CHAPTER 12: VARIANCE ANALYSIS

Variance is the difference between actual results and budgeted outcomes.

Actual usage – standard usage

Variances occur because Difference

Actual price – standard price

Actual Cost more than Standard Cost(Budgeted Cost) = Adverse Variance(A)

Actual Cost less than Standard Cost(Budgeted Cost) = Favourable Variance (F)

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Types of variances Material Variances To reconcile To investigate the
under both Labour Variances between the causes of variances,
absorption costing Variable Overhead Variances actual profit and for remedial or
and marginal Fixed Overhead Variances standard profit corrective actions
costing Sales Variances (Budgeted) to be taken

2
Variance analysis involves breaking down the total
variance to explain how much of its is caused by the
usage of resources being different from the standard,
and how much of it is caused by the price of the
resources being different from the standard.

The variances can be combined to reconcile the total

cost difference revealed by the comparison of the
actual and standard cost.

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 Example:1- UNDER ABSORPTION COSTING
A company manufactures a single product for which the standard variable cost is as
follows:-

RM per unit
Direct material 81 kg x RM7 per kg 567

Direct labour 97 hours x RM4 per hour 388

Variable overhead 97 hours x RM3 per hour 291

1,246

During January, 530 units were produced and the costs incurred were as
follows:-
Direct material 42, 845 purchased and used; cost RM308,484
Direct labour 51,380 hours worked; cost RM200,382
Variable overhead Cost RM156,709

Required:
Calculate the variances for material, labour and variable overhead for January.

4
1.1 (a) Direct material total cost variance
RM
530 units x RM567 = 300,510
(std direct material cost)
compare
Actual Direct material cost = 308,484
Direct material total cost variance 7,974 (A)

Material Price Material usage

1.1 (b) Direct material price variance
= (Standard Price – Actual Price) X Actual Quantity

= (7 -
308,484
)x 42,845
42,845
= ( 7 - 7.2 )X 42,845
= RM8,569(A)
OR
SP X AQ – AP x AQ
=(7)(42,845)-308,484 =299,915 (Budgeted) – 308,484 (Actual)
=8,569 (A)
5
1.1 (c) Direct Material Usage Variance
= (Standard Quantity – Actual Quantity) Standard Price

SQ for actual production

= (530 x 81 kg) - 42,845) x 7
= (42,930 kg - 42,845 kg) x 7
= RM595 (F)

To check:

Direct Material Price Variance + Direct Material Usage Variance

= 8,569 (A) + 595 (F)
= RM7,974 (A)
= Direct Material total cost variance

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1.2(a) Direct Labour total cost variance
=> Std direct labour cost = 530 units x RM388
= RM205,640

compare
Actual direct labour cost = RM200,382
Direct labour total cost variance RM 5,258 (F)
===========

Labour Rate Labour Efficiency

7
1.2(b) Direct labour rate variance

= (Standard Rate – Actual Rate) X Actual Hours

= ( 4 - 200,382 ) x 51,380
51,380
= ( 4 - 3.9 )x 51,380
= RM5,138 (F)

OR
(SR x AH) – (AR x AH)
=(4)(51,380) - 200,382 =205,520 (Budgeted) – 200,382 (Actual)
=5,138 (F)

8
1.2 (c) Direct Labour Efficiency Variance
= (Standard Hour – Actual Hour) X Standard Rate

SH for actual production

= (530 x 97 hrs) – 51,380) x RM4
= (51,410 hrs – 51,380) x RM4
= RM120 (F)

To check:

Direct Labour Rate Variance + Direct Labour EfficiencyVariance

= RM5,138 (F) + RM120 (F)
= RM5,258 (F)
= Direct Labour Total Cost variance

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1.3(a) Variance O.H. total cost variance
=> Std Variance O.H. cost for actual production
= 530 units x RM291 = RM154,230

compare
Actual Variance O.H. cost = RM156,709
Variance O.H total cost variance RM 2,479 (A)
===========

Variable OH Rate (Expenditure) Variable OH Efficiency

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1.3(b) Variable OH Expenditure variance

= (Standard Rate – Actual Rate) X Actual Hours

156,709
= ( 3 - )x 51,380
51,380
= ( 4 - 3.05 ) x 51,380
= RM2,569 (A)

OR
(SRX AH) – (AR x AH)
=(3)(51,380)-156,709 =154,140 (Budgeted) – 156,709 (Actual)
=2,569 (A)

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1.3 (c) Variable O.H. Efficiency Variance
= (Standard Hours – Actual Hours) X Standard Rate

