Advanced Variance Analysis

Advanced Variances are part of P2 (Advanced Management Accounting) CIMA syllabus and seem to be problematic for most of the students. Here is our video about Mixed and Yield Variances and Planning and Operational Variances.

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00:00:13 (bright light music)
00:08:26 - [Instructor] Hello, in this video
00:10:01 we're going to be having a look
00:11:04 at some of the advanced variances that are examinable
00:13:24 for CIMA P2 Advanced Management Accounting
00:17:13 and the two sets of Advanced Variances
00:19:17 we're gonna be looking at in this short video
00:21:21 are Mixed and Yield variances
00:24:08 and Planning and Operational variances.
00:27:21 So let's start off then, by|looking at Mix and Yield.
00:33:00 Traditionally, we would|calculate variances
00:35:22 for materials based on price and usage.
00:41:12 Now if there are more than one materials
00:46:10 input into a process
00:48:20 and there is an element|of substitutability
00:58:00 between those products...
01:03:27 So for example, we might have...
01:07:03 Going into a pasta sauce
01:08:24 we're gonna be having|to look at in a minute,
01:10:13 we might have some|tomatoes and some onions
01:12:20 going into a pasta sauce,
01:14:02 you could have more|onions and less tomatoes
01:16:22 and that would be a difference in mix
01:19:02 and it makes sense to|consider the impact then
01:21:07 of a difference in mix.
01:23:01 What we're not gonna be|looking at here is for example,
01:25:06 if you were making cars, it|would be an odd thing to say
01:28:23 you can substitute|steering wheels for tires,
01:32:14 you couldn't really have
01:33:09 one more steering wheel and one less tire,
01:35:04 it just wouldn't work.
01:36:16 So if there's an element|of substitutability
01:38:16 between the materials, you've|got more than one material,
01:41:19 then we can have a look at the impact
01:43:10 of the inputs being in a|different mix to a standard
01:47:10 and the financial impact of that
01:49:08 and also the yield, the results,|what came out, the outputs
01:54:20 from the process compared|to what should've come out.
02:06 So the mix and the yield|variances between them
02:03:04 are a sub-analysis of the usage variance,
02:05:28 so that means, if you add|together mix and yield,
02:09:05 you should get back to your|traditional usage variance.
02:12:15 Easiest to see, as always I|think, by looking at an example,
02:16:02 so we're gonna have a look at|that pasta sauce example now.
02:19:10 So what we've got on|the left-hand side here
02:21:11 is the standard cost card, so|it's just a standard recipe
02:24:19 for one batch of pasta sauce.
02:26:11 We have a kilo of onions goes in there
02:29:03 and we have a kilo of tomatoes,
02:31:05 the onions are relatively|inexpensive at $2.00 a kilo,
02:34:17 the tomatoes, $4.00 a kilo,
02:36:27 so the cost of one batch of pasta sauce
02:40:09 is $6.00 worth of materials.
02:42:20 So that's our standard, that's our budget,
02:45:02 that's our recipe.
02:47:04 What actually happened in the period
02:48:21 we're gonna be looking|at is we made 550 batches
02:52:09 using 600 kilos of tomatoes|and 530 kilos of onions,
02:58:07 so I can already tell, in|terms of the mix there,
03:02:22 that we've used more onions than tomatoes
03:06:09 and in the standard mix it|was equal amounts of each one,
03:09:19 so that must mean it's|a more expensive mix,
03:12:10 I'm expecting not good news
03:14:11 when it comes to the mix variance.
03:17:20 So mixed variance, first of all then,
03:20:10 is trying to look at the|financial impact of the inputs
03:24:24 having gone into the cooking process
03:28:27 at a different mix to standard.
03:33:00 So first of all, here's our actual mix,
03:36:29 we actually put in 530 kilos of onions
03:40:16 and 600 kilos of tomatoes,
03:43:06 so in total, 1,130 kilos|of material went in.
