Variance Materiel adnLabour
Variance Analysis: Material & Labour Variances!
The function of standards in cost accounting is to reveal variances between standard costs which are allowed and actual costs which have been recorded. The Chartered Institute of Management Accountants defines variances as the difference between a standard cost and the comparable actual cost incurred during a period. Variance analysis can be defined as the process of computing the amount of, and isolating the cause of variances between actual costs and standard costs. Standard costs provide information that is useful in performance evaluation. Standard costs are compared to actual costs, and mathematical deviations between the two are termed variances. Favorable variances result when actual costs are less than standard costs, and vice versa. The following illustration is intended to demonstrate the very basic relationship between actual cost and standard cost. AQ means the “actual quantity” of input used to produce the output. AP means the “actual price” of the input used to produce the output. SQ and SP refer to the “standard” quantity and price that was anticipated. Variance analysis can be conducted for material, labor, and overhead.
Variance analysis involves two phases:
(1) Computation of individual variances, and
(2) Determination of Cause (s) of each variance.
I. Material Variance:
The following variances constitute materials variances:
Material Cost Variance:
Material cost variance is the difference between the actual cost of direct material used and standard cost of direct materials specified for the output achieved. This variance results from differences between quantities consumed and quantities of materials allowed for production and from differences between prices paid and prices predetermined.
This can be computed by using the following formula:
Material cost variance = (AQ X AP) – (SQ X SP)
Where AQ = Actual quantity
AP = Actual price
SQ = Standard quantity for the actual output
SP = Standard price
The material quantity or usage variance results when actual quantities of raw materials used in production differ from standard quantities that should have been used to produce the output achieved. It is that portion of the direct materials cost variance which is due to the difference between the actual quantity used and standard quantity specified.
As a formula, this variance is shown as:
Materials quantity variance = (Actual Quantity – Standard Quantity) x Standard Price
A material usage variance is favourable when the total actual quantity of direct materials used is less than the total standard quantity allowed for the actual output.
Compute the materials usage variance from the following information:
Standard material cost per unit Materials issued
Material A — 2 pieces @ Rs. 10=20 (Material A 2,050 pieces)
Material B — 3 pieces @ Rs. 20 =60 (Material B 2,980 pieces)
Total = 80
Units completed 1,000
Material usage variance = (Actual Quantity – Standard Quantity) x Standard Price
Material A = (2,050 – 2,000) x Rs. 10 = Rs. 500 (unfavourable)
Material B = (2980 – 3000) x Rs. 20 = Rs. 400 (favourable)
Total = Rs. 100 (unfavourable)
It should be noted that the standard rather than the actual price is used in computing the usage variance. Use of an actual price would have introduced a price factor into a quantity variance. Because different departments are responsible, these two factors must be kept separate.
(a) Material Mix Variance:
The materials usage or quantity variance can be separated into mix variance and yield variance.
For certain products and processing operations, material mix is an important operating variable, specific grades of materials and quantity are determined before production begins. A mix variance will result when materials are not actually placed into production in the same ratio as the standard formula. For instance, if a product is produced by adding 100 kg of raw material A and 200 kg of raw material B, the standard material mix ratio is 1: 2.
Actual raw materials used must be in this 1: 2 ratio, otherwise a materials mix variance will be found. Material mix variance is usually found in industries, such as textiles, rubber and chemicals, etc. A mix variance may arise because of attempts to achieve cost savings, effective resources utilisation and when the needed raw materials quantities may not be available at the required time.
Materials mix variance is that portion of the materials quantity variance which is due to the difference between the actual composition of a mixture and the standard mixture.
It can be computed by using the following formula:
Material mix variance = (Standard cost of actual quantity of the actual mixture – Standard cost of actual quantity of the standard mixture)
Or
Materials mix variance = (Actual mix – Revised standard mix of actual input) x Standard price
Revised standard mix or proportion is calculated as follows:
Standard mix of a particular material/Total standard quantity x Actual input
Example:
A product is made from two raw materials, material A and material B. One unit of finished product requires 10 kg of material.
The following is standard mix:
During a period one unit of product was produced at the following costs:
Compute the materials mix variance.
Solution:
Material mix variance = (Actual proportion – Revised standard proportion of actual input) x Standard price.
(b) Materials Yield Variance:
Materials yield variance explains the remaining portion of the total materials quantity variance. It is that portion of materials usage variance which is due to the difference between the actual yield obtained and standard yield specified (in terms of actual inputs). In other words, yield variance occurs when the output of the final product does not correspond with the output that could have been obtained by using the actual inputs. In some industries like sugar, chemicals, steel, etc. actual yield may differ from expected yield based on actual input resulting into yield variance.
The total of materials mix variance and materials yield variance equals materials quantity or usage variance. When there is no materials mix variance, the materials yield variance equals the total materials quantity variance. Accordingly, mix and yield variances explain distinct parts of the total materials usage variance and are additive.
