Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs

CHAPTER 19
STANDARD COSTS, VARIABLE COSTING SYSTEMS,
QUALITY COSTS, AND JOINT COSTS
Changes from Twelfth Edition
All changes to Chapter 19 were minor.
Approach
ne o! the ad"antages o! standard costs is that a standard cost system re#uires less record$eeping than
does an actual cost system. Students ha"e di!!iculty in accepting this !act. %o learn about standard costs
re#uires an additional intellectual e!!ort on their part, and they e#uate this e!!ort with the physical e!!ort
o! operating a standard cost system. %he te&t e&plains why the sa"ing in record$eeping occurs, but the
e&planation may well re#uire rein!orcement by the instructor.
'e ha"e omitted a discussion o! waste and spoilage on the grounds that it is inappropriate !or a !irst
course. %his is an important, but di!!icult, topic in practice. Some instructors may wish to add a treatment
o! it on their own initiati"e.
%he (lac$ )eter Company description pro"ides a use!ul "ehicle !or understanding a standard cost
system* and it may be desirable to discuss it in considerable detail. %he description in the te&t does not
co"er e"ery number, but it should be ade#uate so that the students can deduce !or themsel"es where each
number on the e&hibits comes !rom, and in particular, how one e&hibit relates to others.
'e are sometimes critici+ed !or not being ad"ocates o! "ariable costing systems, as some authors seem to
be. Aside !rom the !act that we don,t "iew our role as being ad"ocates o! particular techni#ues, we !eel
that "ariable costing !inds !ar more !a"or in te&tboo$s than in practice. %he techni#ue appeared in the
literature o"er -. years ago, yet relati"ely !ew companies use it today. 'e interpret this !act not as a
matter o! company ignorance or inertia, but rather that companies do not !ind the system use!ul enough to
/usti!y the costs o! implementing it, which are nontri"ial costs. Any company ha"ing a !le&ible budget !or
o"erhead costs can combine the "ariable portion o! the o"erhead rate with direct labor and material costs
to get an ade#uate appro&imation o! short-term costs !or certain short-term decisions, without
implementing a !ormal "ariable costing system. %he increased use o! in"estment centers also leads
companies to want to "alue in"entories at !ull costs 0in some companies, !ull replacement costs1 !or
management reporting purposes. 'e ha"e tried to maintain a balanced presentation on this topic, so that
our students upon graduation don,t assume that their new employer is ignorant or in the 2ar$ Ages when
they !ind no "ariable costing system in that particular organi+ation.
%he 3cost o! #uality4 is an e"ol"ing topic. Students should be aware o! the concepts and related
terminology, but there are no speci!ic techni#ues to describe as yet. Similarly, students should ha"e
awareness o! the issues in /oint and by-product costing e"en i! the alternati"e costing procedures are not
pursued.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
Cases
Bennett Body Company e&amines the nature and ad"antages o! a standard cost system in a simple
en"ironment. 5t also rein!orces the /ob-order "s. process costing distinction.
Black Meter Company as$s #uestions about the illustration in the te&t !or instructors who wish to discuss
this illustration thoroughly.
Brisson Company pro"ides !urther practice in setting up accounts !or a standard cost system and
preparing !inancial statements.
Landau Company contrasts "ariable costing and !ull absorption costing.
Lynchs Chicken Ranch is a /oint cost case. 5t emphasi+es conceptual understanding more than numerical
analysis 0this case is new in the %wel!th edition.1
Problem
Problem 19-1: Veronica Company
a. "erhead rate 6
hours labor direct 7stimated
o"erhead 7stimated
6
hours 8.,...
91:.,...
6 99 per direct labor hour
b. Jobs
; <
2irect material...................................................................................................................................................................................... 91.,... 91.,...
2irect labor.......................................................................................................................................................................................... 8:,... =8,...
"erhead.............................................................................................................................................................................................. 81,-..> 8?,8..@
%otal production costs.......................................................................................................................................................................... 9?9,-.. 9-A,8..
>8,B.. hours C 99 6 981,-..
@8,:.. hours C 99 6 98?,8..
c. Job ; Job <
Droduction cost..................................................................................................................................................................................... 9 ?9,-.. 9 -A,8..
Selling price 01:.E1............................................................................................................................................................................ 91.A,8:. 918.,9-.
Problem 19-2: Vermont !gar Enterprises
a. Selling price o! sugarF1,... C 98................................................................................................................................................... 98,......
%raceable costs 0a!ter split-o!!1............................................................................................................................................................ 8:....
;ross margin........................................................................................................................................................................................ 91,A8....
%otal syrup costG
Drocess costs 0918,8:. @ 91..,...1................................................................................................................................................. 9118,8:.
Hess sugar gross margin................................................................................................................................................................... 1,A8.
Cost allocated to syrup..................................................................................................................................................................... 911.,?-.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
b. Joint product costsG
Syrup Sugar
Sales "alue........................................................................................................................................................................................... 9=..,... 98,...
Hess costs a!ter split-o!!....................................................................................................................................................................... 18,... 8:.
Ad/usted sales "alue............................................................................................................................................................................. 98::,... 91,A8.
Cost allocationG
SyrupG 8::,...I8:9,A8. & 1..,... 6 9 99,B.-
999,B.- @ 918,... 6 9111,B.-
SugarG 1,A8.I8:9,A8. & 1..,... 6 9?9B
?9B @ 8:. 6 9:AB
Problem 19-": #onrad Corporation
2H <ours
Allocation
JateI<our>
Allocated
7&penses
Cost o! goods sold................................................................................................................................................................................ =.,... 91B 9B8.,...
