Variable Overhead Efficiency Variance

The variable overhead efficiency variance is the difference between the actual quantity of the cost-allocation base used and budgeted quantity of the cost-allocation base that should have been used to produce the actual output, multiplied by the budgeted variable overhead cost per unit of the cost-allocation base.

Variableoverheadefficiencyvariance=(Actual quantity ofvariable overheadcost‐allocation baseused for actualoutput−Budgeted quantity ofvariable overheadcost‐allocation baseallowed foractual output)×Budgeted variableoverhead cost per unitof cost‐allocation base=(4,500 hours−0.40 hr. / unit×10,000 units)×$30 per hour=(4,500 hours−4,000 hours)×$30 perhour=$15,000 U  

Columns 2 and 3 of Exhibit 8-1 depict the variable overhead efficiency variance. The variance arises solely because of the difference between the actual quantity (4,500 hours) and budgeted quantity (4,000 hours) of the cost-allocation base. The variable overhead efficiency variance is computed the same way the efficiency variance for direct-cost items is (Chapter 7). However, the interpretation of the variance is different. The efficiency variances for direct-cost items are based on the differences between the actual inputs used and the budgeted inputs allowed for the actual output produced. For example, a forensic laboratory (the kind popularized by television shows such as CSI and Dexter) would calculate a direct labor efficiency variance based on whether the lab used more or fewer hours than the standard hours allowed for the actual number of DNA tests. In contrast, the efficiency variance for variable overhead is based on the efficiency with which the cost-allocation base is used. Webb’s unfavorable variable overhead efficiency variance of $15,000 means that the actual machine-hours (the cost-allocation base) of 4,500 hours was higher than the budgeted machine-hours of 4,000 hours allowed to manufacture 10,000 jackets and this, because machine-hours are a cost driver for variable overhead, pushed up the potential spending on variable overhead.

Exhibit 8-1

Columnar Presentation of Variable Overhead Variance Analysis: Webb Company for April 2020a

A table shows columnar presentation of variable overhead variance analysis of Webb Company for April 2020.

The details of the table are as follows:

The following table shows possible causes for Webb’s actual machine-hours exceeding the budgeted machine-hours and Webb’s potential responses to each of these causes.

A table listing possible causes for exceeding budget and potential management responses.
Possible Causes for Exceeding BudgetPotential Management Responses
1. Workers were under-skilled and so less efficient than expected in using machines.1. Encourage the human resources department to implement better employee-hiring practices and training procedures.
2. The production scheduler inefficiently scheduled jobs, resulting in more machine-hours used than budgeted.2. Improve plant operations by installing production-scheduling software.
3. Machines were not maintained in good operating condition.3. Ensure preventive maintenance is done on all machines.
4. Webb’s sales staff promised a distributor a rush delivery, which resulted in more machine-hours used than budgeted.4. Coordinate production schedules with sales staff and distributors and share information with them.
5. Budgeted machine time standards were set too tight.5. Commit more resources to develop appropriate standards.

Note how, depending on the cause(s) of the $15,000 U variance, corrective actions may need to be taken not just in manufacturing but also in other business functions of the value chain, such as sales and distribution.

As we discussed in Chapter 6, managers should not focus on meeting short-run cost targets if they are likely to result in harmful long-run consequences. In the Webb example, machines may not have been in good working condition in April 2020 because preventive maintenance had not been done in prior months to meet monthly cost targets in those months. Many companies have internal maintenance procedures so that failure to do monthly maintenance as needed raises a “red flag.”