Author: Ranjit Simon John<\/p>\n
Every PP, FI and CO user in any Manufacturing Industry will be having a tough time while processing month-end activities. Production Order Variance posted against each process orders will have to be examined, explained & investigated thoroughly. Major questions arising will be;<\/p>\n
- \n
- Origin of Variance has come<\/li>\n
- How to Categorize the variance<\/li>\n
- How to cut down the variance.<\/li>\n
- Impact of variance on COGM, COGS & Closing Stock.<\/li>\n<\/ul>\n
Answering these will be really tough.<\/p>\n
We have faced all these scenarios and after months of deep research in this field I came across few conclusions.<\/p>\n
<\/p>\n
For better understanding I will divide this blog into two categories;<\/p>\n
- \n
- Category A: Basic understanding of Production Order<\/li>\n
- Category B: Co-relating Category A scenarios with real life scenarios.<\/li>\n<\/ul>\n
Now let us examine the main points under Category A<\/em>:\u00a0<\/strong><\/p>\n
The ultimate end point of any industry is sales. For selling the product several process has to be carried out. The success of any management depends on how well they forecast the sales, plan and schedules the activities.<\/p>\n
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<\/a><\/p>\nFigure 1.0<\/p>\n
Let us divide the process as given below;<\/p>\n
\u00a0\u00a0\u00a0 1)\u00a0\u00a0\u00a0 <\/span>Initial Planning<\/p>\n
\u00a0\u00a0\u00a0 2)\u00a0\u00a0\u00a0 <\/span>Cost Estimates<\/p>\n
\u00a0\u00a0\u00a0 3)\u00a0\u00a0\u00a0 <\/span>Actual Posting<\/p>\n
\u00a0\u00a0\u00a0 4)\u00a0\u00a0\u00a0 <\/span>Period \u2013 End Processing<\/p>\n
1) Initial Planning:<\/p>\n
Forecasting the sales for future. Sales and Operation Planning, Long term planning, Cost center planning should be well executed by the management.<\/p>\n
2) Cost Estimates:<\/p>\n
The major points to be considered here are;<\/p>\n
a)\u00a0\u00a0\u00a0 a) <\/span>Master Data:<\/p>\n
a.1) Material Master:<\/p>\n
All the required information to manage a material.<\/p>\n
Transaction Codes: MM01, MM02, MM03<\/p>\n
a.2) Bill of Material (BOM):<\/p>\n
Structured hierarchy of raw materials necessary to create a Finished \/ Semi Finished Good.<\/p>\n
Transaction Codes: CS01, CS02, CS03<\/p>\n
a.3) Routing:<\/p>\n
List of tasks containing standard activity times required to perform operations to create a Finished \/ Semi Finished Good.<\/p>\n
Transaction Codes: CA01, CA02, CA03<\/p>\n
a.4)\u00a0 Product Cost Collector:<\/p>\n
Collects actual costs during the production of a material.<\/p>\n
Transaction Codes: KKF6N<\/p>\n
a.5)\u00a0 Recipe:<\/p>\n
Recipes comprise information about the products and components of a process, the process steps to be executed, and the resources required for the production.<\/p>\n
Transaction Codes: C201, C202, C203<\/p>\n
b)\u00a0 Overhead Costs:<\/p>\n
All indirect cost like power, canteen etc.<\/p>\n
Transaction Codes: KZS2<\/p>\n
b.1) Calculation Base:<\/p>\n
A base is a group of cost elements to which overhead is applied<\/p>\n
b.2) Overhead Rate:<\/p>\n
Overhead rate is a percentage factor applied to the value of the calculation base (group of cost elements).<\/p>\n
b.3) Credit Key<\/p>\n
During Overhead calculation, a manufacturing order in product cost collector is debited, and a cost center is credited. The credit key defines which cost center receives the credit.<\/p>\n
C ) Cost Component:<\/p>\n
The cost component split allows a cost estimate to group costs of similar types of components, such as material, labor, and overhead.<\/p>\n
d) Costing Variant:<\/p>\n
The costing variant contains information on how a cost estimate calculates the standard price.<\/p>\n
