A positive value of direct labor efficiency variance is obtained when the standard direct labor hours allowed exceeds the actual direct labor hours used. A negative value of direct labor efficiency variance means that excess direct labor hours have been used in production, implying that the labor-force has under-performed. 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. To illustrate standard costs variance analysis for direct materials, refer to the data for NoTuggins in Exhibit 8-1 above.

- If the company fails to control the efficiency of labor, then it becomes very difficult for the company to survive in the market.
- Before production, the company needs to prepare the product standard cost.
- Total standard quantity is calculated as standard quantity per unit times actual production or 4.2 feet of flat nylon cord per unit times 150,000 units produced equals 630,000 feet of flat nylon cord.

Examples of indirect materials are items such as nails, screws, sandpaper, and glue. Indirect materials are included in the manufacturing overhead category, not the direct materials category. The direct labor efficiency variance is similar in concept to direct material quantity variance.

## Direct Labor Time Variance

Hence, variance arises due to the difference between actual time worked and the total hours that should have been worked. Standards are cost or revenue targets used to make financial projections and evaluate performance. For example, if the cost formula for supplies is $3 per unit ($3Q), it is also considered the standard cost for supplies. Managers can use the standard cost formula to make projections about supplies expense or to evaluate the actual amount spent on supplies.

The total direct labor variance can be calculated in the last line of the top section by subtracting the actual amounts from the standard amounts. The standard quantity allowed of 37,500 direct labor hours less the actual hours worked of 45,000 hours yields a variance of (7,500) direct labor hours. This variance is unfavorable because the actual hours worked exceed the standard hours allowed. The direct labor rate per hour variance is calculated as the projected standard direct labor rate of $18 per hour, less the actual direct labor rate of $18.50, which yields a $(0.50) unfavorable per hour rate variance. The total direct labor variance is the total standard labor costs allowed of $675,000 less the actual amount paid for direct labor of $832,500, which is $(157,500) unfavorable. The total variances can be calculated in the last line of the top section of the template by subtracting the actual amounts from the standard amounts projected.

## Video Illustration 8-2: Computing direct materials variances

It is necessary to analyze direct labor efficiency variance in the context of relevant factors, for example, direct labor rate variance and direct material price variance. It is quite possible that unfavorable direct labor efficiency variance is simply the result of, for example, low quality material being procured or low skilled workers being hired. Like direct labor rate variance, this variance may be favorable or unfavorable. If workers manufacture a certain number of units in an amount of time that is less than the amount of time allowed by standards for that number of units, the variance is known as favorable direct labor efficiency variance. On the other hand, if workers take an amount of time that is more than the amount of time allowed by standards, the variance is known as unfavorable direct labor efficiency variance. The total direct labor variance is also found by combining the direct labor rate variance and the direct labor time variance.

Typically, the hours of labor employed are more likely to be under management’s control than the rates that are paid. For this reason, labor efficiency variances are generally watched more closely than labor rate variances. Even though the answer is a negative number, the variance is favorable because employees worked more efficiently, saving the organization money. What we have done is to isolate the cost savings from our employees working swiftly from the effects of paying them more or less than expected. Based on the standard cost, company spends 5 hours per unit of production.

## What is the Labor Efficiency Variance?

Calculate the labor rate variance, labor time variance, and total labor variance. Connie’s Candy paid $1.50 per hour more for labor than expected and used 0.10 hours more than expected to make one box of candy. The same calculation is shown as follows using the outcomes of the direct labor rate and time variances.

Labor rate variance arises when labor is paid at a rate that differs from the standard wage rate. Labor efficiency variance arises when the actual hours worked vary from standard, resulting in a higher or lower standard time recorded for a given output. Standard costs are established for all direct materials used in the manufacturing process. Direct materials include all materials that can be easily and economically traced to the production of a product. For example, the direct materials necessary to produce a wood desk might include wood and hardware. Indirect materials are not easily and economically traced to a particular product.

The standard direct labor hours allowed (SH) in the above formula is the product of standard direct labor hours per unit and number of finished units actually produced. If customer orders for a product are not enough to keep the workers busy, the production managers will have to either build up excessive inventories or accept an unfavorable labor efficiency variance. The first option is not in line with bookkeeping for landscaping business just in time (JIT) principle which focuses on minimizing all types of inventories. Excessive inventories, particularly those that are still in process, are considered evil as they generally cause additional storage cost, high defect rates and spoil workers’ efficiency. Due to these reasons, managers need to be cautious in using this variance, particularly when the workers’ team is fixed in short run.

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. https://www.wave-accounting.net/ To arrive at the total cost per unit, we need to multiply the unit of material and labor with the standard rate. It is the estimated price of material and labor that a company need to pay to supplier and workers. Improving labor efficiency can also have a spillover impact on other aspects of your organization.

These standards are compared to the actual number of direct labor hours worked and the actual rate paid for each type of direct labor. When discussing direct labor, price is referred to as rate, and quantity is referred to as efficiency. Variances between the standard and actual amounts are caused by a difference in efficiency or rate. The total direct labor variance is separated into the direct labor efficiency and direct labor rate variances.

When you make the most of variance analysis, you can quickly find efficiency problems and resolve them. On the other side of the coin, personnel efficiency problems usually stem from poor morale, low learning curves or a lack of skill. Any of these issues can prevent workers from using their time as well as competitors in the industry. Calculating the efficiency variance is a clear way to determine areas of labor that need to improve, but the number can only do so much.

Or the cause could be a supplier or sourcing issue in which the material can be sourced cheaper elsewhere. Another possibility is that the direct material price standard needs to be increased because prices have increased. Labor efficiency variance measures the efficiency of actual labor compared to expectations. The variance will highlight production processes that took up more time than originally anticipated.