Sva - Student Copy P1

Variance Analysis
Learning Objectives:
1. Explain how standard costs are developed.
2. Calculate and interpret variances for direct material.
3. Calculate and interpret variances for direct labor.
4. Calculate and interpret variances for manufacturing
overhead.
5. Prepare journal entries to record standard costs and
variances.
Definitions
STANDARD COSTS – are
predetermined or target unit costs of
production which should be attained under
efficient conditions. It is the amount and
costs of direct material, direct labor, and
factory overhead required to produce one
unit of finished product.
STANDARD COST SYSTEM –
is an accounting system which uses
standard costs rather than actual costs to
account for units as they flow through the
manufacturing process.
Standard Costs
Based on carefully
predetermined amounts.
Used for planning labor, material

Standard and overhead requirements.
Costs are
The expected level
of performance.
Benchmarks for
measuring performance.
Objectives of Standard Cost System
1. To help a business operate more
effectively and more efficiently
2. It helps accomplish organization
goals by obtaining optimum
output from the inputs available.
Uses of Standard Costing

1. Inventory
2. Planning and controlling costs
3. Measurement of performance
4. Budget preparation
5. Motivating employees
Types of Standards
1. Perfection (Ideal or Theoretical) Cost
Standards – are absolute minimum costs
attainable under operating conditions.
2. Current Attainable Cost (Normal)
Standards – standard that can be attained
under efficient operating conditions. It is
useful for employee motivation, product
costing and budgeting.
Advantages of Standard Costs
Possible reductions Management by
in production costs exception
Advantages
Improved cost control Better Information

and performance for planning and
evaluation decision making
Emphasis on negative Favorable variances
may impact morale. may be misinterpreted.
Potential
Problems Continuous
Standard cost improvement
reports may may be more
not be timely. important than
meeting standards.
Labor quantity standards Emphasizing standards

and efficiency variances may exclude other
may not be appropriate. important objectives.
Setting Direct Materials Standards
Standard Quantity
- Industrial engineers develop specification for the kinds and
quantities of materials used in producing the goods
budgeted.
- Operation schedules list the materials and quantities
required for the expected volume of production.
Standard Price
- Information from the operation schedule and bills of
material established jointly by the engineering department,
the manufacturing supervisor
and the accountant becomes the basis for
the material price standard.
Setting Direct Material Standards
Price Quantity
Standards Standards
Final, delivered Use product

cost of materials, design specifications.
net of discounts.
Setting Direct Labor Standards
Rate Time
Standards Standards
Use wage Use time and

surveys and motion studies for
labor contracts. each labor operation.
Setting Overhead Standards
- Factory overhead cost standards provide a means of allocating
factory overhead to cost inventories for pricing decisions and
controlling expenses
- A capacity level is selected as the volume-based or denominator
capacity.
- Costs are allocated on a volume-related or non-volume related base.
Commonly used volume-related basis:

a. Machine hours
b. Direct labor-hours
c. Direct labor costs
d. Direct materials costs
e. Units or production
After expressing volume based on machine hours,

the number of inspection, or another basis,
the factory incurred at this level is estimated.
Setting Variable Overhead Standards
Rate Activity
Standards Standards
The rate is the The activity is the

variable portion of the base used to calculate the
predetermined overhead predetermined overhead.
rate.
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
Standards vs. Budgets
A standard is the
expected cost for one
Are standards the unit.
same as budgets? A budget is the
expected cost for all
units.
Variance Analysis
- Analysis of variances reveals that causes of deviations
between standard and actual costs. This feedback aids
in planning future goals, controlling costs and
evaluating performance.
Variances – are the difference between standard and actual

costs. A variance is considered FAVORABLE if actual
costs are less than the standard costs, and
UNFAVORABLE if actual costs exceed standard costs.
Variance Analysis Cycle
Take
Identify Receive corrective
questions explanations actions
Conduct next
Analyze period’s
variances operations
Prepare standard
Begin
cost performance
report
Standard Cost Variances
Standard Cost Variances
Price Variance Quantity Variance
The difference between The difference between

the actual price and the the actual quantity and
standard price the standard quantity
A General Model for Variance Analysis
Actual Quantity Actual Quantity Standard Quantity

× × ×
Actual Price Standard Price Standard Price
Standard price is the amount that should have been paid for the resources
acquired.

