Direct Labor Variance Analysis

As with direct materials variances, all positive variances are unfavorable, and all negative variances are favorable. The labor rate variance calculation presented previously shows the actual rate paid for labor was $15 per hour and the standard rate was $13. This results in an unfavorable variance since the actual rate was higher than the expected (budgeted) rate. With either of these formulas, the actual hours worked refers to the actual number of hours used at the actual production output. The standard rate per hour is the expected hourly rate paid to workers. The standard hours are the expected number of hours used at the actual production output.

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Favorable when the actual labor cost per hour is lower than standard rate. On the other hand, unfavorable mean the actual labor cost is higher than expected. When a company makes a product and compares the actual labor cost to the standard labor cost, the result is the total direct labor variance.

An overview of these two types of labor efficiency variance is given below. The actual amounts paid may include extra payments for shift differentials or overtime. For example, a rush order may require the payment of overtime in order to meet an aggressive delivery date. Kenneth W. Boyd, a former CPA, has over twenty-nine years of experience in accounting, education, and financial services.

Insurance companies pay doctors according to a set schedule, so they set the labor standard. If the exam takes longer than expected, the doctor is not compensated for that extra time. Doctors know the standard and try to schedule accordingly so a variance does not exist. If anything, they try to produce a favorable variance by seeing more patients in a quicker time frame to maximize their compensation potential. The labor efficiency variance calculation presented previously shows that 18,900 in actual hours worked is lower than the 21,000 budgeted hours. Clearly, this is favorable since the actual hours excel templates worked was lower than the expected (budgeted) hours.

Each bottle has a standard labor cost of 1.5 hours at $35.00 per hour. Calculate the labor rate variance, labor time variance, and total labor variance. Labor rate variance arises when labor is paid at a rate that differs from the standard wage rate.

What is the difference between labor yield and mix variances?

1. Doctors, for example, have a time allotment for a physical exam and base their fee on the expected time.
2. A favorable outcome means you used fewer hours than anticipated to make the actual number of production units.
3. For example, the variance can be used to evaluate the performance of a company’s bargaining staff in setting hourly rates with the company union for the next contract period.
4. Favorable when the actual labor cost per hour is lower than standard rate.

Note that both approaches—the direct labor efficiency variance calculation and the alternative calculation—yield the same result. The unfavorable will hit our bottom line which reduces the profit or cause the surprise loss for company. The favorable will increase profit for company, but we may lose some customers due to high selling price which cause by overestimating the labor standard rate. However, we do not need to investigate if the variance is too small which will not significantly impact the decision making. The human resources manager of Hodgson Industrial Design estimates that the average labor rate for the coming year for Hodgson’s production staff will be $25/hour. This estimate is based on a standard mix of personnel at different pay rates, as well as a reasonable proportion of overtime hours worked.

However, a positive value of direct labor rate variance may not always be good. When low skilled workers are recruited at a lower wage rate, the direct labor rate variance will be favorable however, such workers will likely be inefficient and will generate a poor direct labor efficiency relevance in accounting variance. Direct labor rate variance must be analyzed in combination with direct labor efficiency variance. In this example, the Hitech company has an unfavorable labor rate variance of $90 because it has paid a higher hourly rate ($7.95) than the standard hourly rate ($7.80). Jerry (president and owner), Tom (sales manager), Lynn (production manager), and Michelle (treasurer and controller) were at the meeting described at the opening of this chapter.

What are common causes for labor variances?

All such information is provided solely for convenience purposes only and all users thereof should be guided accordingly. Mark P. Holtzman, PhD, CPA, is Chair of the Department of Accounting and Taxation at Seton Hall University. He has taught accounting at the college level for 17 years and runs the Accountinator website at , which gives practical accounting advice to entrepreneurs.

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This general fact should be kept in mind while assigning tasks to available work force. If the tasks that are not so complicated are assigned to very experienced workers, an unfavorable labor rate variance may be the result. The reason is that the highly experienced workers can generally be hired only at expensive wage rates. If, on the other hand, less experienced workers are assigned the complex tasks that require higher level of expertise, a favorable labor rate variance may occur. However, these workers may cause the quality issues due to lack of expertise and inflate the firm’s internal failure costs. In order to keep the overall direct labor cost inline with standards while maintaining the output quality, it is much important to assign right tasks to right workers.

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This is a favorable outcome because the actual hours worked were less than the standard hours expected. If the actual hours worked are less than the standard hours at the actual production output level, the variance will be a favorable variance. A favorable outcome means you used fewer hours than anticipated to make the actual number of production units. If, however, the actual hours worked are greater than the standard hours at the actual production output level, the variance will be unfavorable.

This awareness helps managers make decisions that protect the financial health of their companies. Note that both approaches—direct labor rate variance calculation and the alternative calculation—yield the same result. Doctors, for example, have a time allotment for a physical exam and base their fee on the expected time.

Hence, variance arises due to the difference between actual time worked and the total hours that should have been worked. The most common causes of labor variances are changes in employee skills, supervision, production methods capabilities and tools. The labor standard may not reflect recent changes in the rates paid to employees. For example, the standard may not reflect the changes imposed by a new union contract. There are a number of possible causes of a labor rate variance, which are noted below. An example is when a highly paid worker performs a low-level task, which influences labor efficiency variance.