Master Of Commerce (MCOM)egyanagar.osou.ac.in/slmfiles/MCO-03-BLOCK-04-1559781114.pdfMaster Of...
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Master Of Commerce (MCOM) MCO-3 Accounting for Managerial Decisions Block-4 STANDARD COSTING Unit-11 Basic Concepts of Standard Costing Unit-12 Variance Analysis – I Unit-13 Variance Analysis – II Unit-14 Responsibility Accounting
Transcript of Master Of Commerce (MCOM)egyanagar.osou.ac.in/slmfiles/MCO-03-BLOCK-04-1559781114.pdfMaster Of...
Master Of Commerce
(MCOM)
MCO-3
Accounting for Managerial Decisions
Block-4
STANDARD COSTING
Unit-11 Basic Concepts of Standard Costing
Unit-12 Variance Analysis – I
Unit-13 Variance Analysis – II
Unit-14 Responsibility Accounting
____________________________________________________________ UNIT 11: STANDARD COSTING
_____________________________________________________________ Introduction
One of the prime functions of management accounting is to facilitate managerial control
and the important aspect of managerial control is cost control. The efficiency of
management depends upon the effective control of costs. Therefore, it is very important
to plan and control cost. Standard costing is one of the most important tools, which helps
the management to plan and control cost of business operations. Under standard costing,
all costs are pre-determined and pre determined costs are then compared with the actual
costs. The difference between pre-determined costs and the actual costs is known as
variance which is analysed and investigated to the reasons. The variances are then
reported to management for taking remedial steps so that the actuals costs adhere to pre-
determined costs. In historical costing actual costs are ascertained only when they have
been incurred. They are useful only when they are compared with predetermined costs.
Such costs are not useful to management in decision-making and cost control. Therefore,
the technique of standard costing is used as a tool for planning, decision-making and
control of business operations. In this unit you will study the basic concepts of standard
costing.
Meaning of Standard Cost
Standard costs are predetermined cost which may be used as a yardstick to measure the
efficiency with which actual costs has been incurred under given circumstance. To
illustrate, the amount of raw material required to produce a unit of product can be
determined and the cost of that raw material estimated. This becomes the standard
material input. If actual raw material usage or costs differ from the standards, the
difference which is called ‘variance’ is reported to manager concerned. When size of the
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variance is significant, a detailed investigation will be made to determine the causes of
variance
According to the chartered Institute of Management Accountants (C.I.M.A) London,
“Standard cost is the predetermined cost based on technical estimates for materials,
labour and overhead for a selected period of time for a prescribed set of working
conditions.”
The Institute of Cost and Works Accountants defines standard costs as “Standard costs
are prepared and used to clarify the final results of a business, particularly by
measurement of variations of actual costs from standard costs and the analysis of the
causes of variations for the purpose of maintaining efficiency of executive action.”
Thus standard costs is a predetermined which determines what each product or service
‘should be’ under given circumstances. From the above definitions we may note that
standard costs are:
i) Pre-determined cost: Standard cost is always determined in advance and
ahead of actual point of time of incurring of costs.
ii) Based on technical estimated: Standard cost is determined only on the basis of
a technical estimate and on a rational basis.
iii) For the purpose of Comparison: The very purpose of standard cost is to aid
the comparison with actual costs.
iv) Based for price fixing: The prices are fixed in advance and hence the only
variation basis is the standard cost.
Standard Cost and Estimated Costs
Estimates are predetermined costs which are based on historical data and is often not very
scientifically determined. They usually compiled from loosely gathered information and
therefore, they are unsafe to use them as a tool for measuring performance. Standard
costs are predetermined costs which aims at what the cost should be rather then what it
will be. Both the standard costs and estimated costs are used to determine price in
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advance and their purpose is to control cost. But, there are certain differences between
these two costs as stated below:
Differences between Standard costs and Estimated Costs:
The following are some of the important differences between standard cost and estimated
cost:
Standard Cost Estimated Cost
Standard cost emphasizes as what the cost
‘should be’ in a given set of situations.
Estimated cost emphasizes on what the cost
‘will be’.
Standard costs are planned costs which are
determined by technical experts after
considering levels of efficiency and
production
Estimated costs are determined by taking
into consideration the historical data as the
basis and adjusting it to future trends.
It is used as a devise for measuring
efficiency
It cannot be used as a devise to determine
efficiency. It only determines expected
costs.
Standard costs serve the purpose of cost
control
Estimated costs do not serve the purpose of
cost control.
Standard costing is part of cost accounting
process
Estimated costs are statistical in nature and
may not become a part of accounting.
It is a technique developed and recognised
by management and academecians
It is just an estimate and not a technique
It can be used where standard costing is in
operation
It may be used in any concern operating on
a historical cost system.
Concept of Standard Costing
Standard costing is a technique used for the purpose of determining standard cost and
their comparison with the actual costs to find out the causes of difference between the
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two so that remedial action may be taken immediately. The Charted Institute of
Management Accountants, London, defines standard costing as “the preparation of
standard costs and applying them to measure the variations from actual costs and
analysing the causes of variations with a view to maintain maximum efficiency in
production”.
Thus, standard costing is a technique of cost accounting which compares the ‘standard
cost’ of each product or service, with the actual cost, to determine the efficiency of the
operation. When actual costs differ from standards the difference is called variance and
when the size of the variance is significant a detailed investigation will be made to
determine the causes of variance, so that remedial action will be taken immediately.
Thus, standard costing involves the following steps:
1. Setting standard costs for different elements of costs
2. Recording of actual costs
3. Comparing between standard costs and actual costs to determine the variances
4. Analysing the variances to know the causes thereof, and
5. Reporting the analysis of variances to management for taking appropriate
actions wherever necessary.
The system of standard costing can be used effectively to those industries which are
producing standardised products and are repetitive in nature. Examples are cement
industry, steel industry, sugar industry etc. The standard costing may not be suitable to
jobbing industries because every job has different specifications and it will be difficult
and expensive to set standard costs for every job. Thus, standard costing is not suitable in
situations where a variety of different kinds of tasks are being done.
Objectives of Standard Costing:
1. Cost Control: The most important objective of standard cost is to help the
management in cost control. It can be used as a yardstick against which actual costs can
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be compared to measure efficiency. The management can make comparison of actgual
costs with the standard costs at periodic intervals and take corrective action to maintain
control over costs.
2. Management by Exception: The second objective of standard cost is to help the
management in exercising control over the costs through the principle of exception.
Standard cost helps to prescribe standards and the attention of the management is drawn
only when the actual performance is deviated from the prescribed standards. It
concentrates its attention on variations only.
3. Develops Cost Conscious Attitude: Another objective of standard cost is to
make the entire organisation cost conscious. It makes the employees to recognise the
importance of efficient operations so that costs can be reduced by joint efforts.
4. Fixation of Prices: To help the management in formulating production policy
and helps in fixing the price quotations as well as in submitting tenders of various
products. This can be done with accuracy with standard cost than the actual costs. It also
helps in formulating production policies. Standard costs removes the reflection of
abnormal price fluctuations in production planning.
5. Fixing Prices and Formulating Policies: Another object of standard cost is to
help the management in determining prices and formulating production policies. It also
helps the management in the areas of profit planning, product-pricing and inventory
pricing etc.
6. Management Planning: Budget planning is undertaken by the management
at different levels at periodic intervals to maximise the profit through different product
mixes. For this purpose it is more convenient using standard costing than actual costs
because it is done on scientific and rational manner by taking into account all technical
aspects.
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Check your progress A
1. Standard costing involves in determining
i) Standard Costs
ii) Actual Costs
iii) Estimated Costs
2. The difference between actual costs and standard cost is known as
i) Profit
ii) Variance
iii) Historical Cost
3. The purpose of standard costing is to
i) Reduce Costs
ii) Measure Efficiency
iii) Control Prices
4. Distinguish between standard cost and estimated cost
5. What do you understand about standard cost and standard costing.
True or False Statements
a. Standard costing is suitable to job industries where different kinds of tasks are
being done. (False)
b. Standard costing is used effectively in those industries which are producing
standardized products and are repetitive in nature. (True)
c. Budgeting is the process of preparing plans for future activities of an
enterprise. (True)
d. Standard costing is suitable for small business. (False)
e. The figure based on the average performance of the past after taking into
account the seasonal/cyclical changes is called expected standards. (False)
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f. The success of a standard costing depends upon the reliability and accuracy of
the standards. (True)
Standard Costing and Budgeting
Budgeting may be defined as the process of preparing plans for future activities of
the business enterprise after considering and involving the objectives of the said
organisation. This also provides process/steps of collection and preparation of data, by
which deviations from the plan can be measured. This analysis helps to measure
performance, cost estimation, minimizing wastage and better utilisation of resources of
the organisation. Thus, budgets are prepared on the basis of future estimated production
and sales in order to find out the profit in a specified period. In other words Budget is an
estimate and a quantified plan for future activities to coordinate and control the uses of
resources for a specified period. According to Institute of Cost and Works Accountants,
“A budget is a financial and / or quantitative statement prepared prior to a defined period
of time, of the Policy to be pursued during that period for the purpose of attaining a given
objective.” Budgeting is a process which includes both the functions of budget and
budgetory control. Budget is a planning function and budgetory control is a controlling
system or a technique. You might have already studied the budgeting in detail in Block
3, under Unit-8: Basic Concepts of Budgeting.
The objective of the standard costing and budgeting is to achieve maximum
efficiency and cost control. Under both the systems actual performance is compared with
predetermined standards, deviations, if any, are analysed and reported. Budgeting is
essential to determine standard costs while standard costing is necessary for planning
budgets. Both are complimentary in nature and in determining the results. Besides
similarities there are certain differences between standard costing and budgeting which
are as follows:
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Standard costing Budgeting
1. Standard costing is based on
technical information and is fixed
scientifically.
1. It is based on standard cost, historical costs
and estimates.
2. Standard costs are used mainly for
the manufacturing function and
also for marketing and
administration functions.
Therefore, it does not require
functional coordination.
2. Budgets are prepared for different
functional departments such as sales,
purchase, production, finance, personnel
department. Therefore, it requires
functional coordination.
3. Standard costs emphasises the
cost levels which should be
reduced
3. Budgets emphasises cost levels which
should not be exceeded.
4. In standard costing variances are
usually revealed through
accounts.
4. In Budgeting, variances are not revealed
through accounts and control in exercised
by putting budgeted figures and actuals
side by side.
5. In standard costing, a detailed
analysis is needed in case of
variances.
5. No further analysis is required if costs are
within the budget.
6. Standard costing sets realistic
yardsticks and therefore, it is
more useful for controlling and
reducing costs.
6. Budgets generally set maximum limits of
expenditure without considering the
effectiveness of expenditure.
7. Standard cost is revised only
when there is a change in the
basic assumptions and basis.
7. Budgeting is done before the beginning of
each accounting period.
8. Standard costs are based on the
basis of standards set by
management.
8. Budgets are set on the basis of present
level of efficiency.
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9. Standard costing cannot be used
partially. Standards will have to
be set for all elements of cost.
9. Budgeting can be done either wholly or
partly.
10. Standard cost is a projection of
cost accounts.
10. Budgeting is a projection of financial
accounts.
Advantages of Standard Costing
The introduction of Standard Costing system may offer many advantages. It varies from
one business to another. The following advantages may be derived from standard costing
in the light of the various objectives of the system:
1. To measure efficiency: Standard Costs provide a yardstick against which
actual costs can be measured. The comparison of actual costs with the standard cost
enables the management to evaluate the performance of various cost centres. In the
absence of standard costing, efficiency is measured by comparing actual costs of different
periods which is very difficult to measure because the conditions prevailing in both the
periods may differ.
2. To fix prices and formulate policies: Standard costing is helpful in
determining prices and formulating production policies. The standards are set by
studying all the existing conditions. It also helps to find out the prices of various
products. It helps the management in the formulation of production and price policies in
advance and also in the areas of profit planning product pricing, quoting prices of tenders.
It also helps to furnish cost estimates while planning production of new products.
3. For Effective cost control: One of the most advantages of standard
costing is that it helps in cost control. By comparing actual costs with the standard costs,
variances are determined. These variances facilitate management to locate inefficiencies
and to take remedial action against those inefficiencies at the earliest.
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4. Management by exception: Management by exception means that each
individual is fixed targets and every one is expected to achieve these given targets.
Management need not supervise each and everything and need not bother if everything is
going as per the targets. Management interferes only when there is deviation. Variances
beyond a predetermined limit may be considered by the management for corrective
action. The standard costing enables the management in determining responsibilities and
facilitates the principle of management by exception.
5. Valuation of stocks: Under standard costing, stock is valued at standard cost and
any difference between standard cost and actual cost is transferred to variance account.
Therefore, it simplifies valuation of stock and reduces lot of clerical work to the
minimum level.
6. Cost consciousness: The emphasis under standard costing is more on cost
variations which makes the entire organisation cost conscious. It makes the employees to
recognise the importance of efficient operations so that efforts will be taken to reduce the
costs to the minimum by collective efforts.
7. Provides incentives: Under standard costing system, men, material and
machines can be used effectively and economies can be effected in addition to enhanced
productivity. Schemes may be formulated to reward those who achieve targets. It
increases efficiency, productivity and morale of the employees.
Limitations of Standard Costing
In spite of the above advantages, standard costing suffers from the following
disadvantages:
1. Difficulty in setting standards: Setting standards is a very difficult task as it
requires a lot of scientific analysis such as time study, motion study etc. When standards
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are set at high it may create frustration in the minds of workers. Therefore, setting of a
correct standards is very difficult.
2. Not suitable to small business: The system of standard costing is not
suitable to small business as it requires lot of scientific study which involves cost.
Therefore, Small firms may find it very difficult to operate the system.
3. Not suitable to all industries: The standard costing is not suitable to those
industries which produces non-standardised products and also not suitable to job or
contract costing. Similarly, the application of standard costing is very difficult to those
industries where production process takes place more than one accounting period.
4. Difficult to fix responsibility: Fixing responsibility is not an easy task.
Variances are to be classified into controllable and uncontrollable variances because
responsibility can be fixed only in the case of controllable variances. It is difficult to
classify controllable and uncontrollable variances for the variance controllable at one
situation may become uncontrollable at another time. Therefore, fixing responsibility is
very difficult under standard costing.
5. Technological changes: Standard costing may not be suitable to those
industries which are subject to frequent technological changes. When there is a change in
the technology, production process will require a revision of standard. Frequent revision
of standards is a costly affair and therefore, the system is not suitable for industries where
methods and techniques of production are subject to fast changes.
In spite of the above limitations, standard costing is a very useful technique in
cost control and performance evaluation. It is very useful tool to the industries producing
standardised products which are repetitive in nature.
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Pre-requisites for success
In establishing a system of the standard costing, there are a number of
preliminaries which are to be considered. These include:
1. Establishment of Cost Centres
2. Classification of Accounts
3. Types of Standards
4. Setting Standard Costs
Let us study the above in detail
1. Establishment of Cost Centres: A cost centre is a location, person or an item
of equipment (or group of these) in respect of which costs may be ascertained and related
to cost units. A centre which relates to persons is referred to as a personal cost centre and
a centre which relates to location or to equipment as an impersonal cost centre. Cost
centres are set up for cost ascertainment and cost control. While establishing cost centres
it should be noted that who is responsible for which cost centre. In many cases each
department or function will form a natural cost centre but there may also have a number
of cost centres in each department or function. For example, there may be six machines
in a manufacturing department, each machine may be classified as a cost centre. Cost
centres are essential for establishing standards and analysing the variances.
2. Classification of Accounts: Accounts are classified to meet a required purpose.
Classification may be by function, revenue item or asset and liabilities item. Codes and
symbols are used to facilitate speedy collection and analysis of accounts.
3. Types of Standards: The standard is the level of attainment accepted by
management as the basis upon which standard costs are determined. The standards are
classified mainly into four types. They are:
i) Ideal Standard: The ideal standard is one which is set up under ideal
conditions. The ideal conditions may be maximum output and sales, best possible prices
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for materials, most satisfactory rates for labour and overhead costs. As these conditions
do not continue to remain ideal, this standard is of little practical value. It does provide a
target or incentive for employees, but is usually unattainable in practice.
ii) Expected Standard: This is the standard which is actually expected to be
achieved in the budget period, based on current conditions. The standards are set on
expected performance after allowing a reasonable allowance for unavoidable losses and
lapses from perfect efficiency. Standards are normally set on short term basis and
requires frequent revision. This standard is more realistic than ideal standard.
iii) Normal Standard: This represents an average figure based on the
average performance of the past after taking into account the fluctuations caused by
seasonal and cyclical changes. It should be attainable and provides a challenge to the
staff.
iv) Basic Standard: This is the level fixed in relation to a base year.
The principle used in setting the basic standard is similar to that used in statistics when
calculating an index number. The basic standard is established for a long period and is
not adjusted to the present conditions. It is just like an index number against which
subsequent price changes can be measured. Basic standard enables to measure the
changes in cost. It serves as a tool for cost control purpose because the standard is not
revised for a long period. But it cannot be used as a yard stick for measuring efficiency.
4. Setting Standard Costs: The success of a standard costing system depends
upon the reliability and accuracy of the standards. Therefore, every case should be taken
into account while establishing standards. The number of people involved with the
setting of standards will depend on the size and nature of the business. The responsibility
for setting standards should be entrusted to a specific person. In a big concern a Standard
Costing Committee is formed for this purpose. The committee consists of Production
Manager, Personnel Manager, Production Engineer, Sales Manager, Cost Accountant and
other functional heads. The cost accountant is an important person, who has to supply
the necessary cost figures and coordinate the activities of budget committee. He must
ensure that the standards set are accurate and present the statements of standard cost in
most satisfactory manner.
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Standard costs are set for each element of cost i.e., direct materials, direct labour
and overheads. The standards should be set up in a systematic manner so that they can be
used as a tool for cost control. Briefly, standard costs will be set as shown below:
i) Standard Cost for Direct Materials:
If material is used for manufacturing a product it is known as direct
material. Direct material cost involves two things (a) Quantity of materials and (b) Price
of materials. Firstly, while setting standard for quantity of material, the quality and size
of the material should be determined. The standard quantity of material required for
producing a product is decided by the technical experts in the production department.
While fixing standard for material quantity, a proper allowance should be given to normal
loss of materials. Normal loss will be determined after careful analysis of various factors.