5n"entory.............................................................................................................................................................................................. =,... 1B B8,...
==,... B-8,...
>9B-8,... K ==,... 2H hours 6 91BI2irect labor hour
a. dr. Linished ;oods 5n"entory............................................................................................................................................................... B8,...
Cost o! ;oods Sold......................................................................................................................................................................... B8.,...
cr. Mon"ariable Droduction Costs................................................................................................................................................... B-8,...
b. As the abo"e entry shows, !ull costing 3capitali+es4 9B8,... o! the non"ariable costs in
in"entory, rather than treating the entire 9B-8,... as an e&pense* hence, in this particular year,
!ull costing will result in 9B8,... higher preta& income than will "ariable costing.
c. Linished goods in"entory 0!ull costs1 6 9A?,... @ B8,... 6 911A,...
Problem 19-$: %emad Company
Approach
%his problem raises an issue not discussed in the te&tG building normal materials waste and wor$er idle
time into standard costs. %he case is not di!!icult enough to /usti!y spending an entire class session on it. 5
use it in the same session as the Amurath Company case.
5 discuss materials !irst. %he rele"ant materials !igures are theseG
1. 7ach assembly re#uires eight le"ers.
8. %o get eight good le"ers, : I 9.E 6 : :I9 le"ers must be produced.
=. %he current price is 9.B? per le"er or 9B... per assembly.
B. 5n!lation is e&pected to raise this by B percent during the year, or to a year-end total o! 9B.1-. 5!
in!lation is at an e"en rate, the a"erage materials price per assembly during the year will be 9B..:.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
?.
%his last amount would be the appropriate standard cost i! the standard is to be le!t unchanged !or the
year. %his means, o! course, that the company should e&pect !a"orable materials price "ariances !or the
!irst hal! o! the year, un!a"orable ones !or the second hal!, and +ero !or the year. 0%his would not
necessarily be true i! the case did not state that production is le"el throughout the year1.
%urning to direct labor, the rele"ant !acts are theseG
1. %he standard wor$wee$ is B. hours.
8. 2aily brea$s reduce this by 8.? hours per wee$, to =A.? hours. 0Apparently a lunch brea$ is not part o!
the standard :-hour day.1
=. nly :? percent o! the nominal producti"e hours are in !act producti"e, because o! necessary waiting
or interruptionsG =A.? > :?E 6 =1.:A? hours.
B. %he time-studied operation time is 18 minutes. )anagement belie"es this represents only 9. percent
o! practical e!!iciency* i.e., i! not being watched, the wor$ers could per!orm the operation 1.I9 times
in 18 minutes, or one time in 1..: minutes.
?. =1.:A? hrsIw$ > -. minIhr I 1..: minIunit 6 1AA..: unitsIwee$. 05! a student applied the 1? percent
waiting time to B. hours rather than =A.?, this will be 1::.9 unitsIwee$.1
-. 'ee$ly pay a"erages B. > 1: 6 9A8.* so standard labor per operation 6 9A8. I 1AA..: 6 9B..A 0or
9=.:1 !or the alternati"e interpretation o! waiting time1.
C!e
Case 19-1: Bennett Body Company
%oteG This case is unchanged from the Twelfth Edition. Please see the printed Instructors Resource
uide for the !ar"ard Teaching #otes$
Case 19-2: Black Meter Company
%oteG This case is unchanged from the Twelfth Edition.
Approach
%he (lac$ )eter Company description pro"ides a use!ul "ehicle !or understanding a standard cost
system, and it may be desirable to discuss it in considerable detail. %he description in the te&t does not
co"er e"ery number, but it should be ade#uate so that the students can deduce !or themsel"es where each
number on the e&hibits comes !rom, and in particular, how one e&hibit relates to others. Questions 1
through B are designed to !acilitate and build on this detailed analysis and should be assigned only i! the
instructor intends to spend considerable time 0a large !raction o! one class meeting1 on the (lac$ )eter
case. Question ? as$s !or a 3consultant,s appraisal4 o! the system, and raises the discussion to a more
managerial le"el. 'ith all !i"e #uestions, a !ull class period is de!initely re#uired.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
%uestion &
%his #uestion 0and #uestions 8 through B1 should be used only i! the instructor wants to go into the (lac$
)eter Company description in detail. Students can answer it based on in!ormation in the te&t and tracing
the numbers !rom one illustration to the ne&t.
%uestion '
5n a standard cost system, the calculations in 5llustrations 19-- through 19-: are made once a year, or
whene"er standard costs are changed. %he resulting cost, 9?,.=?.89 !or 1.. meters 05llustration 19-:1 is
used without change !or carrying these meters in in"entory and !or calculating cost o! goods sold.
Similarly, the cost o! each component is deri"ed !rom this calculation and used !or carrying these
components in in"entory. 5! an actual cost system were used, records similar to those in 5llustrations 19--
through 19-: would ha"e to be maintained !or each meter order and each part production order, with
actual costs being collected on such records. %his would probably re#uire much more record$eeping than
the standard cost system re#uires. An actual cost system would pro"ide one piece o! in!ormation that the
standard cost system does not pro"ide, namely the actual cost o! speci!ic production orders. %his might be
use!ul to management i!, !or e&ample, it showed that actual costs were tending to dri!t upward throughout
the year. <owe"er, there are other ways o! identi!ying possible ine!!iciencies, such as the di!!erence
between actual and standard direct labor cost, as indicated in 5llustration 19-9.
