Lecture questions week 7 - answer

(a) Flexing the budget

Original
budget

Flexed
budget

20,000

15,000

Output (units)

Actual
15,000

Direct labour

46,000

34,500 (3,750 hours)

35,040 (4,000 hours)

Direct materials

30,000

22,500 (30,000 metres)

23,360 (32,000 metres)

Fixed overheads

66,000

66,000

67,350

142,000

123,000

125,750

210,000

157,500

153,900

68,000

34,500

28,150

Selling price
Profit

Sales volume variance

68,000 34,500
33,500
Sales price variance
157,500 153,900
3,600
Direct labour efficiency variance
(3,750 4,000) 9.2
2,300
Direct labour rate variance
(4,000 4 2.3) 35,040

1,760

Direct materials usage variance

(30,000 32,000) 0.75
1,500
Direct materials price variance
(32,000 0.5 1.5) 23,360

640

Fixed overheads spending variance

66,000 67,350
1,350
2,400
42,250
2,400
Net variances (adverse)
39,850
Budgeted profit

3.4 20,000
68,000
Net adverse variances
(39,850)
Actual profit
28,150

(b) The additional information calls into question the validity and usefulness of the two labour
variances.
Direct labour efficiency variance
In effect this could usefully be divided into two elements, one relating to productive time and the
other to idle (non-productive) time.
The hourly rate taking overtime premium into account was 9.20 per hour. The basic rate is therefore
given by:
0.8H + (0.2H 1.25) = 9.20, where H is the basic hourly rate.
H = 8.76
Of the 4,000 hours worked, only 3,650 were involved in production.
Thus the efficiency variance can be analysed into two elements:
Productive direct labour efficiency variance
[(0.25 15,000) 3,650] 8.76

876 (F)

Idle time direct labour efficiency variance

(4,000 3,650) 8.76

3,066 (A)

The original direct labour efficiency variance suggested that the labour had not been well managed.
The reassessment indicates that the labour was, in fact, efficiently managed during the production
time. The large adverse variance arose from the fact that not all of the labour time was productive
which was no fault of the person who manages the labour in this case.
Direct labour rate variance
This could usefully be recalculated to take account of the fact that no overtime needed to be worked.
(4,000 8.76) 35,040

zero

Thus the recalculation shows that labour was paid the standard rate and there were no savings here.
The original assessment seems to show very great savings. This was because the original was based
on overtime rates, whereas (because of the low output) no overtime was actually worked.