Ahhh! Material Price/Usage variance

Cudey

Hi Guys,

My brain really isn't working at the moment, and would really appreciate some help. I have 2 questions from my text that i'm stuck on. I've read through the examples, and understand them, but the volume in the examples are the same. Here's the two questions:

1) A company purchases 2,700 metres of materials at a cost of £50,460, making 25,100 units. The budgeted production level was 25,000 units using 2,500 metres at a cost of £50,000. the material price variance is:

2) A company uses 500 metres of material at a cost of £5,640, making 2,100 units. the budgeted production level was 2,000 units using 480 metres at a cost of £4800. the material usage variance is:

The solution is probably really straight forward - but I think i've got to the stage of over-analysing it and making a mountain out of a molehill in my head

Clarekaye

Is the answer
1- 3738A
2- 40F ?

Just thought I would check before explaining...

Nps

The answer to part 1 is 3,800 Adv.

I'm happy to show you my workings with the method I know and find very simple, but from experience, I know people either love it or hate it.

I'm just doing part 2 now.

Nps

And I agree with Clare that part 2 is £40 Fav.

coojee

Nps wrote: »

The answer to part 1 is 3,800 Adv.

I'm happy to show you my workings with the method I know and find very simple, but from experience, I know people either love it or hate it.

I'm just doing part 2 now.

I'm going to need the workings for part a). At first glance I can't see how the price variance can be adverse when the actual price per metre is less than the budgeted price per metre. The only reason they've spent more is because they've used more than they should.

lifeisstrange

NPS could you please explain part 1 because I have a different answer

AQ x SP = 2700 x 20 (50000/2500) = 54000
AQ x AP = 50460

Difference = 3540 favorable

Nps

Part a,

First of all you need to flex your budget so that you are working with the same quantities. Also work out how much your budget expects you to pay for each metre. You can then forget the original budgeted figures.

From the flexed budget and your actual figures (which are now comparing like for like), you should be able to fill in the blanks of the following table...

Actual quantity x Actual price (AQxAP) = this is easy, it's just what the company actually paid for what they actually bought (so taken from the question)
Actual quantity x Standard price (AQxSP) = this is the quantity actually used but assuming they paid the budgeted price for it (this is the only figure you actually need to work out, the other 2 figures are taken directly from your flexed budget and the question)
Standard quantity x Standard price (SQxSP) = the expected cost from the flexed budget.

You will see that in the first two lines, only the price has changed (AQxAP and AQxSP) therefore the difference in these 2 answers must be your price variance.
In the bottom 2 calculations, only the usage has changed (AQxSP and SQxSP) so the difference in these 2 answers is the usage variance.
Adding the 2 answers gives you your total variance (or the difference between lines 1 and 3)

As I say, you will either love this method or hate it (more seem to love it though). I haven't done variances for a long time and wouldn't have a clue if I was asked to remember the official formula for them. However, for this method, you don't need to remember the formula and it should become quite clear how the calculations are giving you the answers, therefore you remember it many months later. You can also use this method for some other variance calculations too.

I'll leave you to actually put the figures in to see if you come up with the same answer, and I'll also leave part 2 for you to practice on using exactly the same method. I've also posted the answers to some other similar questions using this method, so just search through my previous posts if you want more practice. I'll keep checking back in case you want me to clarify anything.

Nps

Sorry, my mistake, my answers were the usage variances for both (timely reminder to read the question!)

The price variance for a is 3540 Fav. Proves that you are confident with the method though!

coojee

Nps wrote: »

Part a,

First of all you need to flex your budget so that you are working with the same quantities. Also work out how much your budget expects you to pay for each metre. You can then forget the original budgeted figures.

From the flexed budget and your actual figures (which are now comparing like for like), you should be able to fill in the blanks of the following table...

Actual quantity x Actual price (AQxAP) = this is easy, it's just what the company actually paid for what they actually bought (so taken from the question)
Actual quantity x Standard price (AQxSP) = this is the quantity actually used but assuming they paid the budgeted price for it (this is the only figure you actually need to work out, the other 2 figures are taken directly from your flexed budget and the question)
Standard quantity x Standard price (SQxSP) = the expected cost from the flexed budget.

You will see that in the first two lines, only the price has changed (AQxAP and AQxSP) therefore the difference in these 2 answers must be your price variance.
In the bottom 2 calculations, only the usage has changed (AQxSP and SQxSP) so the difference in these 2 answers is the usage variance.
Adding the 2 answers gives you your total variance (or the difference between lines 1 and 3)

As I say, you will either love this method or hate it (more seem to love it though). I haven't done variances for a long time and wouldn't have a clue if I was asked to remember the official formula for them. However, for this method, you don't need to remember the formula and it should become quite clear how the calculations are giving you the answers, therefore you remember it many months later. You can also use this method for some other variance calculations too.

I'll leave you to actually put the figures in to see if you come up with the same answer, and I'll also leave part 2 for you to practice on using exactly the same method. I've also posted the answers to some other similar questions using this method, so just search through my previous posts if you want more practice. I'll keep checking back in case you want me to clarify anything.

