Standard Costs and Operating Performance Measures

Standard Costs and Operating
Performance Measures
Standard Costs
Standards are benchmarks or “norms” for
measuring performance. In managerial accounting,
two types of standards are commonly used.
Quantity standards Price standards

specify how much of an specify how much
input should be used to should be paid for
make a product or each unit of the
provide a service. input.
Examples: Firestone, Sears, McDonald’s, hospitals,

construction and manufacturing companies.
Standard Costs
Deviations from standards deemed significant
are brought to the attention of management, a
practice known as management by exception.
Standard
Amount
Direct
Material
Direct Manufacturing
Labor Overhead
Type of Product Cost

Variance Analysis Cycle
Take
Identify Receive corrective
questions explanations actions
Conduct next
Analyze period’s
variances operations
Prepare standard
Begin
cost performance
report
Setting Standard Costs
Accountants, engineers, purchasing

agents, and production managers
combine efforts to set standards that encourage
efficient future operations.
Setting Standard Costs
Should we use I recommend using practical
ideal standards that standards that are currently
require employees to attainable with reasonable
work at 100 percent and efficient effort.
peak efficiency?
Engineer Managerial Accountant

Learning Objective 1
Explain how direct

materials standards
and direct labor
standards are set.
Setting Direct Material Standards
Price Quantity
Standards Standards
Final, delivered Summarized in

cost of materials, a Bill of Materials.
net of discounts.
Setting Standards
Six Sigma advocates have sought to

eliminate all defects and waste, rather than
continually build them into standards.
As a result allowances for waste and

spoilage that are built into standards
should be reduced over time.
Setting Direct Labor Standards
Rate Time
Standards Standards
Often a single Use time and

rate is used that reflects motion studies for
the mix of wages earned. each labor operation.
Setting Variable Manufacturing Overhead
Standards
Rate Quantity
Standards Standards
The rate is the The quantity is

variable portion of the the activity in the
predetermined overhead allocation base for
rate. predetermined overhead.
Standard Cost Card – Variable Production
Cost
A standard cost card for one unit

of product might look like this:
A B AxB
Standard Standard Standard
Quantity Price Cost
Inputs or Hours or Rate per Unit
Direct materials 3.0 lbs. $ 4.00 per lb. $ 12.00
Direct labor 2.5 hours 14.00 per hour 35.00
Variable mfg. overhead 2.5 hours 3.00 per hour 7.50
Total standard unit cost $ 54.50
Price and Quantity Standards
Price and quantity standards are

determined separately for two reasons:
 The purchasing manager is responsible for raw

material purchase prices and the production manager
is responsible for the quantity of raw material used.
 The buying and using activities occur at different times.

Raw material purchases may be held in inventory for a
period of time before being used in production.
A General Model for Variance Analysis
Variance Analysis
Price Variance Quantity Variance
Difference between Difference between

actual price and actual quantity and
standard price standard quantity
Variance Analysis
Materials price variance Materials quantity variance

Labor rate variance Labor efficiency variance
VOH rate variance VOH efficiency variance
Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price


× × ×
Actual quantity is the amount of direct

materials, direct labor, and variable
manufacturing overhead actually used.

× × ×
Standard quantity is the standard quantity

allowed for the actual output of the period.

× × ×
Actual price is the amount actually

paid for the input used.

× × ×
Standard price is the amount that should

have been paid for the input used.

× × ×
(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ × SP)

AQ = Actual Quantity SP = Standard Price
AP = Actual Price SQ = Standard Quantity
Compute the direct

materials price and
quantity variances and
explain their
significance.
Material Variances – An Example
Glacier Peak Outfitters has the following direct

material standard for the fiberfill in its mountain
parka.
0.1 kg. of fiberfill per parka at $5.00 per kg.
Last month 210 kgs. of fiberfill were purchased and

used to make 2,000 parkas. The material cost a
total of $1,029.
Material Variances Summary

× × ×
210 kgs. 210 kgs. 200 kgs.
× × ×
$4.90 per kg. $5.00 per kg. $5.00 per kg.
= $1,029 = $1,050 = $1,000
Price variance Quantity variance

