QUESTION 2

QUESTION 2 Solomon Ltd manufactures and sells a single product. The company uses a standard marginal costing system to set budgets. A flexible budget was produced at the beginning of the year 2021 to allow management to identify cost and revenue behaviour patterns, and the results are provided below: Production and sales (units) 10,000 20,000 f Sales Revenue Direct Materials Direct Labour Production Overhead Profit / Loss 500,000 220,000 150,000 110,000 20,000 12,000 600,000 264,000 180,000 122,000 34,000 15,000 750,000 330,000 225,000 140,000 55,000 1,000,000 440,000 300,000 170,000 90,000 In August 2021, Solomon Ltd planned to produce and sell 17,000 units but actual results were 18,000 units. Actual revenue and costs for that particular month are provided below: Production and sales (units) 18,000 Sales Revenue Direct Materials (72,000 kgs) Direct Labour (18,000 hours) Production Overhead Profit / Loss 990,000 432,000 324,000 204,000 30,000 The managing director of Solomon is surprised that actual profit for August 2021 is only 30,000. He has requested for a detailed investigation to be conducted since the flexible budget produced at the beginning of the year shows higher profits at lower sales units. To support the investigation, the management accountant has provided the following information: Each unit of the product requires 4 kg of materials and 45 minutes of labour as standard. A total of 72,000 kg and 18,000 labour hours were used in August 2021. The variable production overhead is incurred in direct proportion to the number of direct labour hours worked. Actual fixed production overhead in August 2021 was 60,000. Solomon Ltd operates a zero-stock policy and there were no stocks either at beginning or end of August 2021. REQUIRED (a) Prepare a flexed budget for the actual level of activity and calculate the following variances for the month of August 2021, indicating clearly whether the variance is favourable (F) or adverse (A). Sales volume contribution and sales price variances; Direct material price and usage variances: Direct labour rate and efficiency variances; Variable production overhead expenditure and Variable production overhead efficiency variances: Fixed production overhead expenditure variance. [14 marks] (b) Critically discuss whether companies such as Solomon Itd should perform detailed investigations in all of their reported variances. (Maximum 600 words)