A three variance breakdown of the total overhead variance for a period includes a ______.

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  • Related News
  • What Is Variable Overhead Spending Variance?
  • Key Takeaways
  • Understanding Variable Overhead Spending Variance
  • Example of Variable Overhead Spending Variance
  • Limitations

Definition: Variance analysis is the study of deviations of actual behaviour versus forecasted or planned behaviour in budgeting or management accounting. This is essentially concerned with how the difference of actual and planned behaviours indicates how business performance is being impacted.

Description: Variance analysis can be broken down into 2 steps:

1. Calculating and recording individual variances

2. Understanding the cause of each variance

Reasons for variances can be either of the following:

1. Change in market conditions, which have rendered the standard budgeting practices unrealistic, e.g. short supply of raw materials causing suppliers to hike prices

2. Budgeting standards followed may be too idealistic in nature, e.g. output of a machine may be wrongly assumed

3. Service delivery may not be up to the mark, e.g. planning may have taken into account an eight hour working day, however actual ground conditions may only allow six hours a day

4. In certain cases, there can be no basis for planning, e.g. output of creative activities cannot be benchmarked to a high level of accuracy.

Variances may be classified under the below mentioned heads:

1. Material Variances: - These arise from the difference between actual costs of materials used in production and standard costs of materials specified for the goods produced. This comes into play because of the difference in quantities consumed and quantity initially allocated for production. This can also happen due to the difference in price paid and price budgeted for materials used.

2. Labour variances:- This denotes the actual wage paid to workers versus the standard wage prevalent for the output specified. When the actual labour costs are more than budgeted ones, the variance is unfavourable.

3. Overhead variances:- It may be defined as the sum total of indirect material, labour and expense costs. Overhead variances may arise due to the difference between standard overhead costs budgeted and the actual overheads incurred.

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  Profitability analysis for SMEs- Know how well your business is doingVariance analysis helps to track how a business is performing in comparison to earlier periods and identifying areas for deeper analysis or scope for improvement.

What Is Variable Overhead Spending Variance?

A spending variance is the difference between the actual amount of a particular expense and the expected (or budgeted) amount of an expense. To understand what variable overhead spending variance is, it helps to know what a variable overhead is. Variable overhead is a cost associated with running a business that fluctuates with operational activity. As production output increases or decreases, variable overheads move in tandem. Overheads are typically a fixed cost, for example, administrative expenses. Variable overheads, on the other hand, are tied to production levels.

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.

Key Takeaways

• Variable Overhead Spending Variance is the difference between what the variable production overheads actually cost and what they should have cost given the level of activity during a period.
• The standard variable overhead rate is typically expressed in terms of machine hours or labor hours.
• Variable overhead spending variance is favorable if the actual costs of indirect materials are lower than the standard or budgeted variable overheads.
• Variable overhead spending variance is unfavorable if the actual costs are higher than the budgeted costs.

Understanding Variable Overhead Spending Variance

Variable Overhead Spending Variance is essentially the difference between what the variable production overheads actually cost and what they should have cost given the level of activity during a period.

The standard variable overhead rate is typically expressed in terms of the number of machine hours or labor hours depending on whether the production process is predominantly carried out manually or by automation. A company may even use both machine and labor hours as a basis for the standard (budgeted) rate if the use both manual and automated processes in their operations.

Variable overhead spending variance is favorable if the actual costs of indirect materials — for example, paint and consumables such as oil and grease—are lower than the standard or budgeted variable overheads. It is unfavorable if the actual costs are higher than the budgeted costs.

Variable production overheads include costs that cannot be directly attributed to a specific unit of output. Costs such as direct material and direct labor, on the other hand, vary directly with each unit of output.

Example of Variable Overhead Spending Variance

Let's say that actual labor hours used are 140, the standard or budgeted variable overhead rate is $8.40 per direct labor hour and the actual variable overhead rate is $7.30 per direct labor hour. The variable overhead spending variance is calculated as below:

Standard variable overhead Rate $8.40 − Actual Variable Overhead Rate $7.30 =$1.10

Difference Per Hour = $ 1.10 × Actual Labor Hours 140 = $154

Variable Overhead Spending Variance = $154

In this case, the variance is favorable because the actual costs are lower than the standard costs.

A favorable variance may occur due to economies of scale, bulk discounts for materials, cheaper supplies, efficient cost controls, or errors in budgetary planning.

An unfavorable variance may occur if the cost of indirect labor increases, cost controls are ineffective, or there are errors in budgetary planning.

Limitations

Fast Fact

Variable overhead spending variance is essentially the difference between the actual cost of variable production overheads versus what they should have cost given the output during a period.