DEFINITION of 'Variable Overhead Efficiency Variance'
The difference between actual variable overhead based on the true time taken to manufacture a product, and standard variable overhead based on the time budgeted for it. It arises from variance in productive efficiency. For example, the number of labor hours taken to manufacture a certain amount of product may differ significantly from the standard or budgeted number of hours. Variable overhead efficiency variance is one of the two components of total variable overhead variance, the other being variable overhead spending variance.
In numerical terms, it is defined as (actual labor hours less budgeted labor hours) x hourly rate for standard variable overhead, which includes such indirect labor costs as shop foreman and security. If actual labor hours are less than the budgeted or standard amount, the variable overhead efficiency variance is favorable; if actual labor hours are more than the budgeted or standard amount, the variance is unfavorable.
BREAKING DOWN 'Variable Overhead Efficiency Variance'
Consider an example of a widget-manufacturing plant, where the rate for standard variable overhead to account for indirect labor costs is estimated at $20 per hour. Assume that the standard number of hours required to manufacture 1,000 widgets is 2,000 hours. However, the company actually took 2,200 hours to manufacture 1,000 widgets. In this case, the unfavorable variable overhead efficiency variance is (2,200 – 2,000) x $20 = $4,000; the variance is unfavorable because the company took more time than budgeted to produce the 1,000 widgets. If the company had instead taken 1,900 hours to manufacture 1,000 widgets, the variance would be favorable $2,000.