P1 – Management Accounting CH8 – Variance analysis: calculations Page 1 Chapter 8 Variance analysis: calculations Chapter learning objectives: Lead Component Indicative syllabus content A.1 Discuss costing methods and their results. (c) Apply standard costing methods including the reconciliation of budgeted and actual profit margins, distinguishing between planning and operational variances. • Manufacturing standards for material, labour, variable overhead and fixed overhead. • Standards and variances in service industries, public services (e.g. health and law enforcement), and the professions (e.g. labour mix variances in consultancies). • Price/rate and usage/efficiency variances for materials, labour and variable overhead. • Subdivision of total usage/efficiency variances into mix and yield variances. • Note: The calculation of mix variances on both individual and average valuation bases is required. • Fixed overhead expenditure and volume variances. • Subdivision of the fixed overhead volume variance into capacity and efficiency variances. • Sales price and sales volume variances (calculation of the latter on a unit basis related to revenue, gross profit and contribution). • Sales mix and sales quantity variances. Application of these variances to all sectors including professional services and retail. • Planning and operational variances. • Variance analysis in an activity-based costing system.
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(c) Apply standard costing methods including the reconciliation of budgeted and actual profit margins, distinguishing between planning and operational variances.
• Manufacturing standards for material, labour, variable overhead and fixed overhead.
• Standards and variances in service industries, public services (e.g. health and law enforcement), and the professions (e.g. labour mix variances in consultancies).
• Price/rate and usage/efficiency variances for materials, labour and variable overhead.
• Subdivision of total usage/efficiency variances into mix and yield variances.
• Note: The calculation of mix variances on both individual and average valuation bases is required.
• Fixed overhead expenditure and volume variances.
• Subdivision of the fixed overhead volume variance into capacity and efficiency variances.
• Sales price and sales volume variances (calculation of the latter on a unit basis related to revenue, gross profit and contribution).
• Sales mix and sales quantity variances. Application of these variances to all sectors including professional services and retail.
• Planning and operational variances.
• Variance analysis in an activity-based costing system.
1. Standard costing and variance analysis A standard is a benchmark measurement of resource usage or revenue or profit generation, set in defined conditions. (CIMA terminology)
Variance analysis is defined as the evaluation of performance by means of variances, whose timely reporting should maximise the opportunity for managerial action. (CIMA terminology)
• Standard costs - estimates of unit costs are made prior to actually incurring the cost.
• Actual costs are measured against these standard costs.
• The differences between the two are called variances.
• This process of comparison of different cost elements is called variance analysis.
• The cost and sales variance together explain any profit variance.
• When actual results are better than standard, we say it’s a favourable (F) variance.
• When actual results are worse than standard, we say it’s an adverse (A) variance.
3. Sales variances Sales variance includes analysing:
• Actual sales price with the standard sale price, and
• Actual sales volume with the budgeted sales volume.
Sales price variance Sales price variance shows the effect on profit of a change in revenue caused by the actual selling price differing from that budgeted. (CIMA terminology)
• If the actual sales revenue is higher, it is a favourable variance.
• If the actual sales revenue is lower, then it is an adverse variance.
Sales price variance
Actual units x standard price/unit X
Less Actual units x actual price/unit (Y)
(X – Y)
(A negative value is a favourable variance)
Sales volume variance Sales volume variance is the measure of the effect on contribution/profit of not achieving the budgeted volume of sales. (CIMA terminology)
• The difference in units can be valued at standard cost or contribution or at standard revenue per unit.
Test Your Understanding 1 – Sales variances Xmas Ltd has budgeted sales of 500 units at $30 per unit. The variable costs are expected to be $20 per unit and there are no fixed costs.
The actual sales were 700 units at $25 per unit and the costs were as expected.
Calculate the selling price variance and the sales volume contribution variance.
Direct material total variance Direct material total variance is defined as the measurement of the difference between the standard material cost of the output produced and the material cost incurred. (CIMA terminology)
• Viewed alone, it does not have much significance.
• A negative variance would be an adverse variance.
Test Your Understanding 4 – Variable OH variances The budgeted output for Company A was 5,000 units of a key product. Each unit requires 3 direct labour hours, and variable overheads are budgeted at $2 per hour.
Actual results were:
Output 4,500 units
Labour hours worked 15,000 hours
Variable overheads $6,000
What is the variable overhead efficiency variance? A. $5,000 A
B. $3,000 F
C. $3,000 A
D. $5,000 F
7. Fixed overhead cost variance • Fixed overhead total variance is the difference between the actual fixed overheads
incurred and the standard fixed overheads absorbed into actual production using the standard absorption rate.
• Fixed overhead total variance is the over/under-absorption of overheads.
• Over-absorption gives a favourable variance; under-absorption gives an adverse one.