$21 favorable $50 unfavorable

× × ×
210 kgs. 210 kgs. 200 kgs.
× × kgs
$1,029  210 ×
$4.90 per kg. $5.00per
= $4.90 perkg
kg. $5.00 per kg.
= $1,029 = $1,050 = $1,000


× × ×
210 kgs. 210 kgs. 200 kgs.
× 0.1 kg per parka× 2,000 parkas ×
$4.90 per kg. $5.00
= 200 per
kgs kg. $5.00 per kg.
= $1,029 = $1,050 = $1,000

Material Variances:
Using the Factored Equations
Materials price variance

MPV = AQ (AP - SP)
= 210 kgs ($4.90/kg - $5.00/kg)
= 210 kgs (-$0.10/kg)
= $21 F
Materials quantity variance
MQV = SP (AQ - SQ)
= $5.00/kg (210 kgs-(0.1 kg/parka  2,000 parkas))
= $5.00/kg (210 kgs - 200 kgs)
= $5.00/kg (10 kgs)
= $50 U
Isolation of Material Variances
I need the price variance I’ll start computing
sooner so that I can better the price variance
identify purchasing problems. when material is
You accountants just don’t purchased rather
understand the problems that than when it’s used.
purchasing managers have.
Material Variances
The price variance is

Hanson purchased and
computed on the entire
used 1,700 pounds.
quantity purchased.
How are the variances
computed if the amount The quantity variance
purchased differs from is computed only on
the amount used? the quantity used.
Responsibility for Material Variances
Materials Quantity Variance Materials Price Variance
Production Manager Purchasing Manager
The standard price is used to compute the quantity variance

so that the production manager is not held responsible for
the purchasing manager’s performance.
Responsibility for Material Variances
Your poor scheduling

I am not responsible for sometimes requires me to
this unfavorable material rush order material at a
quantity variance. higher price, causing
unfavorable price variances.
You purchased cheap
material, so my people
had to use more of it.
Zippy
Quick Check 
Hanson Inc. has the following direct material

standard to manufacture one Zippy:
1.5 pounds per Zippy at $4.00 per pound
Last week, 1,700 pounds of material were
purchased and used to make 1,000 Zippies. The
material cost a total of $6,630.
Zippy
Quick Check 
Hanson’s
Hanson’s material
material price
price variance
variance (MPV)
(MPV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s material
material price
price variance
variance (MPV)
(MPV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d. $800 favorable. MPV = AQ(AP - SP)
d. $800 favorable.MPV = 1,700 lbs. × ($3.90 - 4.00)
MPV = $170 Favorable
Zippy
Quick Check 
Hanson’s
Hanson’s material
material quantity
quantity variance
variance (MQV)
(MQV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s material
material quantity
quantity variance
variance (MQV)
(MQV)
for
for the
the week
week was:
was:
a.
a. $170
$170 unfavorable.
unfavorable.
b.
b. $170
$170 favorable.
favorable.
c.
c. $800
$800 unfavorable.
unfavorable.
d.
d. $800
$800 favorable.
favorable.
MQV = SP(AQ - SQ)
MQV = $4.00(1,700 lbs - 1,500 lbs)
MQV = $800 unfavorable
Zippy
Quick Check 

× × ×
1,700 lbs. 1,700 lbs. 1,500 lbs.
× × ×
$3.90 per lb. $4.00 per lb. $4.00 per lb.
= $6,630 = $ 6,800 = $6,000

Zippy
Quick Check  Continued
Hanson Inc. has the following material standard to

manufacture one Zippy:
1.5 pounds per Zippy at $4.00 per pound
Last week, 2,800 pounds of material were

purchased at a total cost of $10,920, and 1,700
pounds were used to make 1,000 Zippies.
Zippy
Actual Quantity Actual Quantity

Purchased Purchased
× ×
2,800Price
Actual lbs. 2,800 lbs.
Standard Price
× ×
$3.90 per lb. $4.00 per lb.
= $10,920 = $11,200
Price variance increases