%uestion (
%his #uestion is more di!!icult than it may appear, as it entails de"eloping the !lowchart shown in 7&hibit
A on page ?-. %he greatest subtlety in 7&hibit A is the accounting !or )aterials 5n"entory. %his account
is debited based on actual #uantities at standard prices but is credited based on standard #uantities at
standard prices. 5! you as$ students to assume a month where purchased #uantities and standard #uantities
issued are e#ual, they should see that any material usage "ariance will be 3buried4 in this account. Nou
can then e&plain 0or get them to reali+e1 that when a physical count is ta$en and costed at standard, then
the di!!erence between this amount and the boo$ "alue o! materials in"entory includes material usage
"ariance. 05t will also include accounting errors and pil!erage.1 %his in"entory ad/ustment restores this
account,s beginning balance !or the ne&t period to actual #uantity at standard prices, and the debit or
credit which ma$es this ad/ustment has its counterpart in an entry to Cost o! Sales. 'e $now !rom the
te&t that this in"entory is ta$en semiannually, and !rom 5llustration 19-11 that this 3usage4 "ariance is
closed to the income statement. %his is a di!!icult concept, which can be re"iewed in the C.L. Church case
in Chapter 8..
Similarly students should see that the direct labor "ariance account combines e!!iciency and rate
"ariances. %hese components o! total labor "ariance are not mentioned in the te&t, but 5 ha"e !ound that
better students can 3in"ent4 them prior to their !ormal presentation in Chapter 8.. (y the same to$en,
some students can see intuiti"ely that the o"erhead "ariance combines spending and "olume e!!ects.
Comparing 7&hibit A with the te&t,s 5llustration 19-8, one sees the two !lowcharts are the same e&cept !or
materials usage "ariance. 5n 5llustration 19-8, this "ariance 3!alls out4 e&plicitly, since )aterials
5n"entory is credited at actual #uantity issued costed at standard prices whereas 'or$ in Drocess is
debited at standard #uantity at standard prices. (oth methods are seen in practice* the te&t,s method seems
superior to (lac$ )eter,s, in that usage "ariance is identi!ied in a more timely !ashion and is not
3muddied4 by pil!erage and accounting errors.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
%uestion )
%his #uestion illustrates the wor$ in"ol"ed in changing standard costs, and is also help!ul in tracing
amounts !rom one illustration to another.
5n 5llustration 19--, the cost o! chamber rings would be increased by 1.A- hours > 91 6 91.A-. %he cost
there!ore becomes 98B9.8B @ 91.A- 6 98?1. %his increase carries through to 5llustration 19-A, ma$ing the
cost 9:-1.=B @ 91.A- 6 9:-=.1.. Linally, it carries through to 5llustration 19-:.
5n addition, 5llustration 19-: is increased by the 91 per hour increase in labor !or 2epartment 1=1. Since
there are 1..8 hours o! labor, the increase is 91..8.. %he total cost !or 1.. meters in 5llustration 19-:
there!ore becomesG
As gi"en............................................................................................................................................................................................... 9?,.=?.89
Add !rom 18.A.................................................................................................................................................................................... 1.A-
Add !rom 1=1....................................................................................................................................................................................... 1..8.
Ad/usted costs...................................................................................................................................................................................... 9?,.BA.8?
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
E&hibit A
'lowchart for (lac) #eter Company
Accounts Dayable )aterials 5n"entory
Act. Qty. C
Act. Drice
Act. Qty. Std.
Drice
Std. Qty. C
Std. Drice
)aterial Drice Variance 5n"entory
Ad/ustment
(alance to Cost o! Sales 7"ery - mos. a physical in"entory is ta$en and
costed at standard. Any di!!erence between this
amount and the 3boo$4 balance is an in"entory
ad/ustment which is closed to Cost o! Sales
'or$ in Drocess 5n"entory>
)aterial
0C Std.1
Sales
C Std.
'ages Dayable
Act. <rs. C
Act. Jate
Habor
0Std. <rs. C
Std. Jate1
2irect Habor Variance
"erhead (alance to Cost o! Sales "erhead 0C
Std.1
Cost o! Sales
Actual Std. <rs. &
"erhead Jate
Sales
C Std.
%o Je"enue
and 7&pense
Summary
"erhead Variance VariancesG
-)aterial price
-)aterials in"entory
ad/ustments 03usage41
-2irect Habor
-"erhead
Any month-end balance in this
account closed to "erhead
Variance (alance to Cost o! Sales
>Lor meter parts, costs !low at standard !rom 'or$ in Drocess to Linished ;oods, and then to Cost o! Sales. %he diagram
here is descripti"e o! complete meters, which are made to order and hence are not in"entoried prior to shipment to the
customer.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
%uestion *
%his or any other system cannot be e"aluated without identi!ying the purposes the system is supposed to
!ul!ill. Although not e&plicitly stated, 5 thin$ it is reasonable to impute the !ollowing purposesG 011 to
pro"ide monthly operating statements* 081 to control costs* and 0=1 to help on a "ariety o! necessary
3chores4 that ha"e to be done, such as paying employees what is due them, $eeping trac$ o! orders and
material, paying suppliers, and billing customers. Since these /obs ha"e to be done anyway, we may be
able to get !igures that will help accomplish the !irst two purposes as an ine&pensi"e by-product o! doing
them.
