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How do we set cost standards and explain why actual results differ from them?

The purpose of standard costing, the calculation and interpretation of material, labour and sales variances, the split into price and usage (or rate and efficiency) variances, and the investigation of variances.

A focused answer to AQA A-Level Accounting 3.2, covering the purpose of standard costing, the calculation and interpretation of material, labour and sales variances, their split into price and usage components, and the investigation of variances.

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  1. What this dot point is asking
  2. Purpose of standard costing
  3. Material and labour variances
  4. Worked variance
  5. Investigating variances
  6. Try this

What this dot point is asking

AQA wants you to explain the purpose of standard costing, calculate and interpret material, labour and sales variances, split them into price and usage (or rate and efficiency) components, and discuss how variances are investigated. This is unit 3.2.4, and a full set of material and labour variances with interpretation is a high-tariff Paper 2 calculation.

Purpose of standard costing

Material and labour variances

The rule that decides which figure to value at standard is consistent: the price (rate) variance values the difference in price across the actual quantity (or hours), because price is what changed; the usage (efficiency) variance values the difference in quantity (or hours) at the standard price (or rate), to isolate the volume effect from any price effect. A positive result in these formulae is favourable (actual cost lower than standard) and a negative result is adverse.

Sales variances follow the same logic: the sales price variance is the difference between actual and standard selling price across actual units sold, and the sales volume variance is the difference between actual and budgeted units valued at the standard contribution (or profit) per unit.

Worked variance

Investigating variances

Not every variance is acted on. Management by exception investigates significant variances, looking for causes such as price changes, poor-quality materials, inefficient or inexperienced labour, machine breakdowns, or simply an unrealistic standard. Crucially, variances are interdependent: a favourable price variance and an adverse usage variance often come from the same decision (cheaper material), and responsibility may span the buyer and the production manager. Management decides whether the cause is controllable and worth correcting.

Try this

Q1. Define a favourable variance. [1 mark] When the actual result is better than the standard or budget (a lower cost or a higher revenue).

Q2. Standard rate is 1212 per hour and actual is 1313 for 100100 hours. Calculate the labour rate variance. [2 marks] (12−13)×100=−100(12 - 13) \times 100 = -100, that is 100100 adverse.

Exam-style practice questions

Practice questions written in the style of AQA exam questions on this dot point, with worked answer explainers. The year tag is the paper they imitate, not the source.

AQA 20198 marksThe standard for one unit is 4 kg of material at 6perkgand3labourhoursat6 per kg and 3 labour hours at 10 per hour. Actual production of 500 units used 2,100 kg costing 11,550and1,420labourhourscosting11,550 and 1,420 labour hours costing 14,910. Calculate the material price and usage variances and the labour rate and efficiency variances.
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A full worked variance question; each variance earns method and answer marks.

Material price variance: (standard price minus actual price) times actual quantity. Actual price = 11,550 / 2,100 = 5.50perkg.(6−5.50)times2,100=5.50 per kg. (6 - 5.50) times 2,100 = 1,050 favourable (2 marks).

Material usage variance: (standard quantity minus actual quantity) times standard price. Standard quantity = 500 units times 4 kg = 2,000 kg. (2,000 - 2,100) times 6=6 = 600 adverse (2 marks).

Labour rate variance: (standard rate minus actual rate) times actual hours. Actual rate = 14,910 / 1,420 = 10.50.(10−10.50)times1,420=10.50. (10 - 10.50) times 1,420 = 710 adverse (2 marks).

Labour efficiency variance: (standard hours minus actual hours) times standard rate. Standard hours = 500 times 3 = 1,500. (1,500 - 1,420) times 10=10 = 800 favourable (2 marks). Markers reward valuing usage at standard price and rate variances at actual hours.

AQA 20215 marksA favourable material price variance and an adverse material usage variance arise in the same period. Analyse a single decision that could explain both, and advise management.
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A 5-mark "Analyse and advise" answer links the two variances to one cause.

A favourable price variance with an adverse usage variance is a classic sign of buying cheaper, lower-quality material: the lower price gives the favourable price variance, but the poorer quality causes more waste or rejects, giving the adverse usage variance (2 to 3 marks).

Advise: compare the size of the two variances; if the usage loss exceeds the price saving, the cheaper material is a false economy and the firm should revert to the standard-quality supplier; the interdependence of variances means they should not be judged in isolation, and the buyer and production manager's responsibilities overlap (2 marks). Markers reward identifying the interdependence and a net judgement.

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