Labor Efficiency Variance Accounting Education

labor efficiency variance formula

Any positive number is considered good in a labor efficiency variance because that means you have spent less than what was budgeted. The following equation is used to calculate a labor efficiency variance. The variance is unfavorable since the company used more time than expected. Direct Labor Efficiency Variance is a variance under the responsibility of the production supervisor.

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Accounting for Direct Costs vs. Labor Hours

Let’s assume the standard for direct labor is 3 hours per unit of output and the standard cost for an hour of direct labor is $10. Let’s say the output for the period is 6,000 units and the actual direct labor hours were 18,400 hours and the labor earned $10.30 per hour. The standard direct labor cost for the actual output should have been 18,000 hours (6,000 units of output times 3 standard hours) at $10 per hour for a total of $180,000. The actual direct labor cost was $189,520 (18,400 hours at $10.30 per hour). Some of that variance is due to the rate being $0.30 too much and some of that variance is due to the direct labor using too many hours—not being efficient.

  • Based on the time standard of 1.5 hours of labor per body, we expected labor hours to be 2,430 (1,620 bodies x 1.5 hours).
  • In the wake of the COVID-19 pandemic and escalating tensions with China, American companies are actively seeking alternatives to mitigate their supply chain risks and reduce dependence on Chinese manufacturing.
  • Direct Labor Efficiency Variance is a variance under the responsibility of the production supervisor.
  • In some cases, this might be due to employing more skillful workers which results in unfavorable direct labor rate variance (higher wages paid).

For example, if your labor price variance is a favorable $500, but your labor efficiency variance is an unfavorable $700, the unfavorable amount offsets the favorable amount. The standard output of ‘X’ is 25 units per hour in a manufacturing department of a company employing 100 workers. Total labour efficiency variance is calculated only when there is abnormal idle time.

Understanding Variable Overhead Efficiency Variance

Thus, the multitude of variables involved makes it especially difficult to create a standard that you can meaningfully compare to actual results. Variable overhead efficiency variance refers to the difference between the true time it takes to manufacture a product and the time budgeted for it, as well as the impact of that difference. It is the difference between the standard cost for actual output and the standard cost of productive labour/labor time. Labor efficiency variance compares the actual direct labor and estimated direct labor for units produced during the period.

labor efficiency variance formula

Generally, the production department is responsible for direct labor efficiency variance. For example, if the variance is due to low-quality of materials, then the purchasing department is accountable. In a certain week, the gang consisted of 13 men, 4 women and 3 boys. Actual wages were paid at the rates of Rs 1.20, Rs 0.85 and Rs 0.65 respectively.

Managerial Accounting

The purpose of calculating the direct labor efficiency variance is to measure the performance of the production department in utilizing the abilities of the workers. A positive value of direct labor efficiency variance is obtained when the standard direct labor hours allowed exceeds the actual direct labor hours used. A negative value of direct labor efficiency variance means that excess direct labor hours have been used in production, implying that the labor-force has under-performed.

What is the labor efficiency variance?

Labor efficiency variance measures the cost of the company's labor versus its output. This helps the company identify any key factors in efficient labor, such as operational machinery, abundance of raw materials or skilled employees.

Excessive inventories, particularly those that are still in process, are considered evil as they generally cause additional storage cost, high defect rates and spoil workers’ efficiency. Due to these reasons, managers need to be cautious in using this variance, particularly when the workers’ team is fixed in short run. In such situations, a better idea may be to dispense with direct labor efficiency variance – at least for the sake of workers’ motivation at factory floor.


This variance reflects the efficiency or inefficiency of the workers. Our mission is to empower readers with the most factual and reliable financial information possible to help them make informed decisions for their individual needs. At Finance Strategists, we partner with financial experts to ensure the accuracy of our financial content.

labor efficiency variance formula

It is that part of labour cost variance which arises due to the difference between standard labour cost of standard time for actual output and standard cost of actual time paid for. At first glance, the responsibility of any unfavorable direct labor efficiency variance lies with the production supervisors and/or foremen because they are generally the persons in charge of using direct labor force. However, it may also occur due to substandard or low quality direct materials which require more time to handle and process. If direct materials is the cause of adverse variance, then purchase manager should bear the responsibility for his negligence in acquiring the right materials for his factory.

What is Labour Efficiency Variance? Meaning and Example

All of these benefits can help you meet customer expectations and maximize profit margins. An example is when a highly paid worker performs a low-level task, which influences labor efficiency variance. Actual hours paid 1,500 hours, out of which hours not worked (abnormal idle time) are 50.

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Suppose, for example, the standard time to manufacture a product is one hour but the product is completed in 1.15 hours, the variance in hours would be 0.15 hours – unfavorable. If the direct labor cost is $6.00 per hour, the variance in dollars would be $0.90 (0.15 hours × $6.00). For proper financial measurement, the variance is normally expressed in dollars rather than hours. The use of excessive hours could be due to employing under-qualified workers (may be evidence by cheaper wages, hence a favorable direct labor rate variance), or due to poor quality of raw materials (favorable direct materials price variance).

What is a good labour efficiency ratio?

It is calculated as: (Standard direct labour hours of actual production ÷ actual direct labour hours worked) × 100%. A ratio of > 100% indicates greater labour efficiency than budgeted and vice versa.