These can be used to analyze the performance of the sales function or revenue centers.
Total sales margin variance
It is the total difference between the actual margin and the budgeted margin from sales when cost of sales is valued at standard cost of production.
A.C – B.C
Sales margin price variance
It is that portion of total sales margin variance, which is the difference between the standard
margin per unit and actual margin per unit for the number of units sold in the period.
(A.M – S.M) * A.Q
Sales margin volume variance
It is the difference between the actual sales volume and the budgeted volume multiplied by the
standard margin per unit.
(A.V – B.V) * S.M
Ideally, the above variances are assuming that there’s only one product being sold. In reality, organizations will have a portfolio of different products each with different prices and costs and consequently profits or contributions.
The sales margin volume variance could, therefore, be further analyzed into:
Sales mixture variance
This is the portion of sales margin volume variance that’s the difference between the total number of units at the actual mix and the actual total number of units at standard mix valued at standard margin per unit.
Sales margin volume variance
This is the portion of sales margin quantity variance, which is the difference between the actual total quantities of units sold and the budgeted total number of units at standard mix valued at standard margin per unit.
>>> Illustration:
a) Sales margin volume variance
N.B. Sales margin quantity variance = sales margin mix variance + sales margin volume
variance.
= 1100 (A) + 350 (A) = 1450 (A)
Total variance could be confirmed by getting the difference between the budgeted margin and the actual margin.
11390 – 11000 = 390 (F)
Criticisms of sales margin variances
The purpose of variance analysis is to see if there are any deviations for the budget. If there are and it is within the control of the manager, he is to take steps to correct the situation to avoid further deviations. The manager has very little control over the sales and thus some writers would find the usefulness of the variances doubtful.
However, they could be useful in a situation where the organization has some control over the sales price. It could also be useful where a manager is in charge of two substitute products where he can use the mix variances.
Mix and quantity variances provide useful information only when there is an identifiable relationship between the products sold. If there is no relationship, sales variance analysis should be done on the separate products. Providing managers with mix and quantity variances for products that have no relationship is misleading as it implies that the possible cause of sales volume variance is change in the mix (Gibson, 1990).
He gave examples of where relationships might exist:
Similar products differentiated by single characteristics e.g. size where sales of individual products are expected to vary proportionately with total sales.
From the sale of complementary products where sales of one product are expected to result in increased sales in another
From the sale of substitute products where the increased sales of one product leads to a decrease in sales of another
Sale of heterogeneous products quantities of which are limited by factors of production e.g. sale of product with lower contribution margins per limiting factor is made only if products with higher margins cannot be sold.
Mix Variances
In the previous section, we looked at variances where we assumed that we only had one product. However, we have focused on mix variances to some extent while calculating the sales variances. This section focuses on material variances assuming more than one type of material input.
Variation from the standard input of materials may arise where one material may be over-utilized while the other is under-utilized, evaporation of some input materials, breakages and machine inefficiency.
Three variances will be observed in a scenario:
a) Material price variance: This would arise where the materials have been bought at different prices for the standard.
b) Mix variance: This arises where the materials have been used in different proportions from the standard.
c) Yield variance: This arises where a different total quantity of materials from standard (for actual output) have been used.
The sum of the mix variance and yield variance make up the Total Usage Variance.
Formulae
>>> Illustration
Causes of mix variances
a) Mix variances
Favorable Mix variance arises when less of more expensive material and more of the cheaper materials are used. For instance, in the example above, 128 (F) arises because less of more expensive material X has been used and more of the cheaper materials Y and Z
b) Yield variance
Favorable yield variance arises when the output is less than expected: when the actual loss exceeds the normal loss. Use of cheaper but low quality materials may result to a drop in good production. For instance, the change to a cheaper mix of material has resulted in the drop in yield of good production in relation to the standard.
The material mix variance could be further analyzed to splitting and getting the variances for the individual products.
The total mix variance is made up of a series of favorable and adverse variances. Using smaller quantities of the more expensive material gave us a favorable variance whereas the more use of the cheaper material gave an adverse variance.
Without further analysis, a manager might conclude that using more of material X is good and increasing the levels of Y and Z is quite detrimental in terms of adverse variances. There is a danger in simply looking at mix variances in isolation from yield variances.
The total mix variance is made up of a series of favorable and adverse variances. Using smaller quantities of the more expensive material gave us a favorable variance whereas the more use of the cheaper material gave an adverse variance.
Without further analysis, a manager might conclude that using more of material X is good and increasing the levels of Y and Z is quite detrimental in terms of adverse variances. There is a danger in simply looking at mix variances in isolation from yield variances.
The total mix variance is made up of a series of favorable and adverse variances. Using smaller quantities of the more expensive material gave us a favorable variance whereas the more use of the cheaper material gave an adverse variance.
Without further analysis, a manager might conclude that using more of material X is good and increasing the levels of Y and Z is quite detrimental in terms of adverse variances. There is a danger in simply looking at mix variances in isolation from yield variances.
Problems in using conventional mix and yield variances
Conventional mix and yield variances are based on assumptions some of which might be considered absurd or impracticable. The reliance, however, on mix and yield variances should be done together with a good understanding of principles and objectives of variance analysis and not just the mechanical application of a few formulae.
The variances just show the effect of changes from the original standard but doesn’t show whether the results were optimal given relative prices, qualities and availability of materials. Where materials can be substituted, where characteristics of material are variable and where there are relative price changes, the optimal mix may be continually changing and static conventional variance calculation is unlikely to be appropriate. Getting the optimal mix requires one that gives us the maximum contribution based on a limiting factor. Where limiting factors are many, linear programming is usually applied on a continuous basis.
It also assumes a constant correlation between physical inputs and outputs regardless of the mix of output i.e. if the mix of output changes, some relationship is assumed between the new mix and output as between original standard mix and output.
Technical acceptability of the output is ignored as it is assumed that output is acceptable regardless of the input mix of materials.
Linear substitutability of material is ignored. For example, if they reduce A by one unit, they should increase B by one unit. Further substitution would result in a mix consisting of one material only; the cheapest.
Assuming the technical acceptability of the output based on the premise that the standard represents the optimum position, we should never get a favorable mix variance because the lower standard cost of actual mix means that it should have been the original standard in the first place.
In addition to the variances, technical and commercial factors affecting the process being considered should be done. This could include:
Relative prices, availability and technical characteristics of input material at the time of the mix.
The extent of technical substitutability of material
Planned yield format given actual mix of material not merely the yield form standard mix.
Interdependencies between material variances and other process inputs e.g. what effect does it have on labor costs?