Secondly, standard price for the material is to be determined. Setting standard price for
material is difficult because the prices are regulated more by the external factors than the
company management. Before fixing the standard, factors like prices of materials in
stock, price quoted by suppliers, forecast of price trends, the price of materials already
contracted, provision for discounts, packing and delivery charges etc., should be
considered.
ii) Setting Standards for Direct material:
The labour involved in manufacture of a product is known as direct
labour. The wage paid to such workers is known as direct wages. The time required for
producing a product should be ascertained and labour should be properly graded. Setting
of standard cost of direct labour involves fixation of standard time and fixation of
standard rate. Standard time is fixed by time or motion study or past records or
estimates. While fixing standard time normal ideal time is to be allowed for normal
delays, idle time, other contingencies etc. The labour rate standard refers the wage rate
applicable to different categories of workers. Fixation of standard rate will depend upon
various factors take demand for labour, policy of the organisation, influence of unions,
method of wage payment etc. If any incentive scheme is in operation then anticipated
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extra payment to the workers should also be included in determining standard rate. The
Accountant will determine the standard rate with the help of the Personnel Manager,.
The object of fixing standard time and labour rate is to get maximum efficiency in the use
of labour.
iii) Setting Standards for Direct Expenses
Direct expenses are those expenses which are specifically incurred in
connection with a particular job or cost unit. These expenses are also known as
chargeable expenses. Standards for these expenses must also be determined. Standards
for these may be based on past performance records subject to anticipatory changes
therein.
iv) Setting Standards for Overheads
Indirect costs are called overheads. These costs are those which cannot be
assigned to any particular cost unit and are incurred for the business as a whole. The
overheads are classified into fixed, variable and semi-variable overheads. Standard
overhead rate is determined for these on the basis of past records and future trend of
prices. It will be calculated per unit or per hour. Setting standard for overhead cost
involves the following two steps:
a) Determination of the standard overhead costs, and
b) Determination of the estimates of production
Standard overhead absorption rate is computed with the help of the following
formula:
Standard overhead for the period Standard overhead rate = ---------------------------------------------
(per hour) Standard hours for the period
or
Standard overhead for the period Standard overhead rate = -------------------------------------------------------
(per hour) Standard production (in units) for the period
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The purpose of setting standard overhead rate is to minimise overhead costs. Overhead rates are more useful to the management if they are divided into fixed and variable components. When overheads are divided into fixed and variable, separate overhead absorption rates are to be calculated with the help of the following formulae:
Standard Variable Overhead for the Period Standard Variable Overhead Rate = -------------------------------------------------------- Standard Production (in Units or Hours) for the Period
Standard Fixed Overhead for the Period Standard Fixed Overhead Rate = -------------------------------------------------------- Standard Production (in Units or Hours) for the Period
Standard Hour
Production may be expressed in different units of measurement such as kilos,
tones, litres, numbers etc. When a concern produces different types of products, the
production will be expressed in different units. It is difficult to aggregate the production
which is expressed in different units. To over come this difficulty, the production is to be
expressed in a common measure known as ‘Standard Hour’. The standard hour is the
quantity of output which should be produced in one hour. A standard hour may be as “A
hypothetical hour which represents the amounts of work which should be performed in
one hour under stated conditions.” A measure of standard hour is useful for the purpose
of comparison of performance of one department to another. It is also useful to compute
efficiency and activity ratios. For example if 20 units of product A are produced in 2
hour, and 40 units of product B are produced in 5 hours, the standard hours represent 10
20 Units 40 Units units of product A (-----------)and 8 units of product B (-------------). Therefore, standard 2 hrs 5 hrs hour is the quantity of production of a given product for one clock hour.
Revision of Standards
Standard cost is based on a number of factors. These factors some may be
internal or external may vary from time to time depending upon different situations.
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Standard cost may become unrealistic if it is not revised according to the changed
circumstances. Then a question arises what would be the period in which standards
should be set? If the standard is set for a shorter period it is expensive and frequent
revision of standards will impair the utility and purpose of the standard cost. If the
standard is set for a longer period it may not be useful particularly during periods of high
inflation and rapidly changing technological environment. Therefore, standards are
normally set for a fixed period of one year and revised annually at the beginning of
accounting period. If there are major changes, a revision may also be required within the
accounting period. If there are minor changes, the causes of difference between actual
and standards may be explained without being revised the standards. There are certain
conditions which necessitate the revision of standard costs. These conditions are:
i) Changes in price levels of materials, labour and overheads
ii) Technological changes
iii) Changes in production methods or product mixes
iv) Changes in plant capacity utilization
v) Errors discovered in setting standards
vi) Changes in designs or specification
vii) Changes in the policy of organisation
viii) Changes in government policy affecting the product or organisation, etc.
Check your progress B
1. State some of the conditions under which a revision of stand cost takes place
2. Explain the concept of standard hour.
a) Standard hour is a hypothetical hour which represents the amount of work
to be done in one hour under given circumstances (True)
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b) To control cost either standard costing or budgetory control should be
used but not both the techniques. (False)
c) Standard cost is used as a yardstick to measure the efficiency with which
actual cost has been incurred. (True)
d) Standard cost is a projection of costs accounts whereas budgeting is a
projection of financial accounts. (True)
e) Standards are normally set for a longer period and revised annually.
(False)
Terminal Questions
1. What is Estimating Costing and how does it differ from Standard Costing?
2. What do you understand by standard costing. Give a suitable definition to explain
your answer.
3. What is Standard Costing? State the objectives of standard costing.
4. Give a comparative account of standard costing and budgeting.
5. Write a detailed note explaining the advantages and limitations of standard
costing.
6. How do you ensure the success of a standard costing method in your organisation
7. Write notes on the following:
a) Ideal standard
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b) Expected standard
c) Normal standard
d) Basic standard
8. Explain the meaning of Standard Hour.
9. Write a note on Revision of Standards.
10. How are standards fixed? Explain.
11. A company has decided to introduce a system of standard costing. What are the
preliminaries to be considered before developing such a system? Explain.
Unit 12: Variance Analysis – I After the standard costs have been set, the next step is to ascertain the actual cost of each
element and compare them with the standard already set. The difference of actual from
the standard is Variance. While setting standard specific method of production is to be
kept in mind. If a different method of production is adopted, it gives rise to a different
amount of cost, thereby causing variance, known as method variance. In standard
costing, Variance means the difference between a standard cost and the comparable
actual cost incurred during a period. Variance analysis is the process of analysing
variances by sub-dividing the total variance in such a way that management can assign
responsibility for any off-standard performance. Thus, variance analysis means the
measurement of the deviation of actual performance from the desired performance.
Variance may be favourable or unfavourable depending upon whether the actual cost is
less or more than the standard cost. If the actual cost is less than the standard cost, the
variance is termed as ‘favourable’ and if the actual cost is more than the standard cost,
variance is called as ‘unfavourable’ or ‘adverse’ variance. The effect of favourable
variance increases the profit and it is a sign of efficiency of the organisation. On the
other hand, unfavourable variance refers to the loss of the business and it is a sign of
inefficiency of the organisation.
Controllable and Uncontrolled Variances
The variance may be classified as Controllable and Uncontrollable. Variance is said to
be controllable if it is identified as the primary responsibility of a particular person or
department. The excessive use of materials or labour hours than the standards can be
attributable to a particular person. When the variations are due to the factors beyond the
control of the concerned person or department, it is said to be uncontrolled. The rise in
prices of materials, increase in wage rates, Govt. restrictions etc., are the examples of
uncontrollable variance. These factors are not within the control of the management and
the responsibility of the variance cannot be assigned to any particular person or division.
- 1 -
The division of variance into controllable and uncontrollable is important from the view
point of management as it can place more emphasis on controllable variance and thus
facilitates to the principle of management by exception. Standard costing to be more
realistic, sometimes the standards set are to be revised on account of changes in
uncontrollable factors like wages, materials etc. To take into account these factors into
variance, a ‘revised variance’ is created and the basic standard is allowed to continue.
This revision variance is the difference between the standard cost originally set and the
revised standard cost.
Finding variance is not the ultimate objective of the standard costing. But their analysis
and finding the causes of variance is the ultimate aim to control cost. Control of cost
depends on the corrective action taken by the management. The analysis of variance
helps the management to locate deficiency and assign responsibility to particular person
or cost centre. The next step of the management is to find out the reason for the variance
to pin points where necessary, corrective action should be taken over.
Classification of Variances
Variances may be classified into two categories viz., cost variances and sales variances.
The cost variance may again be sub-divided into variances for each element of cost as
shown in the following chart:
- 2 -
- 3 -
Variances
Cost Variances Sales Variances
Direct Material Direct Labour Overhead Sales Price Variance Sales Volume Variance Cost Variance Cost Variance Cost Variance
Price Usage Price Efficiency Variable Fixed Variance Variance Variance overhead Variance overhead Variance
Mix Variance Yield Variance Mix Yield Idle
Variance Variance Variance
- 4 -
- 5 -
The sales variances may again be sub-divided into sales price variance and sale volume
variance. Sub-division of variance of each element of cost gives valuable information to
the management in order to control the cost. In this unit you will study Direct Material
Cost Variance and Direct Labour Cost Variance only. The remaining cost variances you
will study in Unit 12: Variances Analysis – II.
Another classification of Variance analysis is
1. Price Variance and
2. Volume Variance
Price Variance relates to the prices of materials, rates of labour, expenditure on overheads
or selling prices of products. The price variance may be classified as:
a. Material Price Variance
b. Labour Rate Variance
c. Variable Overhead Expenditure Variance
d. Fixed Overhead Expenditure Variance
e. Sales Price Variance
Volume Variance relates to the quantity of units in terms of raw material consumed,
number of hours worked, number of products sold. The volume variance may be divided
as follows:
a. Material Usage Variance
b. Labour Efficiency Variance
c. Fixed Overhead Volume Variance
d. Sales Volume Variance
The total of Price Variance and Volume Variance is known as the Cost Variance.
Direct Material Variances
- 6 -
Materials constitute most important element of cost. Therefore, utmost care should be
taken in purchasing and using the materials. When deviations occur between the
standards specified and the actuals the following variances could be calculated:
a. Direct Material Cost Variance,
b. Direct Material Price Variance, and
c. Direct Material Usage or Quantity Variance
Let us study the above variances in detail.
a. Direct Material Cost Variance: It is the difference between the standard cost
of materials specified for the output achieved, and the actual cost of direct materials
consumed. The standard cost of materials is computed by multiplying the standard price
with the standard quantity for actual output. The actual cost is computed by multiplying
actual price with the actual quantity used. The Direct Material Variance may be
calculated with help of the following formula:
Direct Material Cost Variance = Standard Cost – for actual output Actual Cost
(DMCV)
Where,
Standard Cost = Standard Price per unit X Standard Quantity used for actual output
Actual Cost = Actual Price X Actual Quantity used.
Direct material cost variance arises due to change in price of materials or change in the
quantity of material used or both. If the standard cost is more than the actual cost, the
variance will be favourable and on the other hand, if the actual cost is more than the
standard cost the variance will be unfavourable or adverse. Let us take an example:
Illustration 1
Calculate Direct Material Cost Variance with the help of the following information:
- 7 -
Standard Output : 1600 Units
Actual Output : 2000 Units
Standard Quantity required per unit : 2 Kg.
Total Quantity actually consumed : 2400 Kg.
Standard rate per unit : Rs. 8 per Kg.
Actual rate per unit : Rs. 10 per Kg.
Solution
Direct Material Cost Variance = Standard Cost – Actual Cost
or
Standard Actual price X standard – price X Actual quantity for Quantity Used actual output
= Rs. 8 X 2 kg X 2000 kg - Rs. 10 X 2400kg
= Rs. 32000 - Rs. 24000
= Rs. 8000 (Favourable)
b. Direct Material Price Variance: Direct Material Price Variance is the
difference between actual price and standard price of materials consumed. Material price
variance may arise due to the following reasons:
i) Changes in the prices of materials,
ii) Uneconomical size of purchase orders,
iii) Failure to purchase materials at proper time,
iv) Fluctuations in the cost of transportation and carriage of goods,
v) Buying efficiency or inefficiency
vi) Not availing cash discounts when setting standards,
vii) Purchase of substitute material for non-availability of specified material
viii) Changes in the duty structure which is forming part of price,
ix) Inefficiency of purchase department etc.
- 8 -
Some of the above factors are controllable if proper care is exercised by the management.
Generally, the Purchase Manager will be held responsible for material price variance.
Material price variance will be calculated as follows:
Direct Material Price Variance = Actual Quantity (Standard Price – Actual Price)
= AQ (SP – AP)
If the standard price is more than the actual price, the variance would be favourable and
in case the actual price is more than the standard price, it shows adverse variance.
Adverse material price variance shows that unfavourable prices were paid for materials
consumed and the Purchase Manager would be asked to explain the position.
Illustration 2
Calculate the material price variance with the figures given in illustration 1.
Solution
Direct Material Price Variance = Actual Quantity (Standard Price – Actual Price)
= 2400 (Rs.8– Rs.10)
= 2400 X Rs.-2
= Rs. 4800 (Adverse)
As the actual price is more than the standard price, it shows unfavourable variance.
c. Material Usage (Quantity) Variance: Material Usage Variance is that
portion of material cost which arises due to the difference between the standard quantity
specified and the actual quantity used. In other words, it is the difference between
standard quantity for actual output and actual quantity, multiplied by standard price of
material. The formula for material usage variance is as follows:
Material Usage Variance =
Standard Price (Standard Quantity for actual output – Actual Quantity)
MUV = SP (SQ - AQ)
- 9 -
This Variance will be considered favourable when standard quantity is more than actual
quanity and vice versa. The production Manager will be held responsible for material
usage variance. Material usage variance will arise due to the following reasons:
i) Use of sub-standard or defective materials,
ii) Carelessness in the use of materials,
iii) Use of substitute materials,
iv) Inefficient production methods,
v) Change in designs than those specified,
vi) Pilferage of material,
vii) Use of non-standard mix,
vii) Use of defective plant,
ix) In correct processing of materials resulting in wastages,
x) Improper inspection and supervision of work men,
xi) Incorrect setting of standards etc.
Direct Material Cost Variance is equal to the sum of Direct Material Price Variance and
Material Usage Variance. Thus,
Direct Material Cost Variance = Material Price Variance + Material Usage Variance
Illustration 3
Gemini Chemical Industries provides the following information from their records:-
For making 10 kgs. Of GEMCO, the standard material requirement is
Material Quantity Rate per kg.
A 8 units Rs. 6.00
B 4 units Rs. 4.00
During April, 2004, 1000 kgs of GEMCO were produced. The actual consumption of
material is as under:
- 10 -
Material Quantity Rate per kg.
A 750 units Rs. 7.00
B 500 units Rs. 5.00
Calculate:
a) Material Cost Variance
b) Material Price Variance
c) Material Usage Variance
Solution:
a) Material Cost Variance = Standard Cost – Actual Cost
= Rs. 6400 – Rs. 7750
= Rs. 1350 (A)
b) Material Price Variance
= (Standard Price – Actual Price) X Actual Quantity
x Material = (Rs. 6 – Rs. 7) 750 = (Rs. 4- Rs. 5) X 500
= Rs. (-1) 750 = Rs.750 (A)
= Rs. 1250 (A)
y Material = (Rs. 4 – Rs. 5) X 500
= Rs. 500 (A)
x + y Material = Rs. 750 (A) + Rs. 500 (A) = Rs. 1250 (A)
c) Material Usage Variance
= (Standard Quantity for actual output – Actual Quantity) X Standard Price
= x Material + y Material
= (800 kg. – 750 kg) Rs. 6 + (400 kg – 500 kg) Rs. 4
= Rs. 300 (F) = Rs. 400 (A)
= Rs. 100 (A)
- 11 -
Verification
Material Cost Variance = Material Price Variance + Material Usage Variance
Rs. 1350 (A) = Rs. 1250 (A) + Rs. 100 (A)
Working:
Standard Cost Actual Cost Material Quantity
(kg) Rate (Rs.)
Amount (Rs.)
Quantity (kg)
Rate (Rs.)
Amount (Rs.)
A 800(1000
kg X 8/10)
6 4800 750 7 5250
B 400(1000
kg X 4/10)
4 1600 500 5 2500
6400 7750
Classification of Material Usage Variance: When more than one type of material
is used in producing a product, the total usage variance will be classified into (a) Material
mix Variance and (b) Material Yield Variance. Let us study these two variances in detail:
a) Material Mix Variance: Material Mix Variance may be defined as that
portion of the material usage variance which is due to the difference between the standard
and actual composition of material mixture. It means that the cause of variance is due to
a change in the ratio of actual material mix from the standard material mix. The variance
results from a variation in the materials mix used in production. Material mix variance
may arise in those industries where a number of raw materials are mixed in order to
produce a final product. Examples are chemical industries, rubber industries etc.
Material Mix Variance is calculated as follows:
Material Mix Variance
= (Revised Standard Quantity – Actual Quantity) X Standard Price
or
RSQ = Total AQ X Standard Ratio
- 12 -
where,
Standard Quantity for each material Total of actual Revised Standard Quantity = -------------------------------------------- X Quantities of all Total Standard Quantity for all material material
If the actual quantity is more than revised standard quantity, an adverse variance will
occur and vice versa.
Material mix variance may arise due to the following reasons:
i) Price actually paid for materials differs from standard prices
ii) Delay in supply of raw materials
iii) Non-availability of one or more components of the mix
iv) Non-purchase of materials at proper time
v) Inefficiency in production department to use proper mix
vi) Actual mix may be different from standard mix, etc.
Illustration 4
A product made from raw materials X and Y has the following Standard Mix:
Material Quantity (Kg.) Price (Rs.) Amount (Rs.)
A 2 2.00 4.00
B 8 1.00 8.00
10 12.00
The actual mix is as follows
Material Quantity (Kg.) Price (Rs.) Amount (Rs.)
A 8 2.00 16.00
B 4 1.25 5.00
12 21.00
- 13 -
Compute Material Mix Variance.
Solution:
Material Mix Variance
= (Revised Standard Quantity – Actual Quantity) X Standard Price
where, Revised Standard Mix =
RSQ
Total Actual Quantity ----------------------------- X Standard Quantity of each material Total Standard Quantity 12 Material A = ------- X 2 = 2.4 Kg. 10
Total Actual Quantity Material B = ----------------------------- X Standard Quantity of B Total Standard Quantity
12 = ------- X 8 = 9.6 Kg.
10
Alternate method for calculating RSQ :
A and B Material Standard Ration = 2 : 8 or ! : 4
A : Total AQ = 12 kg X ¼ = 2.4 kg
B : Total AQ = 12 kg X 4/5 = 9.6 kg
Computation of Material Mix Variance
A: (Revised Standard Mix – Actual Mix) X Standard Price of A
= (2.4kg. – 8kg.) X Rs. 2
= 5.6kg. X Rs.2 = Rs. 11.2 (A)
B: (Revised Standard Mix – Actual Mix) X Standard Price of B
= (9.60kg. – 4kg.) X Rs. 1.00
= 5.60kg. X Rs. 1.00 = Rs. 5.60 (F)
- 14 -
Total Material Mix Variance = Rs. 11.2 (A) + Rs. 5.60(F) = Rs. 5.60 (A)
Illustration 5
The following figures relates to the quantity of material required for the production of a
product:
Standard Actual
Quantity (Kgs)
Price (Rs.)
