During the second half of the year, the company increased the price of the goods. As a result the company suffered a decrease in sales but its total revenue increased due to the increasing prices. This could be explained by the fact that the company did not maximize its profit during the first half of the year, the price and sales of the company is not at equilibrium and products are being sold at a price lower than equilibrium. At the second of the year, due to an increase in price the sales volume shifts to the right; (see the graph below) it may not be at the equilibrium but it’s getting closer to the equilibrium. (Period 2 production lies between period 1 and equilibrium production level)
In the second half of the year, the labor variance looks worse than the first term. This is the result of an increase in production during second term. In the first half of the year, the company did not meet its production quota (therefore less materials and labor were used for production). So Carlo tried to improve the production in the second term. As a result, the production for second term not only meets the goal but also exceeds the required production amount. This increase in material consumption for the production of second term leads to the unfavorable variance we see in Exhibit 3. Another reason why the second term seems to do better than the first term is that production increased while sales decreased in second term, therefore some of the fixed costs are deferred to the inventory and the unsold products are being recorded as an asset, making the company seemingly to do better than it actually does.
Comparing the difference between the production volume variance of the first and second half of the year, we noticed that during the second term, it is more favorable than the first term. Since production volume variance indicates whether the materials and production management staff is able to produce goods in accordance with long-range planned expectations, we see that during the second half of the year, production volume variance is more favorable. Because during this period, a larger amount of productions are produced and as a result, factory overhead can be allocated across more units, which reduces the total allocated cost per unit.
As for the performance of Sandy, it seems that Sandy’s idea to raise the price from $90 to $93 during the second half of the year did work. Even though actual sales volume had fallen, the profits had increased significantly in the second half of the year. The sale volume decreased by 11.32%, but the sales only decreased by 8.36%. However, increased profit was not only attributed to the price raising but also attributed to the control of production costs.
Carlos is in charge of the production process and costs. Sandy complained about the cost overrun and the unfavorable variances. They were mainly caused by overproduction, which was not only Carlos’ fault. Since Carlo did not meet the normal production goal for the first half of the year, he tried to make improvement in this. Therefore, he set the production goal that was equal to the sales volume of the first term. The sales volume of second term dropped because of the price raising. The rising prices (i.e. the raw material price and the direct labor price) and increase in raw material usage per unit might also contribute to the cost overrun. However, they are not the main factors on this issue since some costs’ prices declined and Carlos also reduce some costs as mentioned below. Therefore, Sandy’s cheap shot was not justified. However, Carlos tried to hide his drawbacks and make his performance looks better when he developed later reports. He intended to use the “full absorption costing” to “wash out” variances. Since the company production volume was more than sales volume in the second term, partial fixed cost would defer to inventory. Therefore, even Carlos did not save any money for the company, the fixed cost assigned to each...
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