The formula for computing yield variance is as follows:
Yield Variance = (Actual yield – Standard Yield specified) x Standard cost per unit
Example:
Standard input = 100 kg, standard yield = 90 kg, standard cost per kg of output = Rs 200
Actual input 200 kg, actual yield 182 kg. Compute the yield variance.
In this example, there is no mix variance and therefore, the materials usage variance will be equal to the materials yield variance.
The above formula uses output or loss as the basis of computing the yield variance. Yield variance can also be computed on the basis of input factors only. The fact is that loss in inputs equals loss in output. A lower yield simply means that a higher quantity of inputs have been used and the anticipated or standard output (based on actual inputs) has not been achieved.
Yield, in such a case, is known as sub-usage variance (or revised usage variance) which can be computed by using the following formula:
Sub-usage or revised usage variance = (Revised Standard Proportion of Actual Input – Standard quantity) x Standard Cost per unit of input
Example:
Standard material and standard price for manufacturing one unit of a product is given below:
Materials yield variance always equal sub-usage variance. The difference lies only in terms of calculation. The former considers the output or loss in output and the latter considers standard inputs and actual input used for the actual output. Mix and yield variance both provide useful information for production control, performance evaluation and review of operating efficiency.
Materials Price Variance:
A materials price variance occurs when raw materials are purchased at a price different from standard price. It is that portion of the direct materials which is due to the difference between actual price paid and standard price specified and cost variance multiplied by the actual quantity. Expressed as a formula,
Materials price variance = (Actual price – Standard price) x Actual quantity
Materials price variance is un-favourable when the actual price paid exceeds the predetermined standard price. It is advisable that materials price variance should be calculated for materials purchased rather than materials used. Purchase of materials is an earlier event than the use of materials.
Therefore, a variance based on quantity purchased is basically an earlier report than a variance based on quantity actually used. This is quite beneficial from the viewpoint of performance measurement and corrective action. An early report will help the management in measuring the performance so that poor performance can be corrected or good performance can be expanded at an early date.
Recognizing material price variances at the time of purchase lets the firm carry all units of the same materials at one price—the standard cost of the material, even if the firm did not purchase all units of the materials at the same price. Using one price for the same materials facilities management control and simplifies accounting work.
If a direct materials price variance is not recorded until the materials are issued to production, the direct materials are carried on the books at their actual purchase prices. Deviations of actual purchase prices from the standard price may not be known until the direct materials are issued to production.
Example:
Assuming in Example 1 that material A was purchased at the rate of Rs 10 and material B was purchased at the rate of Rs 21, the material price variance will be as follows:
Materials price variance = (Actual Price – Standard Price) x Actual Quantity
Material A = (10 – 10) x 2,050 = Zero
Material B = (21 – 20) x 2,980 = 2980 (un-favourable)
Total material price variance = Rs 2980 (un-favourable)
The total of materials usage variance and price variance is equal to materials cost variance.
| Causes of material variances | ||
| Variance | Favourable | Adverse |
| Material Price |
|
|
| Material Usage |
|
|
Note: The material price variance and the material usage variance may be linked. For example, the purchase of poorer quality materials may result in a favourable price variance but an adverse usage variance.
Materials variances
Calculation
| Causes of material variances | ||
| Variance | Favourable | Adverse |
| Material Price |
|
|
| Material Usage |
|
|
Note: The material price variance and the material usage variance may be linked. For example, the purchase of poorer quality materials may result in a favourable price variance but an adverse usage variance.
Material waste
Material waste may be a normal part of a process and could be caused by:
- evaporation
- scrapping
- testing
Waste would affect the material usage variance. Expected waste can be built into the standards used, so only excessive ("abnormal") waste would contribute towards the usage variance.
II. Labour Variances:
Direct labour variances arise when actual labour costs are different from standard labour costs. In analysis of labour costs, the emphasis is on labour rates and labour hours.
Labour variances constitute the following:
Labour Cost Variance:
Labour cost variance denotes the difference between the actual direct wages paid and the standard direct wages specified for the output achieved.
This variance is calculated by using the following formula:
Labour cost variance = (AH x AR) – (SH x SR)
Where:
AH = Actual hours
AR = Actual rate
SH = Standard hours
SR = Standard rate
1. Labour Efficiency Variance:
The calculation of labour efficiency or usage variance follows the same pattern as the computation of materials usage variance. Labour efficiency variance occurs when labour operations are more efficient or less efficient than standard performance. If actual direct labour hours required to complete a job differ from the number of standard hours specified, a labour efficiency variance results; it is the difference between actual hours expended and standard labour hours specified multiplied by the standard labour rate per hour.
Labour efficiency variance is computed by applying the following formula:
Labour efficiency variance = (Actual hours – Standard hours for the actual output) x Std. rate per hour.