Amount (Rs.)
Quantity (Kgs)
Price (Rs.)
Amount (Rs.)
A 60 10 600 80 12 960
B 90 20 1800 60 25 1500
150 2400 140 2460
Compute
a) Material Cost Variance
b) Material Price Variance
c) Material Usage Variance
d) Material Mix Variance
Solution :
a) Material Cost Variance = Standard Cost – Actual Cost
= Rs.2400–2460 = Rs. 60 (A)
b) Material Price Variance = (Standard Price –Actual Price) X Actual Quantity
A : (Rs.10–Rs.12) 80 = Rs.160 (A)
B : (Rs.20–Rs.25) 60 = Rs.300 (A)
------------
- 15 -
Rs. 460(A)
-------------
c) Material Usage Variance = Standard Price (Std. Quantity – Actual Quantity)
Material A: (60–80) Rs.10 = Rs.200 (A)
Material B: (90–60) Rs.20 = Rs.600 (F)
-------------
Rs. 400 (F)
--------------
d) Material Mix Variance:
(Revised Standard Quantity – Actual Quantity) X Standard Price
Material A: (56–80) X Rs. 10 = Rs. 240 (A)
Material B: (84–60) X Rs. 20 = Rs. 480 (F)
-------------
Rs. 240 (F)
--------------
Revised Standard Quantity of
Total Actual Quantity Material A = ----------------------------- X Standard Quantity of A Total Standard Quantity
140 = ------- X 60 = 56 Kg.
150
Total Actual Quantity Material B = ----------------------------- X Standard Quantity of B Total Standard Quantity
140 = ------- X 90 = 84 Kg.
150
- 16 -
b) Material Yield Variance (MYV) : Material Yield Variance is calculated on the
basis of output while the other variance are calculated on the basis of input. The variance
is calculated as the difference between the standard output and the actual output. If the
actual output is more than the standard output, then the variance would be favourable and
vice versa. The formula for material yield variance is as follows:
Material Yield Variance = (Actual Yield – Standard Yield) Standard output price Where, standard output price is the total standard material cost per unit of output, Actual Usage of Material Standard Yield = ---------------------------------------------- Standard Usage per unit of Output
This variance arises in the case of process industries where loss of material is inevitable
in the process of production of final product. Therefore, in these industries normal loss is
to be taken into account while setting standards. But the actual loss may be different
from the normal loss during the process of actual production. This gives rise to the
variance in the standard yield. The material yield variance may be caused due to the
following reasons:
i) Defective method of operation
ii) Purchase of substandard quantity of material
iii) Lack of proper care in handling
iv) Lack of proper supervision etc.
It should be noted that where several types of materials are used Material Revised Usage
Variance (MRUV) and Material Yield Variance (MYV) imply the same thing, though
both are computed using different formulae. Numerical results would give the same
figure.
Illustration 6
- 17 -
XY Company Ltd. a manufacturer of product P, uses standard cost system gives you the
following details for 1000 kgs of product P
Ingredients Quantity Kg Price per Kg (Rs.) Cost (Rs.)
A 800 2.50 2000
B 200 4.00 800
C 200 1.00 200
Input 1200
Output 1000
Actual Records Indicate Consumption in January
A 1,57,000 @ Rs. 2.40
B 38,000 @ Rs. 4.20
C 36,000 kgs @ Rs. 1.10
Actual finished production for the month of January is 2,00,000 kgs.
Calculate:
1) Material Cost Variance
2) Material Price Variance
3) Material Mix Variance
4) Material Yield Variance
5) Material Usage Variance
Solution
1. Material Cost Variance = Std. Cost – Actual Cost
A : (16000 kgs X Rs.2.50) – (157000 kgs X Rs.2.40)
= Rs. 400000 – Rs. 376800 = Rs.23200 (F)
- 18 -
B : (40000 kgs X Rs.4) – (38000 kgs X Rs.4.20)
= Rs. 160000 – Rs. 159600 = Rs.400 (F)
C : (40000 kgs X Rs.1) – (36000 kgs X Rs.1.10)
= Rs. 40,000 – Rs. 39600 = Rs.400 (F)
M.C.V. = Rs. 24000(F)
2. Material Price Variance = (Standard Price – Actual Price ) X Actual Quantity
Material A = (Rs. 2.50 – Rs. 2.40) X 1,57,000 = Rs. 15,700 (F)
Material B = (Rs. 4.00 – Rs. 4.20) X 38,000 = Rs. 7600 (A)
Material C = (Rs. 1.00 – Rs. 1.10) X 36,000 = Rs. 3600 (A)
--------------------
Total Material Price Variance Rs. 4500 (F)
--------------------
3. Material Mix Variance: (Revised Standard Mix – Actual Mix) Standard Price
where, Standard Material Revised Standard Mix = ---------------------------- X Total Actual Material Total Standard Materials
800 4 A = ------- X 231000 = 1,54,000 Kg. (or) 23100 kg X -------- = 15400 kg 1200 6
200 1 B = ------- X 231000 = 38,500 Kg. (or) 23100 kg X ------- = 38500 kgs. 1200 6
200 1 C = ------- X 231000 = 38,500 Kg. (or) 23100 kg X ------ = 23500 kgs 1200 6
Material Mix Variance:
Material A = (1,54,000-1,57,000) X Rs.2.50 = Rs.7500 (A)
Material B = (38,500-38,000) X Rs.4.00 = Rs.2000 (F)
- 19 -
Material C = (38,500-36,000) X Rs.1.00 = Rs.2500 (F)
---------------
Rs.3000 (A)
----------------
4. Material Yield Variance = (Standard Yield – Actual Yield) Std. output Price
Where,
Actual Usage of Material Standard Yield = ---------------------------------------------- Standard Usage per unit of Output
231000 kgs 231000 kgs = ----------------------- = ---------------- 1.2kg (1200÷1000) 1.2 kg (i.e., 1200 kg ÷ 1000 kgs)
= 192500 Kg. (Std. material cost per unit of output = Rs. 3000÷1000 output)
Material Yield Variance = (Actual Yield – Standard Yield) Standard output price
= (200000 – 192500) X Rs. 3
= Rs. 22500 (F)
5. Material Usage Variance – (Standard Quantity – Actual Quantity) Standard Price
Material A = (1,54,000 – 1,57,000) X 2.50 = 7500 (F)
Material B = (4,00,000 – 38,000) X 4.00 = 8000 (F)
Material C = (4,00,000 – 36,000) X 1.00 = 4000 (F)
-----------
19500 (F)
-----------
The following formulae may be used for verification of material cost variance:
1. Material Cost Variance = Material Price Variance + Material Usage Variance
- 20 -
(MCV) (MPV + MUV)
Rs. 24000 (F) = Rs. 4500 (F) + Rs.19500 (F)
2. Material Usage Variance = Material Mix Variance + Material Yield Variance
(MUV) (MMV + MYV)
Rs. 19500 (F) = Rs.3000 (A) + Rs.22500 (F)
3. Material Cost Variance = Material Price Variance + Material Mix Variance +
Material Yield Variance
(MCV) (MPV + MMV + MYV)
Rs.24000 (F) = Rs.4500 (F) + Rs.3000(A) + Rs.22500 (F)
Check your Progress
1. The production of a certain unit is assumed to require 800 kgs of material costing
Rs. 15. On completion of production of the unit, it was found 750 kg of material
costing Rs. 17.50 per kg was consumed. Calculate the variance
(MCV = Rs. 1125 (A), MPV = Rs. 1875 (A), MUV = Rs. 750 (F))
Variance I
1. The Variance caused due to a different method of production than those specified,
is called method variance. (True)
2. Revision variance is the difference between the original standard cost and the
revised standard cost. (True)
3. Revision variance is created when there are changes in controllable factors.
(False)
Variance II
A Product requires 100 kg. of material at the rate of Rs. 5 per kg. The actual
consumption of material used for producing a product came to 120 kgs @ Rs. 4.75 per
kg. Calculate Direct Material Cost Variance. (Ans Rs. 30 (F))
- 21 -
From the following information calculate material mix variance
Materials Standard
quantity
Standard price Actual quantity Actual price
X 20 units Rs. 10 25 units Rs. 12
Y 30 units Rs. 5 25 units Rs. 8
Ans: Material X = 50 (Adverse), Material Y = 25 (F), Material Mix Variance = Rs. 25
Adverse)
Direct Labour Variances
The labour directly engaged in the production of a product is known as direct labour.
The wages paid to such labour is known as direct wages. For example, the wages paid to
a machine operator is a direct labour cost. Labour variances arise when actual labour
costs are different from standard labour cost. The setting up of standard direct labour
cost will depend upon the following factors:
a) Methods of Production: Standardized methods of production will be decided
by studying motion study.
b) Labour time standards: The time taken by different categories of workers is
known as Labour time standard it will be ascertained by using past record performance,
time and motion study.
c) Labour rate standards: It refers to the expected wage rate to be paid to different
categories of workers. While deciding standard labour rate past wage rates, demand and
supply of labour, anticipated changes in wage rates etc. should be taken into account.
The methods of wage payment like time rates or piece rates and incentive plans are also
to be considered while fixing standard labour rate.
- 22 -
d) Different grade of labour mix: Standard proportion of different grades of
labour mix is another important factor in setting standard labour cost.
Direct labour variance is the difference between the standard direct labour cost specified
for the activity achieved and the actual direct labour cost incurred. It is calculated as
follows:
Direct Labour Cost Variance = Standard Labour Cost – Actual Labour Cost
or
= (Std. hours X Std. Rate) – (Actual hours X Actual rate)
= (SH X SR) – (AH X AR)
Note: When the actual output differs from standard output, standard labour cost of actual
output is to be worked out and then the following formula is to be applied:
DLCV = Std. cost of actual production – Actual cost
Let us see the following illustration how Direct Labour Cost Variance is calculated:
Illustration 7
From the following information, calculate direct labour cost variance:
Standard wage rate per hour : Rs. 5
Standard time set : 1000 hours
Actual wage rate per hour : Rs. 6
Actual time taken : 980 hours.
Solution
Direct Labour Cost Variance = (SH X SR) – (AH X AR)
= (1000 X Rs.5) – (980 X Rs.6)
= Rs.5000 – Rs.5880
- 23 -
= Rs.880 (A)
Direct Labour Cost Variance is sub-divided into:
1. Labour Rate Variance
2. Labour Efficiency Variance
Labour Efficiency or Time Variance may again sub-divided into:
a. Labour Idle Time Variance
b. Labour Mix Variance and Labour Yield Variance
The above classification may also be shown diagramatically as follows:
Labour Cost Variance
Labour Rate Variance Labour Time Variance
Or
(Labour Efficiency Variance)
Labour Idle Time Labour Mix Labour Yield Variance Variance Variance
Labour Rate Variance
Labour rate variance is that portion of the usage variance which is due to the difference
between standard rate specified and actual rate paid. It is calculated with the help of the
following formula:
Labour Rate Variance = (Standard Rate – Actual Rate) X Actual Hours Paid
LRV = (SR – AR) X AHP
The variance will be favourable if actual rate is less than the standard rate and it will be
adverse if actual rate is more than the standard rate. The responsibility for labour rate
variance lies with the production centre. Labour rate variance is generally uncontrollable.
- 24 -
If the variance is due to wrong grade of labour, the responsibility lies on production
foreman. Labour rate variance arises due to the following reasons:
i) Change in the basic wage rate of piece-work rate
ii) Employment of one or more workers of different grades than the standard
grade
iii) Payment of more overtime than fixed earlier
iv) Higher or lower wage rates paid to casual labourers
v) Faculty recruitment and placement of workers
vi) New workers not being paid at full wage rates etc.
Illustration 8
Using the data given in illustration, calculate Labour Rate Variance.
Solution
Labour Rate Variance = (Standard Rate – Actual Rate) X Actual Hours Paid
= (Rs.5 – Rs.6) X 980 Hours
= -Rs.1 X 980 hours
= Rs. 980 (Adverse)
Labour Time Variance or Labour Efficiency Variance
Labour efficiency ratio is the difference between the standard labour hours specified for
actual output and the actual hours paid for. This variance helps in controlling efficiency
of workers and also labour cost. This variance can be calculated as follows:
Labour Efficiency Variance
= (Standard hours for actual production – Actual hours worked) X Standard Rate
(LEV) = (SHAP – AHW) X SR
- 25 -
If actual time taken for doing a work is more than the specified standard time, the
variance will be unfavourable and vice versa. Labour efficiency ratio arises due to one or
more of the following reasons:
i) Defective machinery and equipment
ii) Lack of proper supervision
iii) Use of defective or non-standard materials
iv) Lack of proper training to workers
v) Poor working conditions
vi) Labour turnover or change over of workers from one operation to another.
vii) Alterations in the methods of production
viii) Loss of time due to delay in receipt of instructions or receipt of raw material
or tools.
ix) Failure of power
x) Bad industrial relations etc.
Using the data given in Illustration 7, Labour Efficiency Variance is calculated as
follows:
Labour Efficiency Variance
= (Standard hours for actual output – Actual hours) X Standard Rate
= (1000 hours – 980 hours) X Rs.5
= 20 hours X Rs.5
= Rs.100 (Favourable)
It is to be observed that the work has been completed in 980 hours as against 1000
standard hours set for the production. This may be due to the efficiency of workers. That
is why, this variance is called Labour Efficiency Variance. It is to be noted that the
labour rate variance and labour efficiency variance is equal to labour cost variance.
Verification
- 26 -
Direct Labour Cost Variance = Labour Rate Variance + Labour Efficiency Variance
Labour Rate Variance = Rs.980 (Adverse) as calculated in Illustration 8
Hence, DLCV = LRV + LEV
Rs.880(A) = Rs.980(A) + Rs.100(F)
Labour efficiency variance is the responsibility of Production Manager and is similar to
materials usage variance. Both these variance measure the difference in performance.
Labour efficiency variance can be further sub-divided into:
a) Labour Idle Time Variance
b) Labour Mix Variance
c) Labour Yield Variance
Let us study these in detail.
a) Labour Idle Time Variance: Labour Idle time variance is a sub-variance
of labour efficiency variance. It is the standard wage payable during the idle hours due to
abnormal circumstance like strikes, lockout, break-down or machinery, power cut,
shortage or raw materials etc. The abnormal idle time should be separated from the
labour efficiency variance as it is due to the reasons beyond the control of workers.
Otherwise it will show inefficiency on the part of workers. This variance will always be
adverse. It is calculated as follows:
Idle Time Variance = Idle Hours X Standard Rate
ITV = IH X SR
For example, if the idle time in the data given in Illustration 7, is 20 hours, then the idle
time variance would be
Idle Time Variance = Idle Hours X Standard Rate
= 20 hours X Rs.5
- 27 -
= Rs.100 (A)
Illustration 8
The following information is supplied to you:
Standard time for a month : 4000 Hours
Standard wage rate : Rs.2.25 per hour
Number of labourers employed : 30
Average working days in a month : 25
No. of hours a worker works per day: 7 hours
Total wage bill in a month : Rs. 13125
Idle time due to power failure : 100 hours
You are required to calculate the following:
a) Labour Cost Variance
b) Labour Rate Variance
c) Labour Efficiency Variance
d) Labour Idle Time Variance
Solution
Standard time = 4000 hours
Standard wage rate = Rs.2.25
Actual time = 30 workers X 25 days X 7 hours
= 5250 hours
Total Wage bill
Actual Wage Rate = ------------------
Actual time
Rs. 13125
= ----------- = Rs. 2.50
5250 hrs.
- 28 -
a) Labour Cost Variance = Standard Labour Cost – Actual Labour Cost
= (Std. Time X Std. Rate) – (Actual time X Actual Rate)
= (4000 hours X Rs. 2.25) – (5250 hours X Rs. 2.50)
= Rs.9000 – Rs. 13125
= Rs. 4125 (A)
b) Labour Rate Variance = Actual Time (Std. Labour Rate – Actual Labour Rate)
= 5250 hours (Rs.2.25 – Rs.2.50)
= 5250 X 0.25
= Rs. 1312.50 (A)
c) Labour Efficiency Variance = Standard Labour Rate (Std. Time – Actual Time)
= Rs. 2.25 (4000 hours – 5250 hours)
= Rs.2.25 X 1250 hours
= Rs. 2812.50 (A)
d) Labour Idle Time Variance = Idle Time X Standard Rate
= 100 hours X 2.25
= Rs. 225 (A)
Verification
Direct Labour Cost Variance = Labour Rate Variance + Labour Efficiency Variance
Rs. 4125 (A) = Rs.1312.50 (A) + Rs.2812.50 (A)
Rs. 4125 (A) = Rs.4125 (A)
Labour Mix Variance
- 29 -
It is also known as Gang composition Variance. It is similar to Material Mix variance
and is a part of labour efficiency variance. Labour mix variance arises only when two or
more different types of workers employed and the composition of actual grade of workers
differ from the standard composition of workers. The change in the labour composition
may be due to shortage of one grade of labour. This variance indicate how much labour
cost variance is there due to the change in labour composition. It is calculated with the
help of the following formula:
Labour Mix Variance = Standard Cost of Standard Mix – Standard Cost of Actual Mix
LMV = SCSM – SCAM,
or
Labour Mix Variance = (Revised Standard – Actual Hours Worked) X Standard Rate
Symbolically,
LMV = (RSH – AHW) X SR
Where,
RSH = Actual Total Hours Worked X Standard Ratio of Workers
Or
Standard Hours of the grade
------------------------------------- X Total Actual Hours Worked
Total Standard Hours
Where,
Actual Hours Worked = Actual hours – Idle Time
If the actual hours taken are less than the revised standard hours, the variance is
favourable, and vice versa.
Illustration 9
- 30 -
From the following information, calculate labour mix variance:
Standard Actual
Grade A 80 workers @ Rs. 5 per hour 100 workers @ Rs.6 per hour
Grade B 120 workers @ Rs.3 per hour 80 workers @ Rs.2 per hour
200 180
Solution
Labour Mix Variance = (Revised Standard hours – Actual Hours Paid) X Standard Rate
Standard Hours of the grade
Revised Standard Hour = ------------------------------------- X Total Actual Hours Worked
Total Standard Hours
80 2
RSH for Grade A = ------ X 180 = 72 hours or 180 hrs X ---- = 72 hrs
200 5
120 3
RSH for Grade B = -------- X 180 = 108 hours or 180 hrs X ---- = 108 hrs
200 5
LMV = (RSH – AHP) X SR
Grade A = (72 - 100) X Rs.5 = Rs.140 (A)
Grade B = (108 – 80) X Rs.3 = Rs. 84 (F)
-------------
LMV = Rs. 56 (A)
-------------
- 31 -
Labour Revised Efficiency Variance (LREV)
This variance arises due to the difference between the total actual hours taken and the
total standard hours specified for the actual output. This variance is a sub-variance of
labour efficiency variance. It arises when there is difference between actual hours paid
and actual hours worked, there will be revised efficiency variance and idle time variance.
