Problem 1 Variance Analysis

The ABC Company's costing system has two direct-cost categories: direct materials and direct manufacturing labor. Manufacturing overhead (both variable and fixed) is allocated to products on the basis of standard direct manufacturing labor hours (DLH). At the beginning of 2020, the Company budgeted production of 4,000 units for the period and adopted the following standards for its manufacturing costs:

Input

Cost per Output Unit

Direct materials

Direct manufacturing labor

Manufacturing overhead:

 Variable

 Fixed

Standard manufacturing cost per output unit

3 lbs. at $10 per lb.

2 hrs. at $18 per hr.

$10 per DLH

$12 per DLH

$ 30

36

20

24

$110

Input price variances are isolated upon purchase. Input efficiency variances are isolated at the time of usage. The records for the period indicate the following:

Direct materials purchased

Direct materials used

Direct manufacturing labor

Actual variable manufacturing overhead

Actual fixed manufacturing overhead

Actual production

14,000 lbs. at $10.25 per lb

11,200 lbs.

7,800 hrs. at a total of $138,450

$86,000

$100,000

3,800 output units

Required:

a)    For the period, compute the following variances, indicating whether each is favorable (F) or unfavorable (U): (10 points)

                       i.        Direct materials price variance

                      ii.        Direct materials efficiency variance

                    iii.        Direct manufacturing labor price variance

                     iv.        Variable manufacturing overhead efficiency variance

                      v.        Production-volume variance

b)    Prepare journal entries for the direct materials price and efficiency variances. (5 points)

c)    Provide a possible explanation for each variance calculated in part a) (i.e., a total of 5 explanations). For example, if actual price is greater than budgeted price, then state a reason why this might be the case.

a) Variances:

i. Direct materials price variance = $2,800 (U)

ii. Direct materials efficiency variance =  $2,000 (F)

iii.Direct manufacturing labor price variance = $1950 (F) 

iv. Variable manufacturing overhead efficiency variance = $2,000 (U)

v. Production-volume variance = $2,400 (U)

b) Journal entries:

(a) For material price variance:

Debit Material Control by $112,000

Debit Material Price Variance by $2,800

Credit Accounts Payable by $114,800

 (b) For material efficiency variance:

Debit Work in process Control by $114,000

Cebit Material Efficiency Variance by $2,000

Credit Material Control by $112,000

c) Reason:

i. Direct materials price variance - Increase in price of raw materials

ii. Direct materials efficiency variance - Use of superior quality 

iii.Direct manufacturing labor price variance - Decrease in wage rate

iv. Variable manufacturing overhead efficiency variance - Inefficient supervision

v. Production-volume variance - Under production

Step-by-step explanation

a) Variances:

i. Direct materials price variance:

Direct materials price variance = (Standard price - Actual price) x Actual quantity

= ($10 - $10.25) x 11,200

= - 0.25 x $11,200

= - $2,800

= $2,800 Unfavorable

ii. Direct materials efficiency variance:

Standard quantity for 1 unit of production = 3lbs

Standard quantity for actual production of 3,800 units = 3lbs x 3,800 units = 11,400 lbs

Direct materials efficiency variance = (Standard Quantity - Actual Quantity) x Standard price

= (11,400 - 11,200) x $10

= 200 x $10

= $2,000 Favorable

iii.Direct manufacturing labor price variance:

Actual rate per hour = Total Actual Labor / Total Actual hours

= $138,450 / 7800

= $17.75

Direct manufacturing labor price variance = (Standard rate - Actual rate) x Actual hours

= ($18 - $17.75) x 7,800

= 0.25 x 7,800

= $1950 Favorable 

iv. Variable manufacturing overhead efficiency variance:

Standard hours for 1 unit of production = 2

Standard hours for actual production of 3,800 units = 2 x 3,800 units = 7,600 lbs

Variable manufacturing oh efficiency variance = (Standard hours - Actual hours) x Standard rate

= (7,600 - 7,800) x $10

= - 200 x $10

= - $2,000

= $2,000 Unfavorable

v. Production-volume variance:

Production-volume variance = (Actual units produced - Budgeted units ) x Budgeted overhead rate

= (3,800 - 4,000) x $12

= -200 x $12

= $-2,400

= $2,400 Unfavorable

b) Journal entries:

c) Reason:

i. Direct materials price variance -

The variance is unfavorable which means the actual price paid is higher than the standard established. This could be due to an increase in price of raw materials, buying a different quality of raw material or emergency purchases.

ii. Direct materials efficiency variance -

The variance is favorable which means less quantity is used than the standard established. This could be due to use of superior quality of materials, reduction in wastage or by efficient handling of materials.

iii.Direct manufacturing labor price variance -

The variance is favorable which indicates less wage rate is paid than the established standard. This might indicate change in wage rates or paying less wages due to inefficiency.

iv. Variable manufacturing overhead efficiency variance -

The variance is unfavorable which means the actual hours worked higher than the standard established. This might be due to inefficient labor, supervision or poor working conditions.

v. Production-volume variance -

The variance is unfavorable which means the actual overheads absorbed is less than the budgeted. This might be due to under production because of low demand.

Please see the attached file for the complete solution