03:47:28 What we're looking at|now is that 1,130 kilos
03:51:27 in total that went in, if that|went in in the standard mix
03:55:15 and that was half and|half onions and tomatoes,
03:59:09 then that would have|been 565 kilos of each.
04:02:09 All we've done there is|take the 1,130 total inputs
04:07:17 and split it 50/50 between the two.
04:11:07 So we've got 'Actual inputs did take'
04:13:24 and 'Actual inputs should take',
04:17:11 I suppose we could change the word
04:19:04 from 'take' to 'mix' there,|'Actual input did mix'
04:23:23 and 'Actual input should mix'.
04:27:15 So we've got, for onions,
04:31:04 the actual inputs did go in, 530,
04:35:02 should have don 565, so|we've used 35 less onions
04:40:17 than the standard mix, so|that's good news in itself,
04:43:16 multiply that by the standard price,
04:46:28 because this isn't a price variance,
04:48:10 so it's always valued up at standard,
04:49:27 just like the usage variances,
04:52:01 gives it a $70.00 favorable|variance on onions.
04:55:19 But when we look at tomatoes,
04:57:18 we actually used 600 kilos of tomatoes
05:04 compared to the standard recipe of 565,
05:02:29 so we were 35 over there|and they are more expensive,
05:07:05 so 35 times $4.00 is $140.00 adverse,
05:11:14 so overall, we've got|an adverse mix variance,
05:15:24 because we're using more of|a more expensive ingredient.
05:21:28 So mix; inputs-focused,
05:25:05 yield; what's come out,|given what's gone in.
05:28:13 So, our standard cost card
05:30:25 said we needed two kilos of|materials to produce one batch,
05:34:14 so given that 1,130 kilos went in,
05:38:18 we would have expected that to produce,
05:40:15 divide that by two, 565 batches.
05:45:07 What it did yield was 550 batches,
05:50:19 which is not great again,
05:51:27 that's 15 batches less than|we would have expected.
05:55:02 Now we are concerned about|the mix of that 1,130,
05:58:12 because this isn't the mix variance,
05:59:22 we've already looked at that,
06:00:18 so we're just looking at it|in total and we value that up,
06:03:23 remember that's 15 batches of pasta sauce
06:06:27 and a standard cost of a batch|of pasta sauce was $6.00,
06:11:24 so 15 x 6 gives us
06:15:18 an adverse yield variance of $90.00.
06:21:03 So if I take the mix and yield variance
06:22:22 and add them together,
06:23:28 that comes out to my overall|usage variance on materials,
06:27:21 90 + 70 is 160 adverse.
06:32:12 Now you can apply this to|labor as well actually,
06:35:08 so you'd use different grades of labor,
06:38:09 as opposed to different types of material,
06:40:02 but you do very similar|calculations there.
06:44:08 So that's Mix and Yield then.
06:46:02 The other set of variances|we're gonna look at
06:48:09 is Planning and Operational variances,
06:50:08 which is essentially correcting the budget
06:52:21 to make it a fair benchmark.
06:54:21 What we traditionally do, is|compare the actual results
06:59:06 with our original budget,|our flexed original budget
07:03:16 and say; Is it favorable or adverse?
07:06:25 What we're saying now is; If|the budget needs revising,
07:09:25 because of either a mistake|in the original budget
07:13:09 or things outside the organization's|control have happened,
07:16:15 like the market shrunk
07:18:03 or the worldwide price|of something has gone up,
07:21:19 something like that, then|we should correct the budget
07:24:27 for those things before|we actually use them
07:28:02 to assess our actual performance.
07:30:14 So what we'd do, first of|all, is correct the budget
07:33:28 and that's what we're gonna|call a Planning Variance
07:37:02 and then, once you've|corrected the budget,
07:39:12 you then compare the actual|results to that corrected budget
07:44:06 and that's what we call|the Operating Variance.