Price variance because quantity
$280 favorable purchased increases.
Zippy
Actual Quantity
Used Standard
Quantity
× ×
Standard Price Standard Price
1,700 lbs. 1,500 lbs.
× ×
$4.00 per lb. $4.00 per lb.
= $6,800 = $6,000
Quantity variance is
unchanged because
actual and standard Quantity variance
quantities are unchanged. $800 unfavorable
Compute the direct

labor rate and
efficiency variances
and explain
their significance.
Labor Variances – An Example
Glacier Peak Outfitters has the following direct labor

standard for its mountain parka.
1.2 standard hours per parka at $10.00 per hour
Last month, employees actually worked 2,500 hours

at a total labor cost of $26,250 to make 2,000
parkas.
Labor Variances Summary
Actual Hours Actual Hours Standard Hours

× × ×
Actual Rate Standard Rate Standard Rate
2,500 hours 2,500 hours 2,400 hours
× × ×
$10.50 per hour $10.00 per hour. $10.00 per hour
= $26,250 = $25,000 = $24,000
Rate variance Efficiency variance

$1,250 unfavorable $1,000 unfavorable

× × ×
× $26,250×  2,500 hours ×
$10.50 per hour $10.00 per hour.
= $10.50 per hour $10.00 per hour
= $26,250 = $25,000 = $24,000


× × ×
× ×
1.2 hours per parka  2,000 ×
$10.50 per hour parkas
$10.00 per hour.
= 2,400 hours $10.00 per hour
= $26,250 = $25,000 = $24,000

Labor Variances:
Using the Factored Equations
Labor rate variance

LRV = AH (AR - SR)
= 2,500 hours ($10.50 per hour – $10.00 per hour)
= 2,500 hours ($0.50 per hour)
= $1,250 unfavorable
Labor efficiency variance
LEV = SR (AH - SH)
= $10.00 per hour (2,500 hours – 2,400 hours)
= $10.00 per hour (100 hours)
Responsibility for Labor Variances
Production managers are Mix of skill levels

usually held accountable assigned to work tasks.
for labor variances
because they can
Level of employee
influence the:
motivation.
Quality of production
supervision.
Quality of training
provided to employees.
Production Manager
Responsibility for Labor Variances
I think it took more time
to process the
I am not responsible for materials because the
the unfavorable labor Maintenance
efficiency variance! Department has poorly
maintained your
You purchased cheap equipment.
material, so it took more
time to process it.
Zippy
Quick Check 
Hanson Inc. has the following direct labor

standard to manufacture one Zippy:
1.5 standard hours per Zippy at
$12.00 per direct labor hour
Last week, 1,550 direct labor hours were
worked at a total labor cost of $18,910
to make 1,000 Zippies.
Zippy
Quick Check 
Hanson’s
Hanson’s labor
labor rate
rate variance
variance (LRV)
(LRV) for
for the
the
week
week was:
was:
a.
a. $310
$310 unfavorable.
unfavorable.
b.
b. $310
$310 favorable.
favorable.
c.
c. $300
$300 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s labor
labor rate
rate variance
variance (LRV)
(LRV) for
for the
the
week
week was:
was:
a.
a. $310
$310 unfavorable.
unfavorable.
b.
b. $310
$310 favorable.
favorable.
c.
c. $300
$300 unfavorable.LRV = AH(AR - SR)
unfavorable.
LRV = 1,550 hrs($12.20 - $12.00)
d.
d. $300
$300 favorable.
favorable.LRV = $310 unfavorable
Zippy
Quick Check 
Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $590
$590 unfavorable.
unfavorable.
b.
b. $590
$590 favorable.
favorable.
c.
c. $600
$600 unfavorable.
unfavorable.
d.
d. $600
$600 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $590
$590 unfavorable.
unfavorable.
b.
b. $590
$590 favorable.
favorable.
c.
c. $600
$600 unfavorable.
unfavorable.
d.
d. $600
$600 favorable.
favorable.
LEV = SR(AH - SH)
LEV = $12.00(1,550 hrs - 1,500 hrs)
LEV = $600 unfavorable
Zippy
Quick Check 

