Direct Materials Price Variance:
Learning Objective of
the articles:
- Define and explain "direct materials price variance"
and its significance.
- How is it calculated? How direct materials price
variance is interpreted?
- What are the reasons / causes of unfavorable or
favorable materials price variance?
Contents:
-
Definition and explanation of direct materials price variance
-
Formula
-
Example
-
Isolation
of variance
-
Who is responsible for direct materials price variance?
-
Exercises
Direct materials price variance is the
difference between the actual purchase price and standard purchase price of
materials. Direct materials price variance is calculated either at the time
of purchase of
direct materials or at the time when the
direct materials are
used. When this variance is computed at the time of purchase of materials it
is called direct materials purchase price variance. When this
variance is computed at the time of usage this is typically called direct
materials price usage variance.
Following formula is used to calculate materials
price variance:
[Materials Price Variance = (Actual quantity purchased × Actual
price) − (Actual quantity purchased × Standard price)]
This formula is usually preferred and used by managers
because it permits calculation of materials purchase price variance very
quickly.
Colonial Pewter Company
provides the following information:
Standard price of material is $4.00 per pond
and 6,500 pounds of materials have bee purchased at a cost of $3.80 per
pound. This cost figure includes freight and handling and is net of quantity
discount. All the materials purchased has been used and an output of 2000
units is produced during the period.
Required: Calculate materials price variance.
Calculation of direct materials price
variance:
= (6,500 pounds × $3.80) − (6,500 pounds ×
$4.00)
= $24,700 − $26,000
= $1,300 Favorable
A
favorable material
price variance of $1,300 exists because the actual price of
materials purchased is less than the standard price of materials purchased. A material
price variance is called unfavorable materials price
variance if the actual price of materials purchased is more than
the standard price of materials purchased.
Variance analysis reports are often issued in a
tabular format. An example of such a variance report follows along with an
explanation for the materials price variance that has been calculated above for
Colonial Pewter Company.
|
Colonial Pewter Company
Performance Report - Purchasing Department |
|
Item Purchased |
Quantity Purchased |
Actual Price |
Standard Price |
Difference in Price |
Total Price Variance |
Explanation |
| |
1 |
2 |
3 |
4 |
5 |
Bargained for an especially good price |
| |
|
|
(2) – (3) |
(1) × (4) |
|
Pewter |
6,500 pounds |
$3.80 |
$4.00 |
$0.20 |
$1,300Favorable |
Most companies compute materials price variance
when the materials are purchased than they are used in production. There are two
reasons for this practice. First, delaying the computation of the price variance
until the materials used would result in less timely variance report. Second, by
computing the price variance when the materials are purchased, the materials are
carried in the inventory accounts at their standard costs. This greatly
simplifies book keeping. When the materials price variance is computed at the
time of purchase of materials it is typically called
materials purchase price variance.
At what point should variances be isolated and
brought to the attention of
management? the answer is, the earlier the better.
The sooner deviations from standard are brought to the attention of management,
the sooner problems can be evaluated and corrected. Once the performance report
has been prepared, what does management do with the price variance data? The
most significant variances should be viewed as "red flags," calling attention to
the fact that an exception has occurred that will require some explanation and
perhaps follow-up effort. Normally, the performance report itself will contain
some explanation of the reason for the variance, as shown above, In the case of
Colonial Pewter Company, the purchasing department explained that favorable
price variance resulted from bargaining for an especially good price.
Generally speaking, the purchase manager has
control over the price paid for goods and is therefore responsible for any price
variation. Many factors influence the price paid for the goods, including number
of units ordered in a lot, how the order is delivered, and the quality of
materials purchased. A deviation in any of these factors from what was assumed
when the standards were set can result in price variance. For example purchase
of second grade materials rather than top-grade materials may be a reason
of favorable price variance, since the lower grade material will generally be
less costly but perhaps less suitable for production and can be a reason of
unfavorable
materials quantity variance.
However, someone other than purchasing manager
could be responsible for materials price variance. For example, production is
scheduled in such a way that the purchasing manager must request express
delivery. In this situation the production manager should be held responsible
for the resulting price variance.
Exercise 1: Materials Variance Analysis
The Schlosser Lawn Furniture Company uses 12 meters
of aluminum pipe at $0.80 per meter as standard for the production of its Type A
lawn chair. During one month's operations, 100,000 meters of the pipe were
purchased at $0.78 a meter, and 7,200 chairs were produced using 87,300 meters
of pipe. The materials price variance is recognized when materials are
purchased. Calculate materials price variance.
Solution:
| |
Meters of pipe |
Unit Cost |
Amount |
| Actual quantity purchased |
100,000 |
$0.78 actual |
$78,000 |
| actual quantity purchased |
100,000 |
$0.80 standard |
$80,000 |
| |
--------- |
--------- |
--------- |
| Materials purchase price variance |
100,000 |
$(0.02) |
$(2,000) fav. |
| |
======= |
======= |
======= |
Exercise 2: Materials Variance Analysis
The standard price for material 3-291 is $3.65 per liter. During November,
2,000 liters were purchased at $3.60 per liter. The quantity of material 3-291
issued during the month was 1775 liters and the quantity allowed for November
production was 1,825 liters. Calculate materials price variance, assuming that:
- It is recorded at the time of purchase
(Materials purchase price variance).
- It is recorded at the time of issue
(Materials price usage variance).
Solution:
|
Liters |
Unit cost |
Amount |
| Actual quantity purchased |
2,000 |
3.60 actual |
$7,200 |
| Actual quantity purchased |
2,000 |
3.65 standard |
7,300 |
| |
--------- |
---------- |
--------- |
| Materials
purchase price variance |
2,000 |
$
(0.05) |
$(100) fav. |
| |
====== |
====== |
====== |
| Actual quantity
used |
1775 |
3.60 actual |
$6390.00 |
| Actual quantity
used |
1775 |
3.65 standard |
$6478.75 |
| |
--------- |
--------- |
--------- |
| Materials
price usage variance |
1775 |
$(0.05) |
(88.75) |
| |
====== |
====== |
======= |
|
