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Chapter 7: Problem 9

List three causes of a favorable direct materials price variance.

Short Answer

Expert verified
Effective supplier negotiation, bulk purchase discounts, and a decrease in market prices are potential causes.

Step by step solution

01

Understanding a Favorable Variance

A favorable direct materials price variance occurs when the actual cost of materials is less than the standard cost. This means the company spent less on materials than expected.
02

Efficient Supplier Negotiation

One cause of a favorable price variance could be effective negotiation with suppliers. If the procurement team successfully negotiates lower prices for the same quality of materials, the variance will be favorable.
03

Bulk Purchase Discounts

Another cause might be purchasing materials in larger quantities. Suppliers often offer discounts for bulk purchases, which can lower the cost per unit of material.
04

Market Price Decrease

A third cause could be a general decrease in market prices. If the market price of raw materials decreases after the standard costs are set, it can lead to a favorable variance.

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Key Concepts

These are the key concepts you need to understand to accurately answer the question.

Direct Materials Price Variance
In cost accounting, understanding direct materials price variance is crucial. This variance occurs when the actual price paid for materials differs from the planned or standard cost. If the actual cost is lower than the standard cost, it's termed as a 'favorable variance.' This means that the company has spent less money than anticipated on the materials.

Recognizing this variance helps companies track their spending efficiency and evaluate their purchasing strategies. A favorable direct materials price variance provides insight into potentially profitable purchasing decisions, indicating the company is saving money on its raw material investments.
Supplier Negotiation
Effective supplier negotiation is essential for achieving a favorable direct materials price variance. It involves communicating and bargaining with suppliers to reduce costs without sacrificing quality. When procurement teams are skilled in negotiation, they can secure materials at lower prices by:
  • Discussing terms and conditions that benefit both parties.
  • Exploring flexible payment options.
  • Assessing multiple supplier offers to leverage competition.
A successful negotiation results in buying the same quality materials at a reduced price, allowing the company to save money and improve its competitiveness.
Bulk Purchase Discounts
Purchasing materials in bulk can lead to significant cost savings, contributing to a favorable direct materials price variance. Many suppliers offer discounts to incentivize buyers to order in larger quantities. These discounts reduce the cost per unit of materials, benefiting the purchasing company in the following ways:
  • Lower overall procurement costs.
  • Reduced frequency of ordering and associated administrative tasks.
  • Increased power in negotiation due to larger volumes.
While bulk purchasing requires upfront capital and storage space, the long-term savings and favorable price variance can make it a wise strategy for many businesses.
Market Price Decrease
A decrease in market prices for raw materials can also create a favorable direct materials price variance. This can occur due to various economic factors, such as increased supply, reduced demand, or changes in trade policies. When market prices drop, companies benefit by paying less than their standard cost estimates, resulting in savings.

It is important for businesses to stay informed about market trends to optimize their purchasing decisions. By anticipating and reacting to changes in market prices, a company can maximize cost savings and stay ahead in competitive markets.

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Most popular questions from this chapter

Consider the following data collected for Great Homes, Inc.: Compute the price, efficiency, and flexible-budget variances for direct materials and direct manufacturing labor. $$\begin{array}{lcc} & \text { Direct Materials } & \text { Direct Manufacturing Labor } \\ \hline \text { cost incurred: Actual inputs } \times \text { actual prices } & \$ 200,000 & \$ 90,000 \\ \text { Actual inputs } \times \text { standard prices } & 214,000 & 86,000 \\\ \text { Standard inputs allowed for actual output } \times & & \\ \text { standard prices } & 225,000 & 80,000 \end{array}$$ Compute the price, efficiency, and flexible-budget variances for direct materials and direct manufacturing labor.

What is the key difference between a static budget and a flexible budget?

Why might managers find a flexible-budget analysis more informative than a static-budget analysis?

Morro Bay Surfboards manufactures fiberglass surfboards. The standard cost of direct materials and direct manufacturing labor is 225 dollar per board. This includes 30 pounds of direct materials, at the budgeted price of 3 per pound, and 9 hours of direct manufacturing labor, at the budgeted rate of 15 per hour. Following are additional data for the month of July: Units completed Direct material purchases 190,000 pounds cost of direct material purchases 579,500 Actual direct manufacturing labor-hours 49,000 hours Actual direct labor cost Direct materials efficiency variance 1,500 There were no beginning inventories. 1\. Compute direct manufacturing labor variances for July. 2\. Compute the actual pounds of direct materials used in production in July. 3\. Calculate the actual price per pound of direct materials purchased. 4\. Calculate the direct materials price variance.

Benchmarking against other companies enables a company to identify the lowest- cost producer. This amount should become the performance measure for next year." Do you agree?
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