Memorandum The CEO Mile High Cycles A Consultant 17 June Flexible Budget and Variances Horngren et al indicates that managers are can obtain information in relation to the reason for differences between actual and budgeted results by utilizing flexible budgets and variances. Information relating to variances is often used to determine the level of controls required. More attention would therefore be required in areas where large variances exist in comparison to those areas where variances are small. The flexible budget variance analysis for Mile High Cycles which is shown in the Appendix indicates that there is a favorable (F) flexible budget variance in the frame assembly area of $82,663 while the wheel and final assembly area shows unfavorable variances of $50,650 and $231,200 respectively.
This along with an increase in other overhead costs of $100,000 has resulted in a total unfavorable flexible budget variance of $299,187. The favorable variance in frame assembly is due mainly to price and efficiency variances generated by labor. The efficiency gains made by labor have been offset somewhat by unfavorable price variances in steel tubing and painting as shown in the Appendix.
The unfavorable price variance in steel tubing has been offset to a large extent by efficiency gains while that of painting has been increased due to inefficiencies. (See Appendix) The unfavorable flexible budget variances in the wheel assembly and final assembly are due mainly to price variances in the parts and the cost of reworking and to a lesser extent a small price variance in the cost of labor as well as labor inefficiencies (See Appendix). The price differences for parts were $2 and $17 more respectively compared with $0.50 price difference for steel tubing and painting in the frame assembly department.
The cost of reworking accounted for an additional $2.32 ($25,000/10,800) and $4.17 ($45,000/10800) respectively. Bob Moyer should be concerned about the performance of Mile High Cycle because most of the variances with the exception of labor in the frame assembly area are unfavorable. He should focus his attention on increasing efficiencies in the wheel and final assembly area where a lot of reworking is taking place. Information in the Appendix suggests that labor is inefficient.
The quality of the inputs used in production should be taken into account and steps should be taken to ensure that there is consistency. This can be achieved by ensuring that parts are purchased from suppliers who meet the requisite ISO standards. Bob Moyer should determine whether there are any problems in the design of the product as well as whether additional training of the labor force is required. Other overhead costs increased by $100,000 and so attention needs to be focused on finding out the reason for this increase.
The organization of the workforce could be a factor. Bob Moyer also needs to determine and set a limit within which variances are allowed. Those within limits would require no investigation while those outside would warrant investigation. This will save time as well as help to justify investigations relating to variances. A total cost per unit variance would be more useful than a series of functional variances when management knows that there are problems but only need an idea of whether the overall cost per unit variance is favorable or unfavorable.
However, if more detailed information is required on how various functional areas contribute to the variance then a total cost per unit variance would be inadequate. References Horngren, C.T. , Datar, S.M and Rajan, M. (2011). Cost Accounting: A Managerial Emphasis. 14th ed. New Jersey: Prentice Hall Appendix Flexible Budget Variance Analysis for Mile High Cycles Price Variances Efficiency Variances Actual Costs (1) Flexible Budget Variances (2) = (1) -(3) Flexible Budget (3) Actual price of input ($) (4) Budgeted price of input ($) (5) Actual quantity of input (6) Price variance (7) = (4) - (5) * (6) Actual quantity of input (8) Budgeted quantity of input allowed for actual output (9) Budgeted price of input ($) (10) Efficiency variance ($) (11) = (8) – (9) * (10) Units produced 10,800 0 10,800 Frame assembly: Steel tubing 3,572,100 8,100 U 3,564,000 31.5 30 113,400 170,100 U 113,400 118,800 30 162,000 F Paint 28,187 1,187 U 27,000 20.5 20 1,375 687.5 U 1,375 1,350 20 500 U Labor 1,528,050 91,950 F 1,620,000 15.25 15 100,200 25,050 U 100,200 108,000 15 117,000 F Total Frame 5,128,337 82,663 F 5,211,000 195,838 U 278,500 F Wheel assembly: Parts 1,317,600 21,600 U 1,296,000 122 120 10,800 21,600 U 10,800 10,800 120 0 Rework parts 25,000 25,000 U 0 25,000 1 25,000 U 1 0 0 Labor 74,250 4,050 U 70,200 13.5 13 5,500 2,750 U 5,500 5,400 13 1,300 U Total wheel 1,416,850 50,650 U 1,366,200 49,350 U 1,300 U Final assembly: Parts 3,963,600 183,600 U 3,780,000 367 350 10,800 183,600 U 10,800 10,800 350 0 Rework parts 45,000 45,000 U 0 45,000 1 45,000 U 1 0 0 Labor 116,000 2,600 U 113,400 14.5 14 8,000 4,000 U 8,000 8,100 14 1,400 F Total final assembly 4,124,600 231,200 U 3,893,400 232,600 U 1,400 F Total direct costs 477,788 U 278,600 F Overhead costs: Rent 250,000 250,000 Office staff 100,000 100,000 Depreciation 100,000 100,000 Other costs 850,000 100,000 U 750,000 Total overheads 1,300,000 100,000 U 1,200,000 Total Annual Costs 11,969,787 299187 U 11,670,600