hilton maher selto. 17 flexible budgets, overhead cost management, and activity-based budgeting...
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Hilton • Maher • Selto
17Flexible Budgets, Overhead
Cost Management, and Activity-Based Budgeting
McGraw-Hill/Irwin © 2003 The McGraw-Hill Companies, Inc., All Rights Reserved.
17-3
A flexible budget is valid for a range of activity
A flexible budget is valid for a range of activity A static budget
is based on aparticular planned
level of activity
A static budget is based on a
particular planned level of activity
This range of activity isthe relevant range
This range of activity isthe relevant range
A flexible overhead budget is defined as a detailed plan for controlling overhead cost
valid in the firm’s relevant range of activity
A flexible overhead budget is defined as a detailed plan for controlling overhead cost
valid in the firm’s relevant range of activity
What Are Flexible Overhead Budgets?
17-4
Based on planned June production of 4,000 tents, at 1.5
machine hours per tent.
We cannot tell from this budget what it would cost to make
3,000 tents.
Based on planned June production of 4,000 tents, at 1.5
machine hours per tent.
We cannot tell from this budget what it would cost to make
3,000 tents.
Based ononly ONE
anticipatedactivity
level
Based ononly ONE
anticipatedactivity
level
Includes several possible activity levels
Static Budget Versus Flexible Budget
Exh.17-1
17-5
ActualElectricity Cost
ActualElectricity Cost
BudgetedElectricity Cost(static budget)
BudgetedElectricity Cost(static budget)
$1,050$1,050 $1,200$1,200
The manager is comparing the electricity cost incurred at the ACTUAL activity level (3,000 tents) with the budgeted electricity
cost at the PLANNED activity level (4,000 tents).
The manager is comparing the electricity cost incurred at the ACTUAL activity level (3,000 tents) with the budgeted electricity
cost at the PLANNED activity level (4,000 tents).
These activity levels are different, therefore we would expect the electricity cost to be different
These activity levels are different, therefore we would expect the electricity cost to be different
Advantages Of Flexible Budgets
Cost VarianceCost Variance
$150 Favorable$150 Favorable
17-6
ActualElectricity Cost
ActualElectricity Cost
BudgetedElectricity Cost(flexible budget)
BudgetedElectricity Cost(flexible budget)
Cost VarianceCost Variance
$1,050$1,050 $900$900 $150 Unfavorable$150 Unfavorable
The manager is comparing the electricity cost incurred at the ACTUAL activity level, 3,000 tents with the budgeted electricity
cost at the ACTUAL activity level, (3,000 tents x 1.5 machine hours) = 4,500 machine hours
The manager is comparing the electricity cost incurred at the ACTUAL activity level, 3,000 tents with the budgeted electricity
cost at the ACTUAL activity level, (3,000 tents x 1.5 machine hours) = 4,500 machine hours
Electrical cost was greater than it should have been, given the actual level of output
Electrical cost was greater than it should have been, given the actual level of output
Advantages Of Flexible Budgets
17-7
ProductUnits
Produced
Standard Machine
Hours Per Unit
Total Standard Allowed Machine
HoursTree Line Model 1,200 1.5 1,800River's Edge Model 900 1.8 1,620Valley Model 700 2 1,400
Total 2,800 4,820
ProductUnits
Produced
Standard Machine
Hours Per Unit
Total Standard Allowed Machine
HoursTree Line Model 1,200 1.5 1,800River's Edge Model 900 1.8 1,620Valley Model 700 2 1,400
Total 2,800 4,820
Output measures require different inputs
Output measures require different inputs
Output measures can be used if you only make one
product
Output measures can be used if you only make one
product
Flexible budget must be based on outputs that
can be compared
Flexible budget must be based on outputs that
can be compared
Activity Measure: Based On Input Or Output
17-8
1.5 standardallowed
machine hours per
tent
1.5 standardallowed
machine hours per
tent
Activity: Standard allowed machine hours 4,500 6,000 7,500
Budgeted electricity costs $900 $1,200 $1,500
Flexible budget (based on input)
Activity: Standard allowed machine hours 4,500 6,000 7,500
Budgeted electricity costs $900 $1,200 $1,500
Flexible budget (based on input)
Activity: tents manufactured 3,000 4,000 5,000Budgeted electricity costs $900 $1,200 $1,500
Flexible budget (based on output)Activity: tents manufactured 3,000 4,000 5,000Budgeted electricity costs $900 $1,200 $1,500
Flexible budget (based on output)
Usually not a meaningful measure in a multi-product firm becauseit would require us to add numbers of unlike products
Usually not a meaningful measure in a multi-product firm becauseit would require us to add numbers of unlike products
Output is measured in terms of the
standard allowed
input, given actual output
Output is measured in terms of the
standard allowed
input, given actual output
Flexible Budgets: Inputs Versus Outputs
17-9
If you recall, this is similar to the
Predetermined Cost-Driver Rate
discussed in Chapter 4.
