Standard Costs and Variance Analysis

Summary

In this video, the concept of flexible budgeting is explored, showing how budgets can be adjusted based on changes in activity levels, like customer numbers. The focus shifts to variance analysis, where the difference between actual results and the flexible budget is analyzed. The video uses a movie theater example to illustrate this, particularly looking at the costs of popcorn. By comparing actual and standard costs, the video demonstrates how to identify whether variances are due to price changes or quantity usage. The video emphasizes the importance of breaking down variances for deeper insights and effective management accountability.

Takeaways

• 😀 Flexible budgeting adjusts an original budget to reflect changes in activity levels, such as a change in the number of customers.
• 😀 Variance analysis helps determine the causes of differences between actual results and the flexible budget, focusing on price and quantity discrepancies.
• 😀 A variance is the difference between the actual results and budgeted expectations, and it signals areas that may require managerial attention.
• 😀 In the movie theater example, a higher-than-expected number of customers led to increased expenses, which were controlled using a flexible budget.
• 😀 Standard costing involves setting predetermined cost expectations for both quantity (amount used) and price (cost per unit), which are then compared to actual results.
• 😀 In the case of popcorn expenses, the standard amount was 0.25 pounds per bucket, and the standard price was set at $1.50 per pound.
• 😀 By comparing actual and standard results, businesses can identify whether the cause of a variance is due to price changes or overuse of materials.
• 😀 The price variance is calculated by comparing the actual price paid for a product to the standard price, while the quantity variance looks at the difference in the amount used.
• 😀 In the popcorn example, a $1,000 unfavorable price variance showed that the theater paid more for popcorn than expected, while a $37.50 favorable quantity variance indicated less popcorn was used than planned.
• 😀 The total variance helps determine whether the business spent more or less than expected, and identifying which component (price or quantity) caused the variance is crucial for management decision-making.
• 😀 Breaking down variances into price and quantity allows for accountability: purchasing managers are responsible for price variances, and production managers are responsible for quantity variances.

Q & A

What is the concept of flexible budgeting?

Flexible budgeting involves adjusting an initial budget to account for changes in activity levels. For instance, if the expected number of customers is higher than anticipated, the budget is updated to reflect the actual number of customers, affecting costs accordingly.

Why do we need to use a flexible budget?

A flexible budget helps control costs and track variances between the original budget and actual performance. It ensures that the budget reflects the real level of activity, such as an increase in the number of customers, allowing for more accurate financial comparisons.

What does a variance mean in budgeting?

A variance is the difference between the expected or planned budget and the actual results. It can be favorable (if costs are lower than expected) or unfavorable (if costs are higher than expected).

How does variance analysis help in decision-making?

Variance analysis helps to break down discrepancies between budgeted and actual figures, allowing managers to identify the cause of the variance—whether it's due to price changes, overuse of resources, or other factors—and take corrective actions accordingly.

How does standard costing contribute to variance analysis?

Standard costing provides a benchmark for expected costs, including the price and quantity of resources. By comparing actual costs to these standards, businesses can analyze whether variances are due to price issues or quantity inefficiencies.

In the popcorn example, what was the standard amount of popcorn per bucket?

The standard amount of popcorn per bucket was set at one-quarter pound, which was used to calculate expected costs and compare them to actual outcomes.

How did the actual price of popcorn compare to the standard price in the example?

The actual price of popcorn was $2.75 per pound, which was higher than the standard price of $1.50 per pound, resulting in an unfavorable price variance of $1.25 per pound.

What is the significance of the quantity variance in the example?

The quantity variance in the example was favorable, as the actual amount of popcorn used (800 pounds) was less than the standard amount (825 pounds). This indicates that less popcorn was used than expected, leading to a cost saving.

How do the price and quantity variances contribute to the total variance?

The price variance was unfavorable, due to higher-than-expected costs per pound of popcorn, while the quantity variance was favorable, because less popcorn was used than the standard. These variances combined resulted in a net unfavorable total variance of $962.50.

Why is it important to separate price and quantity variances in large organizations?

In larger organizations, different managers are often responsible for controlling price (purchasing manager) and quantity (production manager). Separating price and quantity variances helps to pinpoint responsibility and accountability for the differences in costs, allowing for targeted improvements and clearer performance assessments.