Summary of the Overhead’ Cost Variances Accounting Help

 The overhead spending and volume variances experienced by Brice Mills in March may be summarized us follows: Prior  to 1983, Medicare reimbursed hospitals for pattern care on a cost-plus bass. That is, the hospitals submitted the cost of a procedure, such as a tonsillectomy, and Medicare paid them that cost plus a markup for profit. After 1983, Institutionalized a reimbursement policy based on a standard cost for each procedure,

These standards. cared DRGs (diagnosis-related groups), are applied universally to hospitals requesting reimbursements for inpatient hospital care. Thus the DRG for a tonsillectomy’s the same for a hospital in Vermont as for one in Florida. The effect of using Drags dramatic. Insurance companies began to reimburse based 00 the DRGs and hospitals became much more cost conscious, Imposing standard reimbursements dramatically slowed the rising cost of health care.

As shown, the $8,680 in overhead costs that Brice actually incurred is $520 less than the budgeted overhead at the 600 units level of production. Thus, its overhead spending variance is favorable. Its $800 volume variance is a direct result of actual output being 100 units less than normal. The following journal entry is made to apply overhead costs to production during March

Valuation of Finished Goods

We have seen that in a standard cost system, costs are charged to the Work in Process . Inventory account ‘at standard. Thus finished goods also arc valued standard as their costs are transferred to the Finished Goods Inventory account and to the Cost of Goods Sold account. The entry made at the end of March to record the completion of 600 beams is Notice that the inventory of finished goods is valued at standard cost. As beams are sold, their standard cost ($98 per beam) will be transferred into the Cost of Goods Sold

What About the Cost Variance Accounts? The balances in the variance accounts represent differences between actual manufacturing costs and the standard costs used to value the finished goods inventory and cost of goods sold. These balances are typically allowed to accumulate in the variance accounts from month to month. Often, the favorable and the unfavorable variances will balance out during the year.

Leaving only a small amount in each variance account at year-end. In this case, the variance accounts are simply closed into the Cost of Goods Sold account. However, if the balances in the variance accounts at the end of the year represent a material dollar amount, the amount should be apportioned among the Work in Process Inventory, Finished Goods Inventory, and the Cost of Goods Sold accounts.

evaluating Cost Variances from Different Perspectives
Early in April, Brice’s cost accountant prepared cost variance summary reports on each of the company’s product lines for distribution at the monthly staff meeting. Among those attending the meeting were (1) the director of purchasing, (2) the production manager,

(3) the quality control inspector, (4) the employee grievance representative, and (5) the sales manager. The report they were given pertaining to the production of foot beams is shown below

Let us now consider these cost variances from the perspectives of various department

Accounting The cost accountant opened the meeting announcing that she had a combination of “good news” and “bad news.” On the bright side is he was encouraged that the company’s total manufacturing cost variance for 20-foot beams was favorable for the
first time in many months (albeit only $80). She was especially pleased about the successful effort to control manufacturing overhead costs associated with this product, as revealed by the $520 favorable overhead spending variance. However, she immediately expressed concern regarding several unfavorable variances experienced across all product lines during the month. In particular, she was troubled by a consistent pattern of uno: favorable labor rate, labor efficiency, and material quantity variances. The remainder of her present on was spent stressing the severity of these unfavorable variances.

Purchaser The first person to respond to the cost accountant’s comments was the purchasing agent. Taking a defensive posture, he stressed that one of the unfavorable variances experienced during the month was under his control. In fact, he bragged that
.favorable price variances across all product lines including the $9,000 favorable price variance for 20-foot beams, “saved the company from financial disaster in March.” He pounded the table, exclaiming that he had “shopped for price” in three different states, getting what he believed to be the best bargain possible for rough, white pine lumber.’

Production The production manager stood up and confronted the purchasing agent. He verbally attacked the purchasing department, accusing it of acquiring materials of “grossly inferior quality.” He told the group that the lumber he and his crew had been.

issued was green full of knots, warps, and cracks. In his opinion, heftiness were the direct cause of favorable material usage variances experienced across all product lines. He also bell that numerous production bottlenecks resulting from poor quality materials had caliber J production output in March to be significantly less than normal.

Quality Control The quality col inspector concurred with the production manger’s assessment. She noted that many «,the company’s product lines, especially its 20-foot beams, either failed to pass inspection..or did so only marginally. Never in recent history
had there been a month in which she detected many beams.

Factory Workers The employee grievance representative is a member of the production crew elected to communicate grievances management. His comments provided a unique perspective to what had become an emotionally heated meeting. He conveyed to the group that factory morale in March had hit squall-time low. He admitted that every member of the production crew knew productivity vase way down (as reflected by the unfavorable labor efficiency variances), yet added that everyone thought the inferior materials were the cause of the problem.

He concluded. by saying that the only good thing about inferior materials is “the overtime pay we earn extraterritorial hours.” (The $1,080 unfavorable labor rate variance for laminated beams resulted primarily from the overtime
pay rates.) .

Marketing The sales manager argued that even with overtime and extra shifts, demand during March still exceeded output. He told the company’s cost accountant that this was one of those occasions when an unfavorable volume variance had severe implications. To illustrate his point, he noted that the unfavorable volume variance associated with the production of 20-foot beams (caused by producing 600 units instead of the normal 700 units) translated directly into $16,000 of lost sales, in March.

Heaving also worried that the beams that were sold may not have been of. the quality customers had come to expect. His remarks, raised questions regarding the company’s legal liability should a beam fail because of structural defects.

Posted on November 24, 2015 in Standard Cost Systems

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