Chapter 45

Direct Material Variances

 

Similar to labor variances, we will break the direct materials variance into two components so that we can identify its cause more accurately.

 

 

Price and Quantity Standards

A material price standard is the amount that is allowed to be paid for each unit of raw material. The unit concept is extremely important in this variance. Unit will always mean the unit in which the company buys its materials. For example, this could be pounds, ounces, square feet, linear board feet, tons, etc.

 

A material quantity standard is the amount of raw material units (feet, yards, pounds, etc.) that is allowed to be used. A matrix similar to the one we used in labor variance analysis was developed by Dr. Charles Horngren appears below. We will use this matrix format to determine variances for direct material.

 

Note there are four columns of As and Ss as compared to the labor matrix which contains three columns. The P represents the Price amounts of materials per RM unit. In the space occupied by A in the P row, we write down the Actual Price of materials per pound, foot, or whatever denomination in which the materials are measured. in the spaces occupied by the S on the P row, we write the Standard Price of direct material per pound, foot or other denomination. The second row is used to write the Actual Quantity and Standard Quantity of materials (in pounds, feet, yards, etc) allowed for production. However, you should notice one different in the Q row for the Actual quantities. Ap represents the actual quantity purchased. Au represents the actual quantity used. A 

 

 

The four columns that contain the amounts for AA, SA, and SS amounts are multiplied down to give a total under each of the four columns. The total of the AA column is compared to the total of the first SA column. The difference is labeled Material Price Variance. The total of the second SA column is compared to the total of the SS column and the difference is labeled as Material Quantity Variance.

 

The descriptions below tell you what information is provided by the amounts calculated. In each comparison, if the left total exceeds the right total, the variance will be unfavorable. If the left total is less than the right total, the variance will be favorable.

 

 

To determine the total materials variance, combine the materials price variance with the materials quantity variance.

 

 

Isolating Material Price Variances Early

The material price variance is isolated at the earliest point in time that it is known by the company. This gives the company time to make production or other changes if necessary. The purchasing manager needs to know any price variance to make supplier changes or identify other purchasing problems. The sales department may suggest price changes if material prices increase. Companies often make quantity changes to compensate for increased prices. For example, suppose the cost of resin used to make trashcans increased by 10%. The company has two options. It can increase the selling price of the product or reduce the quantity of resin used in the product. This latter option has been used on paper towels, boxed food products such as granola bars and macaroni and cheese, and other products as well to avoid increasing sales pricing.
 

Causes of Material Variances

Material prices fluctuate due to market changes and inflation effects. Supplier price lists are often not negotiable, so companies may not have an option on the cost of materials. Purchasing cheap materials may cause employees to use more material than allowed at the standard. It may also cause workers to spend more time replacing material that was defective. Sometimes shoddy equipment maintenance causes wasted materials. Improper scheduling can often increase the price of materials if they must be shipped overnight with higher shipping costs.

 

 

Responsibility for Material Variances

Whose problem is it when a material price variance exists? The purchasing manager orders materials and negotiates prices from suppliers. He is sometimes able to change suppliers but often competitors have similar pricing. If a material price variance exists, we inquire with the purchasing manager to try to determine the variance cause.

 

Whose problem is it when a material quantity variance exists? The production supervisor oversees the production workers and monitors the use of materials. If a material quantity variance exists, we inquire with the production supervisor to try to determine the cause.

 

 

Example Problem

Bateh Company produces hot sauce. It uses units as the cost driver for overhead. The following information was provided concerning its standard cost system for 2006:

Standard Data

 

Actual Data

Material

1/8 lb. @ $7.50 per lb.

 

Produced

4,400

Labor

24 mins. @ $12 per hr.

Materials purchased

600 lbs. for $4,440

Budgeted fixed overhead

$28,350

Materials used

556 pounds

Budgeted variable overhead

$4.50 per unit

Labor worked

1,610 hours totaling $19,481

Budgeted production

4,500

Actual overhead

Fixed $20,000; Variable $28,400

 

Calculate all three direct material variances.

 

Solution

Set up the matrix and write the actual price and standard price amounts on the first line. The problem gives you the standard (S) price per pound of $7.50. The actual price for direct materials must be calculated. Because the total cost of purchasing 600 pounds is $4,440, the cost per pound is $7.40.

 

P A  S  S  S 
 $7.40    $7.50    $7.50    $7.50  
        
Q  A    A    A    S  

 

Now write in the quantities in the second row. You are given the actual quantity purchased for the first two columns, and the actual quantity used for the third column. The last column is often referred to as the flexible budget column because the amount you will write in will calculate the amount on a flexible budget. The standard quantity allowed is 1/8 pound for each finished goods unit produced. Since 4,400 were produced, there will be 1/8 times 4,400 pounds, or 550 pounds of direct materials allowed.

 

P A  S  S  S 
 $7.40    $7.50    $7.50    $7.50  
        
Q  A    A    A    S  

600

 

  600

 

556

 

550

 

            

 

Now we need to multiply down and write the total below the underline for each of the four columns.

 

P A  S  S  S 
 $7.40    $7.50    $7.50    $7.50  
        
Q  A    A    A    S  

600

 

  600

 

556

 

550

 

  4,440

 

4,500

 

   4,170

 

    4,125

 

 

Take the difference between the first and second columns to get the material price variance. Since the left total is less than the right total, the variance is favorable. Take the difference between the third and last columns to get the material quantity variance. Since the left total is greater than the right total, the MQV is unfavorable.

 

P A  S  S  S 
 $7.40    $7.50    $7.50    $7.50  
        
Q  A    A    A    S  

600

 

  600

 

556

 

550

 

  4,440

 

4,500

 

   4,170

 

    4,125

 
  MPV    MQV  
   $  60 F    $   45 U 

 

The total variance is determined by combining the two material variances together. Because the favorable variance of $60 is greater than the unfavorable variance of $45, the total material variance is favorable in the amount of $15.

 

Should the MPV and the MQV be investigated if the company has a 2% materiality threshold? You first need to calculate how much 2% is. The last column is the total flexible budget amount allowed and is used as the budget amount for this calculation.

 

            2% x $4,125 = $82.50

 

Because neither variance exceeds the $82.50 amount, neither should be investigated.

 

Who is responsible for these variances? The production supervisor is responsible for usage of materials. The purchasing manager is responsible for material price variances.