PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.

Aadhil Hussain

Chapter 17: Budgets for Control: Standard Costing and Variance Analysis
Aims of this Chapter:

The aims of this chapter are to:

⮚ Explain the implications of standard costs, budgets and budget preparation for staff behaviour
and motivation
⮚ Demonstrate and explain the purpose of a cash budget and discuss its importance

Standard Cost

A standard cost is the planned unit cost of a product or service. It is an indication of what a unit of
product or service should cost.

Standard cost represents target costs and they are therefore useful for planning, control and motivation.
They are also commonly used to simplify inventory valuation.

Standard costs are usually presented in the form of a standard cost card or schedule. These cards break
down the costs of each unit of output into its component parts.

There are a number of different ways in which standard costs may be set and the costs will be unique to
each organization. They may be based on past experience as well as future expectations, or may be
assessed entirely from scratch.

Types of Standards

1. Basic Standards: Long term standards which remain unchanged over a period of years. Basic standards
are the least used and the least useful standards.

2. Ideal Standards: Based upon perfect operating conditions (no wastage, no scrap, no breakdowns, no
idle time etc.). Ideal standards may have an adverse motivational impact because they are unlikely to be
achieved.

3. Attainable Standards: These are the most frequently encountered type of standard. They are based on
efficient operating conditions and on a high performance level so that with a certain amount of hard
work they are achievable.

4. Current Standards: Based on current levels of efficiency and do not provide any incentive to improve
on the current level of performance.
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Variance Analysis

The differences that are observed between the original budget and actual performance are called
variances. The overall difference between budgeted profit and actual profit, is broken down into smaller
differences in order to help identify its causes.

The causes of different variances are often related, so it is best to wait until all of the variances have
been calculated before trying to interpret them.

Favourable variances arise when actual performance is better than expected. For example, when more
units have been sold, or when materials costs per unit are lower, than expected.
Unfavourable (or adverse) variances arise when actual performance is worse than expected.

In order to keep differences that are the result of changes in output volume relative to budget separate
from differences in inputs and prices/costs, we need to flex the budget. Flexing the budget recalculates
the original budget, which was based on the original expected output level, to reflect the actual output
level that has been achieved.

Different Type of Variances

1. Sales Variances:
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

2. Direct Material Variances:

3. Direct Labour Variances:

PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

4. Variable Overhead Variances:

5. Fixed Overhead Variances:

PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Operating Statements

Variances are often summarized in an operating statement. The statement allows for budgeted values to
be reconciled with actual values.

If the statement starts with budgeted profit (absorption costing) or budgeted contribution (marginal
costing) then:

- Add the favourable variances as they increase contribution / profit

- Subtract the adverse variances as they decrease contribution / profit

The main differences between absorption costing and marginal costing operating statements are as
follows:

- The marginal costing operating statement has a sales volume variance that is calculated using
the standard contribution per unit rather than a standard profit per unit as in absorption
costing.
- There is no fixed overhead volume variance in the marginal costing operating statement.

Below are the statements.

PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Marginal Costing Operating Statement

Absorption Costing Operating Statement

PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

End of Chapter Questions

Quiz 1

The following data relates to 20X8.

Actual sales: 1,000 units @ $650 each
Budgeted output and sales for the year: 900 units
Standard selling price: $700 per unit
Budgeted contribution per unit: $245
Budgeted profit per unit: $205

Required:
Calculate the sales volume variance (under absorption and marginal costing) and the sales price
variance.

Quiz 2

Radek Ltd has budgeted sales of 400 units at $2.50 each. The variable costs are expected to be $1.80 per
unit, and there are no fixed costs. 

The actual sales were 500 units at $2 each and costs were as expected. 

Calculate the sales price and sales volume variances (using marginal costing). 

Quiz 3

W Ltd budgeted sales of 6,500 units but actually sold only 6,000 units. Its standard cost card is as
follows:

Direct Materials $25

Direct Wages $8
Variable Overheads $4
Fixed Overheads $18

Total Standard Cost $55

Standard gross profit $5

Standard selling price $60

The actual selling price for the period was $61.

Calculate the sales price and sales volume variances for the period (using absorption costing).
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Quiz 4

The following information relates to the production of Product X.

Extract from the standard cost card of Product X.
Direct materials (40 square metres × $5.30 per square metre) $212.

Actual results for direct materials in the period: 1,000 units were produced and 39,000 square metres of
material costing $210,600 in total were purchased and used.

Required:
Calculate the materials total, price and usage variances for Product X in the period.

Quiz 5

A company makes a single product with the following budgeted material cost per unit:
2kg of Material A at $10/kg

Actual Details:
Output 1,000 units
Material purchased and used 2.200kg
Material Cost $20,900

Calculate the material price and usage variance

Quiz 6

The following information relates to the production of Product X.

