Overhead variances, Cost Accounting

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Overhead Variances

This explains how the variable overhead total variance and the fixed overhead total variances calculated. You can recall the overheads refer to production costs such cannot be categorized as direct because they cannot be directly traced to an individual unit of production. It is essential to recall that overheads are absorbed into costs via means of Predetermined Overhead Absorption Rates or OAR.  The overhead absorption rate is predetermined like given as:

OAR = Budgeted overhead costs for the period/ Budgeted activity level

The activity level so budgeted could be expressed in units, weight, sales etc: however the most useful concept of the activity level is the standard hour. 

Hence the total overhead absorbed = OAR x Standard hours of production.

Whereas the standard costing system employs Total absorption costing principles as where both variable and fixed overheads are absorbed into production costs, the total overheads absorbed can be sub-divided into Fixed Overhead Absorption Rates as FOAR and Variable Overhead Absorption Rates as VOAR.

Hence,

Fixed Overhead Absorbed      = FOAR x Standard hours of production

Variable Overhead Absorbed  = VOAR x Standard hours of production.

Total Overheads Absorbed     = (FOAR + VOAR) x Standard hours of production

However where the standard marginal costing principles are utilized with the standard costing system, merely variable overheads are absorbed into production costs and hence only variances connecting to variable overheads arise. It makes overhead variance analysis a bit easier in this case.


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