Variable Manufacturing Overhead Variance Analysis

Businesses often give more importance to ADVERSE variances than FAVORABLE variances. However, it is important to know the real reasons behind the adverse variances. Now analyze the calculation, and you will find that the actual overhead rate is less than the standard rate which is $12.

Either way, this overhead variance formula compares overhead costs from budget to actual, and it highlights to management if overhead costs are changing against expectations. The logic for https://turbo-tax.org/deduction-of-higher-ed-expensess/ direct labor variances is similar to that of direct material. You find the total variance for direct labor by comparing the actual direct labor cost of standard direct labor costs.

Calculation of Overhead spending variance:

Variable overhead spending variance is the difference between actual variable overhead cost, which is based on the costs of indirect materials involved in manufacturing, and the budgeted costs called the standard variable overhead costs. Interpretation of the variable overhead rate variance is often difficult because the cost of one overhead item, such as indirect labor, could go up, but another overhead cost, such as indirect materials, could go down. Often, explanation of this variance will need clarification from the production supervisor. Another variable overhead variance to consider is the variable overhead efficiency variance. Other variances companies consider are fixed factory overhead variances. The total variable overhead cost variance is also found by combining the variable overhead rate variance and the variable overhead efficiency variance.

• Again, this analysis is appropriate assuming direct labor hours truly drives the use of variable overhead activities.
• Fixed overhead may include rent, car insurance, maintenance, depreciation and more.
• Other variances companies consider are fixed factory overhead variances.
• However, significant changes in production do require even fixed overheads to be adjusted.
• The controller of a small, closely held manufacturing company embezzled close to $1,000,000 over a 3-year period.
• In this rare scenario, we can assume that production department cannot be held responsible for fixed overhead variances.

Budget or spending variance is the difference between the budget and the actual cost for the actual hours of operation. This variance can be compared to the price and quantity variance developed for direct materials and direct labor. Applying this formula of variable overhead spending variance in the calculation, the favorable or unfavorable variance can be simply determined by whether the result of the calculation is positive or negative. If the result is positive, the variance is favorable; otherwise, the variance is unfavorable.

Fixed Overhead

The terms favorable and unfavorable relate to the impact the variance has on budgeted operating profit. A favorable variance is always a good sign for the company’s management as it shows that the company has achieved what was planned at the start of the period. A favorable variance may be observed in cases where economies of scale are used to advantage to obtain bulk discounts for materials, or when efficient cost control measures are put in place by the management. A favorable variance may occur due to economies of scale, bulk discounts for materials, cheaper supplies, efficient cost controls, or errors in budgetary planning.

If the standard variable overhead rate is higher than the actual variable overhead rate, the result is favorable variable overhead spending variance. On the other hand, if the actual variable overhead rate is higher, the variance is unfavorable. This means that the actual variable overhead cost during the period is higher than the overhead cost that is applied to the actual hours worked using the standard variable overhead rate.

Variable Overhead Spending Variance

The labor efficiency variance is the difference between the actual number of direct labor hours worked and budgeted direct labor hours that should have been worked based on the standards. The labor rate variance is the difference between actual costs for direct labor and budgeted costs based on the standards. Meanwhile, the actual variable overhead rate can be determined by dividing the actual variable overhead cost by the actual hours worked. Accounting Tools explains that the fixed overhead variance can be calculated in a number of ways. The fixed overhead expenditure variance, also called the cost variance, budget variance or spending variance, looks at the budgeted cost of overhead against the actual cost of overhead. Companies use an overhead variance formula because they are required to assign a portion of the fixed overhead costs to each product.

As such, you should evaluate any spending variance in light of the assumptions used to develop the underlying budget or expense standard. This could be for many reasons, and the production supervisor would need to determine where the variable cost difference is occurring to make production changes. Thus, any spending variance should be evaluated in light of the assumptions used to develop the underlying expense standard or budget.