Material and labor variances allow a comparison between the budgeted amount of material and labor used compared to the actual amount of material and labor used. This allows management to tell if there is a favorable or unfavorable variance. Once management makes these determinations, they can determine proper changes in budgets and planning in the future.
Determine the actual quantity of a product produced, the price to produce the product, the budgeted price of the product, the actual material used and the budgeted material used. For example, Firm A produces widgets. During the year it produced 2,000 widgets at a cost of $3 per widget, and $3.50 was budgeted per widget. The company budgeted 1,000 units for direct materials, but it took 1,300 units to produce the widgets.
Multiply actual quantity purchased by the difference of actual price and budgeted price. This equals the direct materials price variance. In the example, direct materials price variance is $2,000 X ($3.50 - $3) which equals $1,000.
Multiply the budgeted price by the difference between actual materials used and budgeted materials. This equals the direct materials quantity variance. In the example, direct materials quantity variance is $3.50 X (1,300 - 1,000) which equals $1,050.
Determine the actual hours worked, the actual rate charged for labor, the budgeted rate for labor, the actual hours of worked and the budgeted hours for the period. Firm A has employees work 400 hours for a planned $6 an hour, but it actually cost $6.50 due to overtime. The firm budgeted for 350 hours of work.
Multiply actual hours worked by the difference between actual rate and budgeted rate. This is direct labor rate variance. In the example, direct labor rate variance is 400 X ($6.50 - $6) which equals $200.
Multiply the standard rate by the difference between actual hours worked and standard hours worked. This is the direct labor efficiency variance. In the example, $6 X (400 - 350) which equals $300.