Direct Labor Rate Variance: Definition, Formula, Explanation, Analysis, And Example

The labor efficiency variance is similar to the materials usage variance. Labor rate variance The labor rate variance occurs when the average rate of pay is higher or lower than the standard cost to produce a product or complete a process. Each bottle has a standard labor cost of 1.5 hours at $35.00 per hour. Calculate the labor rate variance, labor time variance, and total labor variance.

• The standard rate per hour is the expected hourly rate paid to workers.
• This might signal problems with worker training, supervision, material quality, or equipment reliability that management should address.
• For proper financial measurement, the variance is normally expressed in dollars rather than hours.

Analysis

This variance plays a crucial role in assessing production efficiency and cost management. Usually, direct labor rate variance does not occur due to change in labor rates because they are normally pretty easy to predict. A common reason of unfavorable labor rate variance is an inappropriate/inefficient use of direct labor workers by production supervisors.

• With either of these formulas, the actual hours worked refers to the actual number of hours used at the actual production output.
• As with direct materials variances, all positive variances areunfavorable, and all negative variances are favorable.
• The direct labor (DL) variance is the difference between the total actual direct labor cost and the total standard cost.

As a result of this unfavorable outcome information, the company may consider using cheaper labor, changing the production process to be more efficient, or increasing prices to cover labor costs. To compute the direct labor quantity variance, subtract the standard cost of direct labor ($48,000) from the actual hours of direct labor at standard rate ($43,200). This math results in a favorable variance of $4,800, indicating that the company saves $4,800 in expenses because its employees work 400 fewer hours than expected.

Analyzing an Unfavorable DL Rate Variance

The pay cut was proposed to last as long as the companyremained in bankruptcy and was expected to provide savings ofapproximately $620,000,000. How would this unforeseen pay cutaffect United’s direct labor rate variance? Thedirect labor rate variance would likely be favorable, perhapstotaling close to $620,000,000, depending on how much of thesesavings management anticipated when the budget was firstestablished. If we compute for the actual rate per hour used (which contribution to sales ratio management online will be useful for further analysis later), we would get $8.25; i.e. $325,875 divided by 39,500 hours.

Direct labor rate variance determines the performance of human resource department in negotiating lower wage rates with employees and labor unions. A positive value of direct labor rate variance is achieved when standard direct labor rate exceeds actual direct labor rate. Thus positive values of direct labor rate variance as calculated above, are favorable and negative values are unfavorable. 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.

Causes for unfavorable variance:

In this question, the Bright Company has experienced a favorable labor rate variance of $45 because it has paid a lower hourly rate ($5.40) than the standard hourly rate ($5.50). The other two variances that are generally computed for direct labor cost are the direct labor efficiency variance and direct labor yield variance. The difference between the actual direct rate andstandard labor rate is called direct labor rate variance. We have demonstrated how important it is for managers to beaware not only of the cost of labor, but also of the differencesbetween budgeted labor costs and actual labor costs. This awarenesshelps managers make decisions that protect the financial health oftheir companies.

Michellewas asked to find out why direct labor and direct materials costswere higher than budgeted, even after factoring in the 5 percentincrease in sales over the initial budget. Lynn was surprised tolearn that direct labor and direct materials costs were so high,particularly since actual materials used and actual direct laborhours worked were below budget. If the actual rate is higher than the standard rate, the variance is unfavorable since the company paid more than what it expected. If actual rate is lower than standard rate, the variance is favorable. The actual rate of $7.50 is computed by dividing the total actual cost of labor by the actual hours ($217,500 divided by 29,000 hours).

Direct labor rate variance is equal to the difference between actual hourly rate and standard hourly rate multiplied by the actual hours worked during the period. The variance would be favorable if the actual direct labor cost is less than the standard direct labor cost allowed for actual hours worked by direct labor workers during the period concerned. Conversely, it would be unfavorable if the actual direct labor cost is more than the standard direct labor cost allowed for actual hours worked.

Factors influencing labor efficiency variance 🔗

For Jerry’s Ice Cream, the standard allows for 0.10labor hours per unit of production. Thus the 21,000 standard hours(SH) is 0.10 hours per unit × 210,000 units produced. The combination of the two variances can produce one overall total direct labor cost variance. When laborers are hired at lower rates owing to their skills, the direct labor rate variance will be positive, however, these laborers ought to generate poor output and result in adverse efficiency variance.

For instance, during a tech boom, software developers might command salaries above the budgeted figures due to fierce competition among employers. This shift can lead directly to unfavorable variances if not anticipated properly. Regularly analyzing local labor market trends helps maintain accurate budgeting practices and workforce planning. However, you must also know that having a favorable direct labor rate variance does not automatically imply direct labor efficiency. This is because people who earn less would not be as efficient as those who earn higher pay. The materials price variance of $ 6,000 is considered favorable since the materials were acquired for a price less than the standard price.

Managerial Accounting

The direct three types of cash flow activities labor variance measures how efficiently the company uses labor as well as how effective it is at pricing labor. There are two components to a labor variance, the direct labor rate variance and the direct labor time variance. In this example, the Hitech company has an unfavorable labor rate variance of $90 because it has paid a higher hourly rate ($7.95) than the standard hourly rate ($7.80). If the actual hours worked are less than the standard hours at the actual production output level, the variance will be a favorable variance. A favorable outcome means you used fewer hours than anticipated to make the actual number of production units. If, however, the actual hours worked are greater than the standard hours at the actual production output level, the variance will be unfavorable.

The standard time to manufacture a product at Hitech is 2.5 direct labor hours. In other words, when actual number of hours worked differ from the standard number of hours allowed to manufacture a certain number of units, labor efficiency variance occurs. The standard labor cost of any product is equal to the standard quantity of labor time allowed multiplied by the wage rate that should be paid for this time. Here again, it follows that the actual labor cost may differ from standard labor cost because of the wages paid for labor, the quantity of labor used, or both. Thus, two labor variances exist—a rate variance and an efficiency variance. Understanding direct labor rate variance is crucial for any business aiming to optimize its production costs.

For this reason, labor efficiency variances are generally watched more closely than labor rate variances. A favorable DL rate variance occurs when the actual rate paid depreciation and amortization meaning is less than the estimated standard rate. It usually occurs when less-skilled laborers are employed (hence, cheaper wage rate).