If you recall, this is similar to the
Predetermined Cost-Driver Rate
discussed in Chapter 4.
Total Budgeted Monthly
Overhead Cost =
Budgeted Variable-
Overhead Cost per Activity Unit
×Total
Activity Units
+Budgeted Fixed-Overhead Cost
per Month.
EXAMPLEAssume that the company needs flexible budget numbers for three activity levels:
4,500 hours, 6,000 hours, and 7,500 hours.
Also, assume that the Predetermined Budgeted Variable-Overhead Cost per Activity Unit is $6 per hour. Budgeted Fixed-Overhead Cost for the month is
$30,000.
EXAMPLEAssume that the company needs flexible budget numbers for three activity levels:
4,500 hours, 6,000 hours, and 7,500 hours.
Also, assume that the Predetermined Budgeted Variable-Overhead Cost per Activity Unit is $6 per hour. Budgeted Fixed-Overhead Cost for the month is
$30,000. Flexible Budget?Flexible Budget?
Formula Flexible Budget
17-10
$57,000 $66,000 $75,000
= $6 ×4,500 6,000 7,500
+ $30,000
The flexed total budgeted monthly overhead for each activity level can now be used
effectively in planning and variance analysis.
The flexed total budgeted monthly overhead for each activity level can now be used
effectively in planning and variance analysis.
Formula Flexible Budget
Total Budgeted Monthly
Overhead Cost =
Budgeted Variable-
Overhead Cost per Activity Unit
×Total
Activity Units
+Budgeted Fixed-Overhead Cost
per Month
17-11
Manufacturing Overhead Work-in-Process Inventory
Actualoverhead
Appliedoverhead
Actualhours
Predeterminedoverhead
rate
X
Appliedoverhead
Actualhours
Predeterminedoverhead
rate
X
Overhead Application - Normal Costing
The Differencebetween Normal
Costing andStandard
Costing lies inthe quantity of
hours used
The Differencebetween Normal
Costing andStandard
Costing lies inthe quantity of
hours used
Exh.17-4
17-12
Manufacturing Overhead Work-in-Process Inventory
Actualoverhead
Appliedoverhead
Standardallowedhours
Predeterminedor standardoverhead
rate
X
Appliedoverhead
Standardallowedhours
Predeterminedor standardoverhead
rate
X
Overhead Application - Standard Costing
The Differencebetween Normal
Costing andStandard
Costing lies inthe quantity of
hours used
The Differencebetween Normal
Costing andStandard
Costing lies inthe quantity of
hours used
Exh.17-4
17-13
Both normal-costing and standard-costing systems use an overhead rate computed at the beginning of the accounting
period (predetermined overhead rate)
Both normal-costing and standard-costing systems use an overhead rate computed at the beginning of the accounting
period (predetermined overhead rate)
Budgeted Overhead
Planned Monthly Activity
Predetermined Overhead Rate
Variable $36,000 6,000 machine hours $6.00Fixed $30,000 6,000 machine hours $5.00
Total $66,000 6,000 machine hours $11.00
Budgeted Overhead
Planned Monthly Activity
Predetermined Overhead Rate
Variable $36,000 6,000 machine hours $6.00Fixed $30,000 6,000 machine hours $5.00
Total $66,000 6,000 machine hours $11.00
Computed annuallyComputed annually
Predetermined Overhead Rates
Exh.17-5
17-14
Choice Of Activity Measure
How should the cost manager select the activity measure for the flexible budget?