The formula for Labour Revised Efficiency Variance is:
LREV = (Standard Hours for Actual output – Revised Standard Hours ) X Standard Rate
Where,
Standard Hours of the grade
RSH = ------------------------------------- X Total Actual Hours Paid
Total Standard Hours
Or
= Total Actual Hours Paid X Standard Ratio
Labour Yield Variance (LYV)
It is similar to Material Yield Variance. It studies the impact of actual yield on labour
cost where output varies from the standard. The formula for LYV is:
Labour Yield Variance
= (Actual yield – Standard yield) X Standard labour cost per unit of output
Where,
Std. output
Std. Yield = --------------- X AHW;
Total AH
- 32 -
Std. cost
Std. labour cost per unit = ------------------
Std. Output (units)
If the standard yield is more than the actual yield the variance will be adverse and vice
versa.
Illustration 10
From the following data, calculate Labour Yield Variance
Standard time : 600 hours
Standard rate : Rs.10 per hour
Standard output : 300 units
Actual output : 225 units
Solution
Labour Yield Variance = (Actual Yield – Standard Yield) X Std. Output cost per unit
500 hrs
Standard time per unit = ----------- = 2 hours
300 units
Standard cost per unit = 2 hrs X Rs.10 = Rs.20
LYV = (Actual Yield – Std. Yield) X Std. Output per unit
= (225 units – 300 units) X Rs.20
= Rs.1500(A)
Illustration 11
- 33 -
The following information is available from the records of a Company:
Standard wages Actual wages
Skilled : 90 workers @ Rs.2 per hour 80 workers @ Rs.2.50 per hour
Unskilled : 60 workers @ Rs.3 per hour 70 workers @ Rs.2 per hour
Budgeted hours : 1000 Actual hours : 900
You are required to calculate the following:
i) Labour Cost Variance
ii) Labour Rate Variance
iii) Labour Efficiency Variance
iv) Revised Labour Efficiency Variance
v) Labour Mix Variance
Solution
Standard Actual Type of
workers *Hours Rate Amount **Hours Rate Amount
Skilled 90,000 Rs.2 1,80,000 72000 Rs.2.50 1,80,000
Unskilled 60,000 Rs.3 1,80,000 63000 Rs.2.00 1,26,000
1,50,000 3,60,000 1,35,000 3,06,000
* Hours = No. of Workers X Budgeting Hours
**Hours = No. of Workers X Actual Hours
i) Labour Cost Variance
= (Std. Hours of actual output X Std. Rate) – (Actual Hours X Actual Rate)
Skilled = (90,000 X Rs.12) – (72,000 X Rs.2.50) = NIL
Unskilled = (60,000 X Rs.3) – (63,000 X Rs.2.50) = Rs.54,000 (F)
------------------
LCV = Rs. 54,000(F)
-------------------
- 34 -
ii) Labour Rate Variance = (Std. Rate – Actual Rate) X Actual Hours
Skilled = (Rs.2 – Rs.2.50) X 72000 = Rs.36000(A)
Unskilled = (Rs.3 – Rs.2) X 63000 = Rs.63000(F)
--------------
LRV = Rs.27000(F)
--------------
iii) Labour Efficiency Variance = (Std. Hours – Actual Hours) X Standard Rate
Skilled = (90,000 – 72,000) X Rs.2 = Rs.36,000 (F)
Unskilled = (60,000 – 63,000) X Rs.3 = Rs. 9,000 (A)
------------------
LEV = Rs.27,000(F)
------------------
iv) Labour Mix Variance = (Revised Std. hours – Actual Hours) X Standard Rate
where,
Standard Hours of the grade
Revised Standard Hour = ------------------------------------- X Total Actual Hours Worked
Total Standard Hours
Or
= Actual Hours X Std. Ratio
90,000 3
Skilled = ------------- X 13500 = 81000 hours or 135000 hrs X ---- = 8100 hrs
1,50,000 5
60000 2
Unskilled = ------------- X 135000 = 54000 hours or 13500 hrs X ----- = 54000 hrs
150000 5
- 35 -
Labour Mix Variance = (Revised Std. Hours – Actual Hours) X Standard Rate
Skilled : (RSH – AH) X SR
= (81000 – 72000) X Rs.2 = Rs.18000 (F)
Unskilled : (54000 – 63000) X Rs.3 = Rs.27000 (A)
-----------------
LMV = Rs.9000 (A)
-----------------
iv) Labour Revised Efficiency Variance = (Std. Hrs – Revised Std. Hrs.) X Std. Rate
Skilled = (90000 – 81000) X Rs.2 = Rs.18000 (F)
Unskilled = (60000 – 54000) X Rs.3 = Rs.18000 (F)
----------------
Rs.36000 (F)
----------------
Verification
LCV = LRV + LEV
Rs.54000 = Rs.27000 (F) + 27000 (F)
Rs.54000(F) = Rs.54000(F)
LEV = LMV + LREV
Rs.27000(F) = Rs.9000(A) + Rs.36000(F)
Rs.27000(F) = Rs.27000(F)
Illustration 12
A gang of workers normally consists of 60 skilled, 30 semi-skilled and 20 unskilled.
They are paid at standard rates per hour as under:
Skilled Re.0.80
Semi-skilled Re.0.60
Unskilled Re.0.40
- 36 -
In a normal working week of 40 hours, the gang is expected to produce 4000 units of
output
During the week ended 31 December, the gang consisted of 80 skilled, 20 semi-skilled
and 10 unskilled. The actual wages paid were @ Re.0.70, Re.0.65 and Re.0.30
respectively. 3200 units were produced. Four hours were lost due to abnormal idle time.
Calculate
i) Wage variance
ii) Wage Rate Variance
iii) Labour Efficiency Variance
iv) Idle Time Variance
v) Labour Mix Variance
vi) Labour Revised Efficiency Variance
vii) Labour Yield Variance
Solution
Standard Actual Type of
Workers Hours Rate
(Rs.)
Amt.
(Rs.)
Hours Rate
(Rs.)
Amt.
(Rs.)
Skilled 60 X 40 =
2400
0.80 1920 80 X 40 = 3200 0.70 2240
Semi-skilled 30 X 40 =
1200
0.60 720 20 X 40 = 800 0.65 520
Unskilled 20 x 40 =
800
0.40 320 10 X 40 = 40 0.30 120
Total 4400 2960 4400 2880
Std. Cost Rs. 2960
Standard Wage Rate per hour (Group) = -------------- = ---------= Rs.0.673
Std. hours 4400
- 37 -
3200 units
Std. cost of actual output = ---------------- X Rs. 2960 = Rs.2368
4000 units
Standard hours for actual output:\
2400
Skilled = --------- X 3200 = 1920 hours
4000
1200
Semi-Skilled = --------- X 3200 = 960 hours
4000
800
Unskilled = --------- X 3200 = 640 hours
4000
Actual hours paid = 4400
Actual hours worked = 3960 i.e., (4400 – 440 idle time)
Calculation of Variances:
i) Labour Cost Variance = (SC of actual output) – (Actual cost)
Skilled = Rs. 1536 – Rs.2240 = Rs. 704 (A)
Semi-Skilled = Rs. 576 – Rs.520 = Rs. 56 (F)
Unskilled = Rs. 256 – Rs.120 = Rs. 136 (F)
LCV = Rs.2368 – 2880 = Rs.512 (A)
ii) Labour Rate Variance = (SR-AR) X AHP
Skilled = (Re.0.80 – Re.0.70) X 3200 hrs. = Rs.320(F)
Semiskilled = (Re.0.60 – Re.0.65) X 800 hrs. = Rs. 40(A)
- 38 -
Unskilled = (Re.0.40 – Re.0.30) X 400hrs. = Rs. 40(F)
----------------
LRV = Rs. 320(F)
---------------
iii) Labour Efficiency Variance = (SH for Actual output – AHP X SR)
Skilled = (1920 – 3200) X Re.0.80 = Rs.1024(A)
Semi-skilled = (960 – 800) X Re.0.60 = Rs. 96(F)
Unskilled = (640 – 400) X Re.0.40 = Rs. 96(F)
---------------
LEV = Rs. 832(A)
---------------
iv) Idle Time Variance = Standard rate per hour X Idle hours
Skilled = Re.0.80 X 320hrs. = Rs.256(A)
Semi-skilled = Re.0.60 X 80hrs. = Rs. 48(A)
Unskilled = Re.0.40 X 40hrs. = Rs. 16(A)
--------------
ITV Rs.320(A)
--------------
Calculation of Idle Hours
Skilled = 80 X 4 hrs. = 320 hrs.
Semi-skilled = 20 X 4 hrs. = 80 hrs.
Unskilled = 10 X 4 hrs. = 40 hrs.
Out of the total actual hours of 4400, total idle hours are 440. Now the labour mix
variance and labour yield variance are computed on the basis of 3960 hrs.(4400hrs –
4400hrs.)
v) Labour Mix Variance = (Revised Std. hours – Actual hours worked) X Std. rate
Skilled = (2160 – 2880) X 0.80 = 576(A)
- 39 -
Semi-skilled = (1080 – 720) X 0.60 = 216(F)
Unskilled = (720 – 630) X 0.40 = 144(F)
-------------
LMV = 216(A)
-------------
Std. hrs
RSH = ------------------ X Total Hrs. AHW or Actual Hours X Std. Ratio (6:3:2)
Total std. hrs.
2400 6
Skilled = --------- X 3960 = 2160 or 3960 X ---- 2160
4400 4
1200 3
Semi-Skilled = --------- X 3960 = 1080 or 3960 X ---- = 1080
4400 11
800 2
Unskilled = --------- X 3960 = 720 or 3960 X ---- = 720
4400 11
Actual hours worked = (Normal working hours – Idle time) No. of workers
Skilled = (40 hrs. – 4 hrs.) X 80 = 2880 hrs.
Semi-skilled = (40 hrs. – 4 hrs.) X 20 = 720 hrs.
Unskilled = (40 hrs. – 4 hrs.) X 10 = 360 hrs.
Total = -------------
3960 hrs.
-------------
- 40 -
iv) Labour Revised Efficiency Variance
= (Std. hrs. for actual output – Revised std. hrs.) X Std. rate
Skilled = (1920 – 2160) X 0.80 = 192(A)
Semi-Skilled = (960 – 1080) X 0.60 = 72(A)
Unskilled = (640 – 720) X 0.40 = 32(A)
------------
LREV = 296(A)
------------
4400 hrs.
Std. hours for actual output = ------------ X 3200 units = 3520 hrs
4000 units
6
Skilled : 3520 hrs. X ----- = 1920 hrs.
11
3
Semi-skilled : 3520 hrs. X ----- = 960 hrs
11
2
Unskilled : 3520 hrs. X ----- = 640 hrs.
11
Labour Yield Variance may be calculated in place of Labour Revised Efficiency
Variance as follows:
Labour Yield Variance – (Actual Yield –Std. Yield) X St. Labour cost per unit of outputs
Where,
Std. Cost 2960
Std. labour cost per unit of output = ------------------ = ----------- = 0.74
- 41 -
Std. Output 4000
Std. Output
Std. Yield = --------------------- X AHW
Total AH
LYV = (3200 – 3600) X 0.74 = 296(A)
4000
Standard Yield = ------------ X 3960 = 3600 units
4400
Check
(i) LCV = LRV + LEV 512(A) = 320(F) + 832(A)
(ii) LEV = ITV + LMV + LYV 832(A) = 320(A) + 216(A) + 296(A)
Exercises
14. From the following data, calculate all material variances:
Standard mix for 5 units of product is as follows:
Material X : 300 Units @ Rs.15 per Unit : Rs.4500
Y : 400 Units @ Rs.20 per unit : Rs.8000
Z : 500 Units @ Rs.25 per unit : Rs.12500
------------ --------------
1200 units 25,000
------------ --------------
During the month March, 2004, 10 units were actually produced and the actual material
used was as follows:
Material X : 640 Units @ Rs.17.50 per Unit : Rs.11200
Y : 950 Units @ Rs.18 per unit : Rs.17100
Z : 870 Units @ Rs.27.50 per unit : Rs.23925
- 42 -
-------------- --------------
4920 units 52,225
-------------- --------------
(Ans: MCV = Rs.2225(A), MPV = Rs.1875(A), MUV = Rs.350(A), MMV = Rs.900(F),
MYV = Rs.1250 (A), MRUV = Rs.1250)
15. In a factory 100 workers are engaged and the average rate of wages is Rs.5/per hour.
Standard working hours per week are 40 and the standard performance is 10 units per
gang hour.
During a week in April, 2004wages paid for 50 workers were Rs.5 per hour, 10 workers
at Rs.3.50 per hour and 40 workers at Rs.5.20 per hour. Actual output was 380 units.
The factory did not work for 5 hours due to breakdown of machinery.
Calculate:
Ans:
a) Labour Cost Variance Rs.8280(F)
b) Labour Rate Variance Rs.280(F)
c) Labour Efficiency Variance Rs.8000(F)
d) Labour Yield Variance Rs.818(F)
e) Idle Time Variance Rs.1000(A)
Exercises
1) Define Variance. What is variance analysis?
2) What are the methods of classification of variances?
3) Write a detailed note on the uses of variance analysis?
4) “Calculation of Variances in standard costing is not an end itself, but a means
to an end” Discuss.
- 43 -
5) What is meant by Revision of Standards? What could be the possible reasons
for Revision of Standards.
6) Discuss material variance in detail
7) Discuss labour variances in detail
8) Write notes on the following:
i) Material Price Variance
ii) Material Mix Variance
iii) Material Usage Variance
iv) Labour Rate Variance
v) Labour Idle Time Variance
vi) Labour Efficiency Variance
10. The following standards have been set to manufacture a product
Direct materials
2 units of A at Rs.4.00 per unit 8.00
3 units of B at Rs.3.00 per unit 9.00
15 units of C at Rs.1.00 per unit 15.00
--------
32.00
Direct Labour 3 hours @ Rs.8 per hour 24.00
-------
Total Standard Prime Cost 56.00
--------
The company manufactured and sold 6,000 units of the product during the year.
Direct material costs were as follows:
12,500 units of A at Rs.4.40 per unit
18,000 units of B at Rs.2.80 per unit
88,500 units of C at Rs.1.20 per unit
- 44 -
The Company worked 17,500 direct labour hours during the year. For 2500 of these
hours, the company paid Rs.12 per hour while for the remaining, the wages were paid at
the standard rate. Calculate Material Price and Usage Variances and Labour Rate and
Efficiency Variances.
11. A manufacturing concern which has adopted standard costing furnishes the following
information:
Standard
Material for 70 kg Finished Products 100 kg
Price of materials Re.1 per kg
Actual
Output 210000 kgs
Material used 280000 kgs
Cost of materials Rs.2,52,000
Calculate
a) Material Usage Variance
b) Material Price Variance
c) Material Cost Variance
12. The details about the composition and the weekly wage rate of labour force engaged
on a job scheduled to be completed in 30 weeks are as follows:-
Category of
Workers
No. of
Labourers
Standard
Weekly wage
rate
Actual
Labourers
Weekly wage
Rate
Skilled 75 60 70 70
Semi-Skilled 45 40 30 50
Unskilled 60 30 80 20
The works get completed in 32 weeks. Calculate the labour variances.
- 45 -
- 46 -
13. The Standard Cost of Chemical mixture ~ PQ’ is as follows:
40% of material P @ Rs.400 per kg.
60% of material Q @ Rs.600 per kg.
A standard loss of 10% is normally anticipated in production. The following particulars
are available for the month of March, 2004.
180 kgs of material P have been used @ Rs.680 per kg
220 kgs of material Q have been used @ Rs.360 per kg.
The actual of production of ‘PQ’ was 369 kgs.
Calculate the following variances:
a) Material Price Variance
b) Material Usage Variance
c) Material Mix Variance
d) Material Yield Variance
Unit 13: Variance Analysis – II After having studied the first part of variance analysis consisting of material and labour
variances. Let us proceed to analysis of variances relating to overheads. Now the
overheads variance analysis is different from variance analysis relating to materials and
labour. Here the overheads and inputs are already determined. These pre determined
overheads and inputs are called the standard. The overhead is considered in terms of
predetermined rate and is applied to the input. There can be different bases for the
absorption of overheads e.g., labour hours, machine tools, output (in units), etc.
Overhead variances may be classified into fixed and variable overhead variances and
fixed overhead variance can be further analysed according to the courses. In case of
variable overheads, it is assured that variable overheads vary directly with production so
that any change in expenditure can affect costs. Some authors say that a variance may
arise through inefficiency, but as these costs are usually very small per unit of output, it is
to be ignored and any variance in variable overhead is attributed to expenditure variance.
Considering the fixed overheads cost, the difficulty arises in determining standard
overhead rates. This is so because this is dependent on the volume or level of activity.
Any change in volume or level of activity causes a change in the overhead rate.
Therefore the fixing the volume or level of activity is a crucial aspect in determining
standard overhead rate. Now if the management decides to change the normal volume or
level of activity, without a corresponding change in the fixed amount of overheads, then a
change occurs in the overhead rate. Here it may be noted that in the case of material or
labour variances, the volume decision does not in any way influence the fixation of
standard rate. So to resolve this problem, normally the Budget is used in place of the
standard.
Another important thing to be noted in case of overhead analysis is that different writers
use different modes of computation of overhead variance and also different
terminologies. E.g. spending variance is same as expenditure variance and volume
variance is same as capacity variance.
After having discussed the preliminary aspect of overhead variance, now we go about the
analysis of the overhead cost variances.
Classification of Overhead Variance
The term overhead includes indirect material, indirect labour and indirect expenses. It
may relate to factory, office and selling and distribution centres. Overhead variance can
be classified as sown in the following diagram:
Overhead Cost Variance
Variable Overhead Cost Variance Fixed Overhead Cost Variance
Expenditure Volume Variance Variance
Efficiency Capacity Calender Variance Variance Variance
Overhead cost variance is the difference between standard cost of overhead absorbed in
the output achieved and the actual overhead cost. Simply, it is the difference between
total standard overheads absorbed and total actual overheads incurred. Therefore, the
formula for overhead cost variance is as follows:
Overhead Cost Variance = Total Standard Overheads – Total Actual Overheads (OHCV)
The overhead cost variance may be divided into variable overhead cost variance and
fixed overhead cost variance. Fixed cost variance may be further divided as fixed
expenditure variance and fixed volume variance. Fixed volume variance may again be
sub-divided into efficiency variance, capacity variance and calendar variance. Let us
study, how these variances are calculated.