Even using this method I still get a favourable price variance. AQ x SP = 2,700 x £20 = £54,000 and AQ x AP = £50,460 so they paid £3,540 less than expected. Same as lifeisstrange.

coojee

coojee wrote: »

Even using this method I still get a favourable price variance. AQ x SP = 2,700 x £20 = £54,000 and AQ x AP = £50,460 so they paid £3,540 less than expected. Same as lifeisstrange.

Sorry, just seen your reply, we must have been typing at the same time :-)

Nps

Great! Does that mean you find the method useful?

Clarekaye

So used to seeing budgeted first damn brain can't cope!

coojee

Nps wrote: »

Great! Does that mean you find the method useful?

It's the method I use instinctively I've just never written it down like this. I always try and work from first principles. I ask myself questions like, what did I expect it to cost, what did it cost etc. Your method just ties it all up nicely :-)

Nps

Exactly, that's why I think I find it so useful. It makes it really clear what the variances are actually showing, and is basically just following through the logic in a format.

Sorry Coojee - just realised I'm getting you and the Original Poster mixed up - was replying to you thinking you'd posted the original question!

topcat

Nps wrote: »

Part a,

First of all you need to flex your budget so that you are working with the same quantities. Also work out how much your budget expects you to pay for each metre. You can then forget the original budgeted figures.

From the flexed budget and your actual figures (which are now comparing like for like), you should be able to fill in the blanks of the following table...

Actual quantity x Actual price (AQxAP) = this is easy, it's just what the company actually paid for what they actually bought (so taken from the question)
Actual quantity x Standard price (AQxSP) = this is the quantity actually used but assuming they paid the budgeted price for it (this is the only figure you actually need to work out, the other 2 figures are taken directly from your flexed budget and the question)
Standard quantity x Standard price (SQxSP) = the expected cost from the flexed budget.

You will see that in the first two lines, only the price has changed (AQxAP and AQxSP) therefore the difference in these 2 answers must be your price variance.
In the bottom 2 calculations, only the usage has changed (AQxSP and SQxSP) so the difference in these 2 answers is the usage variance.
Adding the 2 answers gives you your total variance (or the difference between lines 1 and 3)

As I say, you will either love this method or hate it (more seem to love it though). I haven't done variances for a long time and wouldn't have a clue if I was asked to remember the official formula for them. However, for this method, you don't need to remember the formula and it should become quite clear how the calculations are giving you the answers, therefore you remember it many months later. You can also use this method for some other variance calculations too.

I'll leave you to actually put the figures in to see if you come up with the same answer, and I'll also leave part 2 for you to practice on using exactly the same method. I've also posted the answers to some other similar questions using this method, so just search through my previous posts if you want more practice. I'll keep checking back in case you want me to clarify anything.

i have been struggling on these variances so have printed it out to look at tonight , thank you :thumbup1:

Cudey

Didn't expect this may replies to the thread - but appears I wasn't the only one struggling so will hopefully help others to.

Big thank you to NPS and the others for their posts. I tried the method, and took a while to translate it all in my brain (Ieven started to doubt myself on the flexing!) but I understand it now :thumbup1:

steve2008

Nps wrote: »

Sorry, my mistake, my answers were the usage variances for both (timely reminder to read the question!)

The price variance for a is 3540 Fav. Proves that you are confident with the method though!

Phew.
I read the question, calculated the answer, then saw your first answer was different and really didn't understand why. The problem is, I was sure you must be right. I only took my budgeting exam yesterday so being wrong here would have really knocked my confidence on passing.

In terms of remembering the formulae, I went for

Material price variance = (budgeted cost per kg - actual cost per kg) * Actual usage
Material usage variance = (budgeted cost per unit - actual cost per unit) * #units * STANDARD cost per kg.
There are often more calculations involved this way, I just prefer boiling it down to a per __ figure to calculate the difference.

I do like your method, and would have used it if I hadn't already developed my own.
The key, as everyone here seems to agree on, is understanding what you are doing. The formula they give in the book is the quickest way to get the answer but not the most intuitive way.



If anyone is struggling with the concept of why it has to be the standard cost not the actual cost, Consider calculating the area of a rectangle. The below will inevitably confuse most people, sorry.

Lets label the sides A and B
Start off with A=2, B=5, The area is 10.
Now if you increase A by 1, the area has increased by

1) The increase in the length of A * The original length of B = 1*5 = 5

If however you were to increase A by 1 AND B by 2, then the area has increased by
the sum of

1) The increase in the length of A * The original length of B = 1*5 = 5
2) The increase in the length of B * the NEW length of A = 2*3 = 6
The total change in area = 6+5 = 11

formula 1) represents a usage variance and is based on the budgeted figures, while formula 2) represents a price variance and is based on actual figures. If you draw it on a bit of paper you will see that if you do not multiple by the new length of A in equation 2 you will not get the entire area of the rectangle.