Assume the following data:
Standard labour hour per unit = 5 hr
Standard labour rate per hour = Rs 30
Units completed = 1,000
Labour cost recorded = 5,050 hrs @ Rs 35
Labour efficiency variance = (5,050-5,000) x Rs 30 = Rs 1,500 (unfavourable) It may be noted that the standard labour hour rate and not the actual rate is used in computing labour efficiency variance. If quantity variances are calculated, changes in prices/rates are excluded, and when price variances are calculated, standard quantities are ignored.
(i) Labour Mix Variance:
Labour mix variance is computed in the same manner as materials mix variance. Manufacturing or completing a job requires different types or grades of workers and production will be complete if labour is mixed according to standard proportion. Standard labour mix may not be adhered to under some circumstances and substitution will have to be made. There may be changes in the wage rates of some workers; there may be a need to use more skilled or expensive types of labour, e.g., employment of men instead of women; sometimes workers and operators may be absent.
These lead to the emergence of a labour mix variance which is calculated by using the following formula:
Labour mix variance = (Actual labour mix – Revised standard labour mix in terms of actual total hours) x Standard rate per hour
To take an example, suppose the following were the standard labour cost data per unit in a factory:
In a period, many class B workers were absent and it was necessary to substitute class B workers. Since the class A workers were less experienced with the job, more labour hours were used.
The recorded costs of a unit were:
Labour mix variance will be calculated as follows:
Labour mix variance = (Actual proportion – Revised standard proportion of actual total hours) x standard rate per hour
Revised standard proportion:
(ii) Labour Yield Variance:
The final product cost contains not only material cost but also labour cost. Therefore, gain or loss (higher or lower output than the standard output) should take into account labour yield variance also. A lower output simply means that final output does not correspond with the production units that should have been produced from the hours expended on the inputs.
It can be computed by applying the following formula:
Labour yield variance = (Actual output – Standard output based on actual hours) x Av. Std. Labour Rate per unit of output.
Or
Labour yield variance = (Actual loss – Standard loss on actual hours) x Average standard labour rate per unit of output
Labour yield variance is also known as labour efficiency sub-variance which is computed in terms of inputs, i.e., standard labour hours and revised labour hours mix (in terms of actual hours).
Labour efficiency sub-variance is computed by using the following formula:
Labour efficiency sub-variance = (Revised standard mix – standard mix) x Standard rate
2. Labour Rate Variance:
Labour rate variance is computed in the same manner as materials price variance. When actual direct labour hour rates differ from standard rates, the result is a labour rate variance. It is that portion of the direct wages variance which is due to the difference between actual rate paid and standard rate of pay specified.
The formula for its calculation is:
Labour rate variance = (Actual rate – Standard rate) x Actual hours
Using data from the example given above, the labour rate variance is Rs 25,250, i.e.,
Labour rate variance = (35 – 30) x 5050 hours = 5 x 5050 = Rs 25,250 (unfavourable)
The number of actual hours worked is used in place of the number of the standard hours specified because the objective is to know the cost difference due to change in labour hour rates, and not hours worked. Favourable rate variances arise whenever actual rates are less than standard rates; unfavourable variances occur when actual rates exceed standard rates.
3. Idle Time Variance:
Idle time variance occurs when workers are not able to do the work due to some reason during the hours for which they are paid. Idle time can be divided according to causes responsible for creating idle time, e.g., idle time due to breakdown, lack of materials or power failures. Idle time variance will be equivalent to the standard labour cost of the hours during which no work has been done but for which workers have been paid for unproductive time.
Suppose, in a factory 2,000 workers were idle because of a power failure. As a result of this, a loss of production of 4,000 units of product A and 8,000 units of product B occurred. Each employee was paid his normal wage (a rate of? 20 per hour). A single standard hour is needed to manufacture four units of product A and eight units of product B.
Idle time variance will be computed in the following manner:
Standard hours lost:
Product A = 4, 000/ 4 = 1,000 hr.
Product B = 8, 000 / 8 = 1,000 hr.
Total hours lost = 2,000 hr.
Idle time variance (power failure)
2,000 hours @ Rs 20 per hour = Rs 40,000 (Adverse)
Labour variances
Calculation
| Causes of labour variances | ||
| Variance | Favourable | Adverse |
| Labour rate |
|
|
| Labour efficiency |
|
|
Note: The labour rate variance and the labour efficiency variance may be linked. For example, employing more highly skilled labour may result in an adverse rate variance but a favourable efficiency variance.
Idle time
Idle time occurs when employees are paid for time when they are not working e.g. due to machine breakdown, low demand or stockouts.
If idle time exists an idle time labour variance should be calculated.
Controlling Idle time
Idle time can be prevented or reduced considerably by :
1. Proper maintenance of tools & machinery
2. Advanced production planning
3. Timely procurement of stores
4. Assurance of supply of power
5. Advance planning for machine utilisation
A consideration of labour variances can be extended to incorporate labour ratios as well
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