What is Overhead Variance?
Overhead variance is the difference between the manufacturing overhead a business expected to absorb into its products and the overhead it actually incurred during the period. It is one of the core variances used in standard costing to evaluate operational efficiency and pricing decisions.
How It Works
- Set a standard overhead rate at the start of the period (budgeted overhead divided by budgeted activity).
- Apply that rate to actual output to compute absorbed overhead.
- Compare absorbed overhead with the actual overhead recorded in the ledger.
- Split the total variance into two components: a spending (budget) variance and a volume variance.
- Investigate any material variance to find its root cause — utility cost spikes, idle capacity, or rate setting errors.
Saudi Context
For Saudi manufacturers and contracting companies registered with ZATCA, overhead variances directly affect the cost of goods sold reported in the income statement and influence VAT input cost allocations. Persistent unfavourable variances also weaken zakat base calculations because absorbed cost flows through inventory valuation.
Example
A factory budgets SAR 500,000 of overhead for 50,000 machine hours (a rate of SAR 10/hour). Actual overhead is SAR 540,000 over 48,000 machine hours. Absorbed overhead = 48,000 × 10 = SAR 480,000. Total variance = 540,000 − 480,000 = SAR 60,000 unfavourable.