Definition
Fixed Overhead Capacity Variance (also known as Capacity Usage Variance or Idle Capacity Variance) is a variance metric used in standard costing to represent the difference between the actual hours worked and the budgeted hours (or capacity) available. This difference is valued at the standard fixed overhead absorption rate per hour and can be calculated in terms of machine hours or labor hours. This metric helps businesses understand how effectively they are utilizing their available capacity relative to what they had budgeted.
Examples
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Example 1: Machine Hours
A company budgets 1,000 machine hours for the month. The actual machine hours worked come to 900 hours. The standard fixed overhead rate per hour is $10.
Fixed Overhead Capacity Variance = (Budgeted hours - Actual hours) x Standard rate per hour
= (1,000 - 900) x $10
= 100 hours x $10
= $1,000 unfavorable -
Example 2: Labor Hours
A company budgets 2,000 labor hours but ends up using 2,200 hours. The standard fixed overhead rate per hour is $12.
Fixed Overhead Capacity Variance = (Budgeted hours - Actual hours) x Standard rate per hour
= (2,000 - 2,200) x $12
= (-200) hours x $12
= $2,400 unfavorable
Frequently Asked Questions
Q: What does a favorable fixed overhead capacity variance indicate?
A: A favorable fixed overhead capacity variance indicates that the actual hours worked were higher than the budgeted hours. This often implies better utilization of the available capacity or a higher production level than anticipated.
Q: How does the fixed overhead capacity variance affect financial performance?
A: This variance can affect the allocation of costs in financial statements. An unfavorable variance means higher overhead costs were incurred, which can reduce the operating income, whereas a favorable variance implies lower overhead costs and can potentially increase operating income.
Q: Why is it important to track fixed overhead capacity variance?
A: Tracking this variance helps in assessing the efficiency of resource utilization, identifying potential operational bottlenecks, planning future budgets more accurately, and controlling fixed overhead costs.
Q: How can companies reduce an unfavorable fixed overhead capacity variance?
A: Companies can reduce this variance by improving machine and labor scheduling, minimizing idle time, enhancing workforce productivity, and optimizing production processes.
Related Terms
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Standard Costing
A cost accounting method where standard costs are assigned to each element of production, typically materials, labor, and overhead. It simplifies cost control and variance analysis. -
Budgeted Capacity
The planned or expected amount of production capacity available during a specific period, often used in budgeting computations. -
Overhead Absorption Rate
A rate used to allocate fixed overhead costs to cost objects, generally calculated by dividing total estimated overhead costs by an allocation base such as total labor hours or machine hours. -
Idle Capacity
The portion of production capacity that is not utilized during a specific period. Idle capacity can be due to a lack of demand, maintenance, or inefficiencies. -
Idle Capacity Ratio
A metric expressing idle capacity as a percentage of total budgeted capacity, highlighting the extent of underutilization.
Online References
- Investopedia - Cost Accounting: Definition and Types
- Accounting Tools - Standard Costing
- Corporate Finance Institute - Budgeting and Forecasting
Suggested Books for Further Studies
- Cost Accounting: A Managerial Emphasis by Charles T. Horngren, Srikant M. Datar, and Madhav V. Rajan
- Managerial Accounting by Ray H. Garrison, Eric Noreen, and Peter C. Brewer
- Cost Accounting: Foundation and Evolutions by Kinney and Raiborn
Accounting Basics: “Fixed Overhead Capacity Variance” Fundamentals Quiz
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