× × ×
Standard quantity is the quantity allowed for the actual good output.

× × ×
AQ(AP - SP) SP(AQ - SQ)

AQ = Actual Quantity SP = Standard Price
AP = Actual Price SQ = Standard Quantity
Standard Costs
Let’s use the general

model to calculate
standard cost
variances, starting with
direct material.
FORMULAS:
Materials Price Variance
Actual Price P xx
Less: Standard Price xx
Difference in Price xx
Multiplied by:
Actual Quantity Purchased* xx
Unfavorable (Favorable) P xx
Materials Quantity Variance

Actual Quantity P xx
Less: Standard Quantity xx
Difference in Quantity xx
Multiplied by:
Standard Price xx
* - actual quantity used if quantity purchased is not known

Material Variances Example Zippy
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.
Material Variances Zippy
What
What isis the
the actual
actual price
price per
per pound
pound
paid
paid for
for the
the material?
material?
a.
a. $4.00
$4.00 perper pound.
pound.
b.
b. $4.10
$4.10 perper pound.
pound.
c.
c. $3.90
$3.90 perper pound.
pound.
d.
d. $6.63
$6.63 perper pound.
pound.
What
What isis the
the actual
actual price
price per
per pound
pound
paid
paid for
for the
the material?
material?
a.
a. $4.00
$4.00 perper pound.
pound.
b.
b. $4.10
$4.10 perper pound.
pound.
AP = $6,630 ÷ 1,700 lbs.
c.
c. $3.90
$3.90 perper pound.
pound. AP = $3.90 per lb.
d.
d. $6.63
$6.63 perper pound.
pound.
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.
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.
MPV = AQ(AP - SP)
d.
d. $800
$800 favorable.
favorable.
MPV = 1,700 lbs. × ($3.90 - 4.00)
MPV = $170 Favorable
The
The standard
standard quantity
quantity of
of material
material that
that
should
should have
have been
been used
used toto produce
produce
1,000
1,000 Zippies
Zippies is:
is:
a.
a. 1,700
1,700 pounds.
pounds.
b.
b. 1,500
1,500 pounds.
pounds.
c.
c. 2,550
2,550 pounds.
pounds.
d.
d. 2,000
2,000 pounds.
pounds.
The
The standard
standard quantity
quantity of
of material
material that
that
should
should have
have been
been used
used toto produce
produce
1,000
1,000 Zippies
Zippies is:
is:
a.
a. 1,700
1,700 pounds.
pounds.
b.
b. 1,500
1,500 pounds.
pounds.
c.
c. 2,550
2,550 pounds.
pounds.
d.
d. 2,000
2,000 pounds.SQ = 1,000 units × 1.5 lbs per unit
pounds.
SQ = 1,500 lbs
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.
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
Material Variances SummaryZippy

× × ×
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
Price variance Quantity variance

$170 favorable $800 unfavorable
Recording Material Costs
Purchase of raw materials inventory:
Account dr. cr.
Raw Material Inventory (AQ@SP)) x
Material Price Variance (Un) x
Accounts Payable (AQ@AP)) x
Usage of raw materials inventory:

Account dr. cr.
Work in Process Inventory(SQ@SP) x
Material Quantity Variance (Un) x
Raw Material Inventory (AQ@SP) x
Materials Price Variance
The possible causes of materials price variance are as follows:

1. Fluctuations in market price of materials
2. Purchasing from distant suppliers, which results in additional
transportation costs
3. Failure to take cash discounts available
4. Purchasing materials of substandard quality or in uneconomical lots
5. Unfavorable purchase terms
Responsibility: the Purchasing Department is usually responsible for material
price variances. However, the Production Department could be responsible
for unfavorable price variance occurring (1) because of a request for rush
order due to poor scheduling or (2) when they specify certain brand-name
materials or materials of certain grade or quality other those initially included
in the bill of materials.
Materials Quantity or Usage Variance
The possible causes of materials quantity or usage variance are as
follows:
1. Waste and loss of materials in handling and processing
2. Substitution of defective or non-standard materials
3. Spoilage or production of excess scrap because or
inexperienced workers or poor supervision
4. Lack of proper tools or machines
5. Variation yields from materials
Responsibility: Production line supervisors should be held
responsible for materials under their control.
SAMPLE PROBLEM:
1. Information on Duke Co.'s direct material costs for May is as follows:
Actual quantity of direct materials
purchased and used 30,000 lbs.
Actual cost of direct materials $84,000
Unfavorable direct materials usage variance 3,000
Standard quantity of direct materials
allowed for May production 29,000 lbs.