#onthly *perating tatements
5! we hew strictly to the de!inition that net pro!it is the di!!erence between sales and the cost o! ma$ing
and selling the same goods that are in the sales !igure, this system does not pro"ide net pro!it becauseG
a. %he purchase price "ariance is related to material purchased in the month.
b. %he labor and o"erhead "ariances are related to the products wor$ed on in the month.
c. Various discrepancies creep in that are unco"ered by a physical in"entory only e"ery si& months
5!, howe"er, we as$G 3<ow could you get the actual pro!it i! you wanted toO4 we !ind the answer is
di!!icult, i! not impossible. Suppose an actual cost system were used. %hen, !or each production order o!
each item there would ha"e to be a set o! calculations similar to those in 5llustrations 19-- to 19-:,
whereas under the standard cost system, these calculations are made only once a year. 0Students usually
!ind it hard to belie"e that a standard cost system is much simpler than an actual cost system and re#uires
much less paperwor$ in a situation o! the $ind described.1
5! we try to !ind actual pro!it by the direct determination o! in"entories, we could throw out the cost
accounting system entirely but would ha"e to ta$e a physical in"entory e"ery month* the /ob o! costing
the wor$ in process would be signi!icant.
Lurthermore, e"en i! the 3pro!it4 resulting !rom this system di!!ers somewhat !rom the strict de!inition
abo"e, the income statement may, ne"ertheless, be a use!ul de"ice, since it reports the "ariances that
occurred during the month 0e&cept material usage1. %his is earlier than they would be reported according
to the strict de!inition, and o! course, these "ariances would not show up at all i! a standard cost system
were not used.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
Control
Mo system controls costs. At best, a system pro"ides in!ormation that responsible people can use in the
control process. Deople control.%he system pro"ides no summary !igure on material usage in a month
when no physical in"entory o! materials is ta$en, and the June and 2ecember income statements are
distorted by including usage "ariance !or the pre"ious si& months.%his situation could be impro"ed #uite
easily as !ollowsG i! material in e&cess o! standard is needed, a re#uisition should be !illed out !or this
e&cess. %he amounts o! such re#uisitions can be totaled monthly, with )aterials 5n"entory credited by
this amount, and 3true4 )aterials Psage Variance account debited. %hen the semiannual physical
in"entory will result in a "ariance including accounting errors and pil!erage, but not usage. %his should
largely eliminate the distortions in the monthly income statements
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
which are created by the current procedure. Alternati"ely, )aterials 5n"entory could be credited at actual
#uantity times standard price, and 'or$ in Drocess debited at standard #uantity times standard price 0as in
5llustration 19-81.
%he system pro"ides a total !igure on the direct labor "ariance. Although there is no routine report that
brea$s this "ariance down, it would be possible to reclassi!y with little di!!iculty. Habor rate and
e!!iciency "ariances could also be bro$en down !rom timecards by department, by /ob, or e"en by
operation, but management apparently !eels that this is not worth the e!!ort
(ecause the o"erhead costs are allocated and because e&pected costs will not "ary proportionately with
production "olume, the o"erhead "ariance is not o! much use !or control purposes. %his is characteristic
o! o"erhead costs in a standard !ull cost system, and some students may see the need !or special de"ices
0"ariable budgets and collection o! costs by responsible department1 to handle this situation. At this stage,
howe"er, we can only touch on this matter.
%he $ey control is collecting actual costs by responsibility center, not by product. 5 illustrate this with a
matri&, both in this case and (ennett (ody Company. (oth (lac$ )eter and Conley can determine
"ariances by responsibility center, whereas it is not clear that (ennett can. Similarly, (ennett needs actual
product costs !or !re#uent pricing decisions, whereas (lac$ )eter and Conley do not.
Case 19-3: Brisson Company
%ote: This case is unchanged from the Twelfth Edition.
Approach
%his problem ta$es the student through a complete cycle o! transactions in a standard cost system in a
simple setting. 5t shows how such a system wor$s, including the de"elopment o! "ariances, and ties cost
accounting to the accounting cycle the student learned in Dart 1 o! the boo$. 0(risson,s system is the same
as the one depicted in 5llustration 19-8.1 %his seems to be a "aluable e&ercise, especially in helping to
minimi+e the omnipresent problems students ha"e with production cost "ariance analysis in the ne&t
chapter. 5! not assigned !or class, this ma$es a good e&am case. 0Lor ease in grading, 5 suggest you
prepare !orms with all needed % accounts preprinted on them.1
%uestion &
)aterials 5n"entory 'or$ in Drocess 5n"entory
(al. ?.,8?. 0B1 11:,:1. (al. A?,-.. 091 8-A,-:B
081 1.B,9:. =-,B8. 0B1 11-,-9-
(al. =-,B8. 0?a,:1 A9,8..
0:1 99,... 1.8,:18
Linished ;oods 5n"entory (al. 1.8,:18
(al. 1??,B.. 01.b1 8=8,-.8
091 8-A,-:B 19.,B:8
(al. 19.,B:8
19-1.
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
Accounts Dayable All ther Assets
0=a1 1.8,=.. (al. 1.B,A.. (al. =8?,?.. 0=a1 1.8,=..
081 1.=,?=? 0=b1 198,... 0=b1 198,...
1B=,B=? 0-1 =A,?.. 01.a1 =A?,1?. 0?b1 11-,A..
(al. 1B=,B=? 0-1 1:,=..
0A1 A:,A?.
All ther Hiabilities =:B,-..