× × ×
× × ×
$12.20 per hour $12.00 per hour $12.00 per hour
= $18,910 = $18,600 = $18,000

$310 unfavorable $600 unfavorable
Compute the variable

manufacturing
overhead rate and
efficiency variances.
Variable Manufacturing Overhead Variances
– An Example
Glacier Peak Outfitters has the following direct variable

manufacturing overhead labor standard for its mountain
parka.
1.2 standard hours per parka at $4.00 per hour
Last month, employees actually worked 2,500 hours to
make 2,000 parkas. Actual variable manufacturing
overhead for the month was $10,500.
Summary

× × ×
× × ×
= $10,500 = $10,000 = $9,600

Summary

× × ×
× $10,500× 2,500 hours ×
$4.20 per hour $4.00 per per
= $4.20 hourhour $4.00 per hour
= $10,500 = $10,000 = $9,600

Summary

× × ×
× ×
1.2 hours per parka  2,000 ×
$4.20 per hour parkas$4.00 per hour
= 2,400 hours $4.00 per hour
= $10,500 = $10,000 = $9,600

Variable Manufacturing Overhead
Variances: Using Factored Equations
Variable manufacturing overhead rate variance

VMRV = AH (AR - SR)
= 2,500 hours ($4.20 per hour – $4.00 per hour)
= 2,500 hours ($0.20 per hour)
= $500 unfavorable
Variable manufacturing overhead efficiency variance
VMEV = SR (AH - SH)
= $4.00 per hour (2,500 hours – 2,400 hours)
= $4.00 per hour (100 hours)
= $400 unfavorable
Zippy
Quick Check 
Hanson Inc. has the following variable

manufacturing overhead standard to
manufacture one Zippy:
1.5 standard hours per Zippy at
$3.00 per direct labor hour
Last week, 1,550 hours were worked to make
1,000 Zippies, and $5,115 was spent for
variable manufacturing overhead.
Zippy
Quick Check 
Hanson’s
Hanson’s rate
rate variance
variance (VMRV)
(VMRV) for for variable
variable
manufacturing
manufacturing overhead
overhead for
for the
the week
week was:
was:
a.
a. $465
$465 unfavorable.
unfavorable.
b.
b. $400
$400 favorable.
favorable.
c.
c. $335
$335 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s rate
rate variance
variance (VMRV)
(VMRV) for for variable
variable
manufacturing
overhead for
for the
the week
week was:
was:
a.
a. $465
$465 unfavorable.
unfavorable.
b.
b. $400
$400 favorable.
favorable.
VMRV = AH(AR - SR)
c. $335 unfavorable.
c. $335 unfavorable. VMRV = 1,550 hrs($3.30 - $3.00)
d.
d. $300
$300 favorable.
favorable. VMRV = $465 unfavorable
Zippy
Quick Check 
Hanson’s
Hanson’s efficiency
efficiency variance
variance (VMEV)
(VMEV) forfor
variable
variable manufacturing
overhead for
for the
the week
week
was:
was:
a.
a. $435
$435 unfavorable.
unfavorable.
b.
b. $435
$435 favorable.
favorable.
c.
c. $150
$150 unfavorable.
unfavorable.
d.
d. $150
$150 favorable.
favorable.
Zippy
Quick Check 
Hanson’s
Hanson’s efficiency
efficiency variance
variance (VMEV)
(VMEV) for for
variable
variable manufacturing
overhead forfor the
the week
week
was:
was:
a.
a. $435
$435 unfavorable.
unfavorable.
b.
b. $435
$435 favorable.
favorable. 1,000 units × 1.5 hrs per unit
c.
c. $150
$150 unfavorable.
unfavorable.
d.
d. $150
$150 favorable.
favorable.
VMEV = SR(AH - SH)
VMEV = $3.00(1,550 hrs - 1,500 hrs)
VMEV = $150 unfavorable
Zippy
Quick Check 