1. Variable Overhead Cost Variance (V.OH.C.V): This variance is the difference
between the standard variable overhead and the actual variable overhead. The formula is:
Variable Overhead Cost Variance
= Standard Variable overhead for actual output – Actual Variable Overhead
Where,
Standard Variable Overhead
= Standard hours allowed for actual output X Standard Variable Overhead Rate
Standard Variable Overheads
Standard Variable Overhead Rate = ----------------------------------------
Standard Output
It is stated earlier that there are two basic variances, price and volume. If volume does
not affect the cost per unit the only variance to be calculated is price variance known as
the variable overhead variance. But when assumed that variable overheads do not move
directly with output, the variable overhead variances are to be calculated on similar lines
as to fixed overhead variances which you will study later. In this unit, we are assuming
that variable overheads do change directly with the output and infact it is the practice that
many firms follow and by a number of writers on the subject.
Variable overhead cost variances arise due to the following reasons:
i) Advance payment of overheads
ii) Outstanding overheads during the current period
iii) Payment of past outstanding overheads during the current period
iv) Incurring of abnormal overheads like repairs to machinery due to break down,
expenses due to spoilage, defective workmanship or excessive overtime work,
etc.
Illustration 1
From the following information, calculate the variable overhead variance::
Standard output : 400 Units
Actual output : 500 Units
Standard variable overheads : Rs.1800
Actual variable overheads : Rs.2000
Solution
Variable Overhead Variance
= Standard Variable overhead for actual output – Actual Overhead
Where,
Standard Variable Overheads
= Standard hours allowed for actual output X Standard Variable Overhead Rate
Standard Variable Overheads
Standard Variable Overhead Rate = ----------------------------------------
Standard Output
Rs.1800
= --------------- = Rs.4.50
400 units
Variable Overhead Variance = (500 Units X Rs.4.50) – Rs.200
= Rs.2250 – Rs.200
= Rs.250(F)
Let us take another illustration and calculate variable overhead variance.
Illustration 2
Budgeted production for a month : 3000 kgs.
Budgeted variable overheads : Rs.15600
Standard time for one kg. of output : 20 hours
Actual production in the month : 250 kgs.
Actual overheads : Rs.14000
Actual hours : 4500 hours
Solution
Variable Overhead Variance
= Standard Variable overhead for actual output – Actual Variable Overhead
Standard Variable Overheads
Standard Variable Overhead Rate = ----------------------------------------
Standard Output
Rs.15600
= --------------- = Rs.2.60
3000 kgs 6000hrs. ( ------------- X 1 kg ) 20hrs
Variable OH Variance = (4500 hrs X Rs.2.60) – Rs. 14000
= Rs.11700 – Rs.14000
= Rs. 2300 (A)
Fixed Overhead Variances
The treatment of these variances differ from that of variable overhead variable because of
the fact that the fixed overheads are incurred anyway and do not vary with change in
production levels. These have to be apportioned to production on a basis. Now the
standard recovery rate is fixed by considering the budgeted fixed overhead by budgeted
or normal volume, regardless of actual activity. It also can be on the basis of
managements idea of normal volume, which may considerably differ from actual volume
or even actual time taken. So when overheads are actually incurred, they may be over
recovered or under-recovered. This over or under recovery is known as the variance.
Now this variance can be on the basis of output (in units) or standard time.
1. Fixed Overhead Variance It is also called fixed overhead cost variance by
some writers, and represents the total fixed overhead variance. Actually it is the
difference between the Standard fixed overhead charged on the basis of actual fixed
overhead.
Symbolically we can express it as:
Fixed Overhead Variance = Standard Fixed Overhead – Actual Fixed Overheads
= Std. hours for X Std. fixed – Actual Fixed O.H. actual output O.H. rate
Fixed Overhead Variance may be further subdivided into tow:
A) Fixed overhead volume variance
B) Fixed overhead expenditure variance
A) Fixed Overhead Volume Variance: Also called as activity variance by some
writers, this is the difference between the Budgeted hours based on normal volume and
the standard hours for actual output. Now the variance occurs because all the overheads
cannot actually be absorbed or may be over absorbed in some cases.
Symbolically we can compute this variance as follows:
Fixed overhead volume variance
= Standard Rate of recovery of fixed overheads X (Standard hours – Budgeted hours)
Where,
Budgeted fixed overheads
Standard rate of recovery of fixed overheads = ----------------------------------
Budgeted hours
Fixed overhead volume variance can be sub-divided into:
i) Fixed overhead efficiency variance
ii) Fixed overhead calendar variance
iii) Fixed overhead capacity variance
i) Fixed Overhead Efficiency Variance: This is the difference between actual hours
taken to complete a work and standard hours that should have been taken to complete a
work and standard hours that should have been taken to complete the work. It measures
the efficiency of performance. Symbolically we can express it as
Fixed overhead efficiency variance
= Standard fixed rate of recovery X (Standard Hours– Actual hours)
of overheads for actual output
ii) Fixed Overhead Calender Variance: This variance arises due to the actual time
consumed, expressed in terms of hours or days as the case may be, being different from
standard time that should have been taken. In other words, it is due to the difference
between the number of working days in the budgeted period and the number of actual
working days in the period to which the budget is applied. This variance is obtained by
multiplication of the standard rate of recovery of fixed or overhead by difference between
revised budgeted hours and budgeted hours.
Symbolically it can be expressed as:
Fixed Overhead Calender Variance
= Standard Rate of Recovery of fixed overheads (per hour) (Revised Budgeted
Hours – Budgeted Hours)
or
= (Actual no. of working days – Standard no. of working days) X Standard rate of
recovery of fixed overheads (per day)
The calendar variances arises due to the extra holidays declared to celebrate the
anniversary of the firm or on the death of a national leader or any other reason. It arises
only in exceptional circumstances as normal holidays are taken into account while setting
the standards. When there is no change in the working days then there should be no need
for a calendar variance. Generally, this variance is adverse, but sometimes it shows
favoruable variance where there are extra working days.
iii) Fixed Overhead Capacity Variance: This variance arises due to difference between
Revised Budgeted Hours and the actual hours taken multiplied by the standard rate of
recovery of fixed overheads.
Symbolically we can express this as:
Fixed overhead capacity variance
= Standard rate of recovery of fixed overheads X (Actual hours – Revised
Budgeted hours)
Where,
Revised Budgeted Hours = Standard hours per day X Actual no. of days
This variance arises when there is difference between utilization of plant capacity of
planned and actual utilization of plant capacity. It may be due to the factors like idle
time, strikes, power failure etc. This variance can be both favourable a well as
unfavourable. If the actual hours worked is more than revised budgeted hours it is
favourable and vice versa.
Check:
Fixed overhead volume variance
= Fixed overhead efficiency variance + Fixed overhead capacity variance + Fixed
overhead calendar variance
Note: When there is no calendar variance, the calculation of capacity variance has to be
modified as follows:
Capacity variance = Standard Rate of recovery of fixed overheads X (Actual hours –
Budgeted Hours)
Check
Fixed overhead Volume Variance = Efficiency Variance + Capacity Variance
A) Fixed Overheads Expenditure Variance: Now his variance actually measures the
difference between the expenditure that is actually incurred and the budgeted fixed
overheads. It is also known as budget variance or spending variance.
Illustration 3
The following information is given to you:
Budget Actual
Production (units) 10,000 10,400
Fixed overheads (Rs.) 20,000 20,400
Man hours 20,000 20,100
Calculate the following:
i) Fixed overhead variance
ii) Expenditure variance
iii) Fixed overhead volume variance
iv) Fixed overhead efficiency variance
v) Fixed overhead capacity variance
Solution:
Budgeted Fixed overheads
Standard rate of recovery of fixed overhead = ----------------------------------------
Budgeted hours
Rs. 20,000
= ---------------- = Rs. 1
20,000
Budgeted hours
Standard hours for actual output = ----------------------- X Actual output
Budgeted output
20,000
= ------------- X 10,400
10,000
= 20,800 hours
i) Fixed overhead variance =
(Std. hours for actual output X Std. fixed O.H. rate) – Actual Fixed overheads
= (20,800 hours X Rs. 1) – Rs.20,400
= Rs. 20,800 – Rs. 20,400
= Rs. 400 (F)
ii) Expenditure Variance = Budgeted F. OH – Actual F. OH
= Rs.20,000 – 20,400
= Rs.400 (A)
iii) Fixed overhead volume variance =
Std. Recovery rate of FOH X (Std. hours for actual output – Budgeted hours)
= Rs. 1 X (20,800 – 20,000)
= Rs.800 (F)
iv) Fixed overhead Efficiency Variance =
Std. Recovery rate of F.OH X (Std. hours for actual output – Actual hours)
= Rs.1 X (20,800 – 20,100)
= Rs.700 (F)
v) Fixed overhead capacity variance =
Std. rate of recovery of F.OH X (Actual hours – Budgeted hours)
= Rs.1 X (20,100 – 20,000)
= Rs.1.00 (F)
Check:
Fixed O.H. Volume Variance = Efficiency Variance + Capacity Variance
Rs.800(F) = Rs.700(F) + Rs.100(F)
Illustration 2:
ABC Company Ltd. has furnished you the following information for the month of
January 2005:
Budget Actual
Output (units) 15,000 16,250
Working days 25 26
Hours 30,000 33,000
Fixed overheads (Rs.) 45,000 50,000
You are required to calculate fixed overhead variances.
Solution:
Budgeted hours 30,000
Standard hours per unit = ----------------------- = --------------- = 2 hours
Budgeted output 15,000
Standard hours per actual output = 16,250 units X 2 hrs
= 32500 hrs.
Budgeted overheads
Standard fixed overhead rate (per hour) = ----------------------------
Budgeted hours
Rs.45,000
= ----------------- = Rs.1.50
30,000
i) Fixed overhead variance =
(Std. hours for actual output X Std. fixed O.H. rate) – Actual Fixed overheads
= (32,500 hours X Rs.1.50) – Rs.50,000
= Rs. 48,750 – Rs. 50,000
= Rs. 1250 (A)
ii) Fixed Overhead Expenditure Variance = Budgeted F. OH – Actual F. OH
= Rs.45,000 – Rs.50,000
= Rs.5000 (A)
iii) Fixed overhead volume variance =
Std. Recovery rate of FOH X (Std. hours for actual output – Budgeted hours)
= Rs. 1 X (20,800 – 20,000)
= Rs.800 (F)
iv) Fixed overhead Volume Variance =
Std. Fixed OH Recovery rate X (Std. hours for actual output – Actual hours)
= Rs.1.50 X (32,500 – 30,000)
= Rs.1.50 X 2500
= Rs.750 (A)
v) Fixed overhead calender variance =
Std. rate of recovery of F.OH X (Revised budgeted hours – Budgeted hours)
= Rs.1.50 X (31,200 – 30,000)
= Rs.1800 (F)
Revised budgeted hours = Std. hours per day X Actual no. of days
30,000
= ----------- X 26 = 31,200 hours
25
v) Fixed overhead capacity variance =
Std. Fixed OH Recovery rate X (Actual hours – Revised Budgeted hours)
= Rs.1.50 X (33,000 – 31,200)
= Rs.1.50 X 1800
= Rs.2700 (F)
Check:
i) Fixed O.H. Variance =
Efficiency Variance + Efficiency Variance + Capacity Variance + Calender Variance
Rs.1250(A) = Rs.5000(A) + Rs.750(A) + Rs.2700(F) + Rs.1800(F)
Rs.1250(A) = Rs.1250(A)
ii) Fixed Volume Variance =
Efficiency Variance + Calender Variance + Capacity Variance
Rs.3750 (F) = Rs.750(A) + Rs.1800(F) + Rs.2700(F)
Rs.3750(F) = Rs.3750(F)
Fixed Overhead expenditure variance =
Budgeted fixed overheads – Actual fixed overheads
Now check:
Fixed overhead variance =
Fixed overhead expenditure variance + Fixed overhead volume variance
Exercises:
You are given the following data relating to two factories of a company. You are
required to compute all the overhead variance:
I II
Budgeted Actual Budgeted Actual
Hours 2000 18700 20000 16500
Variable
Overheads
48000 46000 25000 26000
Fixed
Overheads
40000 39000 27000 29000
You are also given that the actual hours taken in case of both departments exceeded by
10%
(Ans. I II
V.O.H.V. = Rs.5200(A) Rs.7250(A)
F.O.A.V. = Rs.5000(A) Rs.8750(A)
F.O.Vl.V. = Rs.6000(A) Rs.6750(A)
F.O.E.V. = Rs.3400(A) Rs.2025(A)
F.O.C.V. = Rs.2600(A) Rs.4725(A)
F.O.Ex.V. = Rs.1000(F) Rs.2000(A)
Sales Variances
The Variances so far we learnt relate to cost of goods manufactured viz., material, labour
and overheads. The purpose of variance analysis is complete unless sales variance is
included in the presentation of information to management. Sales Variances are
calculated by two methods viz., sales value method (or Turnover Method) and sales
margin or profit method. Sales variances arise due to the changes in price and changes in
sales volume. A change in value may be due to the change in quantity or a change in
sales mix.
Sales variance can be understood with the help of the following chart:
Sales Variances
Sales Value Variance Sales Margin Variance Sales Price Sales Volume Sales Price Sales Volume Variance Variance Variance Variance
Sales Quantity Sales Mix Sales Mix Sales Quantity Variance Variance Variance Variance
Sales variance may be studies under two heads, namely Sales Value Variance and Sales
Mix or Profit variances. Again Sales Value Variance is subdivided into Sales Price
Variance and Sales Volume Variances. Sales Volume Variance may again be subdivided
into Sales Quantity Variance and Sales Mix Variance. Similarly, Sales Margin Variances
may be divided into Sales Price Variance and Sales Volume Variance. Sales volume
Variance is subdivided into Sales Mix Variance and Sales Quantity Variance. Now, let
us study there Sales Variances in detail.
Sales Value Variance
This Variance is also called Sales revenue variance. This is the net variance of sales as a
whole. It is the difference between budgeted sales and actual sales. The formula for
computing this variance is:
Sales Value Variance = Actual Sales – Budgeted Sales
If actual sales are more than the budgeted sales a favourable variance would be reported
and vice versa. This variance is on account of difference in price or volume of sales. It is
further subdivided into two variances as – (i) Sales price variance and (ii) Sales volume
variance.
(i) Sales Price Variance
This variance measures the impact of change in selling price on the turnover as a whole.
It is measured by the difference between Standard sales and Actual sales.
The formula is:
Sales Price Variance =
Actual Quantity Sold X (Actual Selling Price – Standard Selling Price)
Or
Sales Price Variance = Actual Sales – Standard Sales
(ii) Sales Volume Variance
This variance measures the impact of changes in quantum of products sold. Sales volume
variance is the difference between the standard sales and budgeted sales. If the standard
sales are more than the budgeted sales, it gives rise to favourable variance and vice versa.
The formula is:
Sales Volume Variance = Standard Sales – Budgeted Sales.
Or
= Standard Price X (Budgeted Quantity – Actual Quantity)
Where,
Standard Sales = Standard Price X Actual Sales
This variance may arise due to unexpected competition, ineffective advertising, lack of
proper supervision, etc.
In the case of multi product situations, Sales Volume Variance can be further subdivided
into (i) Sales Quantity Variance and (ii) Sales Mix Variance. These two sub-variance
can be calculated as follows:
(i) Sales Quantity Variance
It is the difference between the Budgeted Sales and Revised standard sales. The formula
is:
Sales Quantity Variance = Revised Standard Sales – Budgeted Sales
Or
= (Revised Standard Quantity – Budgeted Quantity) X Std. Price
Where,
RSQ = Total actual Quantity X Standard Ratio of Units
(ii) Sales Mix Variance
This variance arises when the proportion of actual sales mix. It is the difference between
Revised Standard Sales and Standard Sales. The formula is:
Sales Mix Variance = Actual Sales – Revised Sales
Or
= (Actual Quantity – Revised Standard Quantity) Std. price of each product
Where,
RSQ = Total Actual Quantity X Standard Ratio of units
Check
Sales Value Variance = Price Variance + Volume Variance
Sales Volume Variance = Sales Mix Variance + Sales Quantity Variance
Illustration
You are given the following data. Compute Sales Variance based on Turnover.
Product A B C Total
Budget Units 3000 2000 1000
Price (Rs.) 30 20 10
Total (Rs.) 90000 40000 10000 140000
Actual Units 3500 2400 500
Price (Rs.) 35 25 5
Total (Rs.) 122500 60000 2500 185000
Solution
1,40,000
1) Standard Price per Unit of Standard Mix = -------------- = Rs.23.33
6,000
2) Revised Standard Sales = Total Actual Sales X Std. Ratio
: A – 6400 X 3/6 = 3200
: B – 6400 X 2/6 = 2133
: C – 6400 X 1/6 = 1067
3) Standard Ratio of Units = A:B:C = 3000 : 2000 : 1000
= 3 : 2 : 1
4) Computation of Standard Sales = Standard Price X Actual Sales
Product A B C Total
Units 3500 2400 500 6400
Price(Rs.) 30 20 10
Total (Rs.) 105000 48000 5000 158000
1) Sales Value Variance = Actual Sales – Budgeted Sales
Product A B C Total
Budgeted Sales (Rs.) 90000 40000 10000 140000
Actual Sales (Rs.) 122500 60000 2500 185000
Variance (Rs.) 32500 (F) 20000 (F) 7500 (A) 45000(F)
3) Sales Price Variance = Actual Sales – Standard Sales
Product A B C Total
Budgeted Sales (Rs.) 10500 48000 5000 158000
Actual Sales (Rs.) 122500 60000 2500 185000
Variance (Rs.) 17500 (F) 12000 (F) 2500 (A) 27000 (F)
4.a) Sales Quantity Variance =
(Revised Standard Quantity – Budgeted Quantity) X Standard price unit of std. mix
A : (3200–3000) X Rs.30 = 6000 (F)
B : (2133–2000) X Rs.20 = 2660 (F)
C : (1067–1000) X Rs.10 = 6000 (F)
--------------
Total = Rs.9330 (F)
--------------
b) Sales Mix Variance = (Actual Quantity – Revised Standard Quantity ) X Std. price
A : (3200–3500) X Rs.30 = 9000 (F)
B : (2400–2133) X Rs.20 = 5340 (F)
C : ( 500–1067) X Rs.10 = 5670 (F)
--------------
Total = Rs.8670 (F)
--------------
Check:
Sales Revenue Variance = Sales Price Variance + Sales Volume Variance
45000 (F) = 27000 (F) + 18000 (F)
Sales Volume Variance = Sales Quantity Variance + Sales Mix Variance
18000 (F) = 9330 (F) + 8670 (F)
= 18000 (F)
Sales Margins or Profit Variances Method
These can also be called profit variances, as sales margin is nothing but profit. Now, this
variance is very essential as management takes key decisions based on profitability.