SH for actual production

= (530 x 97 hrs) – 51,380) x RM3
= (51,410 hrs – 51,380) x RM3
= RM90 (F)

To check:

Variable O.H. expenditure Variance + Variable O.H. Efficiency Variance

= RM2,569 (A) + RM90 (F)
= RM2,479 (A)
= Variable O.H. Total Cost variance

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 Fixed Overhead Total Cost Variance
UNDER ABSORPTION COSTING

Fixed Overhead Total Cost Variance =OH Under /Over-Absorbed = OH Absorbed – OH Actual

Reasons of under/over-absorbed

Budgeted OH Budgeted Basis

- Actual OH - Actual Basis

Fixed OH Expenditure Variance Fixed OH Volume Variance

Budgeted F.O.H.
OHAR = OH Absorbed = OHAR x Actual Basis
Budgeted Basis

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Example:2
A company manufactures a single product.
Budget and actual data for the latest period
is as follows:
•Budget. Fixed production overhead
expenditure RM103,000. Production output
10,300 units.
•Actual. Fixed production overhead
expenditure RM108,540. Production output
10,605 units.
REQUIRED:
Calculate the Fixed production OH Variances

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2(a) Fixed Production OH Total Cost Variance
= Under/Over Absorption of OH

RM103,000
Budgeted OH absorption rate =
10,300 units
= RM10/unit

Actual Basis (Actual units)

RM

OH absorbed = 10,605 x RM10 = 106,050

Actual OH incurred = 108,540

Fixed Production OH total cost variance = 2,490 (A)

Under- Absorption of OH

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 2(b) Fixed Production OH Expenditure Variance
= (Budgeted OH – Actual OH)

RM
Budgeted Fixed Production OH 103,000
Actual Fixed Production OH 108,540
Fixed Production OH Expenditure Variance 5,540(A)

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2(c ) Fixed Production OH Volume Variance
= (Budgeted Volume – Actual Volume) OHAR

Units
=> Actual Basis(Volume) level 10,605
Budgeted Basis(Volume) level 10,300
305
OH absorption rate (OHAR) X RM10
Fixed Production OH Volume Variance RM3,050 (F)

To check:
Fixed Production OH Expenditure Variance = 5,540 (A)
Fixed Production OH Volume Variance = 3,050 (F)
Fixed Production OH Total Cost Variance = 2,490 (A)

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Example:3
A company manufactures a single product. Budget
and actual data for the latest period is as follows:

Budget
Sales and production volume 81,600 units
Standard selling price RM59 per unit
Standard variable cost RM24 per unit
Standard fixed cost RM4 per unit
Actual results
Sales and production volume 82,400 units
Actual selling price RM57 per unit
Actual variable cost RM23 per unit
Actual fixed cost RM6 per unit

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3(a) Sales Price Variance
= (Actual Price – Std Price) x Actual Quantity
= (RM57-RM59) x 82,400
= RM164,800 (A)

(b) Sales Volume Variance

= (Actual Quantity – Std Quantity) x standard profit/unit
= (82,400 – 81,600) x RM31
= RM24,800 (F)
RM
Std Sales Price = 59
- Std Variable cost = (24)

- Std fixed cost = (4)

Std Profit 31
RM
Note: Sales Price Variance = 164,800 (A)
Sales Volume Variance = 24,800(F)
Total Sales Variance 140,000(A)

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Example:4

A company produces and sells one product only.

The standard cost which is as follows:- RM per unit

Direct material 11 litres at RM2 22
Direct wages 5 hours at RM6 30
Variable overhead-5 hours 10
Fixed production overhead 20
Total standard production cost 82
Standard gross profit 38
Standard selling price 120

The variable overhead is incurred in direct proportion to the direct labour hours worked. The unit rate for fixed
production overhead is based on an expected annual output of 24,000 units produced at an even rate throughout
the year. Assume that each calendar month is equal and that the budgeted sales volume for May was 2,000 units.

The following were the actual results recorded during May.