(al. BA,8?. (al. =:B,-..
"erhead 'ages Dayable
0?a1 B.,?.. 0:1 99,... 0?b1 11-,A.. (al. -,1?.
0-1 ??,:.. 8,8?. 0?a1 118,:..
0111 8,A.. (al. 8,8?.
"erhead Variance Shareholders, 7#uity
01B1 8,A.. 0111 8,A.. (al. BB:,-?.
?81,=A9 0191 A8,A89
(al. ?81,=A9
Habor Variance )aterial Drice Variance
01-1 -,9.. 0?a,:1 -,9.. 01?1 1,BB? 081 1,BB?
Sales )aterial Psage Variance
0181 =A?,1?. 01.a1 =A?,1?. 0B1 8,11B 01A1 8,11B
Selling and Admin. 7&pense 5ncome Summary
0A1 A:,A?. 01:1 A:,A?. 01=1 8=8,-.8 0181 =A?,1?.
01A1 8,11B 01B1 8,A..
01:1 A:,A?. 01?1 1,BB?
Cost o! Sales 0191 A8,A89 01-1 -,9..
01.b1 8=8,-.8 01=1 8=8,-.8
Motes on entries 0numbered to correspond to the case transactions1G
081 8,?.. C 989.:. @ 1,... C 9=..B: 6 91.B,9:. C std.
91.B,9:. - 91.=,?=? 6 91,BB? credit 0!a"orable1 price "ariance. La"orable price "ariances o!ten
arise in the !irst hal! o! the year* the standard is set to represent the annual a"erage, and with
in!lation, prices will tend to be below this a"erage !or the !irst - months and abo"e it in the latter
hal! o! the year.
0=b1 %he debit re!lects an increase in Cash* the credit represents the decrease in Accounts Jecei"able.
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
0=1 =,8.. C 989.:. @ A.. C 9=..B: 6 911-,-9- !or original issues* plus e&tra 0replacement1 issues as
!ollowsG 1.. C 918.=A @ 8. C 911.8? @ B? C 91..:. @ 8. C 9-.-= @ B C 9:.B= 6 98,11B 0an
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Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
0B1 un!a"orable usage "ariance1* gi"ing total issues o! 911:,:1.. 0MoteG Some students may claim that
the 98,11B in e&tra materials issues were to replace materials that were de!ecti"e, as opposed to
replacing good items that were spoiled in the production places. Such students may treat this 98,11B
as an o"erhead cost* i! so, they will ha"e 9. material usage "ariance and 9?:- !a"orable o"erhead
"ariance.1
0?a1 %his entry stumps many students, at least temporarily. Some will cle"erly set up a labor clearing
account analogous to the o"erhead clearing account, and then charge the standard labor to this
account at entry 0:1 the balance in this labor clearing account will be 9-,9.. dr., which is closed
to Habor Variance. ther students will do what 5,"e done hereFread ahead to entry 0:1, and
deduce the labor "ariance as part o! the entry.
091 =,... C 9A..=. @ :.. C 9A..9: 6 98-A,-:B
01.b1 8,B.. C 9A..=. @ 9.. C 9A..9: 6 98=8,-.8 cost o! sales
0111 %his closes the o"erhead clearing account.
0181-0191 %hese entries close the temporary accounts and income summary.
%uestion '
(+,*% C*#PA%-
,ncome tatement #onth of April
Sales re"enue........................................................................................................................................................................................ 9=A?,1?.
Cost o! sales C standard...................................................................................................................................................................... 8=8,-.8
Standard gross margin.......................................................................................................................................................................... 1B8,?B:
Droduction cost "ariances>................................................................................................................................................................... :,9=1
Actual gross margin............................................................................................................................................................................. 1?1,BA9
Selling and administrati"e e&pense...................................................................................................................................................... A:,A?.
5ncome 9 A8,A89
>Droduction cost "ariancesG
)artial price...................................................................................................................................................................................................................................... 91,BB?L
)aterial usage................................................................................................................................................................................................................................... 8,11BP
Habor................................................................................................................................................................................................................................................. -,9..L
"erhead........................................................................................................................................................................................................................................... 8,A..L
9:,9=1L
Question =
19-1=
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
(+,*% C*#PA%-
(alance heet
As of April ".
Assets Hiabilities and Shareholders, 7#uity
)aterials in"entory.............................................................................................................................................................................. 9 =-,B8. Accounts payable................................................................................................................................................................................. 91B=,B=?
'or$ in process in"entory................................................................................................................................................................... 1.8,:18 'ages payable..................................................................................................................................................................................... 8,8?.
Linished goods in"entory..................................................................................................................................................................... 19.,B:8 All other liabilities................................................................................................................................................................................ BA,8?.
All other asses...................................................................................................................................................................................... =:B,-.. Shareholders, e#uity............................................................................................................................................................................. ?81,=A9
9A1B,=1B 9A1B,=1B
Case 19-4: Landau Company
*

%ote: This case is unchanged from the Twelfth Edition$ The commentary to the Cotter Company case
+case ',-(. e/plains how Cotter and Landau can 0e used as a two-case se1uence.
