What is variance analysis?

Variance analysis is a budgeting tool used to evaluate performance in controlling expenses such as direct material costs or quantities and labour rates or hours.

Variance simply means the difference between the actual and the budgeted price of an expense or the quantity used for an expense.

What is Direct Labour Rate Variance?

Direct Labour Rate Variance measures the difference between the actual rate (price per hour) of direct labour and the budgeted/expected rate of direct labour.

Formula for Direct Labour Rate Variance

DLRV = (Actual Rate of Direct Labour - Budgeted Rate of Direct Labour) * Actual Number of Labour Hours Worked

Tip: Ensure you multiply by actual number of labour hours worked.

(Note: You do not need to remember this as it is on your formula sheet)

Unfavourable and Favourable Direct Labour Rate Variance

• Favourable - when the actual rate is lower than the budgeted rate which will result in a negative answer

• Unfavourable - when the actual rate is higher than the budgeted rate which will result in a positive answer

Possible Explanations of Direct Labour Rate Variance

Favourable

• The business employed newer trainees/apprentices that have a lower training wage attached to the employees.

• Expected wage increases were less than what was budgeted, perhaps due to economic downturns.

  
  

Unfavourable

• The business had to employ more experienced salaried employees.

• The business had to increase wages, perhaps as a result of wage bargaining by unions.

Worked Example Question

Trigg Pizza is a local pizza shop outside the sunny coastline in Perth. Typically, it uses 1,500 labour hours to produce pizzas in the summer, at an average labour rate of $20/hour. However, due to increased demand and competitiveness to find staff, it used 1,800 labour hours over the summer at an average labour rate of $25/hour.

Q: Calculate the Direct Labour Rate Variance.

Solution:

= (Actual Rate of Direct Labour - Budgeted Rate of Direct Labour) * Actual Number of Labour Hours Worked

= ($25/hr - $20/hr) * 1,800 hours worked

= $5 * 1,8000

= $9000 is positive, hence the variance is unfavourable.

= $9000 unfavourable