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At month end the owner sees that costs ran above plan. The question is why. Standard costing sets a target cost for each unit; variance analysis then splits the gap between actual and target into causes: paid more for flour, used more flour, paid a higher wage, or took more hours. Each cause points to a different person and a different fix.
Standard cost = standard quantity × standard price. A variance is the difference between standard and actual, shown as favourable (F, actual cost below standard) or adverse (A). Material price variance = (standard price − actual price) × actual quantity; material usage variance = (standard quantity for actual output − actual quantity) × standard price; labour rate variance = (standard rate − actual rate) × actual hours paid; labour efficiency variance = (standard hours for actual output − actual hours worked) × standard rate. Use them to find who can act on each gap.
What it answers and the data needed
The question is "which part of the cost overrun can we control, and who controls it?" You need standards (quantity, price, hours, rate per unit) set from past data and engineering estimates, the month's actual output, purchases and prices, and time sheets with idle time recorded separately. Standards are reviewed as prices and methods change. Owners can build a variance report as part of cost reduction and profitability work.
Setting standards
Standard quantity allows for normal wastage; standard price comes from the purchase manager's quotations; standard hours from time study or past performance; the standard rate from the pay structure. An "ideal" standard (no waste, no idle time) motivates less than an attainable one that a good worker can meet.
The variances
| Variance | Formula in words | Symbols | Who is answerable |
|---|---|---|---|
| Material price | (Standard price − actual price) × actual quantity | (SP − AP) × AQ | Purchase |
| Material usage | (Standard quantity for actual output − actual quantity) × standard price | (SQ − AQ) × SP | Production |
| Material cost (total) | Standard cost of actual output − actual cost | SQ × SP − AQ × AP | Both |
| Labour rate | (Standard rate − actual rate) × actual hours paid | (SR − AR) × AHP | HR, production planning |
| Idle time | Idle hours × standard rate (always adverse) | IH × SR | Production, maintenance |
| Labour efficiency | (Standard hours for actual output − actual hours worked) × standard rate | (SH − AHW) × SR | Production |
| Labour cost (total) | Standard cost of actual output − actual wages paid | Both |
A positive result (standard above actual) is favourable; negative is adverse. Material mix and yield variances split the usage variance when several materials are blended: mix compares the actual blend with the standard blend, yield compares the output obtained with the output the input should have given. They matter for blends such as feed, paint or sweets; they are not needed with a single material.
Worked example: a bakery
A bakery's standard for 100 loaves: flour 30 kg at ₹40 a kg = ₹1,200; labour 5 hours at ₹100 an hour = ₹500. In the month it makes 8,000 loaves (80 lots of 100). All figures assumed.
Standard for actual output
- Flour: 80 × 30 = 2,400 kg; standard cost 2,400 × 40 = ₹96,000.
- Labour: 80 × 5 = 400 hours; standard cost 400 × 100 = ₹40,000.
Actual
- Flour: 2,520 kg bought and used at ₹42 a kg = ₹105,840.
- Labour: 405 hours paid at ₹104 an hour = ₹42,120. Of these, 10 hours were idle (an oven repair), so 395 hours were worked.
Material variances
- Price = (40 − 42) × 2,520 = −5,040, adverse (A).
- Usage = (2,400 − 2,520) × 40 = −4,800, adverse (A).
- Total = 96,000 − 105,840 = −9,840 (A); check: 5,040 + 4,800 = 9,840.
Labour variances
- Rate = (100 − 104) × 405 = −1,620 (A).
- Idle time = 10 × 100 = −1,000 (A).
- Efficiency = (400 − 395) × 100 = +500 (F).
- Total = 40,000 − 42,120 = −2,120 (A); check: −1,620 − 1,000 + 500 = −2,120.
| Variance | ₹ | F or A |
|---|---|---|
| Material price | 5,040 | A |
| Material usage | 4,800 | A |
| Material total | 9,840 | A |
| Labour rate | 1,620 | A |
| Idle time | 1,000 | A |
| Labour efficiency | 500 | F |
| Labour total | 2,120 | A |
| Flour and labour combined | 11,960 | A |
What the owner decides. Flour is the larger problem: ₹5,040 came from paying ₹42 against a standard of ₹40, and ₹4,800 from using 120 kg more than the output justified. Ask purchasing whether the price rise is market-wide (revise the standard) or avoidable (a rushed buy); ask production about spillage, dough weight and reject loaves. In labour, the ₹1,620 rate variance suggests the average wage paid, perhaps because of overtime or a senior baker, is above standard; the ₹1,000 idle time is a maintenance question; the small favourable efficiency variance shows the crew worked faster than standard when they worked. Do not read the efficiency variance without idle time next to it: 400 standard hours against 405 paid looks adverse, but the true picture is five hours saved on worked time and ten hours lost to idleness.
How to read the variances
Look for interdependence: cheaper flour may raise usage; extra overtime may raise the rate and lower the hours. A favourable variance is not always good (low usage from underweight loaves). Report variances promptly and only on items a manager can control; revise standards when conditions truly change. The labour causes are discussed in labour cost control, and overhead is analysed in overhead variances.
Common mistakes
- Using the standard price with actual quantity for the usage variance, or the reverse; pay attention to which quantity each formula uses.
- Computing the price variance on quantity used rather than quantity bought when stocks change; state the basis.
- Mixing up the sign: standard minus actual gives favourable when positive.
- Loading idle time into efficiency.
- Reporting variances without a reason and an owner.
The budget that sits above the standards is covered under flexible budgets.
Need help with a variance report?
If your monthly accounts show only totals, we can help set standards and a variance report that tells each manager what moved, in a cost reduction and profitability review.
Key takeaways
- Variance = standard − actual; positive is favourable, negative adverse.
- Split the material gap into price (purchasing) and usage (production).
- Split the labour gap into rate, idle time and efficiency.
- Read variances together; one can offset another.
- Standards need to be attainable and reviewed.
Read next
- Overhead variances: expenditure, volume and efficiency
- Labour cost control: idle time, overtime and incentive plans
- Flexible budget, zero-based budgeting and budget ratios
Disclaimer: The methods described are standard cost accounting and financial management techniques. The worked example uses an invented business and invented figures, including any tax, interest or exchange rate, which are assumptions for illustration and not current rates. Where the article refers to a legal requirement, the linked guide and the official text should be checked. This article is general information, not legal advice; check the official text before acting.