Definition
Fixed Overhead Volume Variance is a measurement used in management and cost accounting that assesses the utilization of budgeted resources for fixed overhead costs. It is calculated by comparing the budgeted fixed overhead with the applied fixed overhead. A favorable variance indicates that the company efficiently utilized its fixed overhead resources, whereas an unfavorable one suggests under-utilization.
Key Takeaways
- Fixed Overhead Volume Variance is a financial performance metric that measures the difference between budgeted and actual fixed manufacturing overheads. It represents the amount by which fixed overheads deviate from what is budgeted, due to changes in production volume.
- This variance is important because it helps managers understand how efficiently the production process is using its fixed resources, especially in relation to the financial plan. A negative fixed overhead volume variance suggests underutilization of resources, often leading to increased unit costs.
- The calculation for Fixed Overhead Volume Variance is: Standard hours for actual production – Budgeted hours, multiplied by the fixed overhead rate. This calculation helps businesses accurately budget and plan for future production activities and costs.
Importance
The finance term, Fixed Overhead Volume Variance, is important as it essentially measures the efficiency and effectiveness of a business’s capacity utilization.
If a company’s actual production volume is different from its anticipated or standard volume, it indicates a variance.
A positive variance signifies that actual production was higher than expected, reflecting efficient use of resources.
Conversely, a negative variance indicates underutilized resources, which could potentially signal inefficiencies or issues within the operational processes.
Regular tracking and analysis of this variance can help businesses to optimize their operations, reduce wastages, identify areas for improvement, and effectively plan for future production.
Explanation
The primary purpose of Fixed Overhead Volume Variance is to measure and analyze the efficiency of a company’s production process. This finance term serves as a key indicator of how well a business is utilizing its resources and capitalizing on its production capabilities.
When production output falls short or exceeds the estimated output, this variance comes into play. It effectively helps businesses understand whether production was below or above projection and subsequently assists in identifying potential inefficiencies in the company’s output or processes.
Moreover, Fixed Overhead Volume Variance is used to guide decision-making within an organization. It enables managers to make necessary adjustments and better allocate resources by highlighting any gap between the budgeted and actual fixed overheads.
This is significant as it directly impacts a company’s profitability. Hence, tracking this variance regularly helps in managing costs more efficiently and achieving optimal production volume.
Examples of Fixed Overhead Volume Variance
Fixed Overhead Volume Variance refers to the variation between the budgeted fixed overhead and the actual production volume. It represents by how much the applied fixed overhead differs from the budgeted fixed overhead. Here are some real-world examples:Manufacturing Sector: Consider a company that produces furniture. It has a fixed overhead cost of $50,000 per month, calculated based on the expected production of 5,000 units. However, in a particular month, the company only produces 4,000 units. The fixed overhead per unit is thus $5 ($50,000/4,000) instead of the budgeted $10 ($50,000/5,000). Therefore, the company has a fixed overhead volume variance of $5 ($5 – $10) x 4,000 = $10,000 unfavorable.
Healthcare Industry: A hospital estimates its fixed overhead costs like staff salaries, equipment depreciation, etc. at $2 million for a year, expecting to treat 10,000 patients. But due to an unexpected outbreak, it ends up treating only 9,000 patients. This means their actual cost per patient treated is $22 ($2 million/9,000) instead of the budgeted $200 ($2 million/10,000). This gives a fixed overhead volume variance of $22 ($22 – $200) * 9,000 = $200,000 unfavorable.Food Services: A bakery expects to sell 1,000 pastries a day, and its rent (a fixed overhead cost) is $3,000 per month, which averages to about $100 each day. However, due to weather conditions or other factors, the bakery only sells 800 pastries one day. The rent cost per pastry sold is then $
125 ($100/800) instead of the budgeted $10 ($100/1,000). This results in an unfavorable fixed overhead volume variance of $025 ($125 – $10) * 800 = $
FAQs about Fixed Overhead Volume Variance
What is Fixed Overhead Volume Variance?
Fixed Overhead Volume Variance is a measure of difference between the standard fixed overheads that are supposed to be incurred for the actual output achieved and the budgeted fixed overheads. It helps to understand how well the production volume was utilized during a given period.
How is Fixed Overhead Volume Variance calculated?
The formula for the calculation of Fixed Overhead Volume Variance is: (Actual Quantity – Standard Quantity) * Standard Price. Here, ‘Actual Quantity’ is the actual amount of resource consumed, ‘Standard Quantity’ is the amount of resource that should have been consumed as per standards and ‘Standard Price’ is the cost as per norm for each unit of resource.
What does a positive/negative Fixed Overhead Volume Variance indicate?
A positive variance indicates that the actual volume of production was more than what was expected, i.e., the company was able to produce more than the standard or budgeted volume. A negative variance, on the other hand, indicates that the actual volume of production was less than what was expected or budgeted for.
What are the factors affecting Fixed Overhead Volume Variance?
Several factors can affect Fixed Overhead Volume Variance. These include scheduling of production, capacity utilization, efficiency of the workforce, production delays, machinery breakdowns, among others.
How can one control or manage Fixed Overhead Volume Variance?
Fixed Overhead Volume Variance can be managed by improving production efficiency, effective scheduling, proper utilization of resources, prompt maintenance of machinery, and continuous monitoring and control.
Related Entrepreneurship Terms
- Fixed Overhead
- Actual Output
- Budgeted Output
- Standard Output
- Variance Analysis
Sources for More Information
- Accounting Tools: This site is a comprehensive source of accounting and finance information. It frequently features terminology definitions and explanations.
- Investopedia: This is a well-known resource for finance, investing, and economic topics. It provides detailed explanations and often includes examples and/or real-world applications.
- Corporate Finance Institute (CFI): CFI offers online resources and certification programs about different areas of finance, and its expansive knowledge base includes definitions of many finance terms.
- Chartered Institute of Management Accountants (CIMA): This is an internationally recognized organization for management accountants. It offers a wide variety of resources related to accounting concepts and principles.