e) Standard Cost Estimate:<\/p>\n
The Standard Cost Estimate is involved in variance analysis because it is used for stock valuation. When a production or process order delivers production to inventory, it receives a credit<\/em> based onstandard price. <\/em>Total variance is the difference between actual costs debited to\u00a0 the order and costs credited to the order due to deliveries to stock.<\/p>\n
f) Preliminary Cost Estimate:<\/p>\n
The\u00a0 Preliminary Cost Estimate is involved with production, variance calculation and valuating scrap variance and WIP.<\/p>\n
g) Mixed Cost Estimate:<\/p>\n
If there are different procurement alternatives for the same material, such as two production lines or two vendors, mixed costing can be used when inventory valuation has to reflect the mixed procurement costs.<\/p>\n
3) Actual Postings<\/p>\n
Plan costs are posted prior<\/em> to a fiscal period. Actual costs are posted in real time during <\/em>a fiscal period.<\/p>\n
Actual Cost can be divided into two groups based on the posting origin;<\/p>\n
- \n
- Postings to CO from external <\/em>business transactions results in Primary Costs.<\/li>\n
- Business transactions within <\/em>CO results in Secondary Costs.<\/li>\n<\/ul>\n
3.1 Primary Cost:<\/p>\n
Primary cost will be posted to CO mainly in the following scenarios:<\/p>\n
3.1.1 Goods Issue to Production Order:<\/p>\n
When goods are issued from inventory, a general ledger balance sheet account is credited, and profit and loss consumption (expense) account is debited. A primary cost element with the same number and identifier as the inventory consumption is usually created in CO during initial system implementation. When the system detects a corresponding primary cost element in CO during a posting to General ledger expense account, a posting to CO cost object is also required.<\/p>\n
Primary Cost are posted to CO from FI.<\/p>\n
GL entry during\u00a0 Goods Issue<\/p>\n
\n\n
\n <\/th>\n Debit<\/strong><\/th>\n Credit<\/strong><\/th>\n<\/tr>\n<\/thead>\n\n \n Raw Material Consumption<\/td>\n XXX<\/td>\n <\/td>\n<\/tr>\n \n Stock of Raw Material<\/td>\n <\/td>\n XXX<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n Table 1.0<\/p>\n
3.2 Secondary Cost:<\/p>\n
The costs in CO are allocated from overhead cost centers to production cost centers duringassessment<\/em> and then onto production order during activity confirmation<\/em>.<\/p>\n
3.2.1 Assessment<\/p>\n
Period-end assessments move costs from overhead cost centers to production cost centers.<\/p>\n
3.2.2 Activity Confirmation:<\/p>\n
When production order activities are confirmed, the production or product cost collector is debited, and the production cost center is credited. There are no FI postings during activity confirmation.<\/p>\n
3.3 Primary Credits<\/p>\n
Primary Credits occur when production orders deliver Finished \/ Semi finished good into inventory.<\/p>\n
As finished goods are delivered from manufacturing order into inventory, an inventory balance sheet account is debited, and profit and loss production output account is credited. Because there is a primary cost element corresponding to the production output account, a CO object is also credited. The finished goods are delivered from a production order, so the system automatically chooses the production order or product cost collector to receive the primary credit.<\/p>\n
The credit value is calculated by multiplying the finished goods standard price by the quantity delivered to inventory.<\/p>\n
\n\n