× × ×
× × ×
= $5,115 = $4,650 = $4,500

Variance Analysis and Management by
Exception
Larger variances, in
How do I know dollar amount or as
which variances to a percentage of the
investigate? standard, are
investigated first.
A Statistical Control Chart
Warning signals for investigation
Favorable Limit
• •
• • •
Desired Value
• •
Unfavorable Limit •
•
1 2 3 4 5 6 7 8 9
Variance Measurements
Advantages of Standard Costs
Management by Promotes economy

exception and efficiency
Advantages
Enhances
Simplified responsibility
bookkeeping accounting
Potential Problems with Standard Costs
Emphasizing standards Favorable
may exclude other variances may
important objectives. be misinterpreted.
Potential
Problems
Standard cost Emphasis on
reports may negative may
not be timely. impact morale.
Invalid assumptions Continuous

about the relationship improvement may
between labor be more important
cost and output. than meeting standards.
Compute delivery cycle

time, throughput time,
and manufacturing
cycle efficiency (MCE).
Delivery Performance Measures
Order Production Goods

Received Started Shipped
Process Time + Inspection Time

Wait Time + Move Time + Queue Time
Throughput Time
Delivery Cycle Time
Process time is the only value-added time.

Delivery Performance Measures
Order Production Goods

Received Started Shipped
Process Time + Inspection Time

Wait Time + Move Time + Queue Time
Throughput Time
Delivery Cycle Time

Manufacturing Value-added time
Cycle = Manufacturing cycle time
Efficiency
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the throughput
throughput time?
time?
a.
a. 10.4
10.4 days.
days.
b.
b. 0.2
0.2 days.
days.
c.
c. 4.1
4.1 days.
days.
d.
d. 13.4
13.4 days.
days.
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the throughput
throughput time?
time?
a.
a. 10.4
10.4 days.
days.
b.
b. 0.2
0.2 days.
Throughput days.
time = Process + Inspection + Move + Queue
c.
c. 4.1
4.1 days.
days. = 0.2 days + 0.4 days + 0.5 days + 9.3 days
d.
d. 13.4 days. = 10.4 days
13.4 days.
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the Manufacturing
Manufacturing Cycle
Cycle Efficiency
Efficiency (MCE)?
(MCE)?
a.
a. 50.0%.
50.0%.
b.
b. 1.9%.
1.9%.
c.
c. 52.0%.
52.0%.
d.
d. 5.1%.
5.1%.
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the Manufacturing
Manufacturing Cycle
Cycle Efficiency
Efficiency (MCE)?
(MCE)?
a.
a. 50.0%.
50.0%. MCE = Value-added time ÷ Throughput time
b.
b. 1.9%.
1.9%. = Process time ÷ Throughput time
c.
c. 52.0%.
52.0%. = 0.2 days ÷ 10.4 days
d.
d. 5.1%.
5.1%. = 1.9%
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the delivery
delivery cycle
cycle time
time (DCT)?
(DCT)?
a.
a. 0.5
0.5 days.
days.
b.
b. 0.7
0.7 days.
days.
c.
c. 13.4
13.4 days.
days.
d.
d. 10.4
10.4 days.
days.
Quick Check 
AA TQM
TQM team
team at
at Narton
Narton Corp
Corp has
has recorded
recorded the
the
following
following average
average times
times for
for production:
production:
Wait
Wait 3.0
3.0 days
days Move
Move 0.5
0.5 days
days
Inspection
Inspection 0.4
0.4 days
days Queue
Queue 9.3
9.3 days
days
Process
Process 0.20.2 days
days
What
What is
is the
the delivery
delivery cycle
cycle time
time (DCT)?
(DCT)?
a.
a. 0.5
0.5 days.
days.
b.
b. 0.7
0.7 days.
days. DCT = Wait time + Throughput time
c.
c. 13.4
13.4 days.
days. = 3.0 days + 10.4 days
d.
d. 10.4
10.4 days.
days. = 13.4 days
Predetermined Overhead Rates and Overhead
Analysis in a Standard Costing System
Appendix 11A
(Appendix 11A)
Compute and interpret
the fixed overhead
budget and volume
variances.
Fixed Overhead Budget Variance
Actual Budgeted Fixed
Fixed Fixed Overhead
Overhead Overhead Applied
Budget
variance
Actual Budgeted
Budget
= fixed – fixed
variance
overhead overhead
Fixed Overhead Volume Variance
Volume
variance
Fixed
Budgeted
Volume overhead
= fixed –
variance applied to
overhead
work in process
Fixed Overhead Volume Variance
DH × FR SH × FR
Volume
variance
Volume variance = FPOHR × (DH – SH)
FPOHR = Fixed portion of the predetermined overhead rate

