Fixed Overhead Volume Variance

Fixed overhead volume variance is a fundamental variance that must be tested for each time a company is carrying out variance analysis to determine the effectiveness of its operational management.

 

Fixed overhead volume variance like fixed overhead expenditure variance is a component variance of fixed overhead variance (FOH). Examples of fixed overhead costs are rent, insurance, utility, stationery, and so on.

 

In this article, I will show you how to solve examination questions testing this concept as well as their importance to any organization.

 

What Is Fixed Overhead Volume Variance?

It measures the differences between the budgeted amount of fixed overhead costs based on production levels and the amount that is absorbed.

The formula is (Budgeted hours – Actual Hours) x FOAR.

Note: Where FOAR is Fixed Overhead Absorption Rate. 

 

This variance can be analyzed further into fixed overhead volume efficiency variance and fixed overhead volume capacity variance. The addition of both sub-variances must equal the fixed overhead volume variance.

 

The formula for fixed overhead volume efficiency variance is:

(Standard Hours – Actual Hours spent on production) x (FOAR per standard time).

It measures the difference between how long it ought to take labor to complete production and how long it took them.

 

Fixed overhead volume capacity variance compares how long it took labor to complete production against the budgeted hours for production. The formula is:

(Budgeted Hours –  Actual Hours) x FOAR per standard time.

 

Tip: Please note that FOH volume variance will only arise where a company chose absorption costing as its costing technique.

 

The FOAR per standard time to be used for the subvariances of FOH volume variances are FOAR per unit of hour i.e FOAR ÷ Standard hour per unit of production.

 

Worked Examples

Moremi PLC has created a budget for the coming accounting period and information relating to its fixed overhead costs are:

Budgeted Fixed Overheads $80,000
Budgeted Units 10,000
Actual Units Produced 12,000
Standard hour per unit 3 hours
Actual hours of production 40, 000 hours

 

Fixed overhead absorption rate = Budgeted Fixed Costs ÷ Budgeted units.

FOAR = $80,000

                10,000

= $8/unit

 

Absorbed Fixed Overhead Cost = $8 x 12,000 = $96,000

 

FOH Volume Variance = $80,000 – $96,000 = $16,000 Favourable.

 

Fixed overhead capacity variance = (Budgeted Production hours – Actual Production hours) xFOAR/unit of hour

= (10,000 units x 3) – 40,000) x $8/3hours

= -10,000 x 2,67 = 26,700 Favourable

 

Fixed Overhead Efficiency Variance = (Standard Hours – Actual Hours spent on production) x (Fixed Overhead Absorption Rate)

= ((12,000 x 3) – 40,000) x $8/3hours

= (36,000 – 40,000) x $2.67 = $10,680 Adverse.

To confirm your answer, the addition of FOH capacity variance and FOH efficiency variance must equal FOH volume variance. In this case, $26,700 Favourable – $10,680 Adverse = 16,000 Favourable (**approximation error) 

 

TIP: For any variance analysis, you must interpret your answer to be either Favourable or Adverse/Unfavourable. Variance analysis is favorable if the business saves money while it is unfavorable when actual spending is higher than the budget or set standard.

 

Limitations of FOH Volume Variance

  • The information that can be deduced from FOH volume variance is limited compared to what can be obtained from other types of variances.
  • The subvariances of FOH volume variance do not offer a logical analysis of FOH.
  • The process is a bit complex and may not be understood by all.
  • It may be unnecessary and wasteful to monitor fixed overhead variances since its cost does not change regularly.

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