For example, if the workforce utilized fewer manufacturing hours during a period than the standard, it is hard to imagine a significant benefit of calculating a favorable fixed overhead efficiency variance. 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. Overhead variances arise when the actual overhead costs incurred differ from the expected amounts. Managers want to understand the reasons for these differences, and so should consider computing one or more of the overhead variances described below.
- In August, the company ABC which is a manufacturing company has produced 950 units of goods in the production.
- In a standard cost system, overhead is applied to the goods based on a standard overhead rate.
- If sales on a product are seasonal, production volumes on a monthly basis can fluctuate.
- Adverse fixed overhead expenditure variance indicates that higher fixed costs were incurred during the period than planned in the budget.
- It is the normal capacity that the company or the existing facility can achieve for the period.
The expectation is that 3,000 units will be produced during a time period of two months. However, the actual number of units produced is only 2,000, resulting in a total of $50,000 fixed overhead costs. An unfavorable fixed overhead budget variance results when the actual amount spent on fixed manufacturing overhead costs exceeds the budgeted amount. The fixed overhead budget variance is also known as the fixed overhead spending variance. On the other hand, if the budgeted fixed overhead cost is bigger instead, the result will be unfavorable fixed overhead volume variance. This means that the actual production volume is lower than the planned or scheduled production.
What Is a Production Budget Used For?
By contrast, efficiency variance measures efficiency in the use of the factory (e.g., machine hours employed in costing overheads to the products). Controlling overhead costs is more difficult and complex than controlling direct materials and direct labor costs. This could be for many reasons, and the production supervisor would need to determine where the variable cost difference is occurring to better understand the variable overhead reduction.
- The difference between the actual fixed overhead incurred and the amount of fixed overhead that had been budgeted.
- For Boulevard Blanks, the budgeted fixed overhead was $13,365 (notice the level of production does not matter since fixed costs remain the same regardless of volume) and the actual fixed overhead costs were $13,485.
- Notice that fixed overhead remains constant at each of the production levels, but variable overhead changes based on unit output.
- For example, factory rent, supervisor
salaries, or factory insurance may have been lower than
anticipated.
Another variable overhead variance to consider is the variable overhead efficiency variance. Fixed overhead budget variance is the difference between the budgeted cost of fixed overhead and the actual cost of the fixed overhead that occurs in the production during the period. These costs are budgeted based on estimates and assumptions made at the beginning of a period. Companies use an overhead variance formula because they are required to assign a portion of the fixed overhead costs to each product. This result of $950 of unfavorable fixed overhead volume variance can be used together with the fixed overhead budget variance to determine the total fixed overhead variance.
Fixed manufacturing overhead costs remain the same in total even though the production volume increased by a modest amount. For example, the property tax on a large manufacturing facility might be $50,000 preparation 2021 per year and it arrives as one tax bill in December. The amount of the property tax bill did not depend on the number of units produced or the number of machine hours that the plant operated.
Variable Overhead Spending Variance
Looking at Connie’s Candies, the following table shows the variable overhead rate at each of the production capacity levels. If production volume relies on the labor hours of workers and a company implements new efficient practices that reduce the number of hours needed to produce a product, more units will be made than budgeted. In our example, we budgeted the annual fixed manufacturing overhead at $8,400 (monthly rents of $700 x 12 months). If DenimWorks pays more than $8,400 for the year, there is an unfavorable budget variance; if the company pays less than $8,400 for the year, there is a favorable budget variance. A favorable variance means that the actual variable overhead expenses incurred per labor hour were less than expected. † $140,280 is the original budget presented in the manufacturing overhead budget shown in Chapter 9 “How Are Operating Budgets Created?”.
What are the formulas to calculate the overhead variances?
The following information is the flexible budget Connie’s Candy prepared to show expected overhead at each capacity level. Usually, the level of activity is either direct labor hours or direct labor cost, but it could be machine hours or units of production. Fixed overhead capacity variance is the difference between absorbed fixed production overheads attributable to the change in number of manufacturing hours, compared to what was budgeted. The fixed overhead expenditure variance helps managers understand why there are differences between what was planned during the budgeting process and what was actually incurred during the period. Fixed overhead variance refers to the difference between the actual fixed production overheads and the absorbed fixed production overheads over a period of time. We indicated above that the fixed manufacturing overhead costs are the rents of $700 per month, or $8,400 for the year 2022.
Example of the Fixed Overhead Spending Variance
Estimate the total number of standard direct labor hours that are needed to manufacture your products during 2022. Before you move on, check your understanding of the fixed manufacturing overhead budget variance. Sometimes these flexible budget figures and overhead rates differ from the actual results, which produces a variance. This variance is positive if the actual amount produced is greater than the budgeted amount and is negative if production is below budgeted levels.
This means there was not enough good output to absorb the budgeted amount of fixed manufacturing overhead. If the amount applied to the good output is greater than the budgeted amount of fixed manufacturing overhead, the fixed manufacturing overhead volume variance is favorable. Favorable fixed overhead expenditure variance suggests that actual fixed costs incurred during the period have been lower than budgeted cost. The fixed overhead costs included in this variance tend to be only those incurred during the production process, such as factory rent, equipment depreciation, staff salaries, insurance of facilities and utility fees. For example, the utility expenses that are classified as a fixed overhead can vary from one period to another. Additionally, the salaries of management and supervisory staff that involve in the production may also change when there is a turnover in these positions.
That’s why there is usually a fixed overhead budget variance when the company analyzes the fixed overhead variance in detail. Companies typically establish a standard fixed manufacturing overhead rate prior to the start of the year and then use that rate for the entire year. Let’s assume it is December 2021 and DenimWorks is developing the standard fixed manufacturing overhead rate for use in 2022. As mentioned above, we will assign the fixed manufacturing overhead on the basis of direct labor hours.
The fixed overhead production volume variance is favorable
because the company produced and sold more units than
anticipated. To determine the overhead standard cost, companies prepare a flexible budget that gives estimated revenues and costs at varying levels of production. Because they are fixed within a certain range of activity, these overhead costs are fairly easy to predict.