2
budget
$812.50
Actual
Price
3
Variance Results
$32.50 U
$845
Exercise 8.34 (Continued)
a) What were Glass Vessel’s materials price and materials quantity
variances for March?
Flexible
1
Materials
Budget
$750
Quantity
Variance
$62.50 U
“As if”
budget2
$812.50
Actual
Price
Variance Results3
$32.50 U
$845
$750 = 300 vases actually produced × 2 kilograms of materials
budgeted per vase × $1.25 budgeted cost per kilogram.
1
$812.50 = 650 kilograms of materials actually used × $1.25 budgeted
cost per kilogram.
2
3
Given.
Thus, Glass Vessel’s materials price and quantity variances were
$32.50 U and $62.50U, respectively, for March.
Exercise 8.34 (Continued)
b) What were Glass Vessel’s labour price and labour quantity
variances for March?
As in part [a], to calculate the labour price and quantity variances, we
need to know: (1) the flexible budget for labour; (2) the “as if” budget; and
(3) the actual results. The table below provides the required computations
and accompanying variances.
Flexible
Labour
Budget1
$6,750
Quantity
Variance
$450 U
“As if”
budget2
$7,200
Price
Variance
$0
Actual
Results3
$7,200
Exercise 8.34 (Continued)
b) What were Glass Vessel’s labour price and labour quantity
variances for March?
Flexible
1
Labor
Budget
$6,750
Quantity
Variance
$450 U
“As if”
2
budget
$7,200
Price
Variance
$0
Actual
Results
$7,200
$6,750 = 300 vases actually produced × 1.5 hours of labour
budgeted per vase × $15.00 budgeted cost per labour hour.
1
$7,200 = 480 hours actually worked × $15 budgeted cost per labour
hour.
2
3
Given.
Thus, Glass Vessel’s labour price and quantity variances were $0 and
$450 U, respectively, for March.
3
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