Extract from the standard cost card of Product X:
Direct labour: Bonding (24 hrs @ $5 per hour) $120

Actual results for wages:

Production 1,000 units produced
Bonding 23,900 hours costing $131,450 in total

Required:
Calculate the labour total, rate and efficiency variances in the Bonding department for Product X in the
period.

Quiz 7

A company makes a single product and has the following budgeted information:
Budgeted production 1,000units
Budgeted labour hours 3,000hours
Budgeted labour cost $15,000

Actual results:
Output 1,100 units
Hours paid for 3,400 hours
Labour cost $17,680

Calculate the labour rate, labour efficiency and total labour cost variances.
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Quiz 8

The following information relates to the production of Product X.

Extract from the standard cost card of Product X:
$
Direct labour: Bonding (24 hrs @ $5 per hour) 120
Variable overhead: Bonding (24 hrs @ $1.50 per hour) 36

Actual results for production and labour hours worked:

Production 1,000 units produced
Bonding 23,900 hours

Actual results for variable overheads:

Bonding Total cost $38,240

Calculate the variable overhead total, expenditure and efficiency variances in the Bonding department
for Product X for the period.

Quiz 9

The budgeted output for May was 1,000 units of Product A.Each unit requires two direct labour hours.

Variable overheads are budgeted at $3 per labour hour.

Actual results:

Output 900 units

Labour hours worked 1,980 hours
Variable Overheads $5,544

Calculate the variable overhead expenditure, efficiency and total variances.

Quiz 10

The following information is available for a company for Period 4.

Budget:
Output $22,960
Unit 6,560

Actual:
Fixed production overheads $24,200
Unit 6,460

Calculate the following:

(a) fixed overhead absorption rate per unit
(b) fixed overhead expenditure variance for marginal costing
(c) fixed overhead expenditure variance for absorption costing
(d) fixed overhead volume variance for marginal costing
(e) fixed overhead volume variance for absorption costing
(f) fixed overhead total variance for marginal costing
(g) fixed overhead total variance for absorption costing.
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Quiz 11

The following information is available for a company for Period 4.

Fixed production overheads $22,960
Units 6,560
The standard time to produce each unit is 2 hours
Actual:
Fixed production overheads $24,200
Units 6,460
Labour hours 12,600 hrs

Calculate the following:

(a) fixed overhead absorption rate per hour
(b) fixed overhead capacity variance
(c) fixed overhead efficiency variance
(d) fixed overhead volume variance.

Quiz 12

TG manufactures Product Z. Its standard selling price is $55. The production and sales budget for the
quarter ended 31 March 20X3 was 7,500 units.
The standard specification per unit of Product Z comprises:
Direct labour 4 standard hours at $6/hour
Direct material 1.2 kg at $10/kg
Standard variable overhead 4 standard hours at $1/hour
Budgeted fixed overhead $75,000

At the end of the quarter the management accounts showed the following:

Production and sales of Product Z in units 7,700

Actual sales revenue $424,270
Actual direct labour (31,570 hours) $192,577
Actual direct material (8,855 kg) $89,436
Actual variable overhead $30,750
Actual fixed overhead $72,400

(a) Prepare a statement reconciling budgeted and actual profit in the quarter, using absorption costing.
(b) Prepare a statement reconciling budgeted and actual profit in the quarter, using marginal costing.
PRINCIPLES OF ACCOUNTING (AC1025) TUTE-17 By: M.Aadhil Hussain

Quiz 13

Last month, 40,000 production hours were budgeted in CTD, and the budgeted fixed production
overhead cost was $ 250,000. Actual results show that 38,000 hours were worked and paid, and the
standard hours for actual production were 35,000. CTD operates a standard absorption costing system.
What was the fixed production overhead capacity variance for last month?

A $12,500 Adverse
B $12,500 Favourable
C $31,250 Adverse
D $31,250 Favourable

Quiz 14

Below is a statement of variances of A Ltd.

Sales price variances $2,100 (F)

Sales volume variances $1,800 (F)
Materials price variances $6,000 (A)
Materials usage variances $2,000 (A)
Labour rate variances $1,000 (A)
Labour efficiency variances $1,500 (F)
Fixed overhead expenditure variances $2,800 (A)
Fixed overhead volume variances $2,100 (A)

The budgeted profit for the period was $300,000.

Calculate the actual profit.

Quiz 15

Chapel Ltd manufactures a chemical protective called Rustnot. The following standard costs apply for
the production of 100 Cylinders.

Materials 500kg @ $0.80 per kg $400

Labour 20 hours @ $1.50 per hour $30
Fixed Overheads 20 hours @ $1.00 per hour $20

Chapel ltd uses absorption costing. The monthly production / sales budget is 10,000 cylinders sold at $6
per cylinder. For the month of November, the following actual production and sales information is
available:

Produced / Sold 10,600 Cylinders

Sales Value $63,000
Material Purchased and used (53,200kg) $42,500
Labour (2,040 hours) $3,100
Fixed Overheads $2,200
Required:
You are required to prepare an operating statement in a absorption costing format for November
detailing all the variances.