Fundamentals of Cost Accounting 3rd Edition by William N. Lanen, Shannon W. Anderson, Michael Maher

Exercise 24

Profit Variance Analysis

Use the information from Exercise 16-22 to prepare a profit variance analysis for Data-2-Go like the one in Exhibit 16.5.

Step 1 of 2

Fundamentals of Variance Analysis;

The purpose of Profit variance analysis is to measure how successful the business has been in terms of achieving profit objectives especially in comparison to the established norms. For example if a business, according to its budget estimates had to earn $ 100 as profit, but the real profit earned was $ 90. Then it conclusively points towards the failure of the business in not achieving desired objectives.

The reasons of variance shall be investigated and a proper course of action shall be established. However, the students shall keep in mind that failure in achieving set targets may not always be defined as management failure. Because we live in a very complex world where things change dramatically and in uncertain way. Sometimes the goals either intentionally or erroneously are established so high that only results remains there is to fail. Or even if the goals are appropriately set, yet the market conditions undergoes changes so quickly, it becomes tough to achieve the goals of good times specially when the economy is passing through a tough time.

Profit Variance analysis ( Figures in 000)
HEAD	Based on actual level of activity of 75000 units	Manufacturing variance	U/F	Sales Price Variance	U/F	Flexible Budget of 75000 units	sales activity variance	U/F	Master Budget of 80000 Units
Sales Revenue	$6210			$585	F	$5625	$375	U	$6000
Less ; Variable Cost of
Blank Flash Drive	$1800					$1687	$112.5	F	$1800
Direct Labour	$345	$48.75	F			$393.75	$26.25	F	$420
Variable Overhead	$843	$111.75	U			$731.25	$48.75	F	$780
Variable Marketing & Administrative	$585					$562.5	$37.5	F	$600
Total Variable Cost	$3573	$160.50	U			$3375	$225.	F	$3600
Contribution Margin	$2637					$2250	$337.5	U	$2400
Fixed Costs
Manufacturing Overhead	$1236	$36	U			$1200	$0		$1200
Marketing Overhead	$360		U			$360	$0		$360
Administrative Overhead	$255					$225			$225
Total Fixed Costs	$1851	$36	U			$1785	$0		$1785
Operating Profit	$786					$465	$337.5		$615

Explanation: We know that flexible budget is prepared for the actual activity level and standards costs and prices (which are taken into master budget) are taken into the calculation for the purpose of flexible budget. Here as given in the master budget, per unit cost and sale prices are calculated based on the figures given in the master budget. The calculation is shown here;

	Total Rev/ Cost at 800000 units	Total/Units (800000 units) = per unit	Units in Flexible budget	Units in flexible budget * per unit
A	B	D	E	F
Sales Revenue	$6,000,000	$7.50	$750,000	$5,625,000
Blank Flash Drive	$1,800,000	$2.25	$750,000	$1,687,500
Direct Labour	$420,000	$0.53	$750,000	$393,750
Variable Over head	$780,000	$0.98	$750,000	$731,250
Variable Marketing and Admin Expenses	$600,000	$0.75	$750,000	$562,500
total cost			$3,375,000

Besides that certain terms which got mentioned in the profit variance are defined below:

Sales Price Variance: shown in column no 5 shows the difference between sales revenues under Flexible budget and the actual results. The variance represents discrepancies on account of different prices applied in calculating the sales volume. If business is able to sale at higher price, the variation will always show a favorable variation, whereas in case of lower prices compared to budgeted estimates, it will show unfavorable variance.

Manufacturing Variance. Shown in column no 3 shows the difference between the element of variable costs under Flexible budget and the actual results. The variance indicates what has been the actual variable costs and what was estimated in the budgets. If business is able to keep the costs under what was estimated in the budgets, the variation will always show a favorable variation, On the things being opposite in direction the variation will show unfavorable variance.

Sales Activity Variance. This variance calculates the discrepancies on account of different level of sales activity. This variation is just the difference between budget estimates or Master Budget and extrapolated values of actual sales happened or Flexible Budget. For example, if budget estimates were for 20000 units and actual sales volume was 21000 units, then standard costs used in the budget estimates of 20000 units are used to calculate to the results for 21000 units. And the difference of these two values represent the sales activity variance.