DH = Denominator hours
SH = Standard hours allowed for actual output
Computing Fixed Overhead Variances
Computing Fixed Overhead Variances
Predetermined Overhead Rates
Predetermined Estimated total manufacturing overhead cost

=
overhead rate Estimated total amount of the allocation base
Predetermined $360,000
=
overhead rate 90,000 Machine-hours
Predetermined
= $4.00 per machine-hour
overhead rate
Predetermined Overhead Rates
Variable component of the $90,000
=
predetermined overhead rate 90,000 Machine-hours
Variable component of the

predetermined overhead rate
Fixed component of the $270,000

=
predetermined overhead rate 90,000 Machine-hours
Fixed component of the

predetermined overhead rate
Applying Manufacturing Overhead
Overhead Predetermined Standard hours allowed

= ×
applied overhead rate for the actual output
Overhead $4.00 per

= × 84,000 machine-hours
applied machine-hour
Overhead
= $336,000
applied
Computing the Budget Variance
Actual Budgeted
Budget
= fixed – fixed
variance
overhead overhead
Budget
= $280,000 – $270,000
variance
Budget
= $10,000 Unfavorable
variance
Computing the Volume Variance
Fixed
Budgeted
Volume overhead
= fixed –
variance applied to
overhead
work in process
Volume
variance
= $270,000 – ( $3.00 per
machine-hour
×
$84,000
)
machine-hours
Volume
= $18,000 Unfavorable
variance
Computing the Volume Variance
Volume variance = FPOHR × (DH – SH)
FPOHR = Fixed portion of the predetermined overhead rate

DH = Denominator hours
SH = Standard hours allowed for actual output
Volume
variance
=
$3.00 per
machine-hour
× ( 90,000
mach-hours
–
84,000
)
mach-hours
Volume = 18,000 Unfavorable

variance
A Pictorial View of the Variances
Actual Budgeted Fixed Overhead

Fixed Fixed Applied to
Overhead Overhead Work in Process
280,000 270,000 252,000
Budget variance, Volume variance,

Total variance, $28,000 unfavorable

Fixed Overhead Variances –
A Graphic Approach
Let’s look at a
graph showing
fixed overhead
variances. We will
use ColaCo’s
numbers from the
previous example.
Graphic Analysis of Fixed
Overhead Variances
Budget
$270,000
at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Denominator
3 .0 hours
$
0
0 Machine-hours (000) 90
Overhead Variances
Actual
$280,000
Budget { Budget Variance 10,000 U
$270,000
at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Denominator
3 .0 hours
$
0
0 Machine-hours (000) 90
Overhead Variances
Actual
$280,000
Budget { Budget Variance 10,000 U
$270,000
Applied { Volume Variance 18,000 U
$252,000
at
li ed
p p u r
d a ho
e a a r d
e rh n d
o v s ta
e d e r
Fix 0 p Standard Denominator
3 .0 hours hours
$
0
0 Machine-hours (000) 84 90
Reconciling Overhead Variances and
Underapplied or Overapplied Overhead
In a standard
cost system:
Unfavorable Favorable
variances are equivalent variances are equivalent
to underapplied overhead. to overapplied overhead.
The sum of the overhead variances

equals the under- or overapplied
overhead cost for the period.
Reconciling Overhead Variances and
Underapplied or Overapplied Overhead
Computing the Variable Overhead Variances
Variable manufacturing overhead rate variance

