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Learning Objective 3: Prepare a report showing
revenue and spending variances.
C. Key terminology
i. A revenue variance is the difference between the
actual total revenue and what the total revenue
should have been, given the actual level of activity
for the period.
ii. A spending variance is the difference between the
actual amount of a cost and how much the cost
should have been, given the actual level of activity.
D. Larry’s Lawn Service: Computing revenue and
spending variances
i. The revenue and spending variances for Larry’s
Lawn Service would be computed as shown on this
slide. Notice:
1. The apple icons on the slide indicate that the
actual results and flexible budget columns
are both based on 550 lawns mowed.
2. The $1,750 favorable revenue variance
indicates that actual revenue exceeded the
budgeted amount that would be expected for
an activity level of 550 lawns mowed.
3. The $1,950 unfavorable spending variance
indicates that total expenses were $1,950
greater than would be expected for an
activity level of 550 lawns mowed.
4. Overall, net operating income was $200
less than would be expected for an activity
level of 550 lawns mowed.
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Learning Objective 4: Prepare a performance report
that combines activity variances and revenue and
spending variances.
E. Larry’s Lawn Service: combining activity and
revenue and spending variances
i. This slide contains the previously computed
activity, revenue, and spending variances. Notice:
1. The variances appear between the amounts
being compared rather than after them. More
specifically:
a. The activity variances appear
between the flexible budget and
planning budget columns.
b. The revenue and spending
variances appear between the
actual results and flexible budget
columns.
2. The activity variances can be computed by
taking the difference between the flexible
and planning budget columns or by taking
the difference in activity level between
these two columns and multiplying it by
the variable rates shown in the
revenue/cost formulas. For example:
a. The revenue activity variance of
$3,750 favorable can be computed
by multiplying 50 lawns × $75 per
lawn.
b. The wages and salaries activity
variance of $1,500 unfavorable can
be computed by multiplying 50
lawns × $30 per lawn.
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3. The revenue and spending variances are
computed by comparing the actual amounts
and the flexible budget amounts. For
example:
a. The revenue variance of $1,750
favorable is computed by taking the
difference between the actual amount
($43,000) and the flexible budget
amount ($41,250).
4. When interpreting a flexible budget
performance report it is important to
remember two things:
a. First, to generate a favorable activity
variance for net operating income,
managers must take actions to
increase the level of activity.
b. Second, to generate an overall
favorable revenue and spending
variance, managers must take
actions to protect selling prices,
increase operating efficiency, and
reduce the prices of inputs.
F. Performance reports: other issues
i. The performance reports in non-profit
organizations differ from our example in one
important respect—non-profit organizations
usually receive funding from sources other than
sales. For example:
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1. Universities receive their funding from sales
(i.e., tuition charged to students),
endowment income, donations, and state
appropriations (in the case of public
universities).
a. This means that, like costs, a
university’s revenue may consist of
both fixed and variable elements.
ii. Performance reports are often prepared for cost
centers. These reports should be prepared using the
same principles discussed so far, except for the fact
that these reports will not contain revenue or net
operating income variances.
IV. Flexible budgets with multiple cost drivers
Learning Objective 5: Prepare a flexible budget with
more than one cost driver.
A. Key concepts
i. More than one cost driver may be needed to
adequately explain all of the costs in an
organization.
ii. The cost formulas used to prepare a flexible budget
can be adjusted to recognize multiple cost drivers.
I. Larry’s Lawn Service: Multiple cost drivers
i. Let’s assume that Larry determined that wages
and salaries were driven by the number of lawns
mowed and the number of hours required for
additional edging and trimming.
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ii. Larry’s flexible budget could easily be adjusted to
accommodate the second cost driver. Notice:
1. The number of hours (H) is designated as
the second cost driver.
2. Larry’s flexible budget is based on 100
hours of edging and trimming.
3. The cost formula for wages and salaries has
been adjusted to include $25 per hour of
edging and trimming.
4. Larry also adjusted the revenue formula to
include $30 per hour of edging and
trimming.
V. Some common errors
Learning Objective 6: Understand common errors
made in preparing performance reports based on
budgets and actual results.
A. Key concepts
i. The most common errors when preparing
performance reports are to implicitly assume that
all costs are fixed or that all costs are variable.
B. Assuming all costs are fixed
i. Comparing actual results to the planning budget is
equivalent to assuming that all costs are fixed (or
unaffected by changes in the activity level).
ii. This mode of analysis is flawed if variable costs
exist. When variable costs exist the amount of
the variable cost in the planning budget needs to
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be flexed to accommodate the actual level of
activity.
iii. The results on this slide are identical to the “apples
to oranges” comparison shown on slide 8.
C. Assuming all costs are variable
i. Comparing actual results to the dollar amounts in
the planning budget multiplied by the percentage
increase in activity level is equivalent to assuming
that all costs are variable with respect to changes in
the activity level.
ii. This mode of analysis is flawed if fixed costs exist.
When fixed costs exist the amount of the fixed
cost in the planning budget should not be flexed
to accommodate the actual level of activity.
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