Direct Labor Standard Cost and Variances

If the balance in the Direct Materials Price Variance account is a credit balance of $3,500 (instead of a debit balance) the procedure and discussion would be the same, except that the standard costs would be reduced instead of increased. The production manager was disappointed to receive the monthly performance report revealing actual material cost of $369,000. Blue Rail produces handrails, banisters, and similar welded products. This pipe is custom cut and welded into rails like that shown in the accompanying picture.

4.2 Direct Labor Price Variance

The $240 variance is favorable since the company paid $0.08 per yard less than the standard cost per yard x the 3,000 yards of denim. Variable overheads are those costs which vary in response to the level of production output but which cannot be attributed to individual units of production. For example, an item might be manufactured by equipment which cuts and shapes a sheet of plastic. Total production of 210,000 units × Standard cost of $4.50 per unit equals $945,000; the same amount you see in the entry presented previously.

Recording Manufacturing Overhead Transactions

Variance analysis, to be successful, has to subdivide variances in such a way that each variance figure identifies a course of action that would repeat the variance next period (if favorable) or avoid it (if unfavorable). Actual profit is driven by (1) budgeted revenue and cost and (2) variances. This might seem small, but it dramatically changes how we measure costs and profits (I discuss this a little more in Sections 7.7).

Direct Materials Price Variance

Notice that this differs from the budgeted fixed overhead by $10,800, representing an unfavorable Fixed Overhead Volume Variance. So, Chapter 4 and 6 were presented using the “Full Absorption” method, meaning all product costs (i.e. direct materials, direct labor, and overhead) were considered inventory costs. In Chapter 5, I said that ABC can include SG&A costs in inventory, and thus it is a departure from full absorption. We’ll cover what is considered an invetoriable cost under throughput accounting and direct costing in Chapter 8. Among cost variances, I find overhead variances to be less useful than direct labor or direct materials variances.

Cost Variance [a Consolidation Account]

Since a manufacturer must pay its suppliers and employees the actual costs, there are almost always differences between the actual costs and the standard costs, and the differences are noted as variances. Work-in-process inventory reflects the standard quantity of direct materials allowed at the standard price. The reduction in raw materials inventory reflects the actual quantity used at the standard price, and the materials quantity variance account shows the favorable variance.

1.3 The Profit Equation and Variance Analysis

• Some of those extra hours could be from my workers watching Netflix at work instead of working.
• A variance is the difference between an actual measured result and a basis, such as a budgeted amount.
• Sales volume variance is actionable because it reflects the overall volume of sales.
• Quantity variances occur when the cost is a function of the number of units used during production, and therefore apply only to variable costs.

In a standard costing accounting system, direct labor has two main variances price and efficiency. Details of the calculation of each of these variances can be found in our tutorials on the direct labor price variance and the direct labor efficiency variance. After the March 1 transaction is posted, credere definition and meaning the Direct Materials Price Variance account shows a debit balance of $50 (the $100 credit on January 8 combined with the $150 debit on March 1). It means that the actual costs are higher than the standard costs and the company’s profit will be $50 less than planned unless some action is taken.

If however it is considered to be significant in relation to the size of the business, then the variance is analyzed between the inventory accounts (raw material, work in process, and finished goods) and the cost of goods sold account. The standard costing budget variance is (positive) favorable as the business spent 2,000 less than it expected to in the original budget. The difference between the standard (expected) volume of production and the actual volume of production, gives rise to the standard cost volume variance.

If actual units purchased and actual units used are different, it implies a change in the number of direct materials in the warehouse. Any gap or overlap between the two direct materials variances reflects the value of direct materials stored in or removed from the warehouse, i.e. the direct materials inventory account. This is also sometimes called an “efficiency” variance or a “usage” variance. An unfavorable direct materials quantity variance suggests the firm is being inefficient with its direct materials on the production floor.

Accountants might say that for the month of February 2023, the company overapplied variable manufacturing overhead. As our analysis shows, DenimWorks did not produce the good output efficiently since it used 50 actual direct labor hours instead of the 42 standard direct labor hours. The credit goes to several different accounts depending on the nature of the expenditure.