Analysis of the difference between planned and actual numbers Show
What is Variance Analysis?Variance analysis can be summarized as an analysis of the difference between planned and actual numbers. The sum of all variances gives a picture of the overall over-performance or under-performance for a particular reporting period. For each item, companies assess their favorability by comparing actual costs to standard costs in the industry. For example, if the actual cost is lower than the standard cost for raw materials, assuming the same volume of materials, it would lead to a favorable price variance (i.e., cost savings). However, if the standard quantity was 10,000 pieces of material and 15,000 pieces were required in production, this would be an unfavorable quantity variance because more materials were used than anticipated.  Learn variance analysis step by step in CFI’s Budgeting and Forecasting course. The Role of Variance AnalysisWhen standards are compared to actual performance numbers, the difference is what we call a “variance.” Variances are computed for both the price and quantity of materials, labor, and variable overhead and are reported to management. However, not all variances are important. Management should only pay attention to those that are unusual or particularly significant. Often, by analyzing these variances, companies are able to use the information to identify a problem so that it can be fixed or simply to improve overall company performance. Types of VariancesAs mentioned above, materials, labor, and variable overhead consist of price and quantity/efficiency variances. Fixed overhead, however, includes a volume variance and a budget variance. Learn variance analysis step by step in CFI’s Budgeting and Forecasting course. The Column Method for Variance AnalysisWhen calculating for variances, the simplest way is to follow the column method and input all the relevant information. This method is best shown through the example below: XYZ Company produces gadgets. Overhead is applied to products based on direct labor hours. The denominator level of activity is 4,030 hours. The company’s standard cost card is below: Direct materials: 6 pieces per gadget at $0.50 per piece Direct labor: 1.3 hours per gadget at $8 per hour Variable manufacturing overhead: 1.3 hours per gadget at $4 per hour Fixed manufacturing overhead: 1.3 hours per gadget at $6 per hour In January, the company produced 3,000 gadgets. The fixed overhead expense budget was $24,180. Actual costs in January were as follows: Direct materials: 25,000 pieces purchased at the cost of $0.48 per piece Direct labor: 4,000 hours were worked at the cost of $36,000 Variable manufacturing overhead: Actual cost was $17,000 Fixed manufacturing overhead: Actual cost was $25,000 Materials VarianceAdding these two variables together, we get an overall variance of $3,000 (unfavorable). It is a variance that management should look at and seek to improve. Although price variance is favorable, management may want to consider why the company needs more materials than the standard of 18,000 pieces. It may be due to the company acquiring defective materials or having problems/malfunctions with machinery. Labor VarianceAdding the two variables together, we get an overall variance of $4,800 (Unfavorable). This is another variance that management should look at. Management should address why the actual labor price is a dollar higher than the standard and why 1,000 more hours are required for production. The same column method can also be applied to variable overhead costs. It is similar to the labor format because the variable overhead is applied based on labor hours in this example. Learn variance analysis step by step in CFI’s Budgeting and Forecasting course. Fixed Overhead VarianceAdding the budget variance and volume variance, we get a total unfavorable variance of $1,600. Once again, this is something that management may want to look at. Download the Free TemplateEnter your name and email in the form below and download the free template (from the top of the article) now! Variance Analysis TemplateDownload the free Excel template now to advance your finance knowledge! The Role of Standards in Variance AnalysisIn cost accounting, a standard is a benchmark or a “norm” used in measuring performance. In many organizations, standards are set for both the cost and quantity of materials, labor, and overhead needed to produce goods or provide services. Quantity standards indicate how much labor (i.e., in hours) or materials (i.e., in kilograms) should be used in manufacturing a unit of a product. In contrast, cost standards indicate what the actual cost of the labor hour or material should be. Standards, in essence, are estimated prices or quantities that a company will incur. Related ReadingThis has been CFI’s guide to Variance Analysis. To help you advance your career, check out the additional CFI resources below:
What does the term standard hours allowed measure?Standard hours allowed is the number of hours of production time that should have been used during an accounting period. It is based on the actual number of units produced, multiplied by the standard hours per unit.
When computing standard cost variances What is the difference between standard and actual?When computing variances from standard costs, the difference between actual and standard price multiplied by actual quantity yields: Price variance.
What is standard costing and variance analysis?Standard costing is a tool used in managerial accounting to budget and track costs. Variance analysis is a technique used to compare actual results against budgeted amounts, usually intending to identify areas where costs can be reduced. Standard cost variances can be either favorable or unfavorable.
What do you mean by standard cost and standard costing?Standard costing meaning is to account for the cost of production by assigning overhead costs to the products. Let's look at the standard costing definition. Standard costing is an accounting technique that assigns fixed manufacturing costs to specific products or product lines.
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When performing input output variance analysis in standard costing standard hours allowed is a mean of measurement?
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