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John
I need you your help with my understanding of planning variances. Is planning variance not the variance between original budget and revised budget based on budgeted production? If so (which I think is the case), detailed planning variances with regard to Example 1 should be as follows:
$ Original budget contribution 43,000 Planning variances Material - usage (5,000 x (1-1.2) x 1) 1,000 A Material - Price (5000 x 1.2 x (1-.95))) 300 F Labour – rate (5,000 x 2 x (2.5-2.6)) 1,000 A Sales – volume (5,000 x .1 x 8.26) 4,130 A Revised budget contribution (check 4,500 x 8.26) 37,170 It adds perfectly and it all makes sense (i.e. planning variances based on budgeted production of 5,000 units and not based on actual production of 5,200 units).
Problem starts when I move to example 2. In example 2 you have taken actual production of 24,000 units instead of budgeted production of 20,000 units to calculate planning variance. Is this a mistake or is there something wrong with my understanding of planning variance.
Based on my understanding as illustrated above. Planning variance should be 25,000 F:
$ Original budget material cost (20,000 x 32) 640,000 Planning variances Material - usage (20,000 x (8-7.5) x 4) 40,000 F Material - Price (20,000 x 7.5 x (4-4.1)) 15,000 A Revised budget material costs (check 20,000 x 7.5 x 4.1) 615,000 If there was no budgeted procution given, then I would have assumed that budgted production was the same as actual production. But in your example you have given budgeted production of 20,000 units, then why to use 24,000 of actual production to calculate planning variance?
If my above calculation of example 2 is wrong, then calculation of example 1 has to be wrong. If this is the case then could you please tell me the correct answer to example 1 (i.e. detailed planning variances only).
Yours is a good question, and different books do it different ways (and get different answers 🙂 )
The way that example 2 does it is the way the previous examiner said that he preferred in a Student Accountant article (and the way the current examiner will expect it). That is that you do the planning and operational variances based on the actual production.
This effectively means dealing with the volume variance first – both planning and operational. In example 1 the planning volume variance would be 4300 (A) (that is 500 units x 8.60 per unit) and the operational volume variance would be 6020 (F) (that is 5200 – 4500 = 700 units x 8,60).
It does mean that you cannot this way get to the 37170 revised budget contribution.
I am sorry if it is confusing, but it is example 2 that you should concentrate on – anything in the exam is going to be more of an extract (e.g. what are the planning and operation variances for materials, or for labour) and the examiner expects you to do both of them based on the actual level of production.
Since you have obviously spotted the problem – well done – you can see why different authors prefer different ways 🙂
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