Question

After evaluating Null Company’s manufacturing process, management decides to establish standards of 3 hours of direct labor per unit of product and \(15 per hour for the labor rate. During October, the company uses 16,250 hours of direct labor at a \)247,000 total cost to produce 5,600 units of product. In November, the company uses 22,000 hours of direct labor at a $335,500 total cost to produce 6,000 units of product.

1. Compute the direct labor rate variance, the direct labor efficiency variance, and the total direct labor cost variance for each of these two months. Classify each variance as favorable or unfavorable.

2. Interpret the October direct labor variances.

Short answer

The overall direct labor cost variance for the month of October is favorable.

Step-by-step solution

Meaning of Favorable Variance

A variance is considered favorable when the actual revenues exceed the budgeted revenues or actual costs are less than the budgeted costs. Variances are computed by taking the difference between actual and budgeted outcomes.

Computation of variances

For the month of October:

$\begin{array}{rcl}\mathbf{\text{Directlaborratevariance}}& \mathbf{=}& \mathbf{(}\mathbf{\text{Standardrate}}\mathbf{-}\mathbf{\text{Actualrate}}\mathbf{)}\mathbf{\times }\mathbf{\text{Actuallaborhour}}\\ & \mathbf{=}& \mathbf{(}\mathbf{\$}\mathbf{15}\mathbf{-}\mathbf{\$}\mathbf{15}\mathbf{,}\mathbf{200}\mathbf{)}\mathbf{\times }\mathbf{16}\mathbf{,}\mathbf{250}\\ & \mathbf{=}& \mathbf{\$}\mathbf{3}\mathbf{,}\mathbf{250}\mathbf{\left(}\mathbf{\text{Unfavourable}}\mathbf{\right)}\end{array}$

Working notes:

$\begin{array}{rcl}\mathbf{\text{Actualrate}}& \mathbf{=}& \frac{\mathbf{\text{Totaldirectlabor}}}{\mathbf{\text{Numberofhours}}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{247}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{16}\mathbf{,}\mathbf{250}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{15}\mathbf{.}\mathbf{20}\\ & & \end{array}$

$\begin{array}{rcl}\mathbf{\text{Directlaborefficiencyvariance}}& \mathbf{=}& \mathbf{(}\mathbf{\text{Standardhour}}\mathbf{-}\mathbf{\text{Actual}}\mathbf{)}\mathbf{\times }\mathbf{\text{Standardlaborhour}}\\ & \mathbf{=}& \mathbf{(}\mathbf{\$}\mathbf{16}\mathbf{,}\mathbf{800}\mathbf{-}\mathbf{\$}\mathbf{16}\mathbf{,}\mathbf{250}\mathbf{)}\mathbf{\times }\mathbf{\$}\mathbf{15}\\ & \mathbf{=}& \mathbf{\$}\mathbf{8}\mathbf{,}\mathbf{250}\mathbf{\text{(Favourable)}}\end{array}$

Working note:

$\begin{array}{rcl}\mathbf{\text{Standardlaborhour}}& \mathbf{=}& \mathbf{\text{Numberofunitsproduced}}\mathbf{\times }\mathbf{\text{Hourperunit}}\\ & \mathbf{=}& \mathbf{5}\mathbf{,}\mathbf{600}\mathbf{\times }\mathbf{3}\\ & \mathbf{=}& \mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{000}\left(\text{Favourable}\right)\end{array}$

role="math" localid="1655122542638" $\begin{array}{rcl}\mathbf{\text{Totaldirectlaborcostvariance}}& \mathbf{=}& \mathbf{\text{Directlaborratevariance+}}\mathbf{Direct}\mathbf{}\mathbf{labor}\mathbf{}\mathbf{efficiency}\mathbf{}\mathbf{variance}\\ & \mathbf{=}& \mathbf{-}\mathbf{3}\mathbf{,}\mathbf{250}\mathbf{+}\mathbf{8}\mathbf{,}\mathbf{250}\\ & \mathbf{=}& \mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{000}\mathbf{\left(}\mathbf{\text{Favourable}}\mathbf{\right)}\end{array}$