How should the cost manager select the activity measure for the flexible budget?
The variable overhead cost
and the activity measure
should move together
The variable overhead cost
and the activity measure
should move together
Direct labor time has traditionally been the most
popular activity measure in manufacturing firms
Direct labor time has traditionally been the most
popular activity measure in manufacturing firms
As automation increases, more
firms are switching to machine hours or process time
As automation increases, more
firms are switching to machine hours or process time
Dollar measures, such as direct-labor or
material costs can be misleading because they are subject to price-level changes
and other fluctuations
Dollar measures, such as direct-labor or
material costs can be misleading because they are subject to price-level changes
and other fluctuations
17-15
Koala manufactured 3,000 tree line tents X 1.5 machine hours per tent= standard allowed 4,500 machine hours
Koala manufactured 3,000 tree line tents X 1.5 machine hours per tent= standard allowed 4,500 machine hours
Actual machine hours for June = 4,800
Actual machine hours for June = 4,800
The total variable overhead variance for June =
Actual variable overhead $30,480Budget variable overhead $27,000
$ 3,480 F
The total variable overhead variance for June =
Actual variable overhead $30,480Budget variable overhead $27,000
$ 3,480 F
Overhead Cost Variances
For standard allowed 4,500 machine hours the budget overhead (from Exhibit 17-3) for June =
Variable overhead $27,000Fixed overhead $30,000
For standard allowed 4,500 machine hours the budget overhead (from Exhibit 17-3) for June =
Variable overhead $27,000Fixed overhead $30,000
From the cost accounting records, the actual overhead for June =Variable overhead $30,480Fixed overhead $32,500
$62,980
From the cost accounting records, the actual overhead for June =Variable overhead $30,480Fixed overhead $32,500
$62,980
17-16
The VARIABLE-OVERHEAD SPENDING VARIANCE is the difference betweenthe actual variable overhead cost and the product of the standardvariable -overhead rate and the actual hours of an activity base
(or cost driver)
The VARIABLE-OVERHEAD SPENDING VARIANCE is the difference betweenthe actual variable overhead cost and the product of the standardvariable -overhead rate and the actual hours of an activity base
(or cost driver)
Variable Overhead VariancesExh.17-6
???? ???? ???? ????4,800 machinehours
4,800 machinehours
$6.35 permachine hour
$6.35 permachine hour
4,800 machine hours
4,800 machine hours
$6.00 per machine hour
$6.00 per machine hour
Actual variable overheadActual variable overhead
Actual machine hours (AH)
Actual machine hours (AH)
Actual rate (AVR)
Actual rate (AVR)
Actual machine hours (AH)
Actual machine hours (AH)
Standard rate (SVR)
Standard rate (SVR)
Actual machine hours × the standard rate
Actual machine hours × the standard rate
$30,480$30,480 $28,800$28,800
$1,680 UnfavorableVariable-overheadspending variance
$1,680 UnfavorableVariable-overheadspending variance
17-17
$27,000$27,000$28,800$28,800
?? ?? ?? ??
The VARIABLE-OVERHEAD EFFICIENCY VARIANCE is the difference betweenthe actual and the standard hours of an activity base (or cost driver)
multiplied by the standard variable overhead rate
The VARIABLE-OVERHEAD EFFICIENCY VARIANCE is the difference betweenthe actual and the standard hours of an activity base (or cost driver)
multiplied by the standard variable overhead rate
Flexible budget:variable overhead
Flexible budget:variable overhead
Standard allowed machine hours (SH)
Standard allowed machine hours (SH)
Standard rate (SVR)
Standard rate (SVR)
Actual machine hours (AH)
Actual machine hours (AH)
Standard rate (SVR)
Standard rate (SVR)
Actual machine hours timesthe standard rate
Actual machine hours timesthe standard rate
Variable Overhead Variances
4,500 machinehours
4,500 machinehours
$6.00 permachine hour
$6.00 permachine hour
4,800 machine hours
4,800 machine hours
$6.00 per machine hour
$6.00 per machine hour
Exh.17-6
$1,800 UnfavorableVariable-overheadefficiency variance
$1,800 UnfavorableVariable-overheadefficiency variance
17-18
?? ?? ?? ??
