CHAPTER 8
FLEXIBLE BUDGETS, OVERHEAD COST VARIANCES, AND
MANAGEMENT CONTROL
8-1 How do managers plan for variable overhead costs?
Effective planning of variable overhead costs involves:
1. Planning to undertake only those variable overhead activities that add value for
8-2 How does the planning of fixed overhead costs differ from the planning of variable
overhead costs?
At the start of an accounting period, a larger percentage of fixed overhead costs are locked-in
8-3 How does standard costing differ from actual costing?
The key differences are how direct costs are traced to a cost object and how indirect costs
are allocated to a cost object:
Actual Costing Standard Costing
Direct costs Actual prices
× Actual inputs used
Standard prices
× Standard inputs allowed for actual output
8-4 What are the steps in developing a budgeted variable overhead cost-allocation rate?
Steps in developing a budgeted variable-overhead cost rate are:
1. Choose the period to be used for the budget,
8-5 What are the factors that affect the spending variance for variable manufacturing
overhead?
Two factors affecting the spending variance for variable manufacturing overhead are:
8-6 Assume variable manufacturing overhead is allocated using machine-hours. Give three
possible reasons for a favorable variable overhead efficiency variance.
Possible reasons for a favorable variable-overhead efficiency variance are:
Workers more skillful in using machines than budgeted,
8-7 Describe the difference between a direct materials efficiency variance and a variable
manufacturing overhead efficiency variance.
A direct materials efficiency variance indicates whether more or less direct materials were used
8-8 What are the steps in developing a budgeted fixed overhead rate?
Steps in developing a budgeted fixed-overhead rate are
1. Choose the period to use for the budget,
2. Select the cost-allocation base to use in allocating fixed overhead costs to output
produced,
8-9 Why is the flexible-budget variance the same amount as the spending variance for fixed
manufacturing overhead?
The relationship for fixed-manufacturing overhead variances is:
Flexible-budget variance
(never a variance)
There is never an efficiency variance for fixed overhead because managers cannot be
8-10 Explain how the analysis of fixed manufacturing overhead costs differs for (a) planning
and control and (b) inventory costing for financial reporting.
For planning and control purposes, fixed overhead costs are a lump sum amount that is not
8-11 Provide one caveat that will affect whether a production-volume variance is a good
measure of the economic cost of unused capacity.
An important caveat is what change in selling price might have been necessary to attain the level
of sales assumed in the denominator of the fixed manufacturing overhead rate. For example, the
8-12 “The production-volume variance should always be written off to Cost of Goods Sold.”
Do you agree? Explain.
A strong case can be made for writing off an unfavorable production-volume variance to cost of
goods sold. The alternative is prorating it among inventories and cost of goods sold, but this
would “penalize” the units produced (and in inventory) for the cost of unused capacity, i.e., for
the units not produced. But, if we take the view that the denominator level is a “soft” number—
8-13 What are the variances in a 4-variance analysis?
The four variances are:
Variable manufacturing overhead costs
spending variance
Fixed manufacturing overhead costs
spending variance
8-14 “Overhead variances should be viewed as interdependent rather than independent.” Give
an example.
Interdependencies among the variances could arise for the spending and efficiency variances. For
example, if the chosen allocation base for the variable overhead efficiency variance is only one
8-15 Describe how flexible-budget variance analysis can be used in the control of costs of
activity areas.
Flexible-budget variance analysis can be used in the control of costs in an activity area by
isolating spending and efficiency variances at different levels in the cost hierarchy. For example,
an analysis of batch costs can show the price and efficiency variances from being able to use
longer production runs in each batch relative to the batch size assumed in the flexible budget.
8-16 Each of the following statements is correct regarding overhead variances except:
a. Actual overhead greater than applied overhead is unfavorable.
b. The efficiency overhead variance ignores the standard variable overhead rate.
SOLUTION
Choice “b” is the right answer, as that statement is incorrect. The efficiency variance multiplies
the standard variable overhead rate by the difference between actual and standard direct labor
hours.
8-17 Steed Co. budgets production of 150,000 units in the next year. Steed’s CFO expects that
each unit will take 8 hours to produce at an hourly wage rate of $10 per hour. If factory overhead
is applied on the basis of direct labor hours at $6 per hour, the budget for factory overhead will
total:
a. $7,200,000.
SOLUTION
Choice “a” is correct. 150,000 units at 8 hours per unit is equal to 1,200,000 hours budgeted.
Factory overhead is applied at $6 per direct labor hour, so at 1,200,000 hours, factory overhead
will be equal to $7,200,000.
8-18 As part of her annual review of her company’s budgets versus actuals, Mary Gerard
isolates unfavorable variances with the hope of getting a better understanding of what caused
them and how to avoid them next year. The variable overhead efficiency variance was the most
unfavorable over the previous year, which Gerard will specifically be able to trace to:
a. Actual overhead costs below applied overhead costs.
b. Actual production units below budgeted production units.
c. Standard direct labor hours below actual direct labor hours.
d. The standard variable overhead rate below the actual variable overhead rate.
SOLUTION
Choice “c” is correct. The variable overhead efficiency variance is calculated as the difference
between actual direct labor hours used versus standard (budgeted) direct labor hours allowed,
8-19 Culpepper Corporation had the following inventories at the beginning and end of the month
of January:
January 1 January 31
Finished goods $125,000 $117,000
Work-in-process 235,000 251,000
Direct materials 134,000 124,000
The following additional manufacturing data was available for the month of January.
