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Strategic Cost Management
Table of Contents
Unit 9 Overview: Standard Costing & Variance Analysis
9.1 Setting and Types of Standards
9.2 Material and Labor Variances
9.3 Overhead Variances
9.4 Mix and Yield Variances

Overhead variances help managers pinpoint cost control issues in production. By analyzing spending and efficiency for variable overhead, and spending and volume for fixed overhead, companies can identify areas for improvement and make data-driven decisions.

These variances break down into more detailed components like capacity and efficiency. This allows for a deeper understanding of what's driving cost differences, whether it's changes in rates, productivity, or production volume. Regular monitoring helps catch problems early.

Variable Overhead Variances

Spending and Efficiency Variances

  • Variable overhead spending variance measures difference between actual and budgeted variable overhead costs
  • Calculated by subtracting (budgeted rate × actual hours) from actual variable overhead
  • Formula: Variable OH Spending Variance=Actual Variable OH−(Budgeted Rate×Actual Hours)\text{Variable OH Spending Variance} = \text{Actual Variable OH} - (\text{Budgeted Rate} \times \text{Actual Hours})
  • Variable overhead efficiency variance reflects impact of labor efficiency on variable overhead costs
  • Computed by multiplying budgeted variable overhead rate by difference between standard and actual hours
  • Formula: Variable OH Efficiency Variance=Budgeted Rate×(Standard Hours−Actual Hours)\text{Variable OH Efficiency Variance} = \text{Budgeted Rate} \times (\text{Standard Hours} - \text{Actual Hours})
  • Positive variances indicate favorable outcomes, while negative variances suggest unfavorable results
  • Factors influencing spending variance include changes in utility rates, supplies costs, or indirect labor wages
  • Efficiency variance affected by production process improvements, worker training, or equipment malfunctions

Interpreting Variable Overhead Variances

  • Total variable overhead variance combines spending and efficiency variances
  • Provides comprehensive view of variable overhead cost performance
  • Favorable spending variance may result from negotiating better rates with suppliers or implementing cost-saving measures
  • Unfavorable efficiency variance could indicate need for process improvements or additional employee training
  • Managers use these variances to identify areas for cost control and operational improvements
  • Regular monitoring of variances helps in early detection of cost overruns or inefficiencies
  • Variance analysis supports data-driven decision-making in production management

Fixed Overhead Variances

Spending and Volume Variances

  • Fixed overhead spending variance compares actual fixed overhead costs to budgeted amounts
  • Calculated by subtracting budgeted fixed overhead from actual fixed overhead
  • Formula: Fixed OH Spending Variance=Actual Fixed OH−Budgeted Fixed OH\text{Fixed OH Spending Variance} = \text{Actual Fixed OH} - \text{Budgeted Fixed OH}
  • Fixed overhead volume variance measures impact of production volume differences on fixed overhead absorption
  • Computed by multiplying budgeted fixed overhead rate by difference between actual and budgeted production units
  • Formula: Fixed OH Volume Variance=Budgeted Rate×(Actual Units−Budgeted Units)\text{Fixed OH Volume Variance} = \text{Budgeted Rate} \times (\text{Actual Units} - \text{Budgeted Units})
  • Volume variance further divided into capacity and efficiency variances for more detailed analysis

Capacity Variance and Its Implications

  • Capacity variance reflects utilization of production facilities compared to budget
  • Calculated by multiplying budgeted fixed overhead rate by difference between actual and budgeted hours
  • Formula: Capacity Variance=Budgeted Rate×(Actual Hours−Budgeted Hours)\text{Capacity Variance} = \text{Budgeted Rate} \times (\text{Actual Hours} - \text{Budgeted Hours})
  • Positive capacity variance indicates higher facility utilization than planned
  • Negative capacity variance suggests underutilization of production capacity
  • Helps management assess effectiveness of capacity planning and resource allocation
  • Can highlight need for adjustments in production scheduling or equipment maintenance

Overhead Variance Analysis

Three-Way Analysis

  • Three-way analysis breaks down total overhead variance into three components
  • Includes spending variance, efficiency variance, and volume variance
  • Provides more detailed insight into sources of overhead cost variations
  • Spending variance isolates impact of cost changes for overhead items
  • Efficiency variance focuses on impact of labor productivity on overhead costs
  • Volume variance captures effect of production volume changes on fixed overhead absorption
  • Helps managers identify specific areas for improvement in overhead cost management

Four-Way Analysis and Advanced Techniques

  • Four-way analysis further separates volume variance into capacity and efficiency components
  • Offers most comprehensive breakdown of overhead variances
  • Includes spending variance, efficiency variance, capacity variance, and production volume variance
  • Capacity variance isolates impact of changes in available production capacity
  • Production volume variance reflects effect of actual production differing from expected levels
  • Advanced techniques incorporate statistical analysis to identify significant variances
  • Trend analysis examines variance patterns over time to detect systemic issues
  • Benchmarking compares variances against industry standards or best practices
  • Root cause analysis investigates underlying factors contributing to significant variances