Direct Materials Variance Analysis

In this case, the actual price per unit of materials is \(\$6.00\), the standard price per unit of materials is \(\$7.00\), and the actual quantity used is \(0.25\) pounds. Angro Limited, a single product American company, employs a proper standard costing system. The normal wastage and inefficiencies are taken into account while setting direct materials price and quantity standards.

Strategies to Manage MQV

For a production run of 500 units, the standard quantity expected is 1,500 liters. Poor-quality materials may require more quantity to achieve the desired production output due to higher rates of defects or lower efficiency in processing. Using high-quality materials can help reduce the variance by ensuring consistent and efficient usage. Due to bulk purchasing discounts, the actual direct-material total variance price paid was $3.50 per unit. The following equations summarize the calculations for direct materials cost variance.

How to Compute Direct Materials Variances

• Therefore, understanding and managing MPV is essential for accurate financial reporting and maintaining profitability.
• Using high-quality materials can help reduce the variance by ensuring consistent and efficient usage.
• Understanding and managing direct material variances is vital for maintaining control over production costs, improving financial planning, and enhancing overall operational efficiency in manufacturing.
• A favorable outcome means you spent less on the purchase of materials than you anticipated.
• Material Price Variance (MPV) is the difference between the actual price paid for materials and the standard price that was expected or budgeted.

Understanding direct material variance is crucial for businesses aiming to maintain cost efficiency and improve profitability. This concept involves examining the differences between expected and actual costs of materials used in production, providing insights into potential areas for financial improvement. The sum of the direct material price variance and direct material usage variance equals the total direct material cost variance. The direct materials quantity variance should be investigated and used in a way that does not spoil the motivation of workers and supervisors at work place.

Direct Materials Quantity Variance

Direct Material Variance refers to the difference between the actual costs of the direct materials used in the production process and the standard costs that the company expected to incur. This measure is used in standard costing, a part of cost accounting, to help a company understand cost behavior and control its production expenses more effectively. The direct materials variances measure how efficient the company is at using materials as well as how effective it is at using materials. The standard price of materials purchased by Angro is $2.00 per kg and standard quantity of materials allowed to produce a unit of product is 1.5kg. During December 2020, 5,000 units were produced using 8,000kgs of direct materials. Calculate direct materials quantity variance and also indicate whether it is favorable or unfavorable.

Possible Causes of Direct Materials Variances

On the other hand, if workers use the quantity that is more than the quantity allowed by standards, the variance is known as unfavorable direct materials quantity variance. One of the primary causes of material price variance is changes in supplier prices. These changes can occur due to various reasons such as increased raw material costs, supplier operational costs, or changes in supply chain dynamics. When suppliers raise their prices, the actual price paid for materials increases, leading to a positive MPV (unfavorable variance).

12.4: Direct Materials Variance Analysis

Direct materials, in contrast to indirect materials, refer to the materials that form an integral or major part of the finished product. Examples include wood in furniture, steel in automobiles, fabric in clothes, etc. The direct material variance is usually charged to the cost of goods sold in the period incurred.

• This cross-functional collaboration ensures that all aspects of the business are aligned towards achieving cost efficiency.
• By breaking down direct material variance into these components, businesses can pinpoint whether the variances are due to price changes, quantity usage, or both.
• The standard price of materials purchased by Angro is $2.00 per kg and standard quantity of materials allowed to produce a unit of product is 1.5kg.
• In this case, the actual quantity of materials used is \(0.20\) pounds, the standard price per unit of materials is \(\$7.00\), and the standard quantity used is \(0.25\) pounds.

When a company buys materials in large quantities, suppliers often offer discounts, resulting in a lower actual price than the standard price. This discount reduces the overall cost of materials, creating a favorable variance. This setup explains the unfavorable total direct materials variance of $7,200 — the company gains $13,500 by paying less for direct materials, but loses $20,700 by using more direct materials. To apply this method to the Band Book example, take a look at the next diagram. Direct materials actually cost $297,000, even though the standard cost of the direct materials is only $289,800.

Total Direct Materials Cost Variance

To compute the direct materials price variance, subtract the actual cost of direct materials ($297,000) from the actual quantity of direct materials at standard price ($310,500). This difference comes to a $13,500 favorable variance, meaning that the company saves $13,500 by buying direct materials for $9.90 rather than the original standard price of $10.35. In this case, the actual price per unit of materials is \(\$9.00\), the standard price per unit of materials is \(\$7.00\), and the actual quantity used is \(0.25\) pounds.

Causes of MPV

For instance, a sudden increase in the price of steel due to international trade policies can lead to an unfavorable material price variance for manufacturers relying on this resource. Companies must stay informed about market trends and consider strategies such as hedging or long-term contracts to mitigate these risks. Material Price Variance (MPV) is the difference between the actual price paid for materials and the standard price that was expected or budgeted.