Individually the cost variances or revenue variance (sales variances as based on turnover)
cannot convey any clear meaning. But profit variances do so.
Sales Margin Variance
This can also be called as ‘Overall profit variance’. This represents the difference
between the Budgeted Sales margin or Budgeted Profit and Actual Sales Margin or
Actual Profit. The formula is:
Sales Margin Variance = Budgeted Sales Margin – Actual Sales Margin
Sales Margin Variance can be subdivided into:
1. Sales Price Variance and
2. Sales Volume Variance
1. Sales Price Variance (Based as Margins)
This variance arises due to the difference between the Standard Price of quantity of sales
and actual price of sales. In other words, it is the difference between Standard Profit and
Actual Profit.
Sales Price Variance = Standard Profit – Actual profit
Or
= Actual Quantity (Standard Profit per unit – Actual Profit per unit)
Where,
Std. profit = A.Q X Std. profit per unit
If the actual profit is greater than the standard profit, the variance is favourable and vice
versa. This variance can arise due to the following reasons:
(i) Rise in price levels net anticipated earlier
(ii) Fall in price due to availing discounts and bulk buying
(iii) Intense competition not foreseen earlier
2. Sales volume Variance (based on Margins)
This variance arises due to quantity of goods being sold differing from quantity of goods
budgeted to be sold. Now this can arise due to
- Intense competition unforeseen earlier or inefficiency of sales personnel
Symbolically this can be represented as:
Sales Volume Variance = Standard profit per unit (Standard Quantity – Actual Quantity)
If the actual quantity is greater than standard quantity, the variance is favourable and vice
versa. This variance can be further sub-divided in case of multi-product selling units
into:-
(i) Sales Quantity variance
(ii) Sales Mix Variances
(i) Sales Quantity Variance
This is the difference between budgeted profit and revised standard profit.
Symbolically:
Sales Quantity Variance =
Standard profit per unit X (Standard quantity – Revised Standard Quantity)
RSQ = Total AQ X Standard ratio
If RSQ is greater than SQ, the variance is favourable and vice versa.
(ii) Sales Mix Variance
This arises due to the proportion of these items constitution the standard mix different
from the actual proportion. It is difference between Revised Standard Profit and Standard
Profit.
Symbolically;
Sales Mix Variance =
Standard Profit per unit X (Revised Standard quantity – Actual quantity)
If the actual quantity is more than RSQ, the variance is favourable and vice versa.
Illustration
A toy company gives you the following data for a month. You are required to calculate
the variance based on profit
Toy Budgeted Actual
Quantity Rate Cost per unit Quantity Rate
A 900 50 45 1000 55
B 650 100 85 700 95
C 1200 75 65 110 78
Solution:
Statement of Budged Profit and Actual Profit per unit
Toy SQ SP (Rs.) Total
sales
(Rs.)
Cost per
unit
(Rs.)
Total
cost unit
(Rs.)
Profit
per unit
(Rs.)
Total
profit
(Rs.)
A 900 50 45000 45 40500 5 4500
B 650 100 65000 85 55250 15 9750
C 1200 75 90000 65 78000 10 12000
2750 200000 173750 26250
Actuals
A 1000 55 55000 45 45000 10 10000
B 700 95 66500 85 59500 10 7000
C 1100 78 85800 65 71500 13 14300
2800 207300 176000 31300
Revised Standard Quantity (RSQ) = Total Actual Quantity X Std. Ratio
= 2800 X (18:13:24)
18 A = 2800 X ----- = 916 55
13 B = 2800 X ----- = 662 55
24 C = 2800 X ----- = 1222 55
Calculation of Profit Variances
1) Sales Margin Variance = Budgeted Profit – Actual Profit
Toy Budgeted Profit (Rs.) Actual Profit (Rs.) Variance (Rs.)
A 4500 10000 5500 (F)
B 9750 7000 2750(A)
C 12000 14300 2300 (F)
Total 26250 31300 5050 (F)
2) Sales Price Variance = Standard Profit – Actual Profit
Where,
Standard Profit = Actual Quantity X Profit per unit
Toy Standard Profit (Rs.) Actual Profit (Rs.) Variance (Rs.)
A 5000 10000 5500 (F)
B 10500 7000 3500 (A)
C 11000 14300 3300 (F)
Total 26250 31300 4800 (F)
3) Sales Volume Variance =
Standard Profit per unit X (Standard Quantity – Actual Quantity)
Toy Std. profit X Std. quantity (Rs.) Actual Quantity (Rs.) Variance (Rs.)
A 5 X 900 1000 500 (F)
B 15 X 650 700 1000 (F)
C 10 X 1200 1100 1000 (A)
Total 250 (F)
4) Sales Quantity Variance =
Standard profit per unit X (Standard Quantity – Revised Standard Quantity)
Toy Std. profit X Std. quantity RSQ Variance (Rs.)
A 5 X 900 - 916 80 (F)
B 15 X 650 - 662 180 (F)
C 10 X 1200 - 1222 220 (F)
Total 480 (F)
II Sales Mix Variance =
Standard profit per unit X (Revised standard quantity – actual quantity)
Toy Std. profit (Rs.) X Revised std. quantity - Actual quantity Variance (Rs.)
A 5 X 916 1000 420 (F)
B 15 X 662 700 570 (F)
C 10 X 122 1100 1220 (A)
Total 230 (A)
Check
Sales Volume Variance = Sales Quantity Variance + Sales Mix Variance
250 (F) = 480 (F) + 230 (A)
Sales Margin Variance = Sales Price Variance + Sales Volume Vaiance
5050(F) = 4800 (F) + 250 (F)
CONTROL RATIOS
Now Standard costing is used by the management of an organisation as a control
technique – variance computed would given ideal to the management to study the extent
of variation from the standards as are set by them. These variances are expressed in
monetary terms and do not per se give any idea of trends over a period of time.
Therefore, in order to study trends, Control Ratios are used, which are computed using
data used for variance analysis and give an idea to the management of an organisation
about the trends over a period at a time or from period to period.
The main Control Ratios are:
Standard Hours for Actual Production
1. Activity Ratio = -------------------------------------------------- X 100
Standard Hours for Budgeted Production
Available Working Days
2. Calender Ratio = ---------------------------------- X 100
Budgeted Working Days
Standard Hours for Actual Output
3. Efficiency Ratio = ----------------------------------------------- X 100
Actual Hours
Budgeted Hours
4. Standard Capacity Usage Ratio = ------------------------------------ X 100
Maximum Possible Hours
Actual Hours Worked
5. Capacity Utilisation Ratio = -------------------------------------- X 100
Maximum possible hours in
Budgeted period
Disposition of Variances
The organisation, where standard costing system is not in use, accounting records contain
only actuals and there will be no variances. When standard costing system is used then
accounting records contain both standard costs and actual costs. The variances arise at
the end of the accounting period and the management should take corrective measures for
the disposal of variances. The accountants suggests several methods for treating the
variances which were as follows:
1. Allocate the Variances to Inventories
According to this method the variances are distributed over stocks of raw materials, wage
costs, overheads or finished stock valued at cost.
Now when this happens the real costs only enter the account books and consequently are
reflected in the financial statements. The adjustment of variances is made only in the
general ledger and not in subsidiary books. The distribution of variances is not done to
products. As variances are not actuals. Losses should not be taken to profit and loss
account. The standard costs and variances that are observed are displayed for control
purposes to the management.
2. Transfer to Profit and Loss Account
According to this method the stocks of inventories work in progress and finished goods
are valued at standard cost and variances are transferred to the P & L A/c. Now this
method ensures that valuation of stock is done uniformly and variances are transferred
thereby revealing the extent of variation to the management.
3. Transfer to the Reserve Account
Under this method, variances are carried formal to the next financial year as deferred
item by crediting the same to a reserve account to be set off in the subsequent year or
years. The favourable and adverse variances may cancel each other in the course of
reasonable time. This method is useful in cases where reasonable fluctuations occurs and
the variance may be disposed off during the course of time.
4. Combination of (1) and (2) methods
Though the above first two methods easy to follow, management upon their needs choose
a combination of the above two methods. The variances which are controllable and arise
out of over sight or carelessness of officials can be transferred to profit and loss a/c, the
uncontrollable can be absorbed by the cost of inventories.
EXERCISES
1) Explain how the variance analysis relating to overheads differ from that relating
to material and labour
2) In what ways can we analyse sales variances. Explain in detail.
3) Write short notes as the following:
i) Variable overhead expenditure variance
ii) Fixed overhead volume variance
iii) Fixed overhead calendar variance
iv) Variable overhead efficiency variance
v) Sales margin variance
vi) Sales price variance (based on turnover)
vii) Sales volume variance
4) A Company manufacturing two products operates standard costing system. The
Standard overhead content of each product in cost centre 101 is Product A Rs.
2.40 (8 direct hours @ Rs. 0.30 per hour) Product B Rs. 1.80 (6 direct labour
hours @ Rs.0.30 per hour. The rate of Rs. 0.30 per hour is arrived at as follows:
Budgeted overhead RS.570
Budgeted Direct Labour Hours 1,900
For the month of October the following data was recorded for cost centre 101
Output of Product A 100 Units
Output of Product B 200 Units
No opening or closing stock
Actual Direct labour hours working 2,320
Actual overhead incurred Rs.640
a. You are required to calculate total overhead variance for the month of October
b. Show its division into
i. Overhead Expenditure Variance
ii. Overhead Volume Variance
iii. Overhead Efficiency Variance
5) In a factory the standard units of production for the year were fixed at 1,20,000
units and estimated overhead expenditure were estimated to be:
Rs.
Fixed 12,000
Variable 6,000
Semi-variable 1,800
Actual production during April of the year was 8000 units. Each month has 20
working days. During the months in question there was one statutory holiday.
Actual overhead amounted to:
Fixed 1190
Variable 6000
Semi-variable 192
Semi variable charges are considered to include 60% expenses of fixed nature.
Find out expenditure, volume, calendar variances.
6) Standard Actual
No. of working days 20 22
Man hours per day 8000 8400
Output per man hour in unit 1.0 0.9
Overhead Cost (Rs.) 1,60,000 1,68,000
Calculate Overhead Variances:
a) Overhead Cost Variances
b) Overhead Efficiency Variances
c) Overhead Capacity Variance
d) Overhead Calender Variance
7) The sales manager of a company engaged in the manufacture and sale of three
products P, Q and R gives you the following information for the month of
October, 1982.
Budgeted Sales
Product Units Sold Selling Price per Unit
P 2000 Rs.012
Q 2000 Rs.8
R 2000 Rs.5
Actual Sales
P 1500 units for Rs.15000
Q 2500 units for Rs.17500
R 3500 units for Rs.21,000
You are required to calculate the following variances:
a) Sales Price Variance
b) Sales Volume Variance
C) Sales Quantity Variance
d) Sales Mix Variance
e) Sales Revenue Variance
8) From the following Budgeted and Actual figures, calculate the variances in
respect of profit.
Budget
Sales 2000 units @ Rs.15 each 30000
Cost of sales @ Rs.12 each 24000
-------
Profit 6000
-------
Actual
Sale 1900 unit @ Rs.14 each 26,600
Cost of sales @ Rs.10 each 19,000
--------
Profit 7,600
--------
69
Responsibility AccountingUNIT 14 RESPONSIBILITYACCOUNTING
Structure14.0 Objectives
14.1 Introduction
14.2 The Concept of Responsibility Accounting
14.3 Profit Planning and Control
14.4 Design of the System
14.5 Uses of Responsibility Accounting
14.6 Essentials of Success of Responsibility Accounting
14.7 Segment Performance
14.8 Measuring Segment Performance14.8.1 Return on Investment
14.8.2 Residual Income
14.9 Transfer Pricing
14.10 Methods of Transfer Pricing14.10.1 Market Price Based
14.10.2 Cost Price Based
14.11 Let Us Sum Up
14.12 Key Words
14.13 Answers to Check Your Progress
14.14 Terminal Questions
14.15 Further Readings
14.0 OBJECTIVESAfter studying this unit, you should be able to:
! know how cost and management accounting will be used for managerial planningand control.
! appreciate the structure and process in designing responsibility accounting system;
! understand the concept of responsibility centres;
! familiar with different methods of evaluating the performance of differentsegments of an organisation; and
! identify the benefits, and essentials of success of measuring and reporting of costsby managerial levels of responsibility.
14.1 INTRODUCTIONResponsibility accounting has been very much a part of cost and managementaccounting for a while now. It has emerged as a widely accepted practice withinbudgeting. But mind that responsibility accounting is not a separate system of
70
Standard Costing management accounting. It does not involve any significant change in accountingtheory or generally accepted accounting principles. Else, it represents one of the threesets of management accounting information. The two other sets are full costinformation and differential cost information. In this unit you will study about theconcept of responsibility accounting, design of the system and uses of responsibilityaccounting. In addition to this you will also learn performence evaluation of differentsegments besides transfer pricing.
14.2 THE CONCEPT OF RESPONSIBILITYACCOUNTING
The framework of responsibility accounting was developed by Professor A.J.E.Sorgdrager titled “Particularisation of Indirect Costs”. As the title suggests,responsibility accounting is a cost accounting system established on a responsibilitybasis. A basis is said to be responsible where actual results are as close to plannedresults as possible. As such, the variances are minimal. Planned results could bestated in budgets and standards. Properly speaking, responsibility accounting is amethod of budgeting and performance reporting created around the structure of theorganization. Individual managers are hold accountable for the costs within theirjurisdiction. The purpose, obviously, is to exercise control over the operations. Hence,in simple words, it could be described as a system of collecting and reportingaccounting data on the basis of managerial level. It may be defined as the approach toaccountability- identification of cost, with the persons responsible for their incurrence.Performance is evaluated by assigned responsibilities. Reporting on performance is onthe lines of organizational structure. There is a separate report for each box of theorganization chart.
The concept emphasizes “personalization of costs” by putting questions as to wherethe cost was incurred and who were responsible for it. The technique seeks to controlcosts at the starting point. Broadly speaking, responsibility accounting is designing theaccounting system according to answerability of the manager. The accumulationclassification, measurement and reporting of financial data is so arranged that itpromotes the fixing of precise responsibility on the concerned manager. Horngreenrightly says, “Responsibility accounting focuses on people and not on things. It isdesigned to present managers with information relating to their individual fields ofresponsibility’’. The message is that since all items of income, operating costs, otherexpenses and capital expenditure are the responsibility of some manager, none shouldbe left unassigned.
Responsibility accounting considers both historical and future costs. For somepurposes, the activity of responsibility centers is expressed in historical amounts. Forothers, these are expressed in estimated future amounts.
14.3 PROFIT PLANNING AND CONTROL (PPC)As mentioned earlier responsibility accounting is an important piece of the budgetarysystem. It provides for the reporting of operating data and budget comparisons to theindividuals and groups who have organizational responsibility. Responsibilityaccounting, measures plans by budgets, and actions by actual results of eachresponsibility centre. If fully developed, it has a built-in budgetary system whichperfectly fits the organizational chart. Budgeting provides the measuring stick bywhich the actual performance can be judged. Budgets, along with responsibilityaccounting provides systematic help to the managers if they interpret the feedbackcarefully.
When an integrated and comprehensive view is taken of budgeting, it becomes ProfitPlanning and Control (PPC). Desired or target profit figures are planned andcontrolled through a set of budgets. Here, responsibility accounting is the dominant
71
Responsibility Accountingconcept as control is its crux. Performance is measured by using actual results.Traditional cost accounting had been focused on determinining the cost of products andservices. In responsibility accounting, this is reversed. Costs are no longer associatedwith products and services. Else, the focus is on planning and control needs ofmanagement. Costs initially accumulated for control purposes are then recast forproduct costing purposes. The control aspect is emphasized by summarizing andreporting costs on the basis of individual responsibility before those costs are mergedfor product cost purposes.
14.4 DESIGN OF THE SYSTEMIn designing a system, one has to decide upon its structure and the process. So is theresponsibility accounting. Its structure rests on the responsibility centres. The processconsists of bifurcating costs into controllable and non-controllable groups, flexiblebudgeting, and performance reporting. These three dimensions of the process and,then, the structural reorganization could be called the principles or fundamentals ofresponsibility accounting. These are being discussed below:
1) Establishing Responsibility Centers : A responsibility centre (RC) is anorganizational unit. It exists because of some functional activity for which eachspecific manager is made responsible. Setting up of responsibility centres,therefore, becomes the first step. A large decentralized organization has to berestructured in terms of areas of influence. In ascending (i.e., rising) order ofautonomy, these are cost centres, revenue centres, profit centres, and investmentcentres. The depth of use of responsibility accounting in the enterprise depends onthe delegation of authority and assignment of responsibility. In a cost centre themanager is responsible only for the costs (expenses) incurred in his sub-unit.When actual costs of his sub-unit differ from budgeted costs then the managermust explain the significant variances. In a revenue centre, the manager isresponsible for generating revenues too upto the budgeted levels. In a profitcentre, the manager goes beyond, and is responsible also for profit performance.For instance, the manager of a furniture department of a departmental store isresponsible for earning a profit on the furniture sold. He is expected to earn thebudgeted amount of profit during the period. In an investment centre, themanager has the responsibility and control over the assets that are used to carryon its activities. For example, individual departments of a departmental store, andindividual branches of a chain stores are investment centres. The manager of theconcerned department is expected to achieve some target rate of return oninvestment. It should be noted that investment centre differs from a profit centreas investment centre is evaluated on the basis of the rate of return earned on theassets invested in the sub-unit or segment while a profit centre is evaluated on thebasis of excess of revenue over the revenue for the period. Control can beexercised only though managers who are responsible for what the organizationdoes. It is based on the principle that a manager’s performance, should beassessed only on the factors that are within his span of control. Each managers’sbudget contains costs and revenues within his span of control. Generally costsare accumulated by departments.
Subsidiary revenue and expense accounts are created for each centre. These enableaccounting transactions to be recorded not only by revenue and expense category, butalso by the responsibility centre incurring the transaction. The accounting system canthen summarize transactions by descriptive category for public reporting purposes,and by responsibility centre for purposes of performance evaluation. These accountsindicate how, at the lowest reporting level in an organization, performance reportsshow costs incurred in a division by descriptive category. At higher reporting levels,summaries reflect total costs incurred in subordinate responsibility centres.
2) Limits to Controllable Costs: Once the responsibility centres have beenestablished in a company, costs and revenues under the control of each therein
72
Standard Costing need be indicated. In responsibility accounting, the basis of classifyingcosts is controllability--- the capability of the manager of a responsibilitycentre to influence (i.e., increase or decrease) them. As such, costs areaccumulated and reported in the two groups of controllable and non-controllable costs. The former are those which can be changed by thehead of the responsibility centre. He has the ability to regulate thequantity or price or both of an item by his managerial action.Uncontrollable costs, obviously, are the costs which cannot be increasedor decreased within a given time span at the discreation of the manager.But these can be changed at higher levels of management authority.Generally, costs of raw materials, direct labour and operating supplies arecontrollable. Fixed costs are non-controllable such as rentals, depreciation,and insurance on equipment. In this setup, no allocation of common orjoint costs takes place, which by their very nature are quite indirect.Allocation is always an arbitrary process.