For the month of May, Duke's direct materials price variance was:
A. $2,800 favorable
B. $2,800 unfavorable
C. $6,000 unfavorable
D. $6,000 favorable
E. none of the above

SAMPLE PROBLEM: ANSWER
D . Information on Duke Co.'s direct material costs for May is as follows:
Actual quantity of direct materials purchased and used 30,000 lbs.
Actual cost of direct materials $84,000
Unfavorable direct materials usage variance 3,000
Standard quantity of direct materials allowed for May production
29,000 lbs.

For the month of May, Duke's direct materials price variance was:
A. $2,800 favorable
B. $2,800 unfavorable
C. $6,000 unfavorable
D. $6,000 favorable

SUPPORTING CALCULATION:

$3,000 = x (30,000 - 29,000)
1,000 x = $3,000
x = $3
y = $2.80 - $3.00(30,000)
y = ($6,000) favorable
Standard Costs
Now let’s calculate

standard cost variances
for
direct labor.
FORMULAS:
Labor Rate Variance
Actual Labor Rate P xx
Less: Standard Labor Rate xx
Difference in Rate xx
Multiplied by:
Actual Hours xx
Labor Efficiency or Time Variance

Actual Hours xx
Less: Standard Hours xx
Difference in Hours xx
Multiplied by:
Standard Labor Rate P xx
Labor Variances Example Zippy
Hanson Inc. has the following direct labor

standard to manufacture one Zippy:
1.5 standard hours per Zippy at $6.00 per
direct labor hour
Last week 1,550 direct labor hours were

worked at a total labor cost of $9,610 to
make 1,000 Zippies.
Labor Variances Zippy
What
What was was Hanson’s
Hanson’s actual
actual rate
rate (AR)
(AR)
for
for labor
labor for
for the
the week?
week?
a.
a. $6.20
$6.20 perper hour.
hour.
b.
b. $6.00
$6.00 perper hour.
hour.
c.
c. $5.80
$5.80 perper hour.
hour.
d.
d. $5.60
$5.60 perper hour.
hour.
What
What was was Hanson’s
Hanson’s actual
actual rate
rate (AR)
(AR)
for
for labor
labor for
for the
the week?
week?
a. $6.20 per hour. AR = $9,610 ÷ 1,550 hours
a. $6.20 per hour. AR = $6.20 per hour
b.
b. $6.00
$6.00 perper hour.
hour.
c.
c. $5.80
$5.80 perper hour.
hour.
d.
d. $5.60
$5.60 perper hour.
hour.
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.
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($6.20 - $6.00)
d. $300 favorable.
d. $300 favorable.LRV = $310 unfavorable
The
The standard
standard hours
hours (SH)
(SH) of
of labor
labor that
that
should
should have
have been
been worked
worked to
to produce
produce
1,000
1,000 Zippies
Zippies is:
is:
a.
a. 1,550
1,550 hours.
hours.
b.
b. 1,500
1,500 hours.
hours.
c.
c. 1,700
1,700 hours.
hours.
d.
d. 1,800
1,800 hours.
hours.
The
The standard
standard hours
hours (SH)
(SH) ofof labor
labor that
that
should
should have
have been
been worked
worked to to produce
produce
1,000
1,000 Zippies
Zippies is:
is:
a.
a. 1,550
1,550 hours.
hours.
b.
b. 1,500
1,500 hours.
hours.
c.
c. 1,700
1,700 hours.
hours.
d.
d. 1,800
1,800 hours.
hours.
SH = 1,000 units × 1.5 hours per unit
SH = 1,500 hours
Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $290
$290 unfavorable.
unfavorable.
b.
b. $290
$290 favorable.
favorable.
c.
c. $300
$300 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.
Hanson’s
Hanson’s labor
labor efficiency
efficiency variance
variance (LEV)
(LEV)
for
for the
the week
week was:
was:
a.
a. $290
$290 unfavorable.
unfavorable.
b.
b. $290
$290 favorable.
favorable.
c.
c. $300
$300 unfavorable.
unfavorable.
d.
d. $300
$300 favorable.
favorable.
LEV = SR(AH - SH)

