STANDARD COSTING

Lecture # 19
ANALYSIS OF VARIANCES

 Possible reasons for

materials price variance.
1. Inefficient purchasing
methods.
2. Use of a slightly different
material than the standard
called for.
3. Increase in market price.
ANALYSIS OF VARIANCES (CONT.)

 Reasons for materials

usage variance.
1. Materials were spoiled
or wasted.
2. More materials were
used as an experiment
to upgrade the quality
of the product.
JOURNAL ENTRIES IN A STANDARD COST SYSTEM

Recording of materials cost in a standard cost system.

Work in Process XX (Standard)
Materials Quantity Variance XX (Unfavorable) XX (Favorable)
Materials Price Variance XX (Unfavorable) XX (Favorable)
Factory Overhead (Indirect Materials) XX
Materials (Actual) XX

Recording of labor in a standard cost system.

Work in Process XX (Standard)
Labor Rate Variance XX (Unfavorable) XX (Favorable
Labor Efficiency Variance XX (Unfavorable) XX (Favorable)
Factory Overhead (Indirect Labor) XX
Payroll XX
JOURNAL ENTRIES IN A STANDARD COST SYSTEM (CONT.)

Applying factory overhead to work in process.

Work in Process (standard cost) XX
Applied Factory Overhead XX

Transfer to finished goods.

Finished Goods (standard cost) XX
Work in Process XX

Record actual factory overhead.

Factory Overhead (actual) XX
Various Credits XX
ACCOUNTING FOR VARIANCES
To record the entry for direct materials cost: To record the entry applying factory overhead to
work in process:
Work in Process XX
Work in Process XX
Applied Factory Overhead XX
Materials Quantity Variance XX
Materials Price Variance XX
Materials XX
To record the entry for finished
goods at standard cost:
To record the entry for direct labor Finished Goods XX
cost: Work in Process XX
Work in Process XX
Labor Rate Variance XX
Labor Efficiency Variance XX
Payroll XX
DISPOSITION OF THE VARIANCES
1. Prorate the variances to Cost of Goods Sold, Work in Process, and Finished
Goods in proportion to the standard materials, labor, and overhead costs
included in the ending balances for those accounts.

2. Close the variance entirely to Cost of Goods Sold for the period.

3. If 2 (above) would materially misstate financial statements, prorate (1, above).

4. If production is seasonal or varies greatly, set up a deferred charges or credits

on interim balance sheets, and dispose of at year end using one of the above
methods.

5. If due to abnormal circumstances, charge off as extraordinary gains or losses

on the income statement.
FACTORY OVERHEAD – DETERMINING STANDARD COSTS

 Involves estimation of factory overhead at the standard

level of production taking historical data and future
changes into consideration.

 Standard cost is applied to Work in Process based on

number of units produced.

 Factory overhead is debited with actual costs and

credited with standard costs.
MANUFACTURING OVERHEAD VARIANCES

Recall
Recall that
that overhead
overhead costs
costs are
are applied
applied to
to
products
products and
and services
services using
using aa
predetermined
predetermined overhead
overhead rate
rate (POHR):
(POHR):
Applied Overhead = POHR × Standard Activity

Estimated total overhead costs

POHR =
Estimated activity
MANUFACTURING OVERHEAD VARIANCES

Contains fixed Contains variable

overhead that overhead that
remains constant as increases as
activity changes. activity increases.

Overhead Rate

Function of activity level

chosen to determine rate.
TWO-VARIANCE METHOD
 Divides the total variance into two parts.
 Controllable variance
 The amount by which the actual factory overhead costs
differ from the standard overhead costs for the attained
level of production.
 Volume variance
 The difference between budgeted fixed overhead and the
fixed overhead applied to work in process.
FOH VARIANCES

Overhead budgeted
Actual factory overhead Applied factory overhead
for actual production

Controllable variance Volume variance

Net factory
overhead variance
FOH VARIANCES

Overhead budgeted
Actual factory overhead Applied factory overhead
for actual production

Controllable variance / Volume variance /

Spending Variance idle capacity variance

Net factory
overhead variance
MANUFACTURING OVERHEAD VARIANCES

Budgeted Applied
Actual Overhead at Overhead at
Overhead Actual Activity Standard Hours

