Reference no: EM13939136

BASICS OF VARIANCE ANALYSIS, VARIABLE  INPUTS

Guanamo Waste Disposal Company has a long-term contract with several large cities to collect garbage and trash from residential customers. To facilitate the collection, Gua- namo places a large plastic container with each household. Because of wear and tear, growth, and other factors, Guanamo places about 200,000 new containers each year (about 20 percent of the total households). Several years ago, Guanamo decided to man- ufacture its own containers as a cost-saving measure. A strategically located plant involved in this type of manufacturing was acquired. To help ensure cost efficiency, a standard cost system was installed in the plant. The following standards have been estab- lished for the product's variable inputs:

	Standard Quantity	Standard Price (rate in $)	Standard Cost ($)
Direct materials	12 lbs.	$ 3.00	$36.00
Direct labor	1.60 hrs.	10.00	16.00
Variable overhead	1.60 hrs.	2.50	4.00
Total			$56.00

During the first week, the company had the following actual results:

Units produced	4,000
Actual labor costs	$70,000
Actual labor hours	6,600
Materials purchased and  used	46,000 lbs.@ $3.05
Actual variable overhead costs	$26,500

The purchasing agent located a new source of slightly higher-quality plastic, and this material was used during the first week in January. Also, a new manufacturing process was implemented on a trial basis. The new process required a slightly higher level of skilled labor. The higher-quality material has no effect on labor utilization. However, the new manufacturing process was expected to reduce materials usage by 0.25 pound per can.

Required:

1. Compute the materials price and usage variances. Assume that the 0.25 pound per can reduction of materials occurred as expected and that the remaining effects are all attributable to the higher-quality material. Would you recommend that the purchasing agent continue to buy this quality, or should the usual quality be purchased? Assume that the quality of the end product is not affected significantly.

2. Compute the labor rate and efficiency variances. Assuming that the labor variances are attributable to the new manufacturing process, should it be continued or discontinued? In answering, consider the new process's materials reduction effect as well. Explain.

3. Refer to Requirement 2. Suppose that the industrial engineer argued that the new process should not be evaluated after only one week. His reasoning was that it would take at least a week for the workers to become efficient with the new approach. Sup- pose that the production is the same the second week and that the actual labor hours were 6,000 and the labor cost was $62,000. Should the new process be adopted? Assume the variances are attributable to the new process. Assuming production of 4,000 units per week, what would be the projected annual savings? (Include the materials reduction effect.)