VMRV = (AH × AR) – (AH × SR)
= $100,000 – (88,000 hours × $1.00 per hour)
Computing the Variable Overhead Variances
Variable manufacturing overhead efficiency variance

VMEV = (AH × SR) – (SH × SR)
= $88,000 – (84,000 hours × $1.00 per hour)
Computing the Sum of All Variances
Journal Entries to Record
Variances
Appendix 11B
(Appendix 11B)
Prepare journal entries
to record standard
costs and variances.
Appendix 11B
Journal Entries to Record Variances
We will use information from the Glacier Peak Outfitters
example presented earlier in the chapter to illustrate journal
entries for standard cost variances. Recall the following:
Material
Material Labor
Labor
AQ
AQ ××AP
AP == $1,029
$1,029 AH
AH ××AR
AR == $26,250
$26,250
AQ
AQ ×× SP
SP == $1,050
$1,050 AH
AH ×× SR
SR == $25,000
$25,000
SQ
SQ ×× SP
SP == $1,000
$1,000 SH
SH ×× SR
SR == $24,000
$24,000
MPV
MPV == $21
$21 FF LRV
LRV == $1,250
$1,250 UU
MQV
MQV == $50
$50 UU LEV
LEV == $1,000
$1,000 UU
Now, let’s prepare the entries to record

the labor and material variances.
Appendix 11B
Recording Material Variances
Appendix 11B
Recording Labor Variances
Cost Flows in a Standard Cost System
Inventories are recorded at standard cost.

Variances are recorded as follows:
 Favorable variances are credits, representing
savings in production costs.
 Unfavorable variances are debits, representing
excess production costs.
Standard cost variances are usually closed out
to cost of goods sold.
 Unfavorable variances increase cost of goods sold.
 Favorable variances decrease cost of goods sold.

Standard Costs and Operating Performance Measures

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Standard Costs and Operating Performance Measures

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Standard Costs and Operating

Quantity standards Price standards

Examples: Firestone, Sears, McDonald’s, hospitals,

Type of Product Cost

Accountants, engineers, purchasing

Engineer Managerial Accountant

Explain how direct

Final, delivered Summarized in

Six Sigma advocates have sought to

As a result allowances for waste and

Often a single Use time and

The rate is the The quantity is

A standard cost card for one unit

Price and quantity standards are

 The purchasing manager is responsible for raw

 The buying and using activities occur at different times.

Price Variance Quantity Variance

Difference between Difference between

Price Variance Quantity Variance

Materials price variance Materials quantity variance

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

Actual quantity is the amount of direct

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

Standard quantity is the standard quantity

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

Actual price is the amount actually

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

Standard price is the amount that should

Actual Quantity Actual Quantity Standard Quantity

Price Variance Quantity Variance

(AQ × AP) – (AQ × SP) (AQ × SP) – (SQ × SP)

Compute the direct

Glacier Peak Outfitters has the following direct

0.1 kg. of fiberfill per parka at $5.00 per kg.

Last month 210 kgs. of fiberfill were purchased and

Actual Quantity Actual Quantity Standard Quantity

Price variance Quantity variance

Actual Quantity Actual Quantity Standard Quantity

Price variance Quantity variance

Actual Quantity Actual Quantity Standard Quantity

Price variance Quantity variance

Materials price variance

The price variance is

Materials Quantity Variance Materials Price Variance

Production Manager Purchasing Manager

The standard price is used to compute the quantity variance

Your poor scheduling

Hanson Inc. has the following direct material

Actual Quantity Actual Quantity Standard Quantity

Price variance Quantity variance

Hanson Inc. has the following material standard to

1.5 pounds per Zippy at $4.00 per pound

Last week, 2,800 pounds of material were

Actual Quantity Actual Quantity

Price variance increases

Compute the direct

Glacier Peak Outfitters has the following direct labor