LEV = $6.00(1,550 hrs - 1,500 hrs)
LEV = $300 unfavorable
Labor Variances Summary Zippy
Actual Hours Actual Hours Standard Hours

× × ×
Actual Rate Standard Rate Standard Rate
1,550 hours 1,550 hours 1,500 hours
× × ×
$6.20 per hour $6.00 per hour $6.00 per hour
= $9,610 = $9,300 = $9,000
Rate variance Efficiency variance

$310 unfavorable $300 unfavorable
Recording Labor Costs
Recording Labor Cost:
Account dr. cr.
Work in Process Inventory (AH@SR)) x
Labor Rate Variance (Un) x
Labor Efficiency Variance (Un) x
Wages/Sal. Payable (Actual) x
DIRECT LABOR VARIANCE ANALYSIS
- Labor cost variance is the difference between actual labor cost and standard labor cost.
- This variance may be analyzed into two components namely: the labor rate variance and
the labor usage or efficiency variance
The possible causes of labor rate variance are as follows:

1. Inexperienced workers hired
2. Change in labor rate particularly peak season that has not been incorporated in standard
rate
3. Use of an employee having a wage classification other than that assumed when the
standard for a job was set
4. Use of a greater number of higher-paid employees in the group than anticipated.
Responsibility: if production line supervisors have the authority to match workers and machines
to task by hiring the proper grade of labor, line supervisors should be responsible. They
will also be responsible if they control the wage rate of their labor force. If they do not, the
Personnel Department may be responsible.
The possible causes of labor efficiency variance are as follows:
1. Good or poor training of workers
2. Poor materials or faulty equipment
3. Good or poor supervision and scheduling of work
4. Experience or lack or experience on the job
5. Inefficient equipment
6. Machine breakdown
7. Nonstandard materials being used
Responsibility: Production line supervisors should be held responsible for labor under
their control. The Production Planning Department or the Purchasing
Department should be held responsible for any labor efficiency variance that
results from the use of non-standard material.
SAMPLE PROBLEM:
1. Information on Orman Company's direct labor costs is as follows:
Standard direct labor rate $3.75

Actual direct labor rate $3.50
Standard direct labor hours 10,000
Direct labor usage (efficiency) variance (un( $ 4,200

What were the actual hours worked, rounded to the nearest hour?
A. 11,914
B. 10,714
C. 11,120
D. 11,200

SAMPLE PROBLEM: ANSWER
1. Information on Orman Company's direct labor costs is as follows:
Standard direct labor rate $3.75
Actual direct labor rate $3.50
Standard direct labor hours 10,000
Direct labor usage (efficiency) variance (un0 $ 4,200
What were the actual hours worked, rounded to the nearest hour?
A. 11,914
B. 10,714
C. 11,120
D. 11,200
SUPPORTING CALCULATION: C
$4,200 = $3.75 (x - 10,000)
$3.75 x = $4,200 + $37,500
x = 11,120
Standard Costs
Now let’s calculate standard

