Question

3. Dow Company manufactures tables in U.S. The standard (budgeted) cost of one unit is shown below:

Direct materials	9 pounds at $4 per pound	$36
Direct labour	2 hours at $45 per hour	90
Variable manufacturing overhead*	2 hours at $15 per hour	30
Total standard variable cost per unit		$156

*The variable manufacturing overhead rate is based on direct labour hour.

During March, 8,000 units were produced. The company purchased 80,000 pounds of direct materials at a cost of $300,000. There are 7,400 pounds of these materials were unused at the end of March. No materials were on hand at the beginning of March.

In March, the selected data relating to the production is listed below:

Direct labour		$756,800
Variable manufacturing overhead incurred		$250,800
Variable manufacturing overhead efficiency variance		$18,000 U

Joe, the vice president of Dow Company, asked you to evaluate how effective operations have been during the month of March                                                                                

Required:

1. For direct materials, compute the price variance and quantity variance for March. Calculate the total direct materials variances.

2. Based on the variable manufacturing overhead efficiency variance, determine actual labor hours and actual labor rate during March.

3. For variable manufacturing overhead, compute the spending variance for March,

4. Compute direct labor rate variance and direct labor efficiency variance for March.

5. The purchase department manager bought cheaper materials in March to see whether costs could be reduced. Do you think this plan could reduce costs? Why?

Answer 1

1. Computation of Direct material Price Variance and Direct material Quantity Variance

(a) Direct material Price Variance = (Standard Price-Actual Price)*Actual Quantity purchased

Standard price per pound	A	$4.00
Actual Price per pound	B = $300,000/80,000	$3.75
Actual pounds Purchased	C	80,000
Direct material Price Variance	(A-B)*C	$20,000	i.e. Favorable

(b) Direct material Quantity Variance = (Standard Quantity for actual production-Actual quantity used)*Standard Price

Standard Material of pounds for actual production	A = 8,000 units *9 pounds	72,000
Actual pounds used	B = 80,000-7,400	72,600
Standard Price per pound	C	$4.00
Direct material Quantity Variance	(A-B)*C	-$2,400	i.e. Unfavorable

(c) Total Direct Material Cost Variance = Direct material Price Variance + Direct material Quantity Variance

Therefore, Total Direct Material Cost Variance = $20,000 + ($2,400) = $17,600 Favorable

2. We know that:

Variable Overhead Efficiency Variance = (Standard hours for actual production-Actual hours)*Standard Rate

Standard hours for actual production = 8,000 units * 2 Hours = 16,000 Hpurs

Standard rate per hour = $15

Putting the figures in the above formula, we get:

-$18,000 = (16,000 - Actual Labor Hours)$15

Actual Labour Hours = 16,000 + 1,200 = 17,200 Hours

Actual labor rate = Variable manufacturing overhead incurred/Actual Labor Hours = $250,800/17,200 = $14.58

3. Computation of the spending variance:

Variable Overhead Spending Variance = (Standard Rate-Actual Rate)*Actual hours worked

Variable Overhead Spending Variance = ($15-$14.58)*17,200 = $7,200 Favourable

4. Computation of Labor Rate Variance and Labor Efficiency Variance

Direct Labor Price Variance = (Standard Rate-Actual Rate)*Actual hours worked

Standard Rate per hour	A	$45.00
Actual Rate per hour	B = $756,800/17,200 Hours	$44.00
Actual hours worked	C	17,200
Direct Labor Price Variance	(A-B)*C	$17,200	i.e. Favorable

Direct labor Efficiency Variance = (Standard hours -Actual hours)*Standard Rate

Standard hours for actual pools produced	A = 8,000 units * 2	16,000
Actual hours worked	B	17,200
Standard rate per hour	C	$45.00
Direct labor Efficiency Variance	(A-B)*C	-$54,000	i.e. Unfavorable

5. In the given case, due to purchasing cheap material, Direct material Price Variance has come out as $20,000 Favorable and Direct material Quantity Variance comes out as $2,400 Unfavorable. Ultimately the material cost has reduced by $17,600 ($20,000 - $2,400) which is benefecial for the company.

However if the labour effeciency is reduced due to cheap material which is indicated by Direct labor Efficiency Variance which is $54,000 Unfavorable, then the company shoould not use the cheap material.