Number of units produced and sold 1,750 units
RM RM
Sales revenue 218,750
Direct materials:
19,540 litres purchased and used 41,034
Direct labour:
8,722 hours 47,971
Variable 26,166
overhead
Fixed production overhead 37,410
152,581
Profit 66,169
Required:
Calculate the operating variances and present them in a statement which reconciles the budgeted and
actual profit for May.
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Direct Material Price Variance
= (SP – AP) AQ
41,034
= ( 2- 19,540 ) X 19,540

=1,954 (A)

Direct Material Usage Variance

= (SQ – AQ ) SP
= [(11x1,750) -19,540 ] x 2
= [19,250 – 19,540 ] x 2
= RM580 (A)

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Labour Rate Variance
= (SR – AR) AH
=(6 - 47,971 ) X 8,722
8,722
= (6 - 5.5) x 8,722
= 4,361 (F)

Direct Labour Efficiency Variance

= (SH – AH ) SR
= [(1,750 x 5) – 8,722 ] x 6
= [8,750 – 8,722 ] x 6
= RM 168 (F)

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Variable OH Expenditure Variance
= (SR – AR) x AH
10 26,166
= [( 5 )] – ( ) x 8,722
8,722
= ( 2 – 3 ) x 8,722
= RM8,722 (A)

Variable OH Efficiency Variance

= (SH – AH ) SR
= [(1,750 x 5) – 8,722 ] x 2
= [8,750 – 8,722 ] x 2
= RM56 (F)

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Fixed OH Expenditure Variance
= (Budgeted F.O.H. – Actual F.O.H.)
= 40,000 – 37,410
= RM2,590 (F)

For May => Budgeted F.O.H. = 2,000 x 20

= 40,000

Fixed OH Volume Variance

= (Actual Volume – Standard Volume ) OHAR
= (1,750 – 2,000) x 20
= RM5,000 (A)

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Selling Price Variance
= (AP – SP) x AQ
218,750
= [( )] – ( 120 ) x 1,750
1,750

= ( 125 – 120 ) x 1,750

= RM8,750 (F)

Sales Volume Variance

= (AQ – SQ ) Standard Profit/unit
= (1,750 - 2,000) x 38
= RM9,500 (A)

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 PROFIT RECONCILIATION STATEMENT (MAY)
OR OPERATING STATEMENT(ABSORPTION COSTING)
RM
BUDGETED PROFIT (2,000 X 38) 76,000
VARIANCES: FAVOURBLE ADVERSE
(1) Sales Volume variance 9,500
(2) Sales Price variance 8,750
(3) Direct Material Price variance 1,954
(4) Direct Material Usage variance 580
(5) Direct Labour Rate variance 4,361
(6) Direct Labour Efficiency variance 168

(7) Variable O.H. expenditure variance 8,722

(8) Variable OH efficiency variance 56

(9) Fixed OH expenditure variance 2,590

(10) Fixed OH Volume variance 5,000

Total: 15,925(F) 25,756(A)
9,831 (A)
Actualby:
Prepared Profit
Sam Chew 66,169 26
Variances under MARGINAL COSTING
All variances calculated previously under absorption costing are the same with marginal
Costing except:
a) Fixed OH Volume Variance
=> only under absorption costing have F.O.H. volume variance
AND Marginal Costing have NO F.O.H. volume variance.

=> Marginal Costing F.O.H. Cost Variance

= F.O.H. Expenditure Variance

Absorption Costing F.O.H. Cost Variance

 = F.O.H. Volume Variance
 + F.O.H. Expenditure Variance

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b) Sales Volume Variance under Marginal Costing
=> (AQ – SQ ) x Standard Contribution/unit

=> Example:4
=> (1,750-2,000) x (58)
= RM14,500 (A)
= Sales Volume Contribution Variance

NOTE:
Std contribution /Unit= 120-62=58

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 PROFIT RECONCILIATION STATEMENT (MAY) OR
OPERATING STATEMENT(MARGINAL COSTING)
RM
BUDGETED CONTRIBUTION (2,000 X 58) 116,000
- BUDGETED FIXED PRODUCTION OVERHEAD (40,000)
BUDGETED PROFIT 76,000
VARIANCES: FAVOURBLE ADVERSE
(1) Sales Volume variance 14,500
(2) Sales Price variance 8,750
(3) Direct Material Price variance 1,954
(4) Direct Material Usage variance 580
(5) Direct Labour Rate variance 4,361
(6) Direct Labour Efficiency variance 168
(7) Variable O.H. expenditure variance 8,722
(8) Variable OH efficiency variance 56
(9) Fixed OH expenditure variance 2,590

Total: 15,925(F) 25,756(A)

9,831 (A)
Prepared
Actual by: Sam Chew
Profit 66,169 29
Interpretation of variances
For control purposes, management need to
establish why variances occurred .

Once the reasons for the variances have been

established, control measures are undertaken
so as to :
•To prevent the adverse variance continuing in
the future, or
•To repeat a favourable variance in the future, or
•To bring actual results back on course to
achieve the budgeted targets.