cost variances for the last of
the variable production costs
– variable manufacturing
overhead.
Variable Manufacturing
Zippy
Overhead Variances Example
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
Overhead Variances
What
What waswas Hanson’s
Hanson’s actual
actual rate
rate (AR)
(AR) for
for
variable
variable manufacturing
manufacturing overhead
overhead raterate
for
for the
the week?
week?
a.
a. $3.00
$3.00 per
per hour.
hour.
b.
b. $3.19
$3.19 per
per hour.
hour.
c.
c. $3.30
$3.30 per
per hour.
hour.
d.
d. $4.50
$4.50 per
per hour.
hour.
Zippy
Overhead Variances
What
What waswas Hanson’s
Hanson’s actual
actual rate
rate (AR)
(AR) for
for
variable
overhead raterate
for
for the
the week?
week?
a.
a. $3.00
$3.00 per
per hour.
hour.
b.
b. $3.19
$3.19 per
per hour.
hour.
c. $3.30 per hour. AR = $5,115 ÷ 1,550 hours
c. $3.30 per hour. AR = $3.30 per hour
d.
d. $4.50
$4.50 per
per hour.
hour.
Zippy
Overhead Variances
Hanson’s
Hanson’s spending
spending variance
variance (SV)
(SV) for
for
variable
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
Overhead Variances
Hanson’s
Hanson’s spending
spending variance
variance (SV)
(SV) for
for
variable
overhead forfor
the
the week
week was:
was:
a.
a. $465
$465 unfavorable.
unfavorable.
b.
b. $400
$400 favorable.
favorable.
SV = AH(AR - SR)
c.
c. $335
$335 unfavorable.
unfavorable.
SV = 1,550 hrs($3.30 - $3.00)
d.
d. $300
$300 favorable.
favorable. SV = $465 unfavorable
Zippy
Overhead Variances
Hanson’s
Hanson’s efficiency
efficiency variance
variance (EV)
(EV) for
for
variable
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
Overhead Variances
Hanson’s
Hanson’s efficiency
efficiency variance
variance (EV)
(EV) for
for
variable
overhead for
for 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.EV = SR(AH - SH)
EV = $3.00(1,550 hrs - 1,500 hrs)
EV = $150 unfavorable
Zippy
Overhead Variances
Actual Hours Actual Hours Standard Hours
× × ×
Actual Rate Standard Rate Standard Rate
1,550 hours 1,550 hours 1,500 hours
× × ×
$3.30 per hour $3.00 per hour $3.00 per hour
= $5,115 = $4,650 = $4,500
Spending variance Efficiency variance

$465 unfavorable $150 unfavorable
FACTORY OVERHEAD VARIANCE
ANALYSIS
VARIABLE MANUFACTURING OVERHEAD
- Total variable manufacturing overhead variance is the difference between actual variable
overhead and standard variable overhead allowed on actual output.
- This may be broken down into:
a) Variable overhead spending variance
b) Variable overhead efficiency variance
The possible causes of variable overhead spending variance or price/controllable variance are as
follows:
1. Actual costs, e.g. machine power, materials handling, supplies were different from those
expected because of fluctuations in market prices or rates
2. Increase in energy costs
3. Waste in using supplies
4. Avoidable machine breakdowns
5. Wrong grade of indirect material and indirect labor
6. Lack of operators or tools
Responsibility: Supervisors of cost centers are responsible because they have some degree of
control over these budget or expense factors.
Fixed Overhead Variances
Actual Budgeted Applied
FOH FOH FOH
SP x SQ
FOH FOH Volume
Budget Variance
Constant Variance
Amount Total FOH Variance What should
have been
used for level
of output
Computing Fixed Overhead Variances
ColaCo
Production and Machine-Hour Data
Budgeted production 30,000 units
Standard machine-hours per unit 3 hours
Budgeted machine-hours 90,000 hours
Actual production 28,000 units
Standard machine-hours allowed for the actual production 84,000 hours
Actual machine-hours 88,000 hours
Computing Fixed Overhead Variances
ColaCo
Cost Data
Budgeted variable manufacturing overhead $ 90,000
Budgeted fixed manufacturing overhead 270,000
Total budgeted manufacturing overhead $ 360,000
Actual variable manufacturing overhead $ 100,000

Actual fixed manufacturing overhead 280,000
Total actual manufacturing overhead $ 380,000
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 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 Budget Variance
Actual Budgeted
Budget
= fixed – fixed
variance
overhead overhead
Budget
= $280,000 – $270,000
variance
Budget
= $10,000 Unfavorable
variance
A Pictorial View of the Variances
Fixed Overhead Budgeted Actual
Applied to Fixed Fixed
Work in Process Overhead Overhead
252,000 270,000 280,000
Volume variance, Budget variance,

$18,000 unfavorable $10,000 unfavorable
Total variance, $28,000 unfavorable

Computing the Variable Overhead Variances
Variable manufacturing overhead efficiency variance

VMEV = (AH × SR) – (SH × SR)
= $88,000 – (84,000 hours × $1.00 per hour)
= $4,000 unfavorable
Computing the Variable Overhead Variances
Variable manufacturing overhead rate variance

