What is the Labor Efficiency Variance?
The labor efficiency variance measures the ability to utilize labor in accordance with expectations. The variance is useful for spotlighting those areas in the production process that are using more labor hours than anticipated. If the variance outcome is unfavorable, there will likely to be a review by industrial engineers to see if the underlying process can be improved to reduce the number of production hours required, using such means as:
A simplified product design to reduce assembly time
A reduction in the amount of scrap produced by the process
Increasing the amount of automation
Altering the workflow
If this cannot be done, then the standard number of hours required to produce an item is increased to more closely reflect the actual level of efficiency.
The standard number of hours represents the best estimate of a company's industrial engineers regarding the optimal speed at which the production staff can manufacture goods. This figure can vary considerably, based on assumptions regarding the setup time of a production run, the availability of materials and machine capacity, employee skill levels, the duration of a production run, and other factors. Thus, the multitude of variables involved makes it especially difficult to create a standard that you can meaningfully compare to actual results.
How to Calculate the Labor Efficiency Variance
This variance is calculated as the difference between the actual labor hours used to produce an item and the standard amount that should have been used, multiplied by the standard labor rate. The formula for the labor efficiency variance is:
(Actual hours - Standard hours) x Standard rate = Labor efficiency variance
An unfavorable variance means that labor efficiency has worsened, and a favorable variance means that labor efficiency has increased.
Example of a Labor Efficiency Variance
During the development of its annual budget, the industrial engineers of Hodgson Industrial Design decide that the standard amount of time required to produce a green widget should be 30 minutes, which is based on certain assumptions about the efficiency of Hodgson's production staff, the availability of materials, capacity availability, and so forth. During the month, widget materials were in short supply, so Hodgson had to pay production staff even when there was no material to work on, resulting in an average production time per unit of 45 minutes. The company produced 1,000 widgets during the month. The standard cost per labor hour is $20, so the calculation of its labor efficiency variance is:
(750 Actual hours - 500 Standard hours) x $20 Standard rate
= $5,000 Labor efficiency variance
Causes of a Labor Efficiency Variance
There are a number of possible causes of a labor efficiency variance. For example:
Instructions. The employees may not have received written work instructions.
Mix. The standard assumes a certain mix of employees involving different skill levels, which does not match the actual staffing.
Training. The standard may be based on an assumption of a minimum amount of training that employees have not received.
Workstation configuration. A work center may have been reconfigured since the standard was created, so the standard is now incorrect.
Tracking this variance is only useful for operations that are conducted on a repetitive basis; there is little point in tracking it in situations where goods are only being produced a small number of times, or at long intervals.
Terms Similar to Labor Efficiency Variance
The labor efficiency variance is also known as the direct labor efficiency variance, and may sometimes be called (though less accurately) the labor variance.
1. LO 8.1Why does a company use a standard costing system?
2.
LO 8.1This standard is set at a level that may be reached with reasonable effort.
- ideal standard
- attainable standard
- unattainable standard
- variance from standard
3.
LO 8.1This standard is set at a level that could be achieved if everything ran perfectly.
- ideal standard
- attainable standard
- unattainable standard
- variance from standard
4.
LO 8.1This variance is the difference involving spending more or using more than the standard amount.
- favorable variance
- unfavorable variance
- no variance
- variance
5.
LO 8.1This variance is the difference involving spending less, or using less than the standard amount.
- favorable variance
- unfavorable variance
- no variance
- variance
6.
LO 8.2What are some possible reasons for a material price variance?
- substandard material
- labor rate increases
- labor rate decreases
- labor efficiency
7.
LO 8.2When is the material price variance unfavorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
8.
LO 8.2When is the material price variance favorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
9.
LO 8.2What are some reasons for a material quantity variance?
- building rental charges increase
- labor rate decreases
- more qualified workers
- change in the actual cost of materials
10.
LO 8.2When is the material quantity variance favorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
11.
LO 8.2When is the material quantity unfavorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
12.
LO 8.3What are some possible reasons for a labor rate variance?
- hiring of less qualified workers
- an excess of material usage
- material price increase
- utilities usage change
13.
LO 8.3When is the labor rate variance unfavorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
14.
LO 8.3When is the labor rate variance favorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price is greater than the standard price
- when the actual price is less than the standard price
15.
LO 8.3What are some possible reasons for a direct labor time variance?
- utility usage decrease
- less qualified workers
- office supplies spending
- sales decline
16.
LO 8.3When is the direct labor time variance favorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
17.
LO 8.3When is the direct labor time variance unfavorable?
- when the actual quantity used is greater than the standard quantity
- when the actual quantity used is less than the standard quantity
- when the actual price paid is greater than the standard price
- when the actual price is less than the standard price
18.
LO 8.4A flexible budget ________.
- predicts estimated revenues and costs at varying levels of production
- gives actual figures for selling price
- gives actual figures for variable and fixed overhead
- is not used in overhead variance calculations
19.
LO 8.4The variable overhead rate variance is caused by the sum between which of the following?
- actual and standard allocation base
- actual and standard overhead rates
- actual and budgeted units
- actual units and actual overhead rates
20.
LO 8.4The variable overhead efficiency variance is caused by the difference between which of the following?
- actual and budgeted units
- actual and standard allocation base
- actual and standard overhead rates
- actual units and actual overhead rates
21.
LO 8.4The fixed factory overhead variance is caused by the difference between which of the following?
- actual and standard allocation base
- actual and budgeted units
- actual fixed overhead and applied fixed overhead
- actual and standard overhead rates
22.
LO 8.5Which of the following is a possible cause of an unfavorable material price variance?
- purchasing too much material
- purchasing higher-quality material
- hiring substandard workers
- buying substandard material
23.
LO 8.5Which of the following is a possible cause of an unfavorable material quantity variance?
- purchasing substandard material
- hiring higher-quality workers
- paying more than should have for workers
- purchasing too much material
24.
LO 8.5Which of the following is a possible cause of an unfavorable labor efficiency variance?
- hiring substandard workers
- making too many units
- buying higher-quality material
- paying too much for workers
25.
LO 8.5Which of the following is a possible cause of an unfavorable labor rate variance?
- hiring too many workers
- hiring higher-quality workers at a higher wage
- making too many units
- purchasing too much material