Problem 11-46 Interactions Between Variances; Flexible Manufacturing System

Eastern Auto Parts Company manufactures replacement parts for automobile repair. The company recently installed a flexible manufacturing system, which has significantly changed the production process. The installation of the new FMS was not anticipated when the current years budget and cost structure were developed. The installation of the new equipment was hastened by several major breakdowns in the companys old production machinery. The new equipment was very expensive, but management expects it to cut the labor time required by a substantial amount. Management also expects the new equipment to allow a reduction in direct-material waste. On the negative side, the FMS requires a more highly skilled labor force to operate it than the companys old equipment. The following cost variance report was prepared for the month of July, the first full month after the equipment was installed.

Required: Comment on the possible interactions between the variances listed in the report. Which ones are likely to have been caused by the purchase of the new production equipment? The company budgets and applies production overhead on the basis of direct-labor hours. (You may find it helpful to review the discussion of variance interactions in Chapter 10.)

EASTERN AUTO PARTS COMPANY Cost Variance Report For the Month of July Direct material: Standard cost Actual cost Direct-material price variance Direct-material quantity variance Direct labor: Standard cost Actual cost Direct-labor rate variance Direct-labor efficiency variance Production overhead: Applied to work in process Actual cost Variable-overhead spending variance Variable-overhead efficiency variance Fixed-overhead budget variance Fixed-overhead volume variance $602,450 598,700 150 3,900F 393,000 383,800 4,800U 14,000F 400,000 408,000 8,000U 10,000F 30,000U (20,000) EASTERN AUTO PARTS COMPANY Cost Variance Report For the Month of July Direct material: Standard cost Actual cost Direct-material price variance Direct-material quantity variance Direct labor: Standard cost Actual cost Direct-labor rate variance Direct-labor efficiency variance Production overhead: Applied to work in process Actual cost Variable-overhead spending variance Variable-overhead efficiency variance Fixed-overhead budget variance Fixed-overhead volume variance $602,450 598,700 150 3,900F 393,000 383,800 4,800U 14,000F 400,000 408,000 8,000U 10,000F 30,000U (20,000)