## **Learning Outcomes**

After reading this article, you will be able to explain the calculation and interpretation of variable overhead expenditure and efficiency variances. You will understand how to distinguish their causes, evaluate their significance, identify interrelationships with labour variances, and recommend appropriate management actions based on the findings. You will also be able to apply your knowledge through worked examples and practice questions in the ACCA style.

## **ACCA Management Accounting (MA) Syllabus**

For ACCA Management Accounting (MA), you are required to understand how variable production overhead variances are calculated and interpreted. The following syllabus points are addressed:

- Calculate variable overhead total, expenditure, and efficiency variances
- Interpret the meaning of variable overhead expenditure and efficiency variances
- Explain the causes and possible control actions for these variances
- Discuss their relationship to labour variances
- Recommend actions to address adverse or favourable variances

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. A manufacturer budgets variable overheads at \$2 per direct labour hour. In a month, 3,000 hours were worked and \$6,600 was incurred. What is the variable overhead expenditure variance?
2. If the standard hours allowed for actual production are 2,800 but 3,000 labour hours were worked, what is the variable overhead efficiency variance if the standard rate is \$2 per hour?
3. Identify one operational and one planning cause of an adverse variable overhead efficiency variance.
4. Explain how a favourable labour efficiency variance could affect the variable overhead efficiency variance.

## **Introduction**

Variable overhead variances compare budgeted (standard) costs with actual outcomes, helping managers control spending and productivity. This article focuses on expenditure and efficiency variances—their calculation, causes, and interpretation. Understanding these concepts is essential for performance analysis and cost control.

> **Key Term: variable overheads**
> Production costs that change in direct proportion to the level of activity, such as indirect materials, indirect labour, and utilities directly linked to output.

## Variable Overhead Variances Overview

Standard costing allows organisations to compare what should have happened with what actually happened. For variable overheads, two main variances are typically calculated:

- Variable overhead expenditure variance
- Variable overhead efficiency variance

These help management quickly spot cost overruns, inefficiencies, or improvements.

> **Key Term: variable overhead expenditure variance**
> The difference between actual variable overhead costs incurred and the budgeted variable overheads for the actual hours worked.
>
> **Key Term: variable overhead efficiency variance**
> The cost effect of the difference between standard hours allowed for actual output and the actual hours worked, valued at the standard variable overhead rate.

## Calculating Variable Overhead Variances

### Variable Overhead Expenditure Variance

This variance measures whether the business spent more or less per hour on variable overheads than budgeted.

**Formula:**

Variable overhead expenditure variance  
= (Actual hours × Standard overhead rate) − Actual overhead cost

- Favourable (F): Actual overhead cost is less than budget.
- Adverse (A): Actual overhead cost exceeds budget.

### Variable Overhead Efficiency Variance

This variance assesses whether the workforce took more or fewer hours than standard to produce actual output, valued at the standard rate.

**Formula:**

Variable overhead efficiency variance  
= (Standard hours for actual output − Actual hours worked) × Standard overhead rate

- Favourable (F): Actual hours worked < standard hours allowed.
- Adverse (A): Actual hours worked > standard hours allowed.

Variable overhead efficiency variance often reflects labour efficiency, as variable overheads are typically absorbed based on labour hours.

## Total Variable Overhead Variance

Total variable overhead variance = Expenditure variance + Efficiency variance  
Alternatively,  
= (Standard cost allowed for output) − Actual variable overhead cost

## Structure of Variable Overhead Variances

| Component   | What it Measures                                  | Influence                             |
| ----------- | ------------------------------------------------- | ------------------------------------- |
| Expenditure | Price paid per input hour vs. standard            | Price increases, inaccurate budgeting |
| Efficiency  | Input hours used vs. standard input hours allowed | Productivity of workforce/activity    |

### **Worked Example 1.1**

ABC Ltd budgets variable overheads at \$4 per direct labour hour. During May:

- Actual output: 500 units
- Standard labour hours per unit: 2
- Actual hours worked: 1,050
- Actual variable overhead incurred: \$4,410

Calculate:

a) Variable overhead expenditure variance  
b) Variable overhead efficiency variance  
c) Total variable overhead variance