3) Flexibile Budgeting: Responsibility accounting starts with theassumption that budgets are flexible. They have to be prepared forseveral levels of activity, instead of one static level. When actual outputhas been obtained, a fresh budget is prepared threof. Comparison ofactual results is made against the budget targets freshly prepared for thatlevel. It would be a weak analysis to use a budget based on a level ofactivity that differs from the actual level of activity. A performancebudget is the flexible budget adjusted to the actual level attained. Flexiblebudgeting permits comparison of actual costs with budgeted costs thathave been recast to changes in production volume. It would be recalledthat flexible budgets are prepared either by the mathematical function orformula method, or the multi-activity method.
4) Performance Reporting: Each responsibility centre has to periodicallyreport about its performance, the feedback. A report has both financialand statistical parts. It shows income, expenses and capital expenditures.Statistics such as volume of production, cost per unit, and manpower dataare also provided. Typically, performance reports will disclose the actualcosts incurred, the budgeted costs, and a variance, which is the differencebetween the actual and budgeted amounts. Normally these amounts willbe summarized by the responsibility centre for the month being reportedand also for the current year-to-date. The purpose is to take timely andcorrective action. Performance reports could be monthly, weekly, or evendaily depending on the size of the organization and significance of theitem. In addition, the report must be given to the manager while theinformation is still useful. Reports received weeks after the period are oflittle value. Further, once the performance reports are prepared,management need only to consider the significant variances from thebudget. This is what is being referred to as management by exception.
Difficulties
Responsibility accounting is a conceptually appealing tool for motivation andcontrol. But many organizations in practice do not achieve these objectives. Twomajor difficulties in implementing a successful responsibility accounting system are:Accumulation of mass of dats, and Development of appropriate performancemeasures. However, cost accumulation at such a detailed level throughout anorganization is made practicable by the use of computer-based cost accountingsystems. Computer programs can quickly summarize costs for each descriptivecategory for purposes of product costing and producing a traditional incomestatement. Similar programs can summarize costs by responsibility centres andgenerate the associated performance reports. Thus, the problem of dataaccumulation, although a substantial one can now be overcome through the use of
73
Responsibility Accountingcomputer technology. As a result, the problem of developing appropriate performancemeasures has become the more difficult one to resolve.
For a budgetary system to serve as an effective means of control, cost and revenuesgoals must be adopted by each manager and accepted as individual objectives. This ismost likely to occur when budgeted goals are reasonable and realistically attainable andyet challenging. The cost accountant is in a position to identify these performancemeasure and to isolate the costs incurred in each responsibility centre. These costsmust then be categorized as controllable and uncontrollable before the reportingstructure is developed. These decisions will have a sound impact on the effectivenessof the system. Generally, responsibility accounting systems are used in conjunction withstandard costs. A major task then of the cost accountant is of the development andthen interpretation.
14.5 USES OF RESPONSIBILITY ACCOUNTINGResponsibility accounting which focuses on managerial levels is an important aid in themanagement control process. It has several uses and confers many benefits. Theseare listed below:
i) Performance Evaluation : This is perhaps the biggest benefit. Withresponsibility localized, it is possible to rate individual managers on a cost basis.When a manager is held responsible for whatever he does, he become extra-vigilant. Responsibility accounting system provides the manager with informationthat helps controlling operations and evaluating the performance of subordinates.
ii) Delegating Authority : Large business firms can hardly survive without properdelegation of authority. By its very nature, responsibility accounting makes ithappen. Decentralisation of power is its keypoint and, hence, delegation ofauthority follows.
iii) Motivation : Responsibility accounting is the use of accounting information forplanning and control. When the managers know that they are being evaluated,they are prompted to put their heart and soul in meeting the targets set for them.It acts as a great stimulus. As a matter of fact, responsibility accounting is basedon the motivating individual managers to maximum performance. The targetsprovide goals for achievement and serve to motivate managers to increaserevenues or decrease costs.
iv) Corrective Action : If performance is unsatisfactory, the person responsiblemust be identified. It is only after identification of the erring subordinate that thecorrective action can be taken. Under responsibility accounting, as areas ofauthority are clearly laid down, such corrective action becomes easier. Thecontrol action to be effective must occur immediately after identification of thecauses of the problem. The longer control action is deferred, the greater theunfavourable financial effect.
v) Management by Objectives : The heads of divisions and departments areassigned definite objectives before the commencement of the period. They areheld answerable for the attainment of these targets. Shortfalls are punished andexcesses rewarded. Such a system helps in establishing the principle ofmanagement by objectives (MBO)
vi) Management by Exception : Performance reporting here, is on exceptions ordeviations from the plan. The idea runs throughout the responsibility accounting.It helps managers by spending their time on major variances with greatestpotential improvements. The concentration of managerial attention on exceptionalor unusual items of deviation rather than on all is the key to success of thesystem.
74
Standard Costing vii) High Morale and Efficiency: Once it is clear that rewards are linked to theperformance, it acts as a great morale booster. Great disappointment will becaused if an operating foreman is evaluated on the decisions in which he was nota party.
14.6 ESSENTIALS OF SUCCESS OFRESPONSIBILITY ACCOUNTING
Responsibility accounting by itself, does not give any benefits. Its success is dependenton certain conditions. These are:
1) Support of all levels of management through “Participative budgeting”. Budgetedperformance is basic to responsibility accounting. Most managers will beresponsive to a budget which they have helped to develop. If the budget of theresponsibility centre is produced by a process of negotiation between its managerand immediate supervisor, he will work to attain it. He will more actively pursuethe goals and accept the resulting performance measures as equitable. Effectivemotivations and control based on appropriate performance measures does notoccure by accident. They must be carefully considered during the design of thesystem.
2) The system is based on individual manager’s responsibility. It is the manager whoincur costs and should be held accountable for each expenditure
3) Separation of costs into controllable and non-controllable categories.
4) Restructuring the organization along the decision-making lines of authority.
5) An organization plan which establishes objectives and goals to be achieved.
6) The delegation of authority and responsibility for cost incurrence through a systemof policies and procedures.
7) Motivation of the individual by developing standards of performance together withincentives.
8) Timely reporting and analysis of difference between goals and performance bymeans of a system of records and reports.
9) A system of appraisal or internal auditing to ensure that unfavourable variancesare clearly shown. Then, follow-up and corrective action need be applied.
In responsibility accounting revenues and expenses are accumulated and reported bylevels of responsibility with a view to comparing the actual costs with the budgetedperformance data by the responsible manager. The whole effort is towards satisfyingthe ‘data requirements for responsive control’.
Check Your Progress A
1) What do you understand about Responsibility Accounting?
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................................................................................................................................
................................................................................................................................
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Responsibility Accounting2) What are the stages that are involved in the process of ResponsibilityAccounting?
1). ............................................................................................................................
2) .............................................................................................................................
3) .............................................................................................................................
4) .............................................................................................................................
3) Specify any four essential conditions for the success of ResponsibilityAccounting.
1) .............................................................................................................................
2) .............................................................................................................................
3) .............................................................................................................................
4) .............................................................................................................................
4) State whether the following statements are ‘True’ or ‘False’:
i) Responsibility accounting emphasises on personalisation of costs. [ ]
ii) Responsibility accounting is based on historical costing only. [ ]
iii) The degree of responsibility of a cost centre, in a responsibility accounting,depends upon the level of delegation of authority. [ ]
iv) Responsibility accounting is not based on the assumption that budgets areflexible. [ ]
v) Setting up of responsibility centres is the first step in the process ofresponsibility accounting. [ ]
14.7 SEGMENT PERFORMANCEA segment or division may be either a profit centre having responsibility for bothrevenues and operating costs, or an investment centre, having responsibility forassets in addition to revenues and operating costs.
The manager of each segment are free to take decisions regarding the performanceof their centres. When an orgainzation grows it is inevitable to create divisions orsegments to control operations of different divisions. This requires accountinginformation which discloses not only the objectives and performances of divisionsbut also whether or not each division is performing in the interest of the organizationas a whole. This section illustrates how segment data should be presented so thatmeaningful decisions regarding segment performance can be taken.
A manager’s performance is evaluated generally on the basis of comparison ofcosts incurred with costs budgeted. It is therefore, important to allocate appropriatecosts to the respective segments. While allocating the costs, the costs relating togeneral administration or head office should not be charged to any segment as thesecosts remain constant irrespective of the volume of sales by each department. Letus see the following illustration:
76
Standard Costing Illustration 1
A simplified representation of organization of Digital Co. Ltd. is presented below:
President
The company manufacturers cloth potholders in a simple process of cutting thepotholders in various shapes and then sewing the contrasting pieces together to formthe finished potholder.
The accounting system reports the following data for the year 2004-05:
Budgeted ActualRs. Rs.
Bad debt losses 500 300
Cloth used 3,100 3,400
Advertising 400 400
Credit reports 120 105
Sales representatives’ travel exp. 900 1,020
Sales commissions 700 700
Cutting labour 600 660
Thread 50 45
Sewing labour 1,700 1,840
Cutting utilites 80 70
Credit department salaries 800 800
Sewing utilities 90 95
Vice-President, Marketing office exp. 2,000 2,140
Production engineering expense 1,300 1,220
Sales management office expenses 1,600 1,570
Production manager’s office exp. 1,800 1,700
Vice-President, manufacturing office expenses 2,100 2,010
Using the data given, prepare responsibility accounting reports for the two vice-presidents.
Solution
Responsibility accounting tailors reports to each level of management to include thoseitems which they can control and for which they are responsible. The items for whichthey are responsible are generally determined by the organization structure as reflectedin the organization chart. Responsibility report highlights variances to assist in theprocess of management by exception. Reports for higher-level managers are insummary form in order to avoid flooding them with more detail than is needed.
Vice PresidentMarketing
Vice PresidentManufacturing
AdvertisingManager
CreditManager
ProductionEngineer
ProductionManager
SewingDepartment
CuttingDepartment
SalesManager
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Responsibility AccountingWith these general ideas in mind, one can turn to the responsibility reports required bythe problem. Each report is assumed to contain a one-line summary of the expenses ofthe subordinate departments. From the organization chart, the contents of the reportswill, therefore, be as follows:
Vice-president, marketing : Sales expense + advertising expense + creditexpense
Sales expense : Sales representatives’ travel expense + salescommissions + sales management office
Advertising expense : Advertising
Credit expense : Credit reports + credit department salaries +bad debt losses
Vice-president, manufacturing : Production expense + production engineeringexpense + production manager’s officeexpenses
Production Manager : Sewing department + cutting department, i.e.thread + sewing labour + sewing utilities +cloth used + cutting labour + cutting utilities
Notice that these reports do not contain the expenses of the vice-president’s offices.Although sometimes included, they are not here on the ground that the vice presidentscannot control their own salaries, the major component of these categories. If they areexcluded on these reports, they would be included as an item on the president’s report,where they are controllable.
Since the lower level reports are summarized in the higher-level reports, it is usuallyeasier to begin with the lower-level reports.
Budgeted Actual Variance
i) Production Manager
Controllable expense report: Rs. Rs. Rs.
Sewing department 1,840 1,980 140U
Cutting department 3,780 4,130 350U
Total 5,620 6,110 490U
ii) Vice-President, Manufacturing
Controllable expense report:
Production departments 5,620 6,110 490U
Production manager’s expenses 1,800 1,700 100F
Production engineer’s expenses 1,300 1,220 80F
Total 8,720 9,030 310U
iii) Vice-President, Marketing
Controllable expenses summary:
Sales manager’s expense 3,200 3,290 90U
Advertising expense 400 400 -
Credit expense 1,420 1,205 215F
Total 5,020 4,895 125F
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Standard Costing Probably the most significant variances are in the production departments, with anaverage unfavourable variance of
8.7 percent ( 490 × 100 ) of the budgeted amount and the credit department, with a
5620
Illustration 2
Kelly Services Ltd. has five plants---A,B,C,D and E. Each plant has a forming, cleaningand packing department. Each level of management at the company has responsibilityover costs incurred at its level. The budget for the year ended March, 2005 has beenset up as follows:
Plant Budgeted Cost (Rs.)
A 1,35,000
B 1,22,500
C 1,08,400
D 1,35,000
E 1,35,000
Budgeted information for Plant C is as follows:
Rs.
Plant manager’s office 2,350
Forming department 30,000
Cleaning department 55,450
Packing department 20,600
Budgeted information for Plant C forming department is as follows:
Rs.
Direct material 8,333
Direct labour 15,000
Factory overhead 6,667
The following additional budgeted costs available:
Rs.President’s Office 16,250
Vice President---Marketing 20,000
Vice President---Manufacturing office 4,167
favourable variance of 15.1 percent ( 215 × 100 ) of the budgeted amount. The credit
1420
department variance results primarily from a better than normal bad debt lossexperience. The production department’s variance should be investigated if 8.7 percentappears large relative to past experience.
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Responsibility AccountingThe following actual costs were incurred during the year:
Plant Budgeted Cost Rs.
A 1,27,650
B 1,24,300
C 1,08,475
D 1,31,100
E 1,36,800
Actual costs for Plant C Forming department were as follows:
Rs.
Direct materials 333 Under budget
Direct labour 4,000 Under budget
Factory overhead 333 Over budget
Actual cost for Plant C plant manager were:
Rs.
Plant manager’s office 2,475
Cleaning department 57,500
Packing department 22,500
Forming department ?
Actual costs for the president’s level were:
Rs.
President’s Office 16,375
Vice president---marketing 29,800
Vice-president---manufacturing 6,33,315
Prepare a responsibility report for the year showing the details of the budgeted, actualand variance amounts for levels 1 through 4 for the following areas:
Level 1-Forming department---Plant C
Level 2-Plant manager---Plant C
Level 3-Vice president-manufacturing
Level 4-President.
Solution
Kelly Services
Responsibility Report for the Year ended March 2005
Budgeted Actual Variance
Level 4-President:
Rs. Rs. Rs.
President’s Office 16,250 16,375 125
Vice-president---marketing 20,000 29,800 9,800
Vice-president---manufacturing 6,40,000 6,33,315 (6,752)
Total Controllable costs 6,76,250 6,79,490 3,173
80
Standard Costing Level 3-Vice President---Manufacturing
Vice-president---manufacturing office: 4,167 4,990* 823
Plant A 1,35,000 1,27,650 (7,350)
Plant B 1,22,500 1,24,300 1,800
Plant C 1,08,400 1,08,475 75
Plant D 1,35,000 1,31,100 (3,900)
Plant E 1,35,000 1,36,800 1,800
Total Controllable Costs 6,40,067 6,33,315 (6752)
Level 2 - Plant Manager ---Plant C:
Plant manager’s office 2,350 2,475 125
Forming department 30,000 26,000 (4,000)
Cleaning department 55,450 57,500 2,050
Packing department 20,600 22,500 1,900
Total controllable costs 1,08,400 1,08,475 75
Level 1-Forming Department-Plant C:
Direct material 8,333 8,000 (333)
Direct labour 15,000 11,000 (4,000)
Factory overhad 6,667 7,000 333
Total controllable costs 30,000 26,000 4,000
* The difference in the actual total controllable cost arrived and the figure as givenin the illustration is to be treated as the actual cost of manufacturing office of vicepresident.
( ) Variance favourable (Figures within parentheses indicate favourable variances)
14.8 MEASURING SEGMENT PERFORMANCEThe primary purpose of a responsibility accounting is to determine the individualsegment performance of an organization. The managers of different cost centres ofthe organisation are responsible to earn acceptable profit measured in terms ofsegment margin, or rate of return on sales for the profit centre. Segment marginrepresents the amount of income that has been earned by the particular segment.The manager of an investment centre is responsible for earning a rate of return on thesegment’s investment in assets. There are various criteria to measure divisionalperformance such as profit on turnover, sales per employee and sales growth etc.The most popular criteria are:
1) Return on Investment (ROI)
2) Residual Income (RI)
14.8.1 Return on Investment
Divisional operating profit is generally, used as a common measure of performance.But divisional profit by itself does not provide a basis for measuring a divisions
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Responsibility Accountingperformance in generating a return on the funds invested in the division. For example,Division A and Division B had an operating profit of Rs.1,00,000 and Rs.80,000respectively does not necessarily mean that Division A was more successful thanDivision B. The difference in profit levels may be due to the difference in the size ofthe divisions. Therefore, a suitable measure may be used to scale the profit for theamount of capital invested in the division. One common method is Return onInvestment (ROI) which will be calculated as follows :
ProfitReturn on Investment = ——————— × 100
Capital employed
Or
Profit SalesROI = ——— × ———————
Sales Capital employed
If the investment in the Division A and Division B, in the above example wasRs. 10,00,000 and Rs.5,00,000 respectively,
Rs.1,00,000then ROI would be 10% (i.e. —————— × 100)
Rs. 10,00,000
Rs.80,000and 16% ( i.e., ————— × 100 ). If investment in respective divisions is considered,
Rs.5,00,000 Division B is more profitable than division A.
The ROI of partial segment must be high enough to provide adequate rate of return forthe firm as a whole. It is always better to require a segment to earn a higher minimumrate of return on their investment. To improve this rate of return, a segment canincrease its return on sales, increase its investment turnover or do both. The other wayof increasing ROI is to reduce expanses and investment. If a segment reduces itsinvestment without reducing sales, its ROI will increase. The ROI for the firm as awhole must not fail to meet the goals of top management. Though ROI is used widelyto measure the segment performance, it has many limitations. One of the mostlimitations is that it can motivate managers to act contrary to the aims of goalcongruence. If managers are encouraged to have a high ROI, they may turn downinvestment opportunities that are above the minimum acceptable rate, but below thecurrent ROI of the divisional performance. For example, where a division earns a profit
100000of Rs.1,00,000 for an investment of Rs.4,00,000, the ROI is 25% ———— × 100
400000
Suppose there is an opportunity to make an additional investment of Rs.2,00,000 whichwould earn a profit of Rs.40,000 per annum. The ROI for additional investment is
Rs. 40,000investment is 20% ————— × 100 Assume that the company requires a
Rs.2,00,000
minimum requires a minimum return of 15 per cent on its investment, the additionalinvestment clearly qualifies, but it would reduce the investment centre ROI from 25%to 23.3%
Rs. 1,00,000 + Rs. 40,000 i.e. : ———————————— × 100
Rs. 4,00,000 + Rs. 2,00,000
Consequently the manager of the division might decide not to make such an investmentbecause the comparison of old and new returns would imply that performance hadworsened. The centres manager might hesitate to make such investment, even though
( )
)(
)( .
.
.