For the month of November:

$\begin{array}{rcl}\mathbf{\text{Directlaborratevariance}}& \mathbf{=}& \mathbf{(}\mathbf{\text{Standardrate}}\mathbf{-}\mathbf{\text{Actualrate}}\mathbf{)}\mathbf{\times }\mathbf{\text{Actuallaborhour}}\\ & \mathbf{=}& \mathbf{(}\mathbf{\$}\mathbf{15}\mathbf{-}\mathbf{\$}\mathbf{15}\mathbf{,}\mathbf{200}\mathbf{)}\mathbf{\times }\mathbf{22}\mathbf{,}\mathbf{000}\\ & \mathbf{=}& \mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{550}\mathbf{\left(}\mathbf{\text{Unfavourable}}\mathbf{\right)}\end{array}$

Working notes:

$\begin{array}{rcl}\mathbf{\text{Actualrate}}& \mathbf{=}& \frac{\mathbf{\text{Totalcostofdirectlaborhours}}}{\mathbf{\text{Actuallaborhours}}}\\ & \mathbf{=}& \frac{\mathbf{\$}\mathbf{335}\mathbf{,}\mathbf{000}}{\mathbf{\$}\mathbf{22}\mathbf{,}\mathbf{000}}\\ & \mathbf{=}& \mathbf{\$}\mathbf{15}\mathbf{.}\mathbf{25}\\ & & \end{array}$

$\begin{array}{rcl}\mathbf{\text{Directlaborefficiencyvariance}}& \mathbf{=}& \mathbf{(}\mathbf{\text{Standardhour}}\mathbf{-}\mathbf{\text{Actualhours}}\mathbf{)}\mathbf{\times }\mathbf{\text{Standardlaborhour}}\\ & \mathbf{=}& \mathbf{(}\mathbf{\$}\mathbf{18}\mathbf{,}\mathbf{000}\mathbf{-}\mathbf{\$}\mathbf{22}\mathbf{,}\mathbf{000}\mathbf{)}\mathbf{\times }\mathbf{\$}\mathbf{15}\\ & \mathbf{=}& \mathbf{\$}\mathbf{60}\mathbf{,}\mathbf{000}\mathbf{\text{(Unfavourable)}}\end{array}$

Working Note:

$\begin{array}{rcl}\mathbf{\text{Standardlaborhour}}& \mathbf{=}& \mathbf{\text{Numberofunits}}\mathbf{\times }\mathbf{\text{Hourperunit}}\\ & \mathbf{=}& \mathbf{6}\mathbf{,}\mathbf{000}\mathbf{\times }\mathbf{3}\\ & \mathbf{=}& \mathbf{18}\mathbf{,}\mathbf{000}\end{array}$

$\begin{array}{rcl}\mathbf{\text{Totaldirectlaborcostvariance}}& \mathbf{=}& \mathbf{\text{Directlaborratevariance+}}\mathbf{Direct}\mathbf{}\mathbf{labor}\mathbf{}\mathbf{efficiency}\mathbf{}\mathbf{variance}\\ & \mathbf{=}& \left(-\$5,500\right)\mathbf{+}\left(-\$60,000\right)\\ & \mathbf{=}& \mathbf{\$}\mathbf{65}\mathbf{,}\mathbf{500}\mathbf{\left(}\mathbf{\text{Unfavourable}}\mathbf{\right)}\end{array}$

Interpretation of variances

According to the October month’s variances, it can be concluded that thedirect labor rate variance is unfavorable,which depicts the company had paid higher labor payments than standard. In addition, thedirect labor efficiency variance is favorable,which indicates a smaller number of hours utilization to produce the required number of units.

Overall, the total direct labor cost is favorable due to the less use of direct labor hours.