Variance Analysis: General Framework & Labour Cost Variance

1. Purpose of Variance Analysis

• Compares actual performance with budgets and standards.
• Helps managers:
  • Evaluate current status
  • Initiate corrective actions
• Known as Variance Analysis

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2. Components of Cost

Every cost has two components:

1. Quantity (Usage/Efficiency)
2. Price (Rate)

📌 Example:
Material Cost = Quantity used × Rate
Overhead Cost = Cost driver units (e.g. machine hours) × Overhead rate

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3. Types of Variances

Type	Formula
Total Variance	Actual Cost − Standard Cost
Price (Rate) Variance	(Actual Rate − Standard Rate) × Actual Quantity
Usage (Efficiency) Variance	(Actual Quantity − Standard Quantity) × Standard Rate

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4. General Framework of Variance Analysis

• Actual Cost = Actual Rate × Actual Quantity
• Standard Cost for Actuals = Standard Rate × Actual Quantity
• Standard Cost = Standard Rate × Standard Quantity

💡 Interpretation:

• Price Variance = Actual Cost − Standard Cost for Actuals
• Usage Variance = Standard Cost for Actuals − Standard Cost
• Total Variance = Price Variance + Usage Variance

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5. Example: Material Variance

Scenario:

• Product: Health Drink Powder
• Target: 10,000 KG
• Actual Production: 8,000 KG
• Standard Requirement: 600 g (0.6 KG) of malt per KG
• Standard Malt Price: Rs. 40/KG
• Actual Consumption: 5,000 KG
• Actual Price: Rs. 42/KG

Step-by-step Calculations:

1. Standard Quantity for 8,000 KG output
   = 8,000 × 0.6 = 4,800 KG

2. Standard Cost
   = 4,800 × 40 = Rs. 192,000

3. Actual Cost
   = 5,000 × 42 = Rs. 210,000

4. Middle Value (Standard for Actuals)
   = 5,000 × 40 = Rs. 200,000

Variance Analysis:

• Total Variance = 210,000 − 192,000 = Rs. 18,000 Adverse
• Price Variance = (42 − 40) × 5,000 = Rs. 10,000 Adverse
• Usage Variance = (5,000 − 4,800) × 40 = Rs. 8,000 Adverse

✅ Check: 10,000 (Price) + 8,000 (Usage) = 18,000 (Total)

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Additional Case: Material Purchased > Consumed

• Purchased Quantity: 5,500 KG @ Rs. 42
• Material Purchase Price Variance = (42 − 40) × 5,500 = Rs. 11,000 Adverse

Used to evaluate Purchase Department.

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6. Example: Labour Variance

Scenario:

• Team: 5 workers
• Monthly salary per worker: Rs. 30,000
• Total expected hours per worker: 200
• Total Standard Time per Unit: 2.5 hours
• Budgeted Production: 400 units
• Actual Production: 360 units
• Actual Labour Hours Used: 1,000 hours
• Total Actual Wages: Rs. 160,000
• Standard Rate: Rs. 150/hour
• Actual Rate: Rs. 160/hour

Step-by-step Calculations:

Calculation Type	Value
Standard Hours for 360 units	360 × 2.5 = 900 hours
Flexible Budget (Standard Cost)	900 × 150 = Rs. 135,000
Budgeted Cost for Actual Hours	1,000 × 150 = Rs. 150,000
Actual Labour Cost	Rs. 160,000

Variance Analysis:

• Total Labour Cost Variance
  = Actual Cost − Flexible Budget
  = 160,000 − 135,000 = Rs. 25,000 Adverse

• Labour Rate Variance
  = (Actual Rate − Standard Rate) × Actual Hours
  = (160 − 150) × 1,000 = Rs. 10,000 Adverse

• Labour Efficiency Variance
  = (Actual Hours − Standard Hours) × Standard Rate
  = (1,000 − 900) × 150 = Rs. 15,000 Adverse

✅ Check: 10,000 (Rate) + 15,000 (Efficiency) = 25,000 (Total)

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7. Summary Table

Type of Variance	Formula
Material Price Variance	(Actual Price − Std Price) × Actual Quantity
Material Usage Variance	(Actual Quantity − Std Quantity) × Std Price
Labour Rate Variance	(Actual Rate − Std Rate) × Actual Hours
Labour Efficiency Variance	(Actual Hours − Std Hours) × Std Rate

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