\n <\/th>\n Debit<\/strong><\/th>\n Credit<\/strong><\/th>\n<\/tr>\n<\/thead>\n\n \n Stock of Finished Good<\/td>\n XXX<\/td>\n <\/td>\n<\/tr>\n \n COGM of Finished Good<\/td>\n <\/td>\n XXX<\/td>\n<\/tr>\n \n Raw Material Consumption<\/td>\n XXX<\/td>\n <\/td>\n<\/tr>\n \n Stock of Raw Material<\/td>\n <\/td>\n XXX<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n Table 2.0<\/p>\n
3.4 Secondary Credit<\/p>\n
At period end the production order receives a secondary credit that is equal to the variance during settlement, resulting in zero balance.<\/p>\n
During the settlement process, product cost collectors and process order variance are posted to Profitability Analysis (CO-PA) and FI.<\/p>\n
\n\n
\n Debit<\/td>\n 100 Raw Material100 Labor100 Over Heads<\/td>\n<\/tr>\n \n Credit<\/td>\n (250) Finished Good<\/td>\n<\/tr>\n \n Balance<\/td>\n 50 Variance<\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n Table 3.0<\/p>\n
Total Variance is the difference between total production order debits and credits.<\/p>\n
Variance calculation at period end divides the variance into categories, based on the source of the variance.<\/p>\n
Production Variance settled to CO-PA are included at the gross profit <\/em>margin level.<\/p>\n
Cost Center under\/over absorption costs assessed <\/em>to CO-PA are included at the operating profit<\/em>level.<\/p>\n
3.5) Post Actual Costs<\/p>\n
1)\u00a0\u00a0\u00a0 <\/span>Period \u2013 End Processing<\/p>\n
5.1 The three common types of variance calculation are as follows;<\/p>\n
5.1.1) Total Variance<\/p>\n
Total variance is the difference between the actual cost debited to the order and credits from deliveries to inventory. Total Variance is variance relevant to settlement. The variance is settled in Financial Accounting (FI), Profit Center Accounting and Profitability Analysis<\/p>\n
5.1.2) Production Variance<\/p>\n
Production variance is the difference between net actual costs debited to the order and target costs based on the preliminary cost estimate and quantity delivered to inventory.<\/p>\n
Production variance is not relevant for settlement, only for information.<\/p>\n
5.1.3) Planning Variance<\/p>\n
Planning variance is the difference between costs on the preliminary cost estimate for the order and target costs based on the standard cost estimate and planned order quantity.<\/p>\n
5.2) Variance Categories<\/p>\n
During variance calculation, the order balance is divided into categories on the input and output sides. Variance category provide reasons for the cause of the variance. There are no FI posting during variance calculation.<\/p>\n
Variance can be categorized into Input Variance<\/em><\/strong> and Output Variance<\/em><\/strong><\/p>\n
5.2.1) Input Variance<\/strong><\/p>\n
Variance based on Goods Issue, Internal activity allocation, overhead allocation, general ledger account postings.<\/p>\n
Input variance is divided into the following categories during variance calculation, according to their source:<\/p>\n
Category IV.1) Input Price Variance<\/em><\/p>\n
Input price variance occurs as a result of material price change after the higher level material cost estimate is released.<\/p>\n
It occurs in any of the below mentioned scenarios;<\/p>\n
- \n
- \u00a0\u00a0\u00a0 <\/span>If the material valuation is based on standard price<\/em> control, a standard cost estimate for the component could be released after the cost estimate for the assembly is released.<\/li>\n
- \u00a0\u00a0\u00a0 <\/span>If the material valuation is based on Moving average<\/em> price control, a goods receipt of the component could change the component price after the cost estimate for the material is released.<\/li>\n<\/ul>\n
