MANAGEMENT

AND COST
ACCOUNTING
SIXTH EDITION

COLIN DRURY

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2004 Colin Drury

Part Four:
Information for planning, control and performance
Chapter Nineteen:
Standard costing and variance analysis 2- further aspects

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.1a
Mix variance
1. A mix variance arises when the actual mix differs from the predetermined
standard mix.
Example
Standard mix to produce 9 litres of output:
5 litres of X at 7 per litre =
35
3 litres of Y at 5 per litre =
15
2 litres of Z at 2 per litre =
4
54
Standard loss =10% of input. Actual output = 92 700 litres
Actual inputs:
53 000 litres of X at 7
28 000 litres of Y at 5.30
19 000 litres of Z at 2.20
100 000

=
=
=

371 000
148 400
41 800
561 200
Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8
2000 Colin Drury
2004 Colin Drury

19.1b
2. Mix variance = (AQ in standard mix AQ) SP
AQ in standard mix SP
X =100 000 5/10 7
Y =100 000 3/10 5
Z =100 000 2/10 2

350 000
150 000
40 000
540 000

AQ SP
53 000 7
28 000 5
19 000 2

371 000
140 000
38 000
549 000

Mix variance = 9 000 A

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.2
Yield variance
1. Yield variance is the difference between the standard output for a given level of inputs and
the actual output:
=
(Actual yield Standard yield from actual input)
SC per unit of output
=

(92 700 90 000 ) 54/9 =16 200 F

2. Possible causes
3. Mix and yield variances are interrelated and should not be
interpreted in isolation.
Summary
Total variance = SC (92 700 6) AC (561 200) = 5 000 A
Price variances
+ Mix variance
+ Yield variance

12 200 A
9 000 A
16 200 F
5 000 A
Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8
2000 Colin Drury
2004 Colin Drury

19.3a
Sales mix and quantity variances
1. Where a company sells several different products that have
different profit margins, it is possible to divide the sales volume variance into a
quantity and mix variance.
Example
Budgeted sales
X =
Y =
Z =

8 000 units at 20 contribution

7 000 units at 12 contribution
5 000 units at 9 contribution
20 000

=
=
=

160 000
84 000
45 000
289 000

=
=
=

120 000
84 000
81 000
285 000

Actual sales
X =
Y =
Z =

6 000 units at 20 contribution

7 000 units at 12 contribution
9 000 units at 9 contribution
22 000

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.3b
Sales mix and quantity variances (contd.)
2 .Mix variance = (AQ AQ in budgeted proportions) Standard margin
X
Y
Z

AQ AQ in budgeted proportions
6 000 8 800 (40%)
7 000 7 700 (35%)
9 000 5 500 (25%)
22 000

Standard margin
20 = 56 000 A
12 = 8 400 A
9 = 31 500 F
32 900 A

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.4
Sales mix and quantity variances (contd.)
3. Quantity variance
X
Y
Z

= (AQ in budgeted
proportions BQ) SM
= (8 800 8 000) 20
= 16 000 F
= (7 700 7 000) 12
= 8 400 F
= (5 500 5 000) 9
= 4 500 F
28 900 F

4. If planned mix had been achieved the sales volume variance would
have been 28 900 F.

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.5a
Recording standards costs in the accounts
1. Purchase of materials (Material A)
Dr Stores ledger control account (AQ SP)
Dr Materials price variance
Cr Creditors control

190 000
19 000

2. Issue of materials (Material A)

Dr Work in progress (SQ SP)
180 000
Dr Material usage variance
10 000
Cr Stores ledger control account (AQ SP)

209 000

190 000

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.5b
3. Recording of wages due
Dr Wages control account (actual cost)
Cr Wages accrued account

273 600
273 600

The wages control account is cleared as follows:

Dr Work in Progress (SQ SP)
Cr Wages control account
Dr Wage rate variance
Dr Labour efficiency variance
Cr Wages control account

243 000
243 000
17 100
13 500
30 600

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.6a
4. Manufacturing overhead cost incurred
Dr Factory variable overhead control
account
Dr Factory fixed overhead control account
Cr Expense creditors
5. Absorption of fixed manufacturing overhead
Dr Work in progress (SQ SP)
Dr Volume variance
Cr Factory fixed overhead control
account
Dr Factory fixed overhead control account
Cr Fixed overhead expenditure variance

52 000
116 000
168 000
108 000
12 000
120 000
4 000
4 000

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.6b
6.Variable manufacturing overhead
Dr Work in progress (SQ SP)
Dr Variable overhead efficiency variance
Cr Factory variable overhead control
account
Dr Factory variable overhead control
account
Cr Variable overhead expenditure
variance account
7. Completion of production
Dr Finished stock account
Cr Work in progress

54 000
3 000
57 000
5 000
5 000
720 000
720 000

Note that the variances are transferred to the profit and loss account at the end of
the period.

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.7a
Ex post variance analysis
1. A major criticism is that actual performance is compared with a standard based
on the environment that was anticipated when the standard was set.
2. It is argued that an ex post variance analysis approach should be adopted that
distinguishes between planning and operating variances.
3.

