Variable overhead efficiency variance

Variable overhead is assumed to vary as the production volume changes. Thus, variable overhead changes in proportion to changes in the direct labor hours used. The variable overhead efficiency variance measures the change in variable overhead consumption that occurs because of efficient (or inefficient) use of direct labor. The efficiency variance is computed using the following formula:

The variable overhead efficiency variance is directly related to the direct labor efficiency or usage variance. If variable overhead is truly driven by direct labor hours, then like the direct labor usage variance, the variable overhead efficiency variance is caused by efficient or inefficient use of direct labor. If more (or fewer) direct labor hours are used than the standard calls for, then the total variable overhead cost will increase (or decrease). The validity of the measure depends on the validity of the relationship between variable overhead costs and direct labor hours. In other words, do variable overhead costs really change in proportion to changes in direct labor hours? If so, responsibility for the variable overhead efficiency variance should be assigned to the individual who has responsibility for the use of direct labor: the production manager.

The reasons for the unfavorable variable overhead efficiency variance are generally the same as those offered for the unfavorable labor usage variance. For example, some of the variance can be explained by the fact that overtime hours were used during the first week to make up for a bad batch of yogurt. The remaining deficiency was caused by the use of new employees who took longer to carry out tasks because of their lackof experience.
 

More information concerning the effect of direct labor usage on variable overhead is available in a line-by-line analysis of individual variable overhead items. This can be accomplished by comparing the budget allowance for the actual hours used with the budget allowance for the standard hours allowed for each item. A performance report that makes this comparison for all variable overhead costs is shown in Exhibit 9-9. From Exhibit 9-9, we can see that the cost of natural gas is affected most by inefficient use of direct labor. For example, the extra time required to make up for a bad batch would increase gas consumption. Similarly, inexperienced laborers may heat the mix of gelatin and milk longer than is really needed, thus using more gas.

The column labeled Budget for Standard Hours gives the amount that should have been spent on variable overhead for the actual output. The total of all items in this column is the applied variable overhead, the amount assigned to production in a standard costing system. Note that in a standard costing system, variable overhead is applied using the hours allowed for the actual output (SH), while in normal costing, variable overhead is applied using actual hours. Although not shown in Exhibit 9-9, the difference between actual costs and this column is the total variable overhead variance (underapplied by $340). Thus, the underapplied variable overhead variance is the sum of the spending and efficiency variances.

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