Chapter 10, Problem 67P

Buenolorl Company produces a well-known cologne. The standard manufacturing cost of the cologne is described by the following standard cost sheet:

Management has decided to investigate only those variances that exceed the lesser of 10% of the standard cost for each category or $20,000.

During the past quarter, 250,000 four-ounce bottles of cologne were produced. Descriptions of actual activity for the quarter follow:

1. a. A total of 1.35 million ounces of liquids was purchased, mixed, and processed. Evaporation was higher than expected. (No inventories of liquids are maintained.) The price paid per ounce averaged $0.42.
2. b. Exactly 250,000 bottles were used. The price paid for each bottle was $0.048.
3. c. Direct labor hours totaled 48,250, with a total cost of $733,000.

Normal production volume for Buenolorl is 250,000 bottles per quarter. The standard overhead rates are computed by using normal volume. All overhead costs are incurred uniformly throughout the year. (Note: Round unit costs to the nearest cent and total amounts to the nearest dollar.)

Required:

1. 1. Calculate the upper and lower control limits for materials and labor.
2. 2. Compute the total materials variance, and break it into price and usage variances. Would these variances be investigated?
3. 3. Compute the total labor variance, and break it into rate and efficiency variances. Would these variances be investigated?

To determine

Compute the upper and lower limit of materials and labor.

Explanation of Solution

Variance:

The amount obtained when actual cost is deducted from budgeted cost is known as variance. Variance is calculated to find whether the cost is over applied or under applied.

Use the following formula to calculate the value of upper limit of liquid standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{1}}+\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $450,000 for liquid standard in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$450,000}+\text{10\%}\left(\text{\$450,000}\right)\\ =\text{\$495,000}\end{array}$

“OR”

Use the following formula to calculate the value of upper limit of liquid standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{1}}+\text{Standard Cost}$

Substitute $450,000 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$450,000}+\text{\$20,000}\\ =\text{\$470,000}\end{array}$

The upper limit of liquid standard is lower of the above calculated value. Therefore, the upper limit of liquid standard is $470,000.

Use the following formula to calculate the value of lower limit of liquid standard:

$\text{Lower limit}={\text{Liquid Standard}}^{\text{1}}-\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $450,000 for liquid standard in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$450,000}-\text{10\%}\left(\text{\$450,000}\right)\\ =\$405,000\end{array}$

“OR”

Use the following formula to calculate the value of lower limit of liquid standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{1}}-\text{Standard Cost}$

Substitute $450,000 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$450,000}-\text{\$20,000}\\ =\text{\$430,000}\end{array}$

The lower limit of labor is higher of the above calculated value. Therefore, the lower limit of liquid standard is $430,000.

Use the following formula to calculate the value of upper limit of bottle standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{2}}+\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $12,500 for liquid standard in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$12,500}+\text{10\%}\left(\text{\$12,500}\right)\\ =\text{\$13,750}\end{array}$

“OR”

Use the following formula to calculate the value of upper limit of bottle standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{2}}+\text{Standard Cost}$

Substitute $12,500 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$12,500}+\text{\$20,000}\\ =\text{\$32,500}\end{array}$

The upper limit of bottle standard is lower of the above calculated value. Therefore, the upper limit of bottle standard is $13,750.

Use the following formula to calculate the value of lower limit of bottle standard:

$\text{Lower limit}={\text{Liquid Standard}}^{\text{2}}-\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $12,500 for liquid standard in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$12,500}-\text{10\%}\left(\text{\$450,000}\right)\\ =\$11,250\end{array}$

“OR”

Use the following formula to calculate the value of lower limit of bottle standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{2}}-\text{Standard Cost}$

Substitute $12,500 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$12,500}-\text{\$20,000}\\ =\left(\$7,500\right)\end{array}$

The lower limit of bottle standard is higher of the above calculated value. Therefore, the lower limit of bottle standard is ($7,500).

Use the following formula to calculate the value of upper limit of direct labor standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{3}}+\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $750,000 for liquid standard in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$750,000}+\text{10\%}\left(\text{\$750,000}\right)\\ =\text{\$825,000}\end{array}$

“OR”

Use the following formula to calculate the value of upper limit of direct labor standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{3}}+\text{Standard Cost}$

Substitute $750,000 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Upper limit}=\text{\$750,000}+\text{\$20,000}\\ =\text{\$770,000}\end{array}$

The upper limit of direct labor standard is lower of the above calculated value. Therefore, the upper limit of direct labor standard is $770,000.

Use the following formula to calculate the value of lower limit of direct labor standard:

$\text{Lower limit}={\text{Liquid Standard}}^{\text{3}}-\text{10\%}\left(\text{Liquid Standard}\right)$

Substitute $750,000 for liquid standard in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$750,000}-\text{10\%}\left(\text{\$750,000}\right)\\ =\$675,000\end{array}$

“OR”

Use the following formula to calculate the value of lower limit of direct labor standard:

$\text{Upper limit}={\text{Liquid Standard}}^{\text{3}}-\text{Standard Cost}$

Substitute $750,000 for liquid standard and $20,000 for standard cost in the above formula.