Direct materials purchased $189,000
Transportation in 3,000
Direct labor 400,000
Actual factory overhead 175,000
Culpepper Corporation applies factory overhead at a rate of 40% of direct labor cost, and any
overapplied or underapplied factory overhead is deferred until the end of the year.
Culpepper’s balance in its factory overhead control account at the end of January was:
1. $15,000 overapplied.
2. $15,000 underapplied.
3. $5,000 underapplied.
4. $5,000 overapplied.
SOLUTION
Choice “2” is correct.
The question asks for the amount of overapplied or underapplied overhead at the end of a month.
8-20 Fordham Corporation produces a single product. The standard costs for one unit of its
Concourse product are as follows:
Direct materials (6 pounds at $0.50 per pound) $  3
During November Year 2, 4,000 units of Concourse were produced. The costs associated with
November operations were as follows:
What is the variable overhead efficiency variance for Concourse for November Year 2?
1. $2,000 favorable.
2. $1,000 favorable.
3. $2,000 unfavorable.
4. $1,000 unfavorable.
SOLUTION
Choice “4” is correct.
The question asks for the variable overhead efficiency variance for a product.
8-21 Variable manufacturing overhead, variance analysis. Esquire Clothing is a
manufacturer of designer suits. The cost of each suit is the sum of three variable costs (direct
material costs, direct manufacturing labor costs, and manufacturing overhead costs) and one
fixed-cost category (manufacturing overhead costs). Variable manufacturing overhead cost is
allocated to each suit on the basis of budgeted direct manufacturing labor-hours per suit. For
June 2017, each suit is budgeted to take 4 labor-hours. Budgeted variable manufacturing
overhead cost per labor-hour is $12. The budgeted number of suits to be manufactured in June
2017 is 1,040.
Actual variable manufacturing costs in June 2017 were $52,164 for 1,080 suits started and
completed. There were no beginning or ending inventories of suits. Actual direct manufacturing
labor-hours for June were 4,536.
Required:
1. Compute the flexible-budget variance, the spending variance, and the efficiency variance for
variable manufacturing overhead.
2. Comment on the results.
SOLUTION
(20 min.) Variable manufacturing overhead, variance analysis.
1. Variable Manufacturing Overhead Variance Analysis for Esquire Clothing for June 2017
Actual Costs
Incurred
Actual Input Qty.
× Actual Rate
(1)
Actual Input Qty.
× Budgeted Rate
(2)
Flexible Budget:
Budgeted Input Qty.
Allowed for
Actual Output
× Budgeted Rate
(3)
Allocated:
Budgeted Input Qty.
Allowed for
Actual Output
× Budgeted Rate
(4)
$2,268 F
$2,592 U
1 & 2.
Budgeted fixed overhead
rate per unit of
allocation base
=
=
160,4
400,62$
= $15 per hour
Fixed Manufacturing Overhead Variance Analysis for Esquire Clothing for June 2017
Actual Costs
Incurred
(1)
Same Budgeted
Lump Sum
(as in Static Budget)
Regardless of
Output Level
(2)
Flexible Budget:
Same Budgeted
Lump Sum
(as in Static Budget)
Regardless of
Output Level
(3)
Allocated:
Budgeted Input Qty.
Allowed for Actual
Output
× Budgeted Rate
(4)
$63,916 $62,400 $62,400
(4 × 1,080 × $15)
$64,800
$1,516 U $2,400 F
Spending variance Never a variance Production-volume variance
$1,516 U $2,400 F
Flexible-budget variance Production-volume variance
8-23 Variable manufacturing overhead variance analysis. The Sourdough Bread Company
bakes baguettes for distribution to upscale grocery stores. The company has two direct-cost
categories: direct materials and direct manufacturing labor. Variable manufacturing overhead is
allocated to products on the basis of standard direct manufacturing labor-hours. Following is
some budget data for the Sourdough Bread Company:
Direct manufacturing labor use 0.02 hours per baguette
Variable manufacturing overhead $10.00 per direct manufacturing labor-hour
The Sourdough Bread Company provides the following additional data for the year ended
December 31, 2017:
Planned (budgeted) output 3,100,000 baguettes
Actual production 2,600,000 baguettes
Direct manufacturing labor 46,800 hours
Actual variable manufacturing overhead $617,760
Required:
1. What is the denominator level used for allocating variable manufacturing overhead? (That is,
for how many direct manufacturing labor-hours is Sourdough Bread budgeting?)
2. Prepare a variance analysis of variable manufacturing overhead. Use Exhibit 8-4 (page 304)
for reference.
3. Discuss the variances you have calculated and give possible explanations for them.
SOLUTION
(30 min.) Variable manufacturing overhead variance analysis.
1. Denominator level = (3,100,000 × 0.02 hours) = 62,000 hours
2. Actual
Results
Flexible
Budget Amounts
´
Variable Manufacturing Overhead Variance Analysis for Sourdough Bread Company for 2017:
Actual Costs
Incurred
Actual Input Qty.
× Actual Rate
(1)
Actual Input Qty.
× Budgeted Rate
(2)
Flexible Budget:
Budgeted Input Qty.
Allowed for
Actual Output
× Budgeted Rate
(3)
Allocated:
Budgeted Input Qty.
Allowed for
Actual Output
× Budgeted Rate
(4)
(46,800 × $13.20)
(46,800 × $10)
(52,000 × $10)
(52,000 × $10)
Spending variance
Efficiency variance Never a variance