Company Background
CEMEX (Cementos Mexicanos) fabricates large concrete slabs. The company had achieved remarkable growth in recent years, becoming an important player in the production of specialized concrete slabs that are used in commercial buildings and high rises. Despite its rapid growth and rise in sales, CEMEX has experienced a significant rise in production costs recently, forcing managers to look into the causes of this problem. To better manage production costs, assume that you and your teammates were hired by the company as cost accountants to help them design a standard costing system to monitor production costs at the concrete slab factory.
Setting Cost Standards
To gather information for creating the cost standards for the fiscal year (2017), you first studied the accounting and production records for the past year. Then, you reviewed the 2017 fiscal year's production scheduled, which showed a planned production volume of 90,000 concrete slabs.
Direct costs standards
You also identified the following production inputs and direct costs for producing the slabs:
cement mix, sand, water, and direct labor. Because sand and water are readily available at a plant's reservoir, the company does not incur any costs for these two inputs. Therefore, the only material cost incurred is for the cement mix. After speaking with process engineers, the standard cost per cement mix is set at $10 per ton of cement. You also estimate that it should take about 1 ton of cement mix per each slab of concrete.
In addition, the cost standard for direct labor is set at $10 per hour, and the standard of quantity of labor required to produce 100 slabs of concrete is set at one direct labor hour. In other words, it costs about $0.10 cents in direct labor to produce one single concrete slab.
Manufacturing overhead cost standards
You turn next to estimate manufacturing overhead costs. Variable overhead costs consisted of the salaries of supervisors, depreciation of equipment, and electricity costs mainly related to the use of the ovens and machinery. You estimated the fiscal year's variable manufacturing overhead costs at $80,000 and decided to use direct labor hours to allocate variable manufacturing overhead into units of output (slabs). You also estimated that the plant would work 40,000 direct labor hours on the fiscal year. Thus, the variable overhead standard rate is set at $2 per direct labor hour.
You then classified all remaining overhead costs as fixed and estimated the fiscal year's fixed overhead spending at $180,000. After considering several allocation bases for the fixed overhead costs, you decided that volume of production would be appropriate as the allocation base to apply fixed overhead costs. With a planned production of 90,000 slabs for the fiscal year, the standard fixed overhead allocation rate is set at $2 per unit of output (per slab).
Refer to Exhibit 1 below for a summary of the costs standards mentioned previously.
Actual results
The following actual costs and production data are reported at the plant at the end of the fiscal year (assume that the 2017 fiscal year has already ended):
- 100,000 slabs were produced.
- The company purchased 130,000 tons of cement mix for $975,000.
- 120,000 tons of cement mix was used in production.
- Direct labor costs incurred were $16,500 and 1,100 direct labor hours were worked during the year.
- Actual fixed manufacturing overhead costs amounted to $175,000 and variable manufacturing overhead to $2,500.
Requirements
1. Calculate the price and efficiency variances for direct materials and direct labor and interpret each answer.
2. Calculate the spending and efficiency variances for variable manufacturing overhead and the spending and production volume variances for fixed manufacturing overhead and interpret each answer.
3. (a) Explain thoroughly what each of the six cost variances mean and then discuss possible reasons as to why each variance arises. (b) Also, discuss some of the actions that the company could implement to minimize the cost variances and reduce its production costs. [Be as thorough as possible]
4. Reconcile the four manufacturing overhead costs variances in the accounting books. What do you conclude, is the amount of overhead applied to the actual units in the period under- or over-allocated?
5. Prepare the necessary journal entries to record the production costs and the corresponding cost variances for direct materials, direct labor, variable and fixed overhead in the accounting books.
6. Assume the company closes out the cost variances to Cost of Goods Sold. Prepare the necessary journal entries to write-off all direct and overhead cost variances at the end of the accounting period.