Fixed Production Overhead Variance
the analysis of a business's fixed costs (costs in a production company whether there is production or not) to determine whether the facility is operating above or below budget.
How Fixed Production Overhead Variance Works
There are two types of operation costs: fixed costs and variable costs. Fixed costs are always present. Examples include mortgages on property, insurance, and property taxes. Variable costs change depending on production levels. They include the cost of labor and raw materials, amongst others. Therefore, fixed production overhead variance focuses on fixed assets to ensure that production operates within the budget.
You can calculate the fixed production overhead variance using two methods: the fixed overhead expenditure variance and the fixed budget variance methods. To calculate the fixed budget variance, subtract the budgeted costs from the actual costs. If you find that you have a negative variance, your production company is operating as it should in normal circumstances.
Production companies rely on fixed production overhead variance formulas to figure out how much money, work, and resources to portion out to every product in the business. When there is a variation in your company’s fixed costs compared to what the company budgeted—you have more costs that are not related directly to production—you must look at what the differences are. You should be able to see what factor(s) is influencing the change of overhead costs.
Example of Fixed Production Overhead Variance
You run a successful printing company that has a budgeted overhead cost (the cost needed to operate a business) of $4,000. At the end of the month, you find that you only used $3,000. Subtract the budgeted cost ($4,000) from the actual overhead cost ($3,000) to get the fixed overhead variance. With this negative variance (-$1,000), you can tell that your company is operating well within the set budget.
Let's say you also run a below-average performing company with a budgeted overhead cost of $4,000. You end up using $5,000, which means that you have overrun the budget by $1,000 (subtract the original budget from the actual budget). In this case, management would shift resources accordingly and make efforts to see what resulted in the added expenses.
Whether the result is positive or negative, the fixed overhead variance will always compare the costs of the actual budget versus the overhead costs. This way, you can tell whether the overhead costs of your production company/ business is within the set limits.
Significance of Fixed Overhead Variance
Using the fixed overhead variance formula in your production company comes with benefits such as:
- It helps determine how efficient your company is regarding its capacity of production and the set budget.
- Managing your balance books is easier when using this formula, especially when preparing the operating statement for absorption costing purposes (an approach used to determine the valuation of inventory).
- Can be used to motivate your employees to improve capacity and utilize resources efficiently.
- Identifying the system production output and efficiency levels is easier when using the fixed overhead variance formula.