VMRV = (AH × AR) – (AH × SR)
= $100,000 – (88,000 hours × $1.00 per hour)
= $12,000 unfavorable
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
ColaCo
Computation of Underapplied Overhead
Predetermined overhead rate (a) $ 4.00 per machine-hour
Standard hours allowed for the actual output (b) 84,000 machine hours
Manufacturing overhead applied (a) × (b) $ 336,000
Actual manufacturing overhead $ 380,000
Manufacturing overhead underapplied or
overapplied $ 44,000 underapplied
Computing the Sum of All Variances
ColaCo
Computing the Sum of All variances
Variable overhead rate variance $ 12,000 U
Variable overhead efficiency variance 4,000 U
Fixed overhead budget variance 10,000 U
Fixed overhead volume variance 18,000 U
Total of the overhead variances $ 44,000 U
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
lied
app our
a d d h
rh e dar
o ve stan
xe d er
Fi 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
lied
app our
a d d h
rh e dar
o ve stan
xe d er
Fi 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
lied
app our
a d d h
rh e dar
o ve stan
xe d er
Fi 0 p Standard Denominator
. 0
$3 hours hours
0
0 Machine-hours (000) 84 90
The possible causes of capacity or volume variance are as follows:
1. Poor production scheduling

2. Unusual machine breakdowns
3. Storms or strikes
4. Fluctuations over time
5. Decrease in customer demand
6. Excess plant capacity
7. Shortage of skilled workers
Alternative Overhead Variance Approaches
• One variance
• Two variance
• Three variance
• Four variance
© 2013 Cengage Learning. All

Rights Reserved. May not be
scanned, copied, duplicated, or
posted to a publicly accessible
One Variance Approach
Actual Standard
OH Cost of OH
SP x SQ
Total OH Variance
Applied
Overhead

Two Variance Approach
Actual Budgeted OH Standard

OH based on SQ Cost of
OH
SP x SQ
Budget Volume
Variance Variance
Total OH Variance Applied
Overhead
Three Variance Approach
Budgeted OH
Actual Standard
based on based on
OH Actual Inputs Standard OH
Output
SP x SQ
OH OH
Spending Efficiency Volume
Variance Variance Variance
Total OH Variance Applied
Overhead
COMBINED MANUFACTURING OVERHEAD (Variable and Fixed)
VARIANCE ANALYSIS:
TWO-WAY VARIANCE METHOD
Controllable Variance
Actual Factory Overhead (AFOH) Pxx
Less: Budget allowed based on Std. Hrs. (BASH)
Fixed (at normal capacity) Pxx
Variable (Std. Hrs.* x Variable
Overhead Rate) xx xx
Unfavorable (Favorable) Pxx
Capacity or Volume Variance

Budget allowed based on Standard Hours (BASH) Pxx
Less: Standard hours x Standard Overhead Rate (SHSR) xx
Unfavorable (Favorable) Pxx
Total Manufacturing Overhead Variance Pxx
* Standard Hours = Equivalent Production or Allowed hours based on actual production x Standard hours per unit
THREE-WAY VARIANCE METHOD
Spending Variance
Actual Factory Overhead (AFOH) P xx
Less: Budget allowed on Actual hours (BAAH)
Variable (Actual Hrs. x Variable Overhead Rate) xx xx
Variable Efficiency Variance

Budget allowed on Actual Hours (BAAH) P xx
Less: Budget allowed on Standard hours (BASH)
Variable (Std. Hrs. x Variable Overhead Rate) xx xx
Volume Variance
Budget allowed on Standard Hours (BASH) P xx
Less: Standard hours x Standard Overhead Rate (SHSR) xx
Total Overhead Variance P xx

FOUR-WAY VARIANCE METHOD
SPENDING VARIANCE
Actual Factory Overhead (AFOH) P xx
Less: Budget Allowed based on Actual Hours (BAAH) xx
VARIABLE EFFICIENCY VARIANCE

Budget Allowed based on Actual Hours (BAAH) P xx
Less: Budget Allowed based on Standard Hours (BASH) xx
FIXED EFFICIENCY or EFFECTIVENESS VARIANCE

