Direct Material Quantity Variance

The standard quantity of direct materials used to make the products is recorded at standard cost. In conclusion, both Material Price Variance (MPV) and Material Quantity Variance (MQV) play crucial roles in cost management by identifying different aspects of material cost deviations. A company has a standard material requirement of 3 liters of material per unit of product. For a production run of 500 units, the standard quantity expected is 1,500 liters. Direct material variance analysis is a vital tool in cost accounting and management.

By closely monitoring these variances, companies can identify opportunities for cost savings and performance improvements, ensuring they remain competitive in the market. The combination of the two variances can produce one overall total direct materials cost variance. Since direct labor hours are the cost driver for variable manufacturing overhead in this example, the variance is linked to the direct labor hours worked in excess of the standard labor hours allowed. This overage in direct labor hours means that $22,500 of additional variable manufacturing overhead was incurred based on the standard amount applied per direct labor hour.

Causes of MQV

Managing and minimizing waste is crucial to control material quantity variance. Production inefficiencies are a common cause of material quantity variance. Inefficient production processes can lead to higher material usage than expected. Factors such as outdated equipment, suboptimal production methods, and untrained labor can contribute to these inefficiencies, resulting in a positive MQV (unfavorable variance). Understanding and managing direct material variances is vital for maintaining control over production costs, improving financial planning, and enhancing overall operational efficiency in manufacturing.

• For instance, procurement teams can work closely with suppliers to negotiate better prices, while production teams can implement process improvements to reduce material waste.
• By regularly monitoring these variances, businesses can quickly identify trends or anomalies that may indicate underlying issues, such as supplier problems or inefficiencies in the production process.
• This variance occurs when there is a discrepancy between the amount of material that should have been used according to the standards and the amount that was actually used.
• Determine whether a variance is favorable or unfavorable by reliance on reason or logic.
• Inefficient production processes can lead to higher material usage than expected.
• Supplier performance also plays a crucial role in direct material variance.

Accounting for the Direct Material Variance

Knowledge of this variance may prompt a company’s management team to increase product prices, use substitute materials, or find other offsetting sources of cost reduction. This shows that we saved money by buying cheaper, but lost money because of material waste. It could be that the cheaper lumber has more knots, therefore forcing workers to throw more of the raw materials in the scrap heap. The responsible managers (e.g. purchasing and production) will have to get together to do more observations and research. It may also be that our expectations are unrealistic and we need to change our budget parameters. To summarize the distinction between the two variances, you either paid more or less than planned (price variance) or used more or less than planned (efficiency variance).

It provides a detailed understanding of where deviations from expected material costs occur and why, enabling businesses to take proactive steps to manage and control their production costs effectively. By leveraging this information, companies can enhance their financial performance, optimize their operations, and maintain a competitive edge in the market. This variance should be investigated to determine if the savings will be ongoing or temporary. The completed top section of the template contains all the numbers needed to compute the variable manufacturing overhead efficiency (quantity) and rate (price) variances. The variable manufacturing overhead efficiency and rate variances are used to determine if the overall variance is an efficiency issue, rate issue, or both. Another advanced technique is the application of statistical methods, such as regression analysis, to understand the relationship between different variables affecting material costs.

Practice Video Problem 8-3: Computing manufacturing overhead variances LO4

• Standard costs variance analysis is used to determine the variances between the standard amounts projected for manufacturing costs and the actual amounts incurred.
• As a result of this favorable outcome information, the company may consider continuing operations as they exist, or could change future budget projections to reflect higher profit margins, among other things.
• The unfavorable variance of $1,000 indicates that the company used more material than expected, increasing production costs.
• The material price variance is $7,500 unfavorable because your actual costs ($57,500) were more than the actual quantity at budgeted price ($50,000).
• It is important to remember that standards are the planned or projected amounts.
• The normal wastage and inefficiencies are taken into account while setting direct materials price and quantity standards.

A favorable outcome means you used fewer materials than anticipated, to make the actual number of production units. If, however, the actual quantity of materials used is greater than the standard quantity used at the actual production output level, the variance will be unfavorable. An unfavorable outcome means you used more materials than anticipated to make the actual number of production units. The example of the NoTuggins dog harness is used throughout this chapter to illustrate standard costs and standard costs variances for product costs.

Total variable manufacturing overhead variance

The management therefore needs to assess performance while taking all these relevant factors into account. The direct materials variances measure how efficient the company is at using materials as well as how effective it is at using materials. There are two components to a direct materials variance, the direct materials price variance and the direct materials quantity variance, which both compare the actual price or amount used to the standard amount. Standard costs and quantities are established for each type of direct labor.

This variance occurs when there is a discrepancy between the cost anticipated for materials and the actual cost incurred. MPV is a critical component of cost variance analysis as it helps businesses understand the financial impact of changes in material prices. Knowing that variable manufacturing costs were $181,500 over budget is helpful, but it doesn’t isolate the production issue or issues.

As you’ve learned, direct materials are those materials used in the production of goods that are easily traceable and are a major component of the product. The amount of materials used and the price paid for those materials may differ from the standard costs determined at the beginning of a period. A company can compute these materials variances and, from these calculations, can interpret the results and decide how to address these differences. To illustrate standard costs variance analysis for direct labor, refer to the data for NoTuggins in Exhibit 8-1 above. Each unit requires 0.25 direct labor hours at an average rate of $18 per hour for a total direct labor cost of $4.50 per unit. During the period, 45,000 direct labor hours were worked and $832,500 was paid for direct labor wages.

Accountants determine whether a variance is favorable or unfavorable by reliance on reason or logic. If more materials were used than the standard quantity, or if a price greater than the standard price was paid, the variance is unfavorable. Based on a standard of four BF per body, we expected raw materials usage to be 6,480 (1,620 bodies x 4 BF per blank).

By regularly analyzing MPV, businesses can gain insights into the effectiveness of their purchasing strategies and make informed decisions to optimize material costs. The direct labor variances for NoTuggins are presented in Exhibit 8-7 below. Negative variance generally means direct material efficiency variance production is not run effectively, and positive variance is normally favorable for management. To produce 2,000 bikes, you plan to use 6 pounds of aluminum per bike, or a total of 12,000 pounds. Assume that for the same 2,000 bikes produced, you used only 5 pounds of aluminum per bike (because you were so efficient, of course). Your material cost would be lower, which would increase your operating profit.

Determine whether a variance is favorable or unfavorable by reliance on reason or logic. Another key component of any efficiency variance is the basis upon which the standard is set. For example, the number of units of direct material could assume the absence of scrap, when in fact a standard amount of scrap is normally realized, causing a continuing negative efficiency variance. This would be a theoretical standard, that can only be met if the circumstances are optimal. Or, a realistic standard could be used that incorporates reasonable inefficiency levels, and which comes close to actual results.