$\begin{array}{c}\text{Lower limit}=\text{\$750,000}-\text{\$20,000}\\ =\$730,000\end{array}$

The lower limit of direct labor standard is higher of the above calculated value. Therefore, the lower limit of direct labor standard is $730,000.

Working Note:

1.

Calculation of liquid standard for liquid material:

$\begin{array}{c}\text{Liquid Standard}=\text{Standard Direct Liquid Cost}\times \text{Actual Production}\\ =\text{\$1}\text{.80}\times \text{250,000}\\ =\text{\$450,000}\end{array}$

2.

Calculation of liquid standard for bottle standard:

$\begin{array}{c}\text{Bottle Standard}=\text{Standard Direct Bottle Standard Cost}\times \text{Actual Production}\\ =\text{\$0}\text{.05}\times \text{250,000}\\ =\text{\$12,500}\end{array}$

3.

Calculation of liquid standard for direct labor standard:

$\begin{array}{c}\text{Direct Labor Standard}=\text{Standard Direct Bottle Standard Cost}\times \text{Actual Production}\\ =\text{\$3}\text{.00}\times \text{250,000}\\ =\text{\$750,000}\end{array}$

To determine

Compute the total material variance and divide this variance into price variance and usage variance. Also, identify whether this variance should be investigated or not.

Explanation of Solution

Use the following formula to calculate material price variance of liquid:

$\text{Material Price Variance}=\left(\text{Actual Price}-\text{Standard Price}\right)\times \text{Actual Quantity}$

Substitute $0.42 for actual price, 1,350,000 units for actual quantity and $0.40 for standard price in the above formula.

$\begin{array}{c}\text{Material Price Variance}=\left(\$0.42-\$0.40\right)\times 1,350,000\\ =\text{\$27,000}\left(\text{U}\right)\end{array}$

Therefore, the material price variance is $27,000 (U).

Use the following formula to calculate material usage variance of bottle:

$\text{Material Usage Variance}=\left(\text{Actual Quantity}-\text{Standard Quantity}\right)\times \text{Standard Price}$

Substitute $0.40 for standard price, 1,350,000 units for actual quantity and 1,125,000 for standard quantity in the above formula.

$\begin{array}{c}\text{Material Usage Variance}=\left(1,350,000-1,125,000\right)\times \$0.40\\ =\$90,000\left(\text{U}\right)\end{array}$

Therefore, the material usage variance is $90,000 (U).

The liquid variance should be investigated because the liquid variance is increases from the $20,000.

Use the following formula to calculate material price variance of liquid:

$\text{Material Price Variance}=\left(\text{Actual Price}-\text{Standard Price}\right)\times \text{Actual Quantity}$

Substitute $0.048 for actual price, 250,000 units for actual quantity and $0.05 for standard price in the above formula.

$\begin{array}{c}\text{Material Price Variance}=\left(\$0.048-\$0.05\right)\times 250,000\\ =\text{\$500}\left(\text{F}\right)\end{array}$

Therefore, the material price variance is $500 (F).

Use the following formula to calculate material usage variance of bottle:

$\text{Material Usage Variance}=\left(\text{Actual Quantity}-\text{Standard Quantity}\right)\times \text{Standard Price}$

Substitute $0.05 for standard price, 250,000 units for actual quantity and 250,000 for standard quantity in the above formula.

$\begin{array}{c}\text{Material Usage Variance}=\left(250,000-250,000\right)\times \$0.05\\ =\$0\end{array}$

Therefore, the material usage variance is $0.

The bottle standard should not be investigated because the variance of bottle standard is within the accepted limits.

To determine

Compute the total material variance and divide this variance into price variance and usage variance. Also, identify whether this variance should be investigated or not.

Explanation of Solution

Use the following formula to calculate labor rate variance:

$\text{Labor Rate Variance}=\left({\text{Actual Rate}}^{\text{1}}-\text{Standard Rate}\right)\times \text{Actual Hours}$

Substitute $15.19 for actual rate, $15.00 for standard rate, 48,250 hours for actual hours in the above formula.

$\begin{array}{c}\text{Labor Rate Variance}=\left(\$15.19-\$15.00\right)\times 48,250\text{ Hours}\\ \text{=\$9,168}\left(\text{U}\right)\end{array}$

Therefore, the labor rate variance is $9,168 (U).

Use the following formula to calculate labor efficiency variance:

$\text{Labor Effeciency Variance}=\left(\text{Actual Hours}-\text{Standard Hours}\right)\times \text{Standard Rate}$

Substitute $15.00 for standard rate, 48,250 hours for actual hours and 50,000 hours for standard hours in the above formula.

$\begin{array}{c}\text{Labor Effeciency Variance}=\left(48,250\text{ Hours}-50,0\text{00 Hours}\right)\times \$15.00\\ =\$26,250(\text{F)}\end{array}$

Therefore, the labor efficiency variance is $26,250 (F).

The labor efficiency variance should be investigated because it increases from the amount of $20,000.

Working Note:

1.

Calculation of actual rate:

$\begin{array}{c}\text{Actual Rate}=\frac{\text{Actual Cost}}{\text{Actual Hours}}\\ =\frac{\$733,000}{48,25\text{0 hours}}\\ =\$15.19\end{array}$