Approach
5 spend about the !irst hal! o! class wor$ing through the comprehensi"e e&amples shown below. %his 9-
column table co"ers e"ery possible relationship among sales "olume, production "olume, and normal
"olume. 7"en i! students ha"e not been !ormally e&posed to o"erhead "olume "ariance, they #uic$ly pic$
it up. (e!ore class 5 put on the blac$board the headings o! the nine columns and the !irst two lines o! data
0sales and production1, as well as the assumptions. 05! the instructor has limited board space, this can be
prepared as a handout, and !illed out by each student as you do so on a transparency.1
'!ll /s0 12irect3 4Variable5 Costing ,ll!stration
AssumeG Pnit price 9?... M 6 Mormal "olume
Pnit "ariable costs 6 9=... 6 1.. units
Li&ed costs 6 91.....
Lull cost per unit 6 9=... @
units 1..
91..
6 9B... 0Assume no spending "ariances1
*
%his teaching note was written by James S. Jeece. Copyright Q by James S. Jeece.
19-1B
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
S 6 D S R D S S D
Sales 0S1
Ddn. 0D1 T
units
1..
1..
:.
:.
11.
11.
11?
1..
9.
:.
18?
11.
9.
1..
A?
:.
1..
11.
Je"enue............................................................................................................................................................................................... 9?.. 9B.. 9??. 9?A? 9B?. 9-8? 9B?. 9=A? 9?..
2ull Costing
Cost o! ;oods Sold..............................................................................................................................................................................
;ross )argin........................................................................................................................................................................................
Volume Variance.................................................................................................................................................................................
Dro!it....................................................................................................................................................................................................
B..
1..
--
91..
=8.
:.
08.1
9 -.
BB.
11.
1.
918.
B-.
11?
--
911?
=-.
9.
08.1
9 A.
?..
18?
1.
91=?
=-.
9.
--
9 9.
=..
A?
08.1
9 ??
B..
1..
1.
911.
3aria0le Costing
Cost o! ;oods Sold..............................................................................................................................................................................
Contribution.........................................................................................................................................................................................
Li&ed Costs...........................................................................................................................................................................................
Dro!it....................................................................................................................................................................................................
=..
8..
1..
91..
8B.
1-.
1..
9-.
==.
88.
1..
918.
=B?
8=.
1..
91=.
8A.
1:.
1..
9:.
=A?
8?.
1..
91?.
8A.
1:.
1..
9 :.
88?
1?.
1..
9?.
=..
8..
1..
91..
C C C C C C
bser"eG S 6 D, no di!!erence* S R D, greater pro!it with "ariable costing* S S D, greater pro!it with !ull
costing. Compare columns C and * same sales, but di!!erent pro!its with !ull costing* same pro!it with
19-1?
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
"ariable costingFditto !or C and C.
5 then complete column 5 !or !ull costs only, then ha"e students do the remaining eight. Me&t, 5 raise this
board and e&tend the nine columns !or "ariable costing, again doing the !irst column mysel! and ha"ing
students try the others. 'hen all nine columns are completed, 5 thin$ e"en the wea$est students
understand the di!!erent mechanics o! the two systems.
Me&t, 5 as$ them to generali+e about which system shows the greater pro!it i! S6D, i! S R D, and i! S S D
0shown as 3bser"e4 in the table1. 5 also ha"e them compare columns 1 and 9, and then ? and A. 5n both
instances sales were e#ual* but !ull costing showed di!!erent pro!its, whereas "ariable costing showed
e#ual pro!its. 5 then proceed to discuss the Handau case.
%he central issue is the desirability o! "ariable costing !rom the point o! 011 the users o! balance sheet and
income statement in!ormation 0management, stoc$holders, creditors, etc.1, 081 as an aid in pricing, and
0=1 as an aid in control.
,ncome tatements. 5t is instructi"e to reconcile the di!!erence in preta& income under the methods !or at
least one o! the two months. 5 begin by noting that the di!!erence between the two systems is in how
budgeted !i&ed o"erhead costs 3!ind their way to the income statement.4 'ith "ariable costing, budgeted
!i&ed costs 0and actual, !or that matter1 !or a gi"en month are charged to that month,s income statement*
this is simple, but clearly a "iolation o! both the cost concept !or asset 0in"entory1 "aluation and the
matching concept. 'ith !ull costing, budgeted !i&ed costs are charged to income in two piecesG the
standard !i&ed costs in cost o! sales 0consistent with the matching concept1 and the o"er- or
underabsorbed budgeted !i&ed costs in that month,s o"erhead "olume "ariance 0not consistent with the
matching concept i! closed to the monthly DUH, which is the usual practice1. %hus, to reconcile the
di!!erence in reported income, we need to identi!y the amount o! budgeted !i&ed costs in the month,s
income statement !or each method. Lor June and July, the reconciliation isG
4une 4uly
Lull standard cost o! sales.................................................................................................................................................................... 9B:B,-B. 9?81,A?:
Variable standard cost o! sales............................................................................................................................................................. ==A,?1A =-=,=-A
(udgeted !i&ed costs in cost o! sales.................................................................................................................................................... 1BA,18= 1?:,=91
"erhead "olume "ariance................................................................................................................................................................... 01,A=.1 -=,AA9
(udgeted !i&ed costs charged to income with absorption costing........................................................................................................ 1B?,=9= 888,1A.
