- 20 Marks
MA – L2 – Q17- Standard costing and variance analysis
Question
GreenLeaf Organics, based near Tamale, makes a product – the EcoShield Spray. It is an organic alternative to chemical sprays.
For the forthcoming period, budgeted fixed costs were GH₵6,000, and budgeted production and sales were 1,300 units.
The EcoShield Spray has the following standard cost:
| GH₵ | |
|---|---|
| Selling price | 50 |
| Materials 5 kg × GH₵4/kg | 20 |
| Labour 3 hrs × GH₵4/hr | 12 |
| Variable overheads 3 hrs × GH₵3/hr | 9 |
Actual results for the period were as follows:
1,100 units were made and sold, earning revenue of GH₵57,200.
6,600 kg of materials were bought at a cost of GH₵29,700, but only 6,300 kg were used.
3,600 hours of labour were paid for at a cost of GH₵14,220. The total cost for variable overheads was GH₵11,700, and fixed costs were GH₵4,000.
The company uses marginal costing and values all inventory at standard cost.
Required:
(a) Produce a statement reconciling actual and budgeted profit using appropriate variances.
(b) Assuming now that the company uses absorption costing, recalculate the fixed production overhead variances.
(c) Discuss possible causes for the labour variances you have calculated.
Answer
Materials price variance: based on quantities purchased since inventories are valued at standard cost
6,600 kg of materials should cost (× GH₵4) = 26,400
They did cost = 29,700
Material price variance = 3,300 (A)
Materials usage variance
1,100 units produced should use (× 5 kg) = 5,500 kg
They did use = 6,300 kg
Usage variance in kg = 800 (A)
Standard price per kg = GH₵4
Usage variance in GH₵ = 3,200 (A)
Labour rate variance
3,600 hours of labour should cost (× GH₵4) = 14,400
They did cost = 14,220
Labour rate variance = 180 (F)
Labour efficiency variance
1,100 units produced should take (× 3 hours) = 3,300 hours
They did take = 3,600 hours
Efficiency variance in hours = 300 (A)
Standard rate per hour = GH₵4
Efficiency variance in GH₵ = 1,200 (A)
Fixed overhead expenditure variance
Budgeted fixed overhead costs = 6,000
Actual fixed overhead costs = 4,000
Fixed overhead expenditure variance = 2,000 (F)
Variable overhead expenditure variance
3,600 hours should cost (× GH₵3) = 10,800
They did cost = 11,700
Variable overhead expenditure variance = 900 (A)
Variable overhead efficiency variance
300 hours (A) × GH₵3 per hour = GH₵900 (A).
Sales price variance
1,100 units should sell for (× GH₵50) = 55,000
They did sell for = 57,200
Sales price variance = 2,200 (F)
Sales volume (contribution margin) variance
Budgeted sales volume in units = 1,300
Actual sales volume in units = 1,100
Sales volume variance in units = 200 (A)
× Standard contribution per unit = GH₵9
Sales volume variance in GH₵ contribution = GH₵1,800 (A)
Budgeted profit
Budgeted contribution GH₵9.00 × 1,300 units = 11,700
Budgeted fixed costs = (6,000)
Budgeted profit = 5,700
Actual profit
| GH₵ | GH₵ | |
|---|---|---|
| Sales | 57,200 | |
| Materials | 29,700 | |
| Less closing inventory (300 kg × GH₵4.00) | (1,200) | 28,500 |
| Labour | 14,220 | |
| Variable overheads | 11,700 | |
| Fixed costs | 4,000 | |
| Total | (58,420) | |
| Actual loss in the period | (1,220) |
Operating statement
| GH₵ | |
|---|---|
| Budgeted profit | 5,700 |
| Sales volume variance | 1,800 (A) |
| Sales price | 2,200 (F) |
| 6,100 | |
| Cost variances | (F) |
| Materials price | |
| Materials usage | |
| Labour rate | 180 |
| Labour efficiency | |
| Variable overhead rate | |
| Variable overhead efficiency | |
| Fixed overhead expenditure | 2,000 |
| Total | 2,180 |
| Total cost variances | 7,320 (A) |
| Actual loss | (1,220) |
(B)
Tutorial note
If the company uses absorption costing with a direct labour hour absorption rate, we can calculate an expenditure, capacity, and efficiency variance for fixed production overheads.
The first step is to calculate a budgeted absorption rate per hour:
Budgeted labour hours: 1,300 × 3 = 3,900 hrs
Budgeted fixed cost GH₵6,000
Budgeted absorption rate: GH₵6,000 / 3,900 = GH₵1.54
Fixed overhead expenditure variance
Same as in (a): GH₵2,000 (F).
Fixed overhead capacity variance
Budgeted hours of work = 3,900
Actual hours worked = 3,600
Capacity variance in hours = 300 (A)
Standard fixed overhead rate per hour = GH₵1.54
Fixed overhead capacity variance in GH₵ = 462 (A)
Fixed overhead efficiency variance
Efficiency variance in hours = 300 hours (A) – see answer to (a).
Fixed overhead efficiency variance = 300 hours (A) × GH₵1.54 = GH₵462 (A).
(C) Labour rate
The labour rate variance is favourable, indicating a lower rate per hour was paid than expected. This is perhaps because more junior or less experienced staff were used during production. Though less likely, it is possible that staff had a pay cut imposed upon them. Finally, an incorrect or outdated standard could have been used.
Labour efficiency
This is significantly adverse, indicating staff took much longer than expected to complete the output. This may relate to the favourable labour rate variance, reflecting employment of less skilled or experienced staff. Staff demotivated by a pay cut are also less likely to work efficiently.
It may also relate to the reliability of machinery, as staff may have been prevented from reaching full efficiency by unreliable equipment.
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