Explain the significance of variance analysis in decision making. Classify the various material and labour variance. Also give reasons for their occurrence.
Meaning of Variance:- The difference between the standard cost and actual cost is known as the variance. So it is the next process, after the establishment of standard cost. When actual cost is incurred then it can be compared against the standard cost. Then variance will be arised.
Variance Can be
- Favourable variance
- Unfavourable variance
Favourable Variance:- When actual cost incurred is less than the established standard cost is known as Favourable Variance.
Unfavourable Variance:- When actual Cost incurred is more than the established standard cost is known as Unfavourable Variance.
SIGNIFICANCE OF VARIANCE ANALYSIS
With the help of variance analysis organisations can get many benefits regarding labour cost and material wastage. So material control can be established due to which profit can be increased.
- Material Control
- Labour cost can be decreased
- Sales can be increased
- Efficiency of workers can be increased.
- Time can be saved
- Wastage can be declined.
TYPES OF VARIANCE
- COST VARIANCE
- SALES VARIANCE
- Cost Variance:- Total cost variance is the difference between standard cost for the actual output and the Actual cost for the actual output in the business. Total cost variance analysis involves of:
( I ) Material Cost Variance
( ll ) Labour Cost Variance
( lll ) Overhead Cost Variance
( l ) Material Cost Variance:- It is also direct material cost variance. It is the difference between the actual material cost incurred and standard material cost incurred. It can be calculated with the following formula.
MCV = SQ × SP – AQ × AP
Where MCV stands for Material Cost Variance
AQ – Actual quantity of material used
AP – Actual Price per Unit
SQ – Standard Quantity of Material
SP – Standard Price per Unit
Material Cost Variance may be analysis further two variance analysis
- Material Price Variance
- Material Usage Variance
Material Price Variance:- It is due to the difference between actual and standard price per unit of the material used in the manufacturing. This variance can be compute
With the following formula is:
MPV = AQ ( SP – AP )
Reasons are these due to which variance can be raised.
- Price Fluctuations
- Uneconomical purchase lots
- Higher transportation cost
- Unfavourable terms from supplier
- Failure to avail discount
Material Usage Variance:- This variance is arised due to the difference between the standard cost of quantity of material for output and the actual cost of material used. Usage material variance analysis is calculated as following formula:
MUV = SP ( SQ – AQ )
Reasons are here due to which Usage material variance arise
- Mishandling of materials
- Abnormal wastage of materials
- Using substandard material
- Non standard production methods
- Obsolete Machinery
- Untrained workers
- Changes in the design of product
- Change in composition of material mixture
However material Usage variance is further two types
( l ) Material Mix Variance
( ll ) Material Yield Variance
( l ) Material Mix Variance:- This variance is arised, if a different material mix is used than the specified material. This can be arised in Textiles, Chemical, rubber and similar other industries. Where different raw materials are mixed to get a product.
- When actual weight of mix is equal to standard weight of mix:
MMV = SR ( SQ — AQ )
- When actual weight of mix is different from standard weight of mix:
MMV = Standard cost of standard mix × Weight of actual mix/Weight of standard mix – ( Standard cost of actual mix )
( 2 ) Labour Cost Variance:- Labour cost variance also known as direct wage variance. It is the difference between the actual labour cost and the standard labour cost specified.
Formula for Computation of labour cost variance
Labour Cost Variance = Standard Cost of Labour – Actual Cost of Labour
LCV = SH × SR – AH × AR
Where AH actual hours
AR actual rate of wages
SH standard Hours for actual output
SR standard rate of wages
Labour cost variance further categories
- Labour rate variance
- Labour efficiency variance
- Labour Yield variance
- Labour mix variance
- Idle time variance
- Labour rate variance:- This wage rate is arised due to the difference between the actual wage rate and standard wage rate per hour applied to the actual hours worked.
LRV = AH ( SR — AR )
- Labour efficiency rate:- It is that variance which is arised due to the difference between actual hours worked and the standard hours for the production.
LEV = SR ( SH – AH )
( c ) Labour yield variance:- This variance is arised due to variation in labour cost on account of increase or increase or decrease in yield.
Labour Yield Variance = Standard labour Cost per unit of output × { Standard output for actual time – Actual output }
(d) Labour Mix Variance:- Labour mix variance arises due to the difference between actual composition of persons than the standard composition of persons of labour forces.
LMV = Standard cost of standard Mix × ( Actual Mix/Standard Mix ) — Standard cost of Actual Mix
(e) Idle Time Variance:- Idle Time variance is a portion of labour efficiency variance is represented by the standard cost of actual hours for which workers remain idle due to abnormal circumstances. It can be calculated as:
Idle Time Variance = Abnormal Idle Time × SR
Conclusion:- From the above discussion we can conclude that material variance and labour variance can be arised due to the difference between standard and actual material & labour used for the production process. However these variance can be favourable and unfavourable in the organisation. You can understand the sales variance from our next question. variance analysis | variance analysis
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