(udgeted !i&ed costs charged to income with "ariable costing............................................................................................................ 198,::= 198,::=
2i!!erence............................................................................................................................................................................................ 09 BA,B9.1 9 89,8:A
Chec$G
Dreta& income, "ariable costing....................................................................................................................................................... 9 ==,?=9 9-?,.99
Dreta& income, absorption costing................................................................................................................................................... :1,.89 =?,:18
2i!!erence................................................................................................................................................................................... 9 0BA,B9.1 989,8:A
! course, the abo"e calculations can be per!ormed using actual !i&ed costs charged to the income
statement rather than budgeted. (ut since both costing approaches treat the o"erhead spending "ariance
the same way, the di!!erence in pro!it must be a !unction o! the treatment o! budgeted !i&ed costs. Also,
some students will as$ how we $now that the 9198,::= is a budget !igure rather than actual. %here are
two reasonsG 011 it seems too great a coincidence !or the actual amount to be e&actly the same in both
months* and 081, more important, it wouldn,t ma$e sense to show an o"erhead spending "ariance i! the
amount shown !or o"erhead were an actual amount.
19-1-
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
Students should also be prepared to e&plain to Sil"er why the sum o! the two months, absorption costing
net incomes is 9-.,A?A, whereas !or "ariable costing it is 9?1,891. As stated in the te&t 0and pro"en in
Appendi& (1, !or any period in which production "olume e&ceeds sales "olume, !ull costing reports
higher income than "ariable costing. %hus, !or the combined June-July period, Handau,s production
"olume must ha"e e&ceeded its sales "olume. 0%his was also true !or June, but not !or July.1 "er the
course o! an entire year, i! 0but only i!1 the annual sales and production "olumes are e#ual the month-to-
month income di!!erences will wash outi.e., annual income will be the same under either method.
Comments on 6!estions
%uestion &
5n the order o! their being mentioned in the case, the "arious stated pros and cons o! "ariable costing,
together with my reactions to them, are as !ollowsG
1. DroG %erry Sil"er doesn,t understand income changes in absorption costing attributable solely to
production "olume changes. %o me, this is an important reason to consider seriously the introduction
o! "ariable costing !or monthly management reports.
8. DroG 5t eliminates time-consuming and argumentati"e !i&ed o"erhead allocations. %his is only a partial
truth. Absorption costing statements would need to be prepared at least annually, and perhaps
#uarterly, !or shareholder reporting and income ta& calculations. <owe"er, this restatement could be
done using a plant-wide, a!ter-the-!act o"erhead rate. 2epartmental predetermined o"erhead rates
would not need to be de"eloped as part o! the process o! preparing the standard cost sheet !or each
product.
=. DroG Cost control will be impro"ed. 5 don,t !eel this is necessarily the case. Certainly a clear
segregation o! !i&ed and "ariable costs aids in cost control, because "ariable costs are controlled
essentially on a unit-o!-product basis 0e.g., did we spend more or less than 91A.-= per unit !or raw
materialsO1, whereas !i&ed costs are controlled on an amount-per-time-period basis 0e.g., was our July
!actory super"ision cost abo"e or below budgetO1 <owe"er, absorption costing does not preclude this
sort o! cost analysis in any way. %he chie! ad"antage o! "ariable costing is that it eliminates the o!ten-
con!using o"erhead "olume "ariance.
B. DroG Contribution margin data are better signals o! product pro!itability than are gross margin data.
Sil"er,s contention here is only a partial truth. 5n the e&ample gi"en, it is true that i! a customer were
indi!!erent between buying 91,... worth o! 189 or 91,... worth o! 8B= then Handau would be 9:B
better o!! selling 91,... worth o! 189. <owe"er, i! the allocations o! !i&ed costs are reasonably
e#uitable, then 189 is causing more !i&ed costs to be incurred per dollar o! sales V098.?B - 91.=:1 I
9B.=B 6 8-.AEW than is 8B= V09=..? - 98.=A1 I 9?.:9 6 11.?EW. 7"en though these !i&ed costs may be
sun$ costs in the short run, in the longer run they are not. %hus, which o! the two products is more
pro!itable is a matter o! the time hori+on being considered.
Students can understand this better i! you use an e&aggerated e&ample. Suppose that products X and
N are substitutes in the eyes o! the customer, and that they ha"e the same selling price per unit, 91..
(oth ha"e the same material costs, but X is made with a manual process whereas N is made by highly
automated e#uipment. %hus X has a much smaller contribution margin per unit than does N. Can we
say that N is more pro!itableO
19-1A
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
?. ConG )ar$eting will underprice products i! only the "ariable cost per unit is emphasi+ed. 5 can,t agree
with the treasurer,s condescending attitude about mar$eting managers, understanding o! the business
as a whole. 5n mar$eting, as in other areas o! the company, "ariable cost data are use!ul !or some
decisions, whereas !ull cost data are use!ul !or others. 5! top management belie"es that mar$eters 0or
any other decision ma$ers1 will misuse "ariable cost data, this argues !or educating the decision
ma$ers, not suppressing the data.
-. ConG Hac$ o! control o"er long-run costs can ban$rupt a company. %his is true, but really has nothing
to do with the "ariable costing proposal. 5t is e#ually true that i! short-run costs get out o! control, the
company won,t ha"e a long run to worry about. 5! in this company the introduction o! "ariable
costing will introduce !or the !irst time the routine separation o! !i&ed and "ariable costs, then it is
#uite possible that control o"er all costs will be enhanced, as the controller is asserting.
A. ConG Hower pro!its will be worrisome to shareholders and ban$ers 0e"en though lower pro!its are
desirable !or union negotiations and income ta&es1. %his is a totally !allacious argument. Variable
costing is not permitted under either ;AAD or income ta& regulations. )oreo"er, the president
doesn,t understand that, i! !or the year, the sales and production "olumes are e#ual, then both
methods report the same income.