\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Input price variance = (actual price \u2013 plan price) * actual input quantity<\/em><\/strong><\/p>\n
Category IV.2) Resource \u2013 Usage Variance<\/em><\/p>\n
Resource \u2013 Usage variance occurs as a result of substituting components. This could occur if a component is not available, and another component with a different material number is used instead.<\/p>\n
\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Resource Usage variance = Actual costs \u2013target costs \u2013 Input price variance<\/em><\/strong><\/p>\n
Category IV.3) Input quantity variance<\/em><\/p>\n
Input quantity variance occurs as a result of a difference between plan and actual quantities of materials and activities consumed.<\/p>\n
\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Input quantity variance = (actual input quantity \u2013 target input quantity) * plan price<\/em><\/strong><\/p>\n
Category IV.4) Remaining Input Variance<\/em><\/p>\n
When input variance cannot be assigned to any other variance category. 5.2.2) Output Variance<\/p>\n
Variance can be from too little or too much of planned order quantity being delivered, or because the delivered quantity was valuated differently.<\/p>\n
5.2.2) Output Variance is divided into;<\/strong><\/p>\n
\u00a0\u00a0\u00a0 Category OV.1) Mixed \u2013 Price Variance<\/em><\/p>\n
Mixed-Price variance occurs when inventory is valuated using a mixed cost estimate for the material.<\/p>\n
\u00a0\u00a0\u00a0 Category OV.2) Output Price Variance<\/em><\/p>\n
Output price variance can occur in the following scenarios;<\/p>\n
\u00a0\u00a0\u00a0 1)\u00a0\u00a0\u00a0\u00a0\u00a0 <\/span>If the standard price is changed after delivery to inventory, and before variance calculation.<\/p>\n
\u00a0\u00a0\u00a0 2)\u00a0\u00a0\u00a0\u00a0\u00a0 <\/span>If the material is valuated at moving average price and it is not delivered to inventory at standard price during target value calculation.<\/p>\n
\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Output price variance = actual activity * (plan price \u2013 actual price)<\/em><\/strong><\/p>\n
\u00a0\u00a0\u00a0 Category OV.3) Lot Size Variance<\/em><\/p>\n
Lot Size variance occurs if a manufacturing order lot size is different from the standard cost estimate costing lot size.<\/p>\n
Category OV.4) Remaining Variance<\/p>\n
Occurs if variance cannot be assigned to any other variance category.<\/p>\n
Category OV.5) Output Quantity Variance<\/p>\n
Represents the difference between manually entered actual costs and allocated actual quantities.<\/p>\n
\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0\u00a0 Output Quantity\u00a0 variance = ( actual quantity \u2013manual actual quantity) * plan price<\/em><\/strong><\/p>\n
5.3) Period End<\/p>\n
The most important period-end process relevant to production order variance analysis is;<\/p>\n
- \n
- \u00a0\u00a0\u00a0 <\/span>Overhead<\/li>\n
- \u00a0\u00a0\u00a0 <\/span>WIP<\/li>\n
- \u00a0\u00a0\u00a0 <\/span>Variance Calculation<\/li>\n<\/ul>\n
Variance can be calculated using the formula;<\/p>\n
\u00a0 Variance = Actual Cost \u2013 Actual Cost Allocated (credits) \u2013 WIP \u2013 Scrap<\/em><\/strong><\/p>\n
During variance calculation, target and control costs are compared, and variance categories are assigned. Variance categories are assigned in the following sequence:<\/p>\n
- \n
- Input price variance<\/li>\n
- Resource \u2013 usage variance<\/li>\n
- Input quantity variance<\/li>\n
- Remaining input variance<\/li>\n
- Mixed \u2013price variance<\/li>\n
- Output price variance<\/li>\n
- Lot Size Variance<\/li>\n
- Remaining Variance<\/li>\n<\/ul>\n
Settlement\u00a0 :<\/p>\n
