Direct material is the basic component of any product. The direct material variance arises when the company is manufacturing a product that involves more than one type of material.
You can also explain the direct material mix variance as the difference between the costs of the estimated proportion of material with the actual proportion of material consumed in the production process during the period.
The material mix variance is a branch of material usage variance. The calculation of this variance is based on the standard price instead of the actual price.
Formula to Calculate Direct Material Mix Variance:
The formula to calculate direct material mix variance will be:
(Actual Mix Quantity – Standard Mix Quantity) × Standard Price
The variance is calculated for each material and then summarize all the variances to get the total variance of the direct material mix.
Note that if the standard quantity is equal to the actual quantity, then the variance will be zero.
On the basis of this information, management can look in to direct material account, and analyze if there is any gap for improvements.
Importance of Direct Material Mix Variance:
One of the main components of a company’s production cost is direct material.
To follow and analyze the trends of direct material is very important for any organization. Managers always prefer to use variance analyses to take the decision.
The direct material mix variance analysis gives any kind of benefits to the company’s management.
Which includes information for decision making, information to identify and control the weak areas of the company’s production department.
Let discuss the benefits one by one
1) Important for Decision Making
Those companies where more than one direct material is needed for production, the analysis of the material mix is very important.
It gives information about the proportion of each material used in the total material mix of the company.
Material mix variance is important because if you just rely on the total material variance, you may not get the detailed information about all the components of direct material.
There may be some favorable and unfavorable variances which were covered from management eyes because total material variance is favorable.
Hence when the company knows all the variances individually and in total, then the managers can adopt some strategy to overcome the unfavorable variances.
2) Helps in Cost Control
When the management finds the components which have favorable variance and which have unfavorable then they can easily make a strategy to change these unfavorable into favorable variances.
In this way, the company starts to move in the right direction and this analysis will give benefits in the form of cost control.
Limitations of Direct Material Variance:
Like every other formula, this variance formula has also some limitations, which should be considered while calculating the direct material mix variance.
The factors may be controllable and uncontrollable. The management should take all the factors which may affect their planned numbers, so at the time of analysis, the estimates will be looks like real.
And the comparison will be fruitful from all aspects.
Difficulty in Setting Up the Standards:
There are no such rules for making standards if you are using standard costing.
The standards are mainly base by the company’s previous records. So the department managers may not give the actual data to the top management, which results in wrong estimates.
To overcome these limitations, a computerized record should be used by the top managers while making estimates for the future.
In this way, the company may establish some reliable basis, which can be used for variance analysis.