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Standard Costing the investment would have positive benefit for the company as a whole. To over comethis drawback, Residual Income Method is used to evaluate the acceptability of aproject proposal.
Illustration 3
Peacock Company Ltd. has six segments for which the following information isavailable for the year 31st March, 2005:
I II III IV V VI(Rs. in (Rs. in (Rs. in (Rs. in (Rs. in (Rs. inLakhs) Lakhs) Lakhs) Lakhs) Lakhs) Lakhs)
Capitalemployed 1500 1200 3000 2400 4500 6000
Sales 3000 3000 6000 3600 18000 12000
Net profit 150 300 150 720 450 1200
You are required to measure the performance of different segments.
Solution
The return on investment can be analysed as follows:
Segments
I II III IV V VI
Profit/ Sales(Profit ÷ Sales× 100) 5% 10% 2.5% 20% 2.5% 10%
Turnover ofcapital (Sales 2 2.5 2 1.5 4 2
÷ CapitalEmployed)
ROI (Profit ÷Capital 10% 25% 5% 30% 10% 20%Employed× 100)
The above analysis gives the following conclusions regarding the performance ofdifferent segments:
1) The manager of segment I is not showing a satisfactory level of ROI even thoughhis turnover of capital is not too bad. He must be motivated to increase his profitsales ratio.
2) Segment II is performing well as profit, sales ratio and turnover of capital, arerelatively good.
3) The performance of segment III is not satisfactory as its profit margin andcapital turnover is Poor.
4) The performance of segment IV is good as its profit margin is high with areasonable capital turnover.
5) In respect of segment VI, the manager should be motivated to increase its profitmargin but maintains a very good turnover of capital.
6) The manger of segment VI is performing well comparing to other segments, as itmaintains a good ROI, fairly good capital turnover and reasonably good profitmargin.
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Responsibility AccountingThe segments which show a low capital turnover should be investigated and remedialaction should be initiated particularly in segments IV, I and III.
14.8.2 Residual Income
Residual income is the profit remaining after deduction of the cost of capital oninvestment. It is the excess of net earnings over the cost of capital. Any incomeearned above the cost of capital is profit to the firm. The cost of capital charged toeach division will be the same rate that is applicable to the organization as a whole.The more the income earned above the cost of capital, the better off the firm will be.
The Residual Income may be calculated as follows:
RI = Profit – (Capital Charge × Investment Centre Asset)
Where, capital is the minimum acceptable rate of return on investment.
This method is used as a substitute for or along with ROI as means of evaluatingmanagerial performance and motivates the managers to act to the aims of goalcongruence. The firm is interested to maximise its income above the cost of capital.If the divisional managers are measured only through ROI, they will not necessarilymaximise RI. If managers are encouraged to maximise RI, they will accept allprojects above the minimum acceptable rate of return. That is why most managersrecognise the weakness of ROI and take into account when ROI is lowered by a newinvestment.
Illustration 4
A division of a company earns a profit of Rs.1,00,000 for an investment ofRs.4,00,000. There is an opportunity to make an additional investment of Rs.2,00,000which earns an annual income of Rs.40,000. You are required to calculate residualincome if the company requires a minimum return of 15 per cent on its investmentand comment.
Solution
Before the additional Investment:
RI = Rs.1,00,000 – (15% of Rs.4,00,000)
= Rs.1,00,000 – Rs.60,000
= Rs.40,000
RI from additional Investment
RI = Rs.40,000 – (15% of 2,00,000)
= Rs.40,000 – Rs.30,000
= Rs. 10,000
Total Residual Income on an investment of Rs.6,00,000 is Rs.50,000. Theadditional investment increases residual income and is improving the measure ofperformance.
Illustration 5
Sunrise Company has three divisions A, B and C. The investment in these divisionsamounted to Rs.2,00,000, Rs.6,00,000 and Rs.4,00,000 respectively. The profits inthese divisions were Rs.50,000, Rs.60,000 and Rs.80,000 respectively. The cost ofcapital is 10 per cent. From the above data, comment the performance of the threedivisions.
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Standard Costing Solution
Divisions
A B C
Profit Rs. 50,000 Rs. 60,000 Rs. 80,000
Investment Rs. 2,00,000 Rs.6,00,000 Rs. 4,00,000
ROI 25% 10% 20% 50,000 60,000 80,000
× 100 ————×100 ———— × 100 ———— × 100 2,00,000 6,00,000 4,00,000
RI = Profit – Cost of Rs. 30,000 NIL Rs.40,000capital : (50,000–20,000) (60,000–10% of 6,00,000) (80,000–10% of 4,00,000)
In terms of profit division C has done best performance. If evaluation is done on thebasis of ROI criteria division A is the best performer. If residual income is thecriterian, division C is the best.
Check Your Progress B
1) What do you mean by ROI.
.................................................................................................................................
.................................................................................................................................
2) Why do RI method is used to perfomance evelution?
........................................................................................................................
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3) ABC Company has assets worth Rs.2,40,000, operating profit of Rs. 60,000 andcost of capital 20%. Compute Return on Investment and Residual income
4) Under what conditions would the use of ROI measure inhibit goal congruentdecision making by a division manager?
.....................................................................................................................
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5) What are the advantages of using Residual Income Method?
.........................................................................................................................
.........................................................................................................................
6) State which of the following statements is ‘True’ or ‘False’.
i) Administration and overhead costs should not be changed to any segment inevaluating segment performance ( )
ii) Segment margin represents the amount of income that has been earned bythe organisation ( )
iii) It is always better to have a minimum rate of return on investment in theevaluation of segment performance. ( )
iv) ROIand RI both the methods are to be used in performance evaluation. ( )
ProfitInvestment )( )( )( )(
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Responsibility Accounting14.9 TRANSFER PRICINGLarge businesses are organized into different divisions for effective managementcontrol. When the business is organized into divisions and if one division supplies itsfinished output as input to another division, there arise the question of transfer pricing.Transfer price is the price at which the supplying division prices its transfer of output tothe user division. The price assigned to the interdivisional transfer of output representsa revenue of the selling division and a cost of the buying division. It should be notedthat there is only an internal transfer and not a ‘sale’. Transfer prices are set at thetime of the transfer rather than waiting until the manufacturing process is completedand the goods are sold to someone outside the company. As the pricing of these goodsor services is likely to have an impact on the performance evaluation of divisions,setting an appropriate transfer pricing is a problem. Questions like what should be thetransfer price? Whether it should be equal to manufacturing cost of selling division orthe amount at which the selling division could sell its output externally? Or should thetransfer price be negotiated amount between the selling division’s cost ofmanufacturing and the external market price? etc. whould arise. Selection of transferprice to some extent depends upon the nature of the product, type of the product andpolicy of the organization. Transferer would like to obtain the highest possible pricewhile the transferee would require the lowest possible price. Goal congruence shouldbe taken into account while fixing the transfer price because the actions of one divisionshould not have a detrimental effect on the group as a whole.
14.10 METHODS OF TRANSFER PRICINGThere are different methods for pricing the output of one division to another. Theselection of an appropriate transfer price will have significant impact on decisionmaking, product costing and performance evaluation of different divisions in theorganization.
Generally transfer pricing methods can be classified into two broad categories. Theyare: (1) Market Price Based and (2) Cost -based. There are a number of alternativemethods within each of the above two methods and these are discussed below.
14.10.1 Market Price BasedThis method consist of the following methods:
a) Market Price
b) Adjusted Market Price, and
c) Negotiated Price
a) Market Price: When a market price is available or when there is a comparableproduct on the market and its price is available, this price can be used as a transferprice. Both the selling and buying divisions can sell and buy as much as they can atthis market price. Managers of both the selling and buying divisions are indifferenttrading with each other or with outsiders. From the company’s perspective this is fineas long as the supplying unit is operating at capacity. The market price is useful forfixing transfer price when there is a competitive external market for the transferredproduct. An advantage of this method is that it can be regarded as the opportunity costto a division in so far as there is choice whether or not to purchase from externalmarket. Additionally managers have control over their transfer price so performancemeasurement is facilitated. Another advantage of this method is that it helps to assureprofit independence of the divisions. Any gain of the selling division do not get passedon to the buying division.
b) Adjusted Market Price: This price is based on the above market price, but it isadjusted to allow for the fact that such cost as sales commission and bad debts shouldnot be incurred within the divisions.
86
Standard Costing c) Negotiated Price: This price can occur when there is some basis on which tonegotiate between the divisional managers. The negotiated price, normally, may be amarket price or a cost price. For example, one basis may be the contribution marginon the product being transferred divided between the transferor and the transferee or itmay be the total cost which the transferer could suggest or the market price which thetransferee could suggest. Both the divisions could negotiate between these twofigures. Sometimes the negotiated price may be based on manufacturing cost plus anextra percentage added to approximate market price.
Whatever the basis chosen, the company should be careful in avoiding arbitrary pricebetween the divisions. The arbitrary price may be rewarding to one division andprevailing to another division. Some times negotiated prices are imposed by companytop level, but this could not hamper the autonomy of divisional managers and distortingthe financial performance of any division.
14.10.2 Cost Price Based
Another method to be followed for charging transfer price for the transfer of outputfrom one division to another division is Cost Price. When external markets do not existor when the information about external market prices is not readily available,companies may elect to use some of cost based transfer pricing methods as statedbelow:
a) Absorption Cost
b) Cost Plus Profit Margin
c) Marginal Cost
d) Standard Cost
e) Opportunity Cost
Let us study about these methods in brief.
a) Absorption Cost: Absorption or full cost is based on the total cost incurred inmanufacturing a product. When cost alone is used for transfer pricing, the sellingdivision cannot realise any profit on the goods transferred. This method has adisadvantage that any excess cost on account of inefficiency may be passed on to theother divisions.
b) Cost Plus Profit Margin: Under absorption costing when cost alone is used fortransfer pricing, the selling division cannot make any profit on the goods transferred.This is disincentive to selling division. To overcome this problem, some companies settransfer price on cost plus profit margin. This includes the cost of the item plus a markup or other profit allowance. Under this method, the selling division obtains a profitcontribution on the units transferred. It also benefits the transferring division ifperformance is measured on the basis of divisional operating profits. At the same time,it has also similar drawback of absorption costing that the inefficiencies if any, mayalso creep into the other divisions.
c) Marginal Cost: Another method to be followed for transfer pricing is themarginal cost. All costs that change in response to the change in the level of activityshould be taken into account for the transfer price while transferring output from onedivision to another division. But this method fails to motivate divisional managersbecause it makes no contribution towards fixed overheads and profit.
d) Standard Cost: If actual costs are used as the basis for the transfer, anyvariances or inefficiencies in the selling division are passed along to the buying division.To promote responsibility in the selling division and to isolate variances within divisions,standard costs are usually used as a basis for transfer pricing in cost based systems.Use of standard costs reduces risk to the buyer. The buyer knows that the standardcosts will be transferred and avoids being charged with the seller’s cost overruns.
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Responsibility Accountinge) Opportunity Cost: It represents the opportunity which has been foregone byfollowing one course of action rather than another. Thus, if goods are transferredinternally the organization could lose a contribution to profit which could have beenobtained from an external sale. Generally, an opportunity cost approach will be used toestablish a range of transfer prices in situations where the market is imperfect.
If the selling division has sufficient sales in the intermediate market such that it wouldhave had to forgo those sales to transfer internally, the transfer price should be equalto differential cost to the selling division plus implicit opportunity cost to company ifgoods are transferred internally. The formulae is:
Transfer Price = Differential cost to the selling division + Implicit opportunity cost tocompany if goods are transferred internally.
Differencial costs are those costs that change in response to alternative course ofaction. In estimating differential cost, the manager concerned unit has to determinewhich costs will be effected by an action and how much they will change. As long asthe transfer price is greater than the opportunity cost of the selling division and lessthan the opportunity cost of the buying division, a transfer will be encouraged. Atransfer is in the best interest of the company if the opportunity cost for the sellingdivision is less than the opportunity cost for the buying division.
Transfer Prices are an important factor in the measurement of divisionalperformance. Whatever the method of transfer pricing is adopted it should be not onlyfair to each division concerned but it should also be in the best interest of thecompany as a whole. Use of bad transfer price may lead to conflict among thedifferent divisions of the organisation and hamper the ultimate objective of theenterprise.
14.11 LET US SUM UPResponsibility cost information is one of the three types of management and costaccounting information. The two others are full cost, and differential costinformation. Responsibility accounting, also called “Responsibility reporting” is asystem of responsibility reporting and control at each managerial level. It is builtaround functional activity for which specific managers are accountable. In designinga system, one has to look into its structure and the process. The four fundamentalprinciples or techniques of responsibility accounting are: (i) Restructuring theorganization in terms of responsibility centres viz. cost revenue, profit or investmentcentres, (ii) Bifurcating costs into controllable and uncontrollable categories, (iii)Flexible budgeting, and (iv) Performance reporting. The first technique gives thestructure; and the other three the process of implementing responsibility accounting.Since the focus is on responsibility centres, it has several uses and gives manybenefits. It is an important aid in the management control process. A responsibilityaccounting system provides information that helps control operations, and evaluate theperformance of subordinates. It facilitates corrective action, management byobjectives, and delegation of authority. It is a morale booster too as rewards arelinked to the accomplishment. The success of the system depends, apart from otherthings, on active cooperation amongst the managers. Further, it is adopted by largedecentralized organizations where departments and divisions could be treated asmanagerial levels of responsibility.
The primary purpose of responsibility accounting is to measure the performance ofindividual divisions. The most popular criteria to be used in measuring the divisionalperformance is Return on Investment and Residual Income.
Transfer price is the price at which the supplying division prices its transfer of output tothe user division. The selection of an appropriate transfer price will have significantimpact on decision making and performance evaluation of different divisions of thecompany. There are different methods at which transfer price can be set. Thesemethods can be classified as Market Price based and Cost based. The market price
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Standard Costing based consists of (a) market price, (b) adjusted market price, and (c) negotiated pricemethods. Cost based method may again be sub-divided into (a) absorption cost(b) Cost plus profit margin, (c) Marginal Cost, (d) Standard cost and (e) Opportunitycost methods. Whatever the method of transfer price followed, the divisionalmanagers should not forget goal congruence of the organisation because the action ofone division should not have a detrimental effect on the group as a whole.
14.12 KEY WORDSCost Centre: A responsibility level where employees are concerned only with costmanagement.
Controllable Cost: A cost for which the departmental supervisor is able to exertinfluence over the amount spent.
Flexible Budget: A budget prepared using the actual sales volume realized by asegment. It is used for computing the effects of differences between actual salesprices and costs, and budgeted sales prices and costs on the profit goals of thesegment.
Investment Centre: A responsibility level whose manager is concerned not only withcost management but also with revenue generation and investment decisions.
Management by Exception: A management principle by which managersconcentrate their attention on exceptional or unusual items in the performance reports.
Non-controllable Cost: A cost assigned to a department or responsibility centre thatis not incurred or controlled by the department head.
Negotiated Price: Either the market price or cost price which is negotiated betweendivisional managers.
Performance Report: A report produced by each decision centre which disclosesbudgeted and performance measures, and variances from the budget.
Profit Center: A responsibility level in which performance is measured in terms ofbudgeted profits and has responsibility for both income and expenses.
Responsibility Centre (RC): A unit or segment of the organization in which aspecific manager has the authority and responsibility to make decisions.
Transfer Price: The price at which the supplying division prices its transfer of outputto the user division.
14.13 ANSWERS TO CHECK YOU PROGRESSA) 4) i) True ii) False iii) True iv) False v) True
B) 3) ROI : 25% and RI : Rs. 1200
6) i) True, ii) True, iii) False, iv) True
14.14 TERMINAL QUESTIONS1) “Responsibility accounting is a responsibility set-up of management accounting”.
Comment.
2) Define Responsibility Accounting. How does it differ from conventional costaccounting?
3) Is it fair to opine that responsibility accounting is a method of budgeting andperformance reporting created around the structure?
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Responsibility Accounting4) While designing a responsibility accounting system for a decentralized corporation,discuss the steps in terms of the structure and the process.
5) Explain ‘how the choice’ of the responsibility center type (cost revenue, profit orinvestment) affects budgeting and performance reporting.
7) Explain clearly the terms cost centre, revenue centre, profit centre, andinvestment centre, and their utility to management.
8) a) Why should non-controllable costs be excluded from performance reportsprepared in accordance with responsibility accounting?
b) Why is a flexible budget rather than a stable budget used to evaluateproduction departments?
9) How may controllable and uncontrollable costs be handled in a responsibilityaccounting sytem?
10) Give the pre-requisites for the success of a responsibility accounting system.
11) The following information related to the operating performance of three divisionsof a company for the year 2005.
Division
A B C
Contribution (Rs.) 50,000 50,000 50,000
Investment (Rs.) 4,00,000 5,00,000 6,00,000
Sales (Rs.) 24,00,000 20,00,000 16,00,000
No. of employees 22,500 12,000 10,500
You are required to evaluate the performance using rate of Return on Investment(ROI) and Residual Income (RI) criteria.
12) The operating performance of the three divisions of Excel Company Ltd. for 2005is as follows:
Division
A (Rs.) B (Rs.) C (Rs.)
Sales 3,80,000 17,00,000 20,00,000
Operating Profit 20,000 50,000 1,00,000
Investment 2,00,000 6,25,000 8,00,000
a) Using the rate of return on investment and residual income as the criteriawhich is the most profitable division?
b) Which of the two measures in your openion gives the better indication ofover all performance.
13) The managers of Divisions X and Y in Beta Company Ltd. are considering thepossibility of investment in a project. The estimated cost of the proposed project
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Standard Costingto be Rs. 2,00,000. The present ROI of X and Y divisions are 10 per cent and 25per cent respectively. The Company uses a cost of capital of 15% in evaluatingthe projects. The details of the project are as follows:
Division
X (Rs. ’000) Y (Rs. ’000)
Investment Rs.400 Rs.400
Life in years 10 10
Estimated costs and revenues:
Revenue 420 440
Costs:
Direct materials 200 160
Direct wages 40 80
Power 20 20
Consumable stores 12 12
Maintenance 20 8
Depreciation 80 80
Total Cost 372 360
Surplus 48 40
You are required to evaluate the proposals on the basis of ROI and RI and also comment.Note : These questions will help you to understand the unit better. Try to write
answers for them. But do not submit your answers to the University. Theseare for your practice only.
14.15 FURTHER READINGS
J. Lewis Brown, Leslie R. Howard, Managerial Accounting and Finance,Machonald & Evans Ltd., London.
Davidson, Maher, Stickney, Weil, Managerial Accounting, Holt-Sounders Inter-national Editions, New York.
Nigam and Sharma, Advanced Cost Accounting, Himalaya Publishing House,Bombay.
Arora, M.N., Cost Accounting, Vikas Publishing House Pvt. Ltd., New Delhi.
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