Standard Hours xx
Less: Actual Hours xx
Unfavorable (Favorable) xx
Multiplied by: Fixed Overhead Rate xx
IDLE CAPACITY VARIANCE

Normal Capacity Hours xx
Less: Actual Hours xx
Unfavorable (Favorable) xx
Multiplied by: Fixed Overhead Rate xx
Standard Cost Journal Entries
 Variances recorded in accounting system
 Favorable variances
 Credits
 Represent savings in production costs
 Unfavorable variances
 Debits
 Represent excess production costs
 Inventories are recorded at standard cost during
the period
Purchase of Materials
(Point of Purchase Method)
At
Standard
Materials
Cost
Price
Materials Variance Accts Pay
SP x AQ U F AP x AQ
purchased purchased
Debit—Unfavorable
Credit—Favorable
Use of Materials
At
Standard Materials
Cost Quantity
WIP Variance Materials
SP x SQ U F SP x AQ
allowed used
Debit—Unfavorable
Credit—Favorable
Record Labor
At LRV LEV
Standard
Cost
U F U F
WIP Wages Pay
SP x SQ AP x AQ
allowed
Debit—Unfavorable
Credit—Favorable
Apply Overhead
WIP VOH FOH

SP x SQ SP x SQ SP x SQ
Allowed Allowed Allowed
Year-End Treatment for VOH
VOH VOH Spending
Efficiency Variance
Variance VOH
Actual Applied
---------------
Debit—Unfavorable Enter a debit or

credit to bring
Credit—Favorable
balance to zero
Year-End Treatment for FOH
FOH
Spending Volume
Variance Variance FOH
Actual Applied
-------------
Debit—Unfavorable Enter a debit or

credit to bring
Credit—Favorable
balance to zero

Year-End Treatment of Variances
Immaterial—Adjust Cost of Goods Sold
Material—Prorate variances to:
• Material Price Variances • All other variances
– Raw Materials – WIP
– WIP – Finished Goods
– Finished Goods – Cost of Goods Sold
– Cost of Goods Sold
Closing Variance Accounts
Temporary variance accounts must be closed at the end of
the period.
Account dr. cr.
Cost of Goods Sold x
Overhead Volume Variance x
Controllable Overhead Variance x
Material Price Variance x
Material Quantity Variance x
Labor Rate Variance x
Labor Efficiency Variance x
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Variance Analysis

Used for planning labor, material

Uses of Standard Costing

Improved cost control Better Information

Labor quantity standards Emphasizing standards

Final, delivered Use product

Use wage Use time and

Commonly used volume-related basis:

After expressing volume based on machine hours,

The rate is the The activity is the

Variances – are the difference between standard and actual

Standard Cost Variances

Price Variance Quantity Variance

The difference between The difference between

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

AQ(AP - SP) SP(AQ - SQ)

Let’s use the general

Materials Quantity Variance

* - actual quantity used if quantity purchased is not known

Hanson Inc. has the following direct material

Actual Quantity Actual Quantity Standard Quantity

Price variance Quantity variance

Usage of raw materials inventory:

The possible causes of materials price variance are as follows:

Now let’s calculate

Labor Efficiency or Time Variance

Hanson Inc. has the following direct labor

Last week 1,550 direct labor hours were

LEV = SR(AH - SH)

Actual Hours Actual Hours Standard Hours

Rate variance Efficiency variance

The possible causes of labor rate variance are as follows:

Standard direct labor rate $3.75

Now let’s calculate standard

Hanson Inc. has the following variable

Last week 1,550 hours were worked to make

Spending variance Efficiency variance

Actual variable manufacturing overhead $ 100,000

Variable component of the

Fixed component of the $270,000

Fixed component of the

Overhead Predetermined Standard hours allowed

Overhead $4.00 per

Volume variance, Budget variance,

Total variance, $28,000 unfavorable

Variable manufacturing overhead efficiency variance

Variable manufacturing overhead rate variance

The sum of the overhead variances

Let’s look at a graph

1. Poor production scheduling

© 2013 Cengage Learning. All

© 2013 Cengage Learning. All

Actual Budgeted OH Standard

TWO-WAY VARIANCE METHOD

Capacity or Volume Variance

Total Manufacturing Overhead Variance Pxx

Variable Efficiency Variance

Total Overhead Variance P xx