> **Answer:**
>
> a) Expenditure variance = (1,050 × \$4) − \$4,410 = \$4,200 − \$4,410 = \$210 Adverse  
> b) Standard hours for output = 500 × 2 = 1,000  
> Efficiency variance = (1,000 − 1,050) × \$4 = (−50) × \$4 = \$200 Adverse  
> c) Total variance = \$210 (A) + \$200 (A) = \$410 Adverse

## Interpreting the Variances

### Understanding Expenditure Variance

This variance highlights if the cost per hour/unit of variable overhead was different from standard, due to price changes, supplier rates, or estimation inaccuracies.

**Key causes:**

- Utility price changes
- Indirect material or labour rate changes
- Unexpected resource price increases
- Inefficiency or waste in indirect resource use

### Understanding Efficiency Variance

A variable overhead efficiency variance is linked to operational performance. If activity hours exceed the standard, more overhead is absorbed, resulting in an adverse variance.

**Key causes:**

- Lower productivity (idle time, machine breakdowns)
- Labour inefficiency (poor supervision, employee inexperience)
- Poor scheduling or resource bottlenecks

> **Exam Warning**
> An adverse variable overhead efficiency variance often goes hand-in-hand with an adverse labour efficiency variance. Check both—for consistent results and root operational issues.

## The Link Between Labour Efficiency and Variable Overhead Efficiency

Variable overheads are usually absorbed based on direct labour hours or machine hours. Any variance in the efficiency of those hours will affect both the labour and variable overhead efficiency variances—with the same sign (both favourable or both adverse).

### **Worked Example 1.2**

A factory budgets for variable overhead absorption at \$3 per machine hour.  
Budgeted production: 600 units, requiring 2 machine hours each  
Actual output: 630 units  
Actual machine hours worked: 1,350  
Actual variable overhead cost: \$4,100

Find:

a) Variable overhead expenditure variance  
b) Variable overhead efficiency variance  
c) Comment on relationship to production efficiency

> **Answer:**  
> a) Expenditure variance = (1,350 × \$3) − \$4,100 = \$4,050 − \$4,100 = \$50 Adverse  
> b) Standard machine hours for output = 630 × 2 = 1,260  
> Efficiency variance = (1,260 − 1,350) × \$3 = (−90) × \$3 = \$270 Adverse  
> c) The adverse efficiency variance reflects that more hours were used than standard for actual output, indicating lower productivity.

## Causes of Variable Overhead Variances

### Expenditure Variance

- Unexpected changes in rates for indirect costs (utilities, maintenance)
- Incorrect budget rates
- Poor contract negotiation with suppliers

### Efficiency Variance

- Machine/employee inefficiency
- Inadequate training or supervision
- Equipment breakdown or downtime
- Wasteful or poorly planned processes

## Control Actions

Management should:

- Investigate significant adverse variances
- Review and, if needed, update standard rates based on recent costs
- Implement training or process improvement programs
- Negotiate better terms with overhead suppliers
- Improve maintenance planning

### **Revision Tip**

When both labour and variable overhead efficiency variances are adverse, look for shared causes such as low productivity or excess downtime.

## Summary Table: Variable Overhead Variances

| Variance Type | Formula                                     | Nature     | Links To          |
| ------------- | ------------------------------------------- | ---------- | ----------------- |
| Expenditure   | (Actual hrs × std rate) – Actual cost       | Cost/rate  | Budgeting/pricing |
| Efficiency    | (Std hrs – Actual hrs) × std rate           | Operations | Labour efficiency |
| Total         | (Std cost allowed for output) – Actual cost | Overall    | Both above        |

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- The nature and importance of variable overheads in cost control
- How to calculate variable overhead expenditure and efficiency variances
- Interpretation of what each variance indicates
- Common causes of adverse and favourable variances
- The direct link between labour/machine efficiency and variable overhead efficiency
- Recommended management actions for controlling overheads
- Practical ACCA-style examples and examination pointers

## **Key Terms and Concepts**

- variable overheads
- variable overhead expenditure variance
- variable overhead efficiency variance

Overhead variances and interpretation - Variable overhead expenditure and efficiency