A Original standard
B Ex post standard given the benefit of hindsight
C Actual outcome

Planning variance = A B
Operating variance = B C

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.7b
4. Example
SP = 5 per unit, market price at time of purchase = 5.20
Actual purchases =10 000 units at 5.18
Conventional variance analysis = 10 000 0.18 = 1 800 A
Ex post analysis:
Purchase planning variance = (5 5.20) 10 000
Purchase efficiency variance = (5.20 5.18) 10 000

= 2 000 A
= 200 F
1 800 A

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.7c
5. Sales variances
Assume:
Budgeted sales =10% market share (10% 1m units)
Actual sales = 110 000 units
Actual industry sales volume = 1.2m units
Budgeted and actual contribution = 100
Ex post standard =120 000 units (10% 1.2m)
Conventional sales variance = 1m favourable (10 000 100)
Ex post analysis: Planning variance = 2m favourable (20 000 100)
Appraisal variance = 1m adverse (10 000 100)

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.8
Investigation of variances
1. Variance investigation models can be classified into the following categories:
Simple rule of thumb models.
Statistical models that do not incorporate costs and benefits of investigation.
Statistical decision models that take into account the cost and benefits of
investigation.
2. Reasons for variances
Measurement errors.
Out-of-date standards.
Out-of-control operations.
Random or uncontrollable factors.
3. Investigation will indicate that variance is due to:
Random uncontrollable factors when the operation is under control.
Assignable causes, but the cost of investigation exceeds benefits.
Assignable causes, but the benefits of investigation exceed the cost.
Note : The aim is to investigate only those variances in the final category.
Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8
2000 Colin Drury
2004 Colin Drury

19.9a
Statistical investigation models not incorporating cost and benefits
1.

1. Assume actual observations when under control indicate a mean usage of

10 kg per unit with a SD of 1 kg (normally distributed).

2.

Actual usage is 12 000 kg for an output of 1 000 units.

Therefore,average usage = 12 kg per unit.

3.

Z = Actual usage (12 kg) Expected usage (10 kg) = 2.0

SD (1 kg)

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.9b

4.

Normal distribution table indicates that an observation 2 SDs from the mean
has a probability of 2.275%.

5.

Thus the probability of actual average material usage per unit of output being
12 kg or more when the operation is under control is 2.275%.It is very unlikely
that material usage comes from in control distribution .

6.

Statistical control charts,which rely on the above principles,can be used to

monitor resources usage and the probability that operations are out of control.
(See figure on sheet 19.10.)

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.10
Statistical quality control charts

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.11
Variance investigation decision models
1. Bierman et al model assumes two mutually exclusive states exist:
(i)
System in control and variance due to random factors.
(ii) System out of control and corrective action can be taken
to remedy the situation.
2. If the process is out of control there is a benefit (B) associated with
returning it to its in - control state (i.e.cost savings from avoiding
variances in future periods). Assume B = 400.
3. Let C = cost of investigation (assume C = 100).
Let P = probability that the process is out of control.
4. Expected benefit = PB
5. Investigate if PB > C, or P > C/B
6. P >100 /400 =0.25
7. P (Process is in control) = 0.02275 (see sheet 19.9)
8. P (Process out of control) =1 0.02275 = 0.97725
9. Decision = Investigate the variance
10. Note the difficulty in estimating C and B.

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.12a
Criticisms of standard costing

The usefulness of standard costing has been questioned, and its

demise predicted, because of the following:

1.

The changing cost structure

2.

Inconsistency with modern management approaches

3.

Over-emphasis on the importance of direct labour

4.

Delay in feedback reporting

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.12b
The future role of standard costing
Standard costs and variance analysis required for many other purposes
besides cost control and performance evaluation: (e.g. tracking costs for
inventory valuation and maintaining a database for decision-making)
Variance analysis adapted to report on items that are company specific.
Shift from treating the variances as the foundations for cost control and
performance evaluation to being one among a broader set of measures.
Empirical evidence suggests that practitioners still regard variance
analysis as being important for cost control.
Can still play a useful role within ABC systems particularly in relation to
controlling unit-level and batch-level activities.

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.13a
The future role of standard costing (cont.)
ABC and variance analysis:
1. Most appropriate for controlling the costs of unit-level activities.
2. Can also provide meaningful information for controlling those
costs that are fixed in the short-term but variable in the longerterm provided suitable cost drivers can be established.

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.13b
Example
Costs of set-up activity:
Budget
Activity level (1 600 set-ups)
Practical capacity supplied (2 000 set-ups)
Total fixed costs (80 000)
Total variable costs (40 000)
Cost driver rates:
Variable (25 per set-up)
Fixed (40 per set-up)

Actual
Total FC (70 000)
Total VC (39 000)

Variance analysis for fixed set-up expenses:

Set-up expenses charged to products (1 500 40)
Budgeted unused capacity variance (400 40)
Capacity utilization variance (100 40)
Expenditure variance
Total actual expenses

60 000
16 000 A
4 000 A
10 000 F
70 000

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury

19.14
The future role of standard costing (contd.)
ABC and variance analysis:
Variance analysis for variable set-up expenses:

Variable set-up expenses charged to products

(1 500 25)
Variable overhead variance (Flexed budget
Actual cost)
Total actual expenses

37 500
1 500 A
39 000

Management and Cost Accounting, 6th edition, ISBN 1-84480-028-8

2000 Colin Drury
2004 Colin Drury