- Analyze the variance between standard unit price and actual price of materials purchased
You own a woodworking shop and have figured out a price you will pay and how many pounds of wood you will need to make tables. What happens if you use more or less wood, or it costs more or less than you budgeted at standard price and quantity?
What might cause a variance between the standard unit price and the actual price? Quality of product purchased, market issues including unavailability of product or competition for the same materials could all be factors here. Let’s look at a couple of examples.
So what if we go back to our original budget, our total raw material cost should be $21,000, but when we compare to the actual, we see this:
|Required production in pairs||2050|
|Units of raw material needed per pair||5|
|Units of raw material needed to meet production||10250|
|Plus desired ending raw material inventory||500|
|Total units of raw materials needed||10750|
|Less units in beginning raw material inventory||250|
|Units of raw materials to be purchased||10500|
|Cost of raw material per unit||$3|
|Cost of raw material to be purchased||$31,500|
Now we can calculate our variance as follows:
- Standard quantity allowed for actual output at standard price = 10,500 × $2 = $21,000
- Actual quantity of input at actual price = 10,500 × $3= $31,500
Creating a spending variance of $10,500.
So now, our units remained the same at 5 per pair, but our cost went up by $1 per unit! So our production department did good work, but perhaps our purchasing department either had problems finding the raw material and had to pay a higher price, or they may not have done proper negotiating with suppliers!
How would you go about providing this information to management? What things might you do to fix these problems?