Interpreting a favourable material variance at Cawdor Foods
Cawdor Foods makes chilled soups for UK retailers. The standard cost card for 1,000 pots includes 500 kg of milk powder at £4.00 per kg; other ingredients and packaging are costed separately. For last month's production of 204,000 pots, purchasing bought and used 108,000 kg of milk powder for £399,600. The monthly variance report shows a material price variance of £32,400 favourable and a material usage variance of £24,000 adverse, a net £8,400 favourable, and the purchasing manager has cited this in her bonus review. The technical team has since confirmed that the new supplier's powder has a lower protein content and needs 0.53 kg per pot. Production also ran at a 4% reject rate against a normal 1.5%, and rework and complaint-handling costs of £61,000 sit in overheads. Two retailers have cut listings pending a quality review.
1. Calculate the material price and usage variances, reconcile them to the net £8,400 favourable, then restate the usage variance using the revised specification of 0.53 kg per pot. Interpret what the restatement reveals.
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Original variances
Standard quantity for actual output: 204,000 × 0.5 kg = 102,000 kg
Price variance: (standard price − actual price) × actual quantity = (£4.00 − £3.70) × 108,000 = £32,400 favourable
Usage variance: (standard quantity − actual quantity) × standard price = (102,000 − 108,000) × £4.00 = £24,000 adverse
Net: £32,400 F − £24,000 A = £8,400 favourable
Revised specification
Expected quantity at 0.53 kg: 204,000 × 0.53 = 108,120 kg
Operational usage variance: (108,120 − 108,000) × £4.00 = £480 favourable
The restatement changes the story completely. Against the original standard the factory looks 6,000 kg inefficient; against a standard that reflects the powder actually bought, it is marginally efficient. The £24,000 adverse usage variance is a planning variance created by the purchasing decision, not a shop-floor failure, and the £32,400 price saving is not a like-for-like saving either, because £3.70 buys a different product from £4.00. Adding the £61,000 of rework and complaint costs turns the £8,400 reported gain into a net adverse position of at least £52,600, before the lost contribution from the two delisted lines. The reported variance is favourable only because the cost of the quality failure is recorded somewhere else.
2. Explain why the variance report misled management, and recommend changes to Cawdor's standards, reporting and purchasing incentives to prevent a recurrence. Include the limitations of your recommendations.
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Why the report misled
It splits a single decision into two variances measured against a standard that no longer describes the product, and it excludes quality costs from the purchasing manager's scorecard. She is rewarded for the £32,400 saving while the £61,000 consequence lands in overheads, so her bonus review cites a gain the group did not make.
Recommendations
Rebuild the standard around the specified protein content (0.53 kg), so future usage variances measure factory performance only, and disclose the planning variance separately: (0.53 − 0.50) × 204,000 × £4.00 = £24,480 adverse.
Report a total cost of ownership for each material: price variance plus rework, rejects, complaint handling and lost margin, shown on one line to the buyer and the technical director.
Base the purchasing bonus on total cost of ownership and a supplier scorecard (reject rate, complaints, on-time delivery), not price alone.
Require technical and quality sign-off, with a trial batch, before any material specification changes.
Limitations
Quality costs are partly joint and hard to attribute; including them may make buyers risk-averse and kill genuine savings. There is also a timing mismatch: the price saving appears immediately, the quality cost later, so monthly reporting may still flatter the decision unless a rolling 12-month view is used. Finally, the £61,000 may understate the damage if the delistings become permanent, so the commercial team must quantify the at-risk revenue before the standard is reset.