Budgeting Basics and Beyond

8.8. Overhead Variances

Management is concerned with the trade-off between fixed and variable costs. As the output level increases, the capital-intensive business will be more efficient. The cost associated with a wrong decision is the variance between the total costs of operating the given plant and the total costs of operating the most efficient one based on the actual output level.

Overhead variances may be determined by department and by cost center. Fixed and variable overhead variances should be analyzed independently. In many firms, variances are expressed in both dollars and physical measures.

Variable Overhead Variances

The two variances associated with variable overhead are price (spending) and efficiency.

Variable Overhead Price (Spending) Variance

Actual variable overhead versus budget adjusted to actual hours (actual hours × standard variable overhead rate)

Variable Overhead Efficiency Variance

Budget adjusted to actual hours versus budget adjusted to standard hours (standard hours × standard variable overhead rate)

Variable overhead variance information is helpful in arriving at the output level and output mix decisions. The production manager is usually responsible for any variable overhead variance that might occur. This variance also assists in appraising decisions regarding variable inputs.

Example 5

The standard hours are three hours per unit. The standard variable overhead rate is $12 per hour. Actual variable overhead is $13,000. There are 2,500 actual hours. ...