%o me, the $ey point is that this is not an 3either-or4 issue. Companies should consider designing
their account structure so that "ariable costs are segregated !rom !i&ed costs. %hese cost data represent
a data base, the elements o! which can be put together in di!!erent ways !or di!!erent purposes. As
stressed in Chapter 1A, !ull cost data are use!ul !or certain purposes* and as stressed in Chapters 8-
and 8A, they are not use!ul !or other purposes. %hat is the o"erall point 5 try to ma$e with the Handau
case.
%uestion '
Co"ered in abo"e comments.
5dditional %uestion
5! using the case 0as 5 do1 with Chapter 8. a!ter the Cotter case, 5 assign this additional #uestionG 3<ow
busy 0relati"e to normal "olume1 was Handau,s !actory in June and JulyO4
As demonstrated to students in the Cotter Case, we $now thatG
costs !i&ed (udgeted
costs !i&ed Absorbed
normal o! E as "olume Actual =
'e also $now that the o"erhead "olume "ariance e#uation is e#ui"alent toG
Absorbed !i&ed costs 6 (udgeted !i&ed cost @ Volume "ariance
%hus !or Handau we ha"eG
mal nor o! 1...9E
198,::=
1,A=. 198,:==
Volume G June =
+
=
19-1:
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
mal nor o! --.9E
198,::=
1 AA9 , -= 0 198,:==
Volume G June =
+
=
Case 19-5: Lynchs Chicken !anch
%ote: This case is unchanged from the Twelfth Edition.
2isc!ssion
%his case raises two cost-related issuesG /oint- 0or by-1 product costing and trans!er pricing. %he issues are
salient in the case because the accounting treatments a!!ect di"ision pro!its and, conse#uently, the
di"ision managers, bonuses.
5t is use!ul to start the class by clari!ying the interdependencies among the di"isions. %hey are illustrated
in Ligure %M-1 below.
%he issue that pro"o$ed the discussion is the cost o! !eed, which has risen by 8.E recently. %his rise has
caused the 7gg 2i"ision to become unpro!itable. ;ary 2awson, the 7gg 2i"ision manager, points out in
the case that while the mar$et prices o! corn !eed ha"e increased, due to a drought in corn-growing
regions, Jon Johnson,s Leed di"ision was not a!!ected by the drought. <ence, the cost o! corn !eed
produced by Hynch,s Chic$en Janch ha"e not increased, and ;ary does not want to ha"e to absorb !eed
cost increases.
5n his search to stem his losses, ;ary is attempting to boost his bottom-line by capturing some o! the
gains !rom the sale o! !ertili+er stemming !rom reprocessing o! chic$en droppings. 7gg 2i"ision
employees collect the waste and deli"er it to the Lertili+er 2i"ision, which uses automated 3digesters4 to
con"ert the waste into a mar$etable product.
%he current trans!er price o! the waste is +ero. ;ary 2awson argues that the waste ob"iously has "alue,
and that "alue stems !rom his chic$ens, ine!!icient digesti"e processes. Lorty percent o! the nutrients the
chic$ens eat is e&creted in the waste. <ence, he wants the Lertili+er 2i"ision to pay !or B.E o! the cost o!
!eeding the chic$ens. Judy replies that ;ary is already getting a large bene!it !rom her con"erting the
waste to !ertili+er. <e !ormerly had to pay 98..,...-8?.,... to ha"e the droppings remo"ed.
Figure TN-1
Division Interdependencies
"ee# D$%$$o&
Ron Johnson
E'' D$%$$o&
Gary Dawson
"er($l$)er D$%$$o&
Judy Smith
Feed !orn"
soy#eans
!orn
mu$ch !hic%en droppings
19-19
Chapter 19 - Standard Costs, Variable Costing Systems, Quality Costs, and Joint Costs
5n this e&ample, the chic$en droppings can be seen as a by-product o! producing the eggs, or eggs and
!ertili+er can be seen as /oint products.
'hile it is generally desirable to use mar$et-based trans!er pricing in situations li$e this, where products
are undi!!erentiated and mar$ets are competiti"e 0see Chapter 881, in this case the use o! mar$et-based
trans!er prices allow Jon Johnson,s Leed 2i"ision to reap wind!all gains. ;ary is re#uesting a reduction
in the prices his di"ision has to pay !or !eed. Jon Johnson says that he can sell the !eed outside at the
mar$et price, so he should not be !orced to trans!er it internally at an arti!icially reduced price.
Jon,s logic is correct. %he opportunity cost !or Hynch,s Chic$en Janch is the current mar$et price.
<ence, that is the price that the 7gg 2i"ision should pay !or the !eed. 5! that ma$es the 7gg 2i"ision loo$
unpro!itable, so be it. )aybe the price o! eggs should rise to o!!set the increase in the operating costs. (ut
what i! the competitors don,t !ollow the price increaseO
%here is no simple answer to the /oint-costing problem. %he pro!its on the !ertili+er produced !rom the
chic$en waste can be attributed solely to the Lertili+er 2i"ision or the 7gg 2i"ision, or the pro!its can be
shared. 5! the pro!its !rom this type o! !ertili+er become highly signi!icant to both di"isions, then it might
ma$e sense to combine the 7gg and Lertili+er 2i"isions into one. 5t would be a di"ision with two products
Feggs and !ertili+er. 5! these pro!its are relati"ely small, then !i&ing a trans!er pricing policy and setting
budgets accordingly should pro"ide a reasonably good solution to an intractable problem.
19-8.