Direct Labor Efficiency Variance
Learning Objective of
- Define and explain "direct labor efficiency | usage
- How direct labor efficiency or usage variance is calculated?
- What are the reasons / causes of unfavorable or favorable labor
Definition and explanation
Formula of direct labor efficiency variance
Who is responsible for direct labor efficiency variance?
The quantity variance for direct labor is
generally called direct labor efficiency variance or direct labor
usage variance. This variance measures the
productivity of labor time. No variance is more closely watched by management,
since it is widely believed that increasing the productivity of direct labor
time is vital to reducing costs. The formula for the labor efficiency variance
is expressed as follows:
[Labor efficiency variance = (Actual hours worked ×
Standard rate) − (Standard hours allowed × Standard rate)]
A company produces 2000 units of finished products
using 5,400 hours. Standard time allowed for a unit of finished product is 2.5
hours. Standard rate that is paid to workers is $14.00 per direct labor hour.
Calculate direct labor efficiency variance or
direct labor quantity variance.
Calculation of direct labor efficiency or
quantity or usage
Labor efficiency variance = (Actual hours worked ×
Standard rate) − (Standard hours allowed × Standard rate)
= (5,400 × $14.00 ) − (5,000* × $14.00)
= $75,600 − $70,000
= $5,600 Unfavorable
actual production × 2.50 standard hour allowed per unit
Processing of 2000 units required more time than what was allowed by
standards. The result is an unfavorable labor efficiency variance. A
favorable labor efficiency variance occurs when actual processing time is less than the
time allowed by standards.
The manager in charge of production is
generally considered responsible for labor efficiency variance. However,
purchase manager could be held responsible if the acquisition of poor materials
resulted in excessive labor processing time. Possible causes / reasons of an unfavorable efficiency
variance include poorly trained workers, poor quality materials, faulty
equipment, and poor supervision. Another important cause / reason of an unfavorable
labor efficiency variance may be insufficient demand for company's products.
If customers orders are insufficient to keep the
workers busy, the work center manager has two options, either accept an
unfavorable labor efficiency variance or build up inventories. The second option
is opposite to the basic principle of
just in time (JIT).
Inventories with no immediate prospect of sale is a bad idea according to
just in time approach. Inventories, particularly
work in process
inventory leads to high defect rate, obsolete goods, and generally inefficient
operations. As a consequence, when the work force is basically fixed in
the short term, managers must be cautious about how labor efficiency variances
are used. Some managers advocate dispensing with labor efficiency variance
entirely in such situations―at least for the purpose of motivating and
controlling workers on the shop floor.
Exercise 1: Labor Variance Analysis
The processing of a product requires a standard of 0.8 direct labor hours
per unit for Operation 4-802 at a standard wage rate of $6.75 per hour. The
2,000 units actually required 1,580 direct labor hours at a cost of $6.90
Required: Calculate labor efficiency variance
or Labor usage variance.
|Actual hours worked
|Standard hours allowed
|Labor rate variance