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For all variances, one common cause is an
unrealistic budget or standard.
For example, if an ideal standard is used, labour
efficiency variances will always be adverse, or
If budgeted sales volumes are too optimistic,
there will always be adverse sales volume
variances.

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 Possible causes
 Using a different supplier, who is either cheaper or
more expensive.
 Buying in larger-sized orders, and getting larger
bulk purchase discounts. Buying in smaller-sized
Material Price Variance orders and losing planned bulk purchase
discounts.
 An unexpected increase in the prices charged by a
supplier.
 Unexpected buying costs, such as high delivery
charges.
 Efficient or inefficient buying procedures.
 A change in material quality, resulting in either
higher or lower purchase prices.
 A higher-than-expected or lower-than-expected
rate of scrap or wastage.
 Using a different quality of material (higher or
lower quality) could affect the wastage rate.
Material Usage Variance  Defective materials.
 Better quality control.
 More efficient work procedures, resulting in better
material usage rates.
  An unexpected increase in basic rates of pay.
 Payments of bonuses, where these are recorded
as direct labour costs.
Labour Rate Variance  Using labour that is more or less experienced
(and so more or less expensive) than the
‘standard’.
 A change in the composition of the work force,
and so a change in averages rates of pay.
 Taking more or less time than expected to
complete work, due to efficient or inefficient
working.
 Using labour that is more or less experienced
Labour Efficiency Variance (and so more or less efficient) than the
‘standard’.
 A change in the composition or mix of the work
force, and so a change in the level of efficiency.
 Improved working methods.
 Industrial action by the work force: ’working to
rule’.
 Poor supervision.
 Improvements in efficiency due to a ‘learning
effect’ amongst the work force.
 Unexpected lost time due to production
bottlenecks and resource shortages.
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  Fixed overhead expenditure adverse variances are
caused by spending in excess of the budget. A more
detailed analysis of the expenditure variance would
Overhead variances be needed to establish why actual expenditure has
been higher or lower than budget.
 Variable production overhead efficiency variances:
the causes are similar to those for a direct labor
efficiency variance.
 Higher-than-expected discounts offered to
customers to persuade them to buy, or due to
purchasing in bulk.
 Lower-than-expected discounts, perhaps due to
Sales Price Variance strength of sales demand.
 The effect of low-price offers during a marketing
campaign.
 Unexpected price increases.
 Unexpected price cuts.
 Successful or unsuccessful direct selling efforts.
 Successful or unsuccessful marketing efforts (for
example, the effects of an advertising campaign).
Sales Volume Variance  Unexpected changes in customer needs and buying
habits.
 Failure to satisfy demand due to production
difficulties.
 Higher demand due to a cut in selling prices, or
lower
Prepareddemand due to an increase in sales prices.
by: Sam Chew
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INTERDEPENDECE OF VARIANCES

Variances should not be investigated in isolation because the occurrence of

variances as to the causes or reasons may be inter-related or
interdependence with other variances.
Therefore, variances should be investigated in totality to determine the
correct cause or reason of such variances occurred.

Example:

Due to
Sales Price Variance (F)
Actual MORE THAN

Interdependenc
STD Sales Price
Sales Price

variances
Sales Volume Variance (A)

e of
BECAUSE EXPENSIVE,CUSTOMERS BUY LESS

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 INTERDEPENDECE OF VARIANCES

Reason: Buy cheaper but lower quality materials

Interdependence

Material Price variance (F) => cheaper material

of variances

Material Usage variance (A) => more wastage

Labour Efficiency variance (A) => higher wastage affect labour
efficiency
Fixed OH Volume Variance (A) => Production stoppages hence
output reduced
Sales Volume variance (A) => Not able to meet customer demand
cause production output shortage

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FACTORS TO CONSIDER WHETHER OR NOT TO INVESTIGATE VARIANCES

How accurate
or reliable the
budgeted
figures ?

Materiality,
size or Cost & Benefit Analysis
significance of
variances

Trend in Interdependence of
variances variances

Controllability

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 Question:
Alibaba Sdn. Bhd. uses a standard costing system to control the various costs of its business.
An extract from the company’s operating statement reveals the following variances:
RM
Sales volume profit variance 3,800 adverse
Sales price variance 5,580 favourable
Direct material price variance 3,000 favourable
Direct material usage variance 2,350 adverse

Required:
Suggest a possible reason for each of the FOUR (4) variances listed above.
Your answer should identify possible interdependency between the variances.