Settlement of Production Orders will be executed.<\/p>\n
KO88 – Individual Settlement<\/p>\n
CO88 – Collective Settlement<\/p>\n
Now let us examine the main points under Category B<\/em>:<\/strong><\/p>\n
Now you will be having a basic idea about production order variance , variance calculation types & various categories. Now let us try to co-relate this with real life scenarios.<\/p>\n
I will divide the topic into below mentioned sections;<\/p>\n
1.\u00a0\u00a0\u00a0 <\/span>How to analyze production order variance posted against production orders<\/p>\n
2.\u00a0\u00a0\u00a0 <\/span>Major Reasons for the variance<\/p>\n
3.\u00a0\u00a0\u00a0 <\/span>How to minimize the variance<\/p>\n
4.\u00a0\u00a0\u00a0 <\/span>Impact of production order variance on COGM, COGS & Closing Stock<\/p>\n
Category B.1) How to analyze variance posted against production order<\/strong><\/p>\n
For explaining the scenarios I am taking one Semi Finished Good (SFG1<\/em><\/strong>\u2013 Semi Finished Good 1) which is used as a raw material for production of Finished Good.<\/p>\n
Master Recipe of SFG1 is;<\/p>\n
\n\n
\n Item<\/strong><\/th>\n Resource<\/strong><\/th>\n Total Value<\/strong><\/th>\n Fixed Value<\/strong><\/th>\n Quantity<\/strong><\/th>\n Unit<\/strong><\/th>\n<\/tr>\n<\/thead>\n\n \n 1<\/td>\n POWER<\/td>\n 12.90<\/td>\n 12.90<\/td>\n 0.030<\/td>\n MWH<\/td>\n<\/tr>\n \n 2<\/td>\n ADMINI<\/td>\n 1.00<\/td>\n 0.00<\/td>\n 1.00<\/td>\n TO<\/td>\n<\/tr>\n \n 3<\/td>\n DEPRIN<\/td>\n 1.00<\/td>\n 0.00<\/td>\n 1.00<\/td>\n TO<\/td>\n<\/tr>\n \n 4<\/td>\n LABOUR<\/td>\n 2.00<\/td>\n 0.00<\/td>\n 1.00<\/td>\n TO<\/td>\n<\/tr>\n \n 5<\/td>\n MACOOH<\/td>\n 0.74<\/td>\n 0.00<\/td>\n 1.00<\/td>\n TO<\/td>\n<\/tr>\n \n 6<\/td>\n RAWMATERIAL1<\/td>\n 8.10<\/td>\n 0.00<\/td>\n 0.81<\/td>\n TO<\/td>\n<\/tr>\n \n 7<\/td>\n RAWMATERIAL2<\/td>\n 1.49<\/td>\n 0.00<\/td>\n 0.061<\/td>\n TO<\/td>\n<\/tr>\n \n 8<\/td>\n RAWMATERIAL3<\/td>\n 1.83<\/td>\n 0.00<\/td>\n 0.103<\/td>\n TO<\/td>\n<\/tr>\n \n 9<\/td>\n RAWMATERIAL4<\/td>\n 0.12<\/td>\n 0.00<\/td>\n 0.002<\/td>\n TO<\/td>\n<\/tr>\n \n 10<\/td>\n RAWMATERIAL5<\/td>\n 4.31<\/td>\n 0.00<\/td>\n 0.024<\/td>\n TO<\/td>\n<\/tr>\n \n <\/td>\n TOTAL<\/td>\n 33.49<\/td>\n <\/td>\n 12.90<\/td>\n <\/td>\n<\/tr>\n<\/tbody>\n<\/table>\n Figure 2.0<\/p>\n
Process order No for SFG1 is 15000035<\/p>\n
Variance Posted against the Process Order for the month is 128,190.87 AED<\/em><\/strong><\/p>\n
After technically completing (\u00ab\u00a0TECO<\/strong>\u00ab\u00a0) the process order & before executing costing run check for the variance in transaction code KO88 (CO88 – Collective) in Test Run mode.<\/p>\n
For analyzing the variance in detail we will use transaction codes KKBC_ORD & KOB1.<\/p>\n
Let me explain difference between KKBC_ORD and KOB1.<\/p>\n
KKBC_ORD is used for analyzing single order. Planned and Actual cost details relating to the production order will be recorded in KKBC_ORD.<\/p>\n
KOB1 you can execute for single as well as bulk order. KOB1 provides the \u00ab\u00a0Actual<\/em>\u00a0\u00bb values (cost & quantity) of raw materials and overheads used for the production of the material.<\/p>\n
KKBC_ORD<\/p>\n
- \u00a0\u00a0\u00a0 <\/span>WIP<\/li>\n
- \u00a0\u00a0\u00a0 <\/span>If the material valuation is based on Moving average<\/em> price control, a goods receipt of the component could change the component price after the cost estimate for the material is released.<\/li>\n<\/ul>\n
- Business transactions within <\/em>CO results in Secondary Costs.<\/li>\n<\/ul>\n
- Postings to CO from external <\/em>business transactions results in Primary Costs.<\/li>\n
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