Shows how economically

Controllable Volume
overhead services were
purchased and how
Variance Variance
efficiently overhead
services were used.
Contains both fixed
and variable costs.
A controllable variance.
MANUFACTURING OVERHEAD VARIANCES

Budgeted Applied
Actual Overhead at Overhead at
Overhead Actual Activity Standard Hours

Spending Volume
Variance
Caused by producing at
a level other than that
Variance
used for computing the
standard overhead rate.
Contains only fixed costs.
MANUFACTURING OVERHEAD Zippy
VARIANCES EXAMPLE

Hanson, Inc. has the following manufacturing

overhead at three different levels of activity:
Machine Hours 2,000 3,000 4,000
Zippies 1,000 1,500 2,000
Variable Overhead $ 4,000 $ 6,000 $ 8,000
Fixed Overhead 9,000 9,000 9,000
Total Overhead $ 13,000 $ 15,000 $ 17,000

Hanson applies overhead based on machine hour activity.

OVERHEAD VARIANCES Zippy
QUESTION 1

The
The total
total overhead
overhead rate
rate for
for an
an estimated
estimated
activity
activity of
of 3,000
3,000 machine
machine hours
hours (MH)
(MH) is:
is:

a.
a. $5.00
$5.00 per
per machine
machine hour.
hour.
b.
b. $4.00
$4.00 per
per machine
machine hour.
hour.
c.
c. $3.00
$3.00 per
per machine
machine hour.
hour.
d.
d. $2.00
$2.00 per
per machine
machine hour.
hour.
OVERHEAD VARIANCES Zippy
QUESTION 1

The
The total
total overhead
overhead rate
rate for
for an
an estimated
estimated
activity
activity of
of 3,000
3,000 machine
machine hours
hours (MH)
(MH) is:
is:
$15,000 ÷ 3,000 machine hours

a.
a. $5.00
$5.00 per
per machine
machine hour.
hour.
b.
b. $4.00
$4.00 per
per machine
machine hour.
hour.
c.
c. $3.00
$3.00 per
per machine
machine hour.
hour.
d.
d. $2.00
$2.00 per
per machine
machine hour.
hour.
OVERHEAD VARIANCES Zippy
QUESTION 1

The
The total
total overhead
overhead rate
rate for
for an
an estimated
estimated
activity
activity of
of 3,000
3,000 machine
machine hours
hours (MH)
(MH) is:
is:
$15,000 ÷ 3,000 machine hours

a.
a. $5.00
$5.00 per
per machine
machine hour.
hour.
The $5.00 overhead rate contains
a variable portion:
b. $4.00 per machine
b. $4.00 per machine hour.
$6,000 hour.
÷ 3,000 MH = $2.00 per MH
and a fixed portion:
c. $3.00 per machine
c. $3.00 per machine hour.
$9,000 hour.
÷ 3,000 MH = $3.00 per MH
d.
d. $2.00
$2.00 per
per machine
machine hour.
hour.
MANUFACTURING OVERHEAD Zippy
VARIANCES EXAMPLE

Hanson’s
Hanson’s actual
actual production
production for
for the
the
period
period was
was 1,600
1,600 Zippies
Zippies resulting
resulting in
in
3,200
3,200 standard
standard machine
machine hours.
hours. Actual
Actual
total
total overhead
overhead cost
cost for
for the
the period
period was
was
$15,450.
$15,450.
Compute
Compute the
the overhead
overhead spending
spending
and
and volume
volume variances.
variances.
MANUFACTURING OVERHEAD Zippy
VARIANCES EXAMPLE

Budgeted Applied
Actual Overhead at Overhead at
Overhead Standard Hours Standard Hours

$15,450 $9,000 fixed 3,200 hrs.

+ ×
$6,400 variable $5.00 per hr.

$2.00 per hr. × 3,200 hrs.

MANUFACTURING OVERHEAD Zippy
VARIANCES EXAMPLE

Budgeted Applied
Actual Overhead at Overhead at
Overhead Standard Hours Standard Hours

$15,450 $9,000 fixed 3,200 hrs.

+ ×
$6,400 variable $5.00 per hr.
$15,450 $15,400 $16,000

Spending variance Volume variance

$50 unfavorable $600 favorable