Flexible Budgets, Direct Cost Variances, And Management

flexible Budgets Direct Cost Variances And Management Co

Prepare a performance report that uses a flexible budget and a static budget based on the provided financial data for Sweeney Enterprises, a tire manufacturer serving the Formula I racing circuit. The report should analyze the company's actual performance for August 2017 against its budgeted expectations, incorporating all relevant variances, and clearly distinguish between flexible budget variances and sales-volume variances.

The company's budgeted and actual results are as follows: For August 2017, Sweeney Enterprises planned to produce and sell 3,600 tires at a budgeted selling price of $114 per tire, with a variable cost of $71 per tire and total fixed costs of $55,000. The actual results showed production and sales of 3,500 tires, at an actual selling price of $116 per tire, with total variable costs of $280,000 and fixed costs of $51,000.

Paper For Above instruction

The performance evaluation of Sweeney Enterprises for August 2017 necessitates a detailed analysis incorporating both static and flexible budgets, as well as variance analysis relative to actual financial results. This approach enables management to identify the sources of operational variances and to make informed decisions for future periods.

Static Budget Overview: The static budget is developed based on the expected activity level—planning to produce and sell 3,600 tires. At a selling price of $114 per tire, the budgeted revenue amounts to:

  • Budgeted Revenue: 3,600 units x $114 = $410,400

The variable costs are calculated at $71 per tire:

  • Budgeted Variable Costs: 3,600 units x $71 = $255,600

The contribution margin, which is the difference between revenue and variable costs, is:

  • Budgeted Contribution Margin: $410,400 - $255,600 = $154,800

Fixed costs are given as $55,000, and incorporating these yields the operating income:

  • Budgeted Operating Income: $154,800 - $55,000 = $99,800

Actual Results: The actual sales involved 3,500 tires sold at a price of $116 each, with total variable costs of $280,000 and fixed costs of $51,000. The actual revenue, variable costs, and contribution margin are:

  • Actual Revenue: 3,500 x $116 = $406,000
  • Actual Variable Costs: $280,000 (as given)
  • Actual Contribution Margin: $406,000 - $280,000 = $126,000
  • Actual Operating Income: $126,000 - $51,000 = $75,000

Flexible Budget Calculation: To analyze variances effectively, the flexible budget adjusts the static budget to reflect the actual level of activity—sales of 3,500 units. The revenue at this volume, with actual selling price, is:

  • Flexible Budget Revenue: 3,500 x $116 = $406,000

Variable costs are expected to be at $71 per unit for 3,500 units:

  • Flexible Budget Variable Costs: 3,500 x $71 = $248,500

Thus, the flexible budget contribution margin is:

  • Flexible Budget Contribution Margin: $406,000 - $248,500 = $157,500

Comparing actual results to the flexible budget reveals variances attributable to sales price, sales volume, and cost control. The variances are calculated as the absolute difference between actual and flexible budget figures:

  • Revenue Variance: |$406,000 - $406,000| = $0
  • Variable Cost Variance: |$280,000 - $248,500| = $31,500
  • Contribution Margin Variance: |$126,000 - $157,500| = $31,500
  • Operating Income Variance: |$75,000 - $99,800| = $24,800

Analysis of Variances: The revenue variance is zero because actual revenue aligns with the flexible budget at the actual sales volume and price. The unfavorable variable cost variance of $31,500 suggests higher variable costs than planned, possibly due to increased materials prices or inefficiencies. The contribution margin decreased by the same amount, while the operating income fell short of expectations by $24,800, reflecting both cost overruns and possibly pricing impacts.

Sales-Volume Variance: This variance isolates the effect of selling fewer units than planned, holding price and costs constant at flexible budget levels. The sales volume variance is:

  • Sales-Volume Variance in Revenue: |(Actual units - Budgeted units) x Budgeted price| = |(3,500 - 3,600) x $114| = $11,400 (Unfavorable)
  • Variable Cost Variance due to Volume: |(3,500 - 3,600) x $71| = $7,100 (Unfavorable)

These variances signify that lower sales volume adversely impacted revenue and contribution margin, underscoring the importance of sales performance in profitability.

Concluding Remarks: The analysis reveals that although the actual selling price was higher than planned, increased variable costs and reduced sales volume significantly impacted the company's operating income. Management should focus on controlling variable costs and boosting sales volume to improve profitability. The comprehensive variance analysis provides valuable insights for strategic decision-making and operational improvements.

References

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