CHAPTER 9

Flexible Budgets,
Overhead Cost Variances,
and
Management Control

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 Planning and Overhead

•Variable overhead—as efficiently as

possible, plan only essential activities
•Fixed overhead—as efficiently as possible,
plan only essential activities, especially
because fixed costs are predetermined
well before the budget period begins

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 Standard Costing

•Traces direct costs to output by multiplying the

standard prices or rate by the standard
quantities of inputs allowed for actual outputs
produced
•Allocates overhead costs on the basis of the
standard overhead-cost rates times the
standard quantities of the allocation bases
allowed for the actual outputs produced
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A Roadmap: Variable Overhead

Flexible Budget: Allocated:

Actual Costs
Budgeted Input Budgeted
Incurred: Actual Inputs
Allowed for Input Allowed for
Actual Input X
Actual Output Actual Output
X Budgeted Rate
X X
Actual Rate
Budgeted Rate Budgeted Rate

Spending Efficiency Never a

Variance Variance Variance

Flexible-Budget Never a
Variance Variance

Total Variable Overhead Variance

Over/Under Allocated Variable Overhead

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A Roadmap: Fixed Overhead

Same Budgeted Flexible Budget: Allocated:

Lump Sum Same Budgeted Budgeted
Actual Costs (as in Static Lump Sum (as in Input Allowed for
Incurred Budget) Static Budget) Actual Output
Regardless of Regardless of X
Output Level Output Level Budgeted Rate
Production-
Spending Never a Volume
Variance Variance Variance

Production-
Flexible-Budget
Volume
Variance
Variance

Total Fixed Overhead Variance

Over/Under Allocated Fixed Overhead

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 Overhead Variances

•Overhead is the most difficult cost to

manage, and is the least understood.
•Overhead variances involve taking
differences between equations as the
analysis moves back and forth between
actual results and budgeted amounts.

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Developing Budgeted Variable
Overhead Cost Rates
1. Choose the period to be used for the budget.
2. Select the cost-allocation bases to use in allocating
variable overhead costs to output produced.
3. Identify the variable overhead costs associated
with each cost-allocation base.
4. Compute the rate per unit of each cost-allocation
base used to allocate variable overhead costs to
output produced.

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The Details: Variable OH Variances

• Variable overhead flexible-budget variance measures

the difference between actual variable overhead costs
incurred and flexible-budget variable overhead
amounts.

Variable Overhead Actual Costs Flexible-budget

flexible-budget variance = Incurred - amount

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 The Details: Variable OH Variances

• Variable overhead efficiency variance is the difference

between actual quantity of the cost-allocation base
used and budgeted quantity of the cost per unit of the
cost-allocation base.

{ }X
Variable Actual quantity of Budgeted quantity of Budgeted variable
Overhead variable overhead variable overhead cost- overhead cost
Efficiency = cost-allocation base - allocation based allowed per unit of
Variance used for actual output for actual output cost-allocation base

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The Details: Variable OH Variances

• Variable overhead spending variance is the difference

between actual and budgeted variable overhead cost
per unit of the cost-allocation base, multiplied by actual
quantity of variable overhead cost-allocation base used
for actual output.

{ }X
Variable Actual variable Budgeted variable Actual quantity of
Overhead overhead cost overhead cost variable overhead
Spending = per unit of - per unit of cost-allocation base
Variance cost-allocation base cost-allocation base used for actual output

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Developing Budgeted Fixed Overhead
Cost Rates
1. Choose the period to be used for the budget.
2. Select the cost-allocation bases to use in allocating
fixed overhead costs to output produced.
3. Identify the fixed overhead costs associated with
each cost-allocation base.
4. Compute the rate per unit of each cost-allocation
base used to allocate fixed overhead costs to
output produced.

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The Details: Fixed OH Variances

• Fixed overhead flexible-budget variance is the

difference between actual fixed overhead costs and
fixed overhead costs in the flexible budget.
• This is the same amount for the fixed overhead
spending variance.

Fixed Overhead
flexible-budget variance = Actual Costs
Incurred - Flexible-budget
amount

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The Details: Fixed OH Variances

• Production-volume variance is the difference between budgeted fixed

overhead and fixed overhead allocated on the basis of actual output
produced.
• This variance is also known as the denominator-level variance or the
output-level overhead variance.

Production-Volume Budgeted Fixed Overhead allocated using

Variance = Fixed Overhead - budgeted input allowed for
actual output units produced

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Production-Volume Variance

• Interpretation of this variance is difficult due to the nature of

the costs involved and how they are budgeted.
• Fixed costs are by definition somewhat inflexible. While
market conditions may cause production to flex up or down,
the associated fixed costs remain the same.
• Fixed costs may be set years in advance, and may be difficult
to change quickly.
• Contradiction: Despite this, examination of the fixed
overhead budget formulae reveals that it is budgeted similar
to a variable cost.

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Variable Overhead
Variance Analysis Illustrated

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Fixed Overhead
Variance Analysis Illustrated

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Production-Volume Variance

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Integrated
Variance
Analysis
Illustrated

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© 2012 Pearson Prentice Hall. All rights reserved.