Waltham Motors Division

If Waltham Motors Division sells 13,326 units, it will breakeven. But why Waltham incurred net losses when it sold more than 13,326 units in May? The unfavorable cost variances (see answer 2 and 3) and Waltham’s high operating leverage were major reasons for its financial problems. Waltham’s operating leverage is 3.85 times, which indicates that the operating income is very sensitive to changes in sales.

Answer 2: Total cost per unit
The budgeted cost per unit is $42.93, and the actual cost per unit is $49.51. When figuring the cost per unit, we include all the cost, including selling and administration costs. The actual cost per unit exceeded the budgeted amount because of the following: * Waltham sold less units of motors compared to the budgeted quantities. Therefore, the actual overhead per unit exceeded the budget amount due to decreased denominator. * Waltham incurred higher director labor cost per unit and direct material cost per unit compared to the budgeted amounts.

Answer 3: Performance report
Waltham should divide the unfavorable static budget variance for operating income into two parts: a flexible budget variance of $20,356 U and a sales-volume variance of $78,044 U. To gain further insight, Waltham should subdivide the flexible budget variance for direct cost inputs into more detailed variances. Price variance for direct materials is $4,200 F, and quantity variance for direct materials is $5,600 U. Price variance for direct labor is $5,600 U, and quantity variance for direct materials is $16,400 U.

Answer 4: Summary of variance analysis

The summary of variances highlights three main effects:
* Waltham sold 400 fewer units than budgeted, resulting in an unfavorable sale volume variance of $78,044. Sales declined probably because Waltham did not adapt quickly to changes in customer preference and probably because quality problems developed that led to customer dissatisfaction with Waltham’s motors. * Waltham sold units at a higher price than budgeted, resulting in a favorable selling-price variance of $14,000. * Manufacturing costs for the actual output produced were higher than budgeted – direct material by $1,400, direct manufacturing labor by $22,000, variable manufacturing overhead by $9,756, and fixed overhead by $1,200.

To gain further insight, we subdivide the flexible budget variance for direct cost inputs into more detailed variances as following:

Price variance
* The $4,200 favorable direct materials price variance could be because of skillful negotiation skills of purchasing manager on direct materials, a change to a lower-price supplier, a decrease in market price of direct material, and potentially lower quality materials. * The $5,600 unfavorable direct manufacturing labor price variance could be because of an increase in market price of direct labor or, poor negotiation skills of purchasing manager or human resource manager on direct labor costs.

Efficiency variance
* The $5,600 unfavorable direct materials efficiency variance and the $16,400 unfavorable direct manufacturing labor efficiency variance could be because of unskilled workers, poor production schedule, or poor machine maintenance.

We also subdivide the variable costs overhead variance and fixed costs overhead variance into more detailed variances as following:

Variable overhead variance
* The unfavorable $9,756 variable manufacturing overhead variance arises probably because of the difference between actual quantity and budgeted quantity of the cost allocation base. For example, workers may be less skilled than expected in using machines and production scheduler may inefficiently schedule jobs (as evidenced by unfavorable variance for idle time and clean up time), which result in more machine hours used than budgeted. * The unfavorable $9,756 variable manufacturing overhead variance could also be because of the difference between actual cost per unit of cost allocation base and the budgeted cost per unit of cost allocation base. For example, actual prices of individual inputs, such as the price of shipping costs, could be higher than budgeted prices of these inputs.

Fixed overhead variance
* The unfavorable $1,200 fixed overhead variance arises because actual fixed overhead costs exceed the budgeted amount. This is probably due to the higher administrative costs, such as a higher than budgeted salary paid to the plant manager.