The flexible budget amount for variable overhead $27,000 is the amount that will be applied to Work-in-Process for
product-costing purposes
The flexible budget amount for variable overhead $27,000 is the amount that will be applied to Work-in-Process for
product-costing purposes
Flexible budget:variable overhead
Flexible budget:variable overhead
Standard allowed machine hours (SH)
Standard allowed machine hours (SH)
Standard rate (SVR)
Standard rate (SVR)
Variable overhead appliedto work in process
Variable overhead appliedto work in process
$27,000$27,000
Standard allowed machine hours (SH)
Standard allowed machine hours (SH)
Standard rate (SVR)
Standard rate (SVR)
4,500 machinehours
4,500 machinehours
$6.00 permachine hour
$6.00 permachine hour
4,500 machinehours
4,500 machinehours
$6.00 permachine hour
$6.00 permachine hour
No differenceNo difference
Variable Overhead VariancesExh.17-6
$27,000$27,000
17-19
??The unfavorable variance resulting from using more
machine hours than the standard quantity, given actual output
The unfavorable variance resulting from using more
machine hours than the standard quantity, given actual output
The actual labor rate per hourdiffers from the standard rate
The actual labor rate per hourdiffers from the standard rate
Efficiency varianceEfficiency variance Spending varianceSpending variance
The variable overhead efficiency variance has nothing to do with
efficient or inefficient use of variable overhead items
The variable overhead efficiency variance has nothing to do with
efficient or inefficient use of variable overhead items
An unfavorable variance meansthat the total actual cost of
variable overhead is > expected, after adjusting for the actual
quantity of machine hours used
An unfavorable variance meansthat the total actual cost of
variable overhead is > expected, after adjusting for the actual
quantity of machine hours used
The spending variance is thereal control variance for variable
overhead
The spending variance is thereal control variance for variable
overhead
How To Interpret The Variable Overhead Variances
17-20
The FIXED-OVERHEAD BUDGET VARIANCE is the difference between actual fixed overhead and budgeted fixed overhead
The FIXED-OVERHEAD BUDGET VARIANCE is the difference between actual fixed overhead and budgeted fixed overhead
Fixed-overheadbudget variance
Actual Fixedoverhead
Budgeted fixedoverhead= -
Fixed-overheadbudget variance
Actual Fixedoverhead =
$32,500
Budgeted fixedoverhead =
$30,000
= -
Unfavorable variance of $2,500, because we spent
more than budgeted
Unfavorable variance of $2,500, because we spent
more than budgeted
Fixed Overhead Budget Variance
17-21
The FIXED-OVERHEAD VOLUME VARIANCE is the difference between budgeted fixed overhead and actual fixed overhead. Assume that the predetermined fixed overhead per machine
hour = $5 and that it is based on 4,500 machine hours.
The FIXED-OVERHEAD VOLUME VARIANCE is the difference between budgeted fixed overhead and actual fixed overhead. Assume that the predetermined fixed overhead per machine
hour = $5 and that it is based on 4,500 machine hours.
Fixed-overheadvolume variance
Budgeted fixedoverhead
Applied fixedoverhead= -
Applied fixedoverhead =
$22,500
Fixed-overheadvolume variance
Budgeted fixed overhead =
$30,000= -
Variance = $7,500 U, because we produced less than budgeted.Variance = $7,500 U, because we produced less than budgeted.