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Answer:
(a)Possible reasons of variances:

Adverse sales volume variance

This is caused by actual sales units being less than budgeted.
This could be as a result of increases in selling price (favourable sales price
variance), or reduced quality (favourable material price variance).

Favourable sales price variance

This is caused by actual selling price being higher than standard.
This could result in a reduction in demand, as evidenced by the adverse sales volume
variance. It would usually be caused by a management decision to increase prices,
possibly in anticipation of cost increases.

Favourable material price variance

This is caused by actual material price being less than standard.
This could be due to buying lower quality material( adverse material usage variance
and sales volume variance). Alternative explanation includes abundant supply of
material in the market.

Adverse material usage variance

This is caused by using more material than standard. This could be a result of using
poor quality material resulting in wastage or could be due to careless usage of
material causing excess waste.

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Question:
Aladdin Sdn. Bhd. is a carpet manufacturer. The factory manager
has just received a variance reporting on the performance of his
department for the year ended 31 December 2020. Feeling puzzled,
he has approached you as the management accountant for an
explanation of the following variances:
(i) Direct material price variance: RM3,900 F
(ii) Direct material usage variance: RM4,000 A
(iii)Direct labour rate variance: RM1,050 F
(iv) Direct labour efficiency variance: RM1,200 A
(v) Fixed overhead expenditure variance: RM2,000A
(A = Adverse; F = Favourable)
You are required to explain to the factory manager on these
variances by giving him THREE (3) possible reasons for the
occurrence of each of the variances as outlined above.

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The possible reasons are:
(i) Direct material favorable price variance may have possibly been caused by:
-unexpected discount received from suppliers
-more efficient in purchasing
-change in material standard
(ii) Direct material adverse usage variance may have possibly been caused by:
-defective material
-excessive waste from workers
-stricter quality control implemented
(iii) Direct labour favourable rate variance may have possibly been caused by:
-Use of more apprentices or other workers paid at lower rate
-Use of more unskilled workers
-Successful in negotiating for lower rate
(iv) Direct labour adverse efficiency variance may have possibly been caused by:
-Increase in lost production time due to use of unskilled workers
-Lower output due to lack of training
-Errors in allocating time to job
(v) Fixed overhead expenditure adverse variances may have possibly been caused by:
-Budgeted Fixed OH inappropriate set
-Actual Fixed OH overspend
-

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Question :1
AX Sdn Bhd , a manufacturing company uses a standard costing system for its single product .
You have been given the following information:
Standard costs per unit: RM
Raw materials (20 kg at RM1 per kg) 20
Direct labour (1 hour at RM15 per hour) 15
Variable overhead (1 hour at RM5 per hour) 5
Fixed overhead per unit 2
Total 42

Fixed overhead is absorbed based on the production of 40,000 units per month.

Actual results for last month : Direct

materials purchased & used Direct 2,000,000 kgs at total cost of RM2,400,000
labour 60,000 hours at total cost of RM840,000
Variable production overhead RM280,000
Fixed production overhead RM83,000
Units produced 50,000

Required:
A) Compute the following variances :
i) Direct materials price variance
ii) Direct materials usage variance
iii) Direct labour rate variance
iv) Direct labour efficiency variance
v) Variable overhead expenditure variance
vi) Variable overhead efficiency variance
vii) Fixed overhead expenditure variance
viii) Fixed overhead volume variance

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Answer:1
•i) Material price variance = (SP –AP) AQ
= (1 -1.20) X 2,000,000 = RM400,000 (A)

•ii) Material usage variance = (SQ –AQ)SP

= [(50,000 x 20) – 2,000,000] x 1
= RM1,000,000(A)

•iii) Direct labour rate variance = (SR –AR)AH

= (15 – 14) x 60,000 = RM60,000 (F)

•iv) Direct labour efficiency = (SH – AH)SR

= [(50,000 x 1) – 60,000] x 15 = RM150,000 (A)

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Answer:1

v) Variable overhead expenditure variance = Actual Variable OH – (AH x SR)

= 280,000 – (60,000 x 5) = RM20,000 (F)

vi) Variable overhead efficiency variance = (SH – AH) x SR

= [(50,000 x 1) – 60,000]x 5
=RM50,000(A)

vii) Fixed overhead expenditure = Budget fixed overhead – Actual fixed overhead
= (40,000 x 2) – 83,000 = RM3,000(A)

viii) Fixed overhead volume variance = (Budget volume – Actual volume) x OHAR
= (40,000 – 50,000) x 2 = RM20,000 (F)

44