Budgets and Variance Analysis

Part A: Complete Problem 8-44 (p. 341) on the Lucerne Chocolate Company.

Part B: Case 8-54 (pp. 346-347) is an application to assess your ability to work with flexible budgets. This case provides budgetary information about Hopkins Community Hospital, an outpatient clinic. This is a good example of the use of a flexible budget for analyzing performance at a service sector organization. Use the information in the narrative and the supporting schedules to answer the “Required” questions.

The Budget and Variance Analysis

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Part A

The budget and variance analysis is the method through which a company budget is compared to the actual results, which are used to examine and interpret the variance (Horngren, Sundem, Burgstahler, and Schatzberg, 2014). Lucerne chocolate company relies on a flexible budget to control their manufacture of chocolate. In the variance analysis, the first point is the determination of the standards against which the company is to focus the actual results. It is also important to determine the costs that are variable or fixed. For instance, the allowance for items with fixed costs will not change with change in the level of activity.

The flexible budget is calculated before the actual units, with the variable cost being the same. According to the computed variances above, it is clear that Lucerne chocolate company there are different expenses and levels based on the actual and flexible budget. The information offered on the flexible budget about the materials, direct labor, manufacturing overhead will allow Lucerne company to adjust the static budget and compare results for accuracy. Thus, utilizing the flexible budget will enable the company to track where they can adjust their spending to reduce its costs.

The budget allowance for direct labor is the amount of budget expenditure that the company is allowed to spend on direct labor according to its budget (Drury, 2013). The flexible budget allowance is equal to the standard quantity that can be produced time the standard price. The budget allowance for direct labor under the standard cost varies depending on the output. This means that the budgetary allowances for 2,900 units will be different from that of 3,900 units since they vary depending on the units produced.  The direct labor budget for 2900 units will be 2900 units × 1.25 hours × 38CHF = 137,750CHF. In the case of 3,900 units, the budgetary allowance for 3,900 units will be 3,900 units × 1.25 hours × 38CHF = 185,250CHF.

Part B

The budget contribution margin per patient in the hospital is $102 bring a total contribution margin of $408,000 from the 4,000 patients.  Considerably, if the hospital can manage to avoid $408,000 from the $420,000 of the fixed costs, it means that they are financially better without the clinic. The hospital will not have to employ physicians for the clinic, thus saving the $240,000 physician cost.  Closure of the clinic would not fully save the fixed overhead cost of $180,000 due to the administrative costs of the entire hospital, but it would save some amount constitutes from the clinic, such as the depreciation of clinic’s equipment and property other variable overheads that depend on the patients visit. From the report in 20X7, the patients in the main hospital are subsidizing those that are relying on the clinic. Therefore, the hospital will loss the contribution margin of $408,000 but lower their fixed costs by approximately $240,000+ $112,500 = 352,500. This means that if the estimates are correct will enjoy a financial gain for closing the clinic.

The static budget variance of $8,200 can be examined through the flexible budget and actual sales variance.

The static budget variance can be as a result of the time spent on the clinic by the nurses who sometimes cover for the physician who may not be in the clinic. This means that the physicians and nurses are spending more time than expected in the budget, thus contributing to the price variance. The depreciation of some expensive items that may not be used in the clinic or were moved into the hospital might have contributed to the overhead variance. Another major reason for the variance is having higher sales than expected, which leads to unfavorable variances. Therefore, the hospital can reduce the budget variance by avoiding new expenditures, cutting expenses such as unnecessary overtime expenses.

References

Drury, C. M. (2013). Management and cost accounting. Springer.

Horngren, C. T., Sundem, G. L., & Burgstahler, D., & Schatzberg, J. (2014). Introduction to Management Accounting, (16th ed.). Boston, MA: Pearson.