Fixed Overhead Volume Variance
17-22
Budget VarianceBudget VarianceVolume VarianceVolume Variance
The real control variance for
fixed overhead because it
compares actualexpenditures with
budgeted fixed overhead costs
The real control variance for
fixed overhead because it
compares actualexpenditures with
budgeted fixed overhead costs
Reconciles the two different purposes of the cost accounting system
Reconciles the two different purposes of the cost accounting system
For cost-management purposes, the cost-accounting system
recognizes that fixedoverhead does not
change as production activity varies
For cost-management purposes, the cost-accounting system
recognizes that fixedoverhead does not
change as production activity varies
For product-costing purposes, budgeted
fixed overhead is divided by planned activity to obtain a predetermined or standard fixed-overhead rate
For product-costing purposes, budgeted
fixed overhead is divided by planned activity to obtain a predetermined or standard fixed-overhead rate
Managerial Interpretation Of Fixed-Overhead Variances
17-23
(1) Actualfixed O/H
(1) Actualfixed O/H
(2) Budgetedfixed O/H
(2) Budgetedfixed O/H
(3)Fixed overhead applied
to work in process
(3)Fixed overhead applied
to work in process
Standard allowedmachine hours
Standard allowedmachine hours
Standard fixedoverhead rate
Standard fixedoverhead rate
XX
4,500 machine hrs
4,500 machine hrs
$5.00 permachine hr$5.00 per
machine hrXX
$30,000$32,500
Fixed-overheadbudget variance =
$2,500 U
Fixed-overheadvolume variance =
$7,500 U
$22,500
Fixed Overhead Budget And Volume Variances
Exh.17-8
17-24
Fixed overhead
$30,000
$22,500
0
Applied fixed overhead ($5.00 per standard
allowed machine hour)
Budgeted fixedoverhead
Machinehours
Volume variance$7,500
4,500 Standardallowed hours,
given actualoutput
6,000Plannedmonthlyactivity
Appliedfixed
overheadin June
Budgeted Versus Applied Fixed Overhead
Exh.17-9
17-25
4-, 3-, & 2-way Variance Analysis
Four-way analysis
Three-way analysis
Two-way analysis
Variable-overheadspendingvariance
Fixed-overheadbudget
variance
Variable-overheadefficiencyvariance
Fixed-overheadvolumevariance
$1,680 U $2,500 U $1,800 U $7,500 U
Combined spendingvariance
$4,180 U $1,800 U $7,500 U
$5,980 U
Combined budget variance
Underapplied overhead
$7,500 U
$62,980 actual overhead - overhead applied to WIP, 49,500 = $13,480
Exh.17-10
17-26
Using The Overhead Cost Performance Report In Cost Management
An Overhead Cost Performance ReportAn Overhead Cost Performance Report
Shows the fixed overhead budget variance ,along with
the actual and budgeted cost for each fixed overhead item.
Shows the fixed overhead budget variance ,along with
the actual and budgeted cost for each fixed overhead item.
Shows the variable overhead spending and efficiency variances, along with the
actual and budgeted cost for each variable overhead item.
Shows the variable overhead spending and efficiency variances, along with the
actual and budgeted cost for each variable overhead item.
The report would be used by management to exercise control over each of the overhead costs.
The report would be used by management to exercise control over each of the overhead costs.
17-27
Manufacturing OverheadManufacturing Overhead
Actual $62,980 $49,500 Applied
Credit:Indirect-material inventory Wages payable Utilities payableAccumulated depreciationPrepaid insurance and property taxesEngineering salaries payable
19,35032,6102,1701,3001,050
6,500
Debit:Work-in-process inventory
Applied overhead:$11.00 (predetermined overhead rate) X4,500 (standard allowedhours
$49,500
$13,480Debit:Cost of goods sold
$13,480
Using Standard Costs InProduct Costing
17-28
An activity-based flexible budget may provide more useful cost management information than a conventional flexible budget
An activity-based flexible budget may provide more useful cost management information than a conventional flexible budget
The traditional budgetThe traditional budget Activity-based flexible budgetActivity-based flexible budget
Costs are categorizedas variable based on
volume measures
Costs are categorizedas variable based on
volume measures
Machinehours
Machinehours
Directlaborhours
Directlaborhours
Costs are categorizedas variable based onseveral cost drivers
Costs are categorizedas variable based onseveral cost drivers
Cost that may seem fixed withrespect to a single volume-based cost driver may be variable with
respect to other non-volume related cost drivers
Cost that may seem fixed withrespect to a single volume-based cost driver may be variable with
respect to other non-volume related cost drivers
Activity-Based Flexible Budget
17-29
End of Chapter 17
I wish I could figure out how to ……..
my paycheck!