07:47:16 The planning variance plus|the operating variance
07:49:25 should come back to the|traditional variance overall,
07:53:27 but what we're doing here
07:54:22 is ensuring we've got the|correct accountability,
07:57:08 because the people who|produce the actual results
08:00:13 should be held accountable|for the operating variances
08:03:19 and the people who put the plans together
08:05:08 should be held accountable|for the planning variances,
08:08:21 but let's have a look at an example.
08:11:02 So if we have an original budget
08:13:15 of 10,000 kilos of material
08:16:23 at $5.00 a kilo and that comes to $50,000
08:19:27 and let's suppose we actually|purchased 11,000 kilos
08:24:08 at $5.50 a kilo, that|would come to $60,500,
08:29:27 so the traditional variance|would just be to compare--
08:34:00 Suppose though, there's an|error in the original budget
08:36:14 and it should have said|$6.10 rather than $5.00.
08:39:22 Let's say the world price of this material
08:41:23 went up over the period,
08:44:07 it's not fair to assess actual performance
08:47:00 with that original $5.00|if it's now out of date,
08:50:10 so what we're gonna do, first of all,
08:52:11 is correct that to $6.10.
08:54:24 So we always flex to actual,
08:56:17 so 11,000 kilos originally cost $5.00
09:00:11 in the original budget,
09:01:25 but now we're gonna correct that to $6.10,
09:04:08 so that means that we're|gonna increase the costs
09:08:15 for what we would have expected|to have to pay to $67,100
09:13:12 and that's an adverse variance,
09:15:09 because it's increasing our costs.
09:17:08 All planning variances are bad news,
09:19:17 whether they're technically|favorable or adverse,
09:21:22 it just means the plans|weren't right, that's all,
09:23:19 but $12,100 is a planning variance
09:25:28 and we'd need to see the person
09:27:13 who put the budget|together to discuss that.
09:30:06 Now we've corrected that|benchmark to $67,100,
09:34:09 we can now use that as a fair benchmark
09:38:08 for comparing to our actual performance,
09:40:00 so actually, a fair benchmark is $6.10,
09:43:21 it actually only cost us $5.50,
09:46:15 so by the time we multiply|those each by 11,000 kilos,
09:49:29 that comes out to be $6,600 favorable,
09:54:07 so in actual fact,
09:55:12 our operational performance was very good,
09:58:00 'cause the world price went up to $6.10,
00:10:00:13 we managed to get it for $5.50.
00:10:03:02 So what started off as looking like
00:10:05:06 bad operational performance at $5,500
00:10:08:15 traditional adverse variance|there, once you split it into
00:10:12:15 the planning and operational elements,
00:10:14:10 we can actually see this|is a planning issue,
00:10:16:21 operationally, we actually|performed quite well.
00:10:20:19 Now the last thing I would|say about planning variances
00:10:23:03 is that correcting the original budget
00:10:25:07 should be exceptional,|it should be unusual,
00:10:27:11 because what you don't want|is for it to get to be a habit
00:10:31:03 in the organization of|people being able to say;
00:10:33:26 Well, the budget was wrong,
00:10:35:09 that's why actual is not looking great,
00:10:37:17 because the budget was|wrong in the first place.
00:10:40:08 The budget is supposed to be...
00:10:41:27 Of course it's not right,|because it's not actual,
00:10:44:07 no one ever said it had to be actual,
00:10:45:28 it was just a statement of what you think
00:10:49:03 the cost is going to be at a point in time
00:10:52:01 to give you that yardstick,|that fair benchmark
00:10:54:25 to compare to actual performance.
00:10:57:01 So it should be exceptional,|so it doesn't undermine
00:10:59:16 the original budget as a fair target.
00:11:03:09 So that's our new variances for paper P2
00:11:06:18 Advanced Performance Management
00:11:08:20 or Advanced Management Accounting.
00:11:12:00 We've looked there at planning|and operating variances
00:11:14:20 and mix and yield.
00:11:17:13 I hope that's been useful to you
00:11:19:01 and I hope the studies are going well.
00:11:20:27 Best of luck with the real exam.
00:11:22:27 (bright piano music)
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