A spending variance is the difference between the actual and expected (or budgeted) amount of an expense. Thus, if a company incurs a $500 expense for utilities in January and expected to incur a $400 expense, there is a $100 unfavorable spending variance. This concept is commonly applied to the following areas:
- Direct materials. The spending variance for direct materials is known as the purchase price variance, and is the actual price per unit minus the standard price per unit, multiplied by the number of units purchased.
- Direct labor. The spending variance for direct labor is known as the labor rate variance, and is the actual labor rate per hour minus the standard rate per hour, multiplied by the number of hours worked.
- Fixed overhead. The spending variance for fixed overhead is known as the fixed overhead spending variance, and is the actual expense incurred minus the budgeted expense.
- Variable overhead. The spending variance for variable overhead is known as the variable overhead spending variance, and is the actual overhead rate minus the standard overhead rate, multiplied by the number of units of the basis of allocation (such as hours worked or machine hours used).
- Administrative overhead. The variance calculation is normally applied to each individual line item within this general category of expense.
Whenever the actual expense is greater than the budgeted or standard expense, the difference is called an unfavorable variance. The reverse is called a favorable variance.
An unfavorable spending variance does not necessarily mean that a company is performing poorly. It could mean that the standard used as the basis for the calculation was too aggressive. For example, the purchasing department may have set a standard price of $2.00 per widget, but that price may only be achievable if the company purchases in bulk. If it instead purchases in small quantities, the company will likely pay a higher price per unit and incur an unfavorable spending variance, but will also have a smaller investment in inventory and a lower risk of inventory obsolescence.
Thus, any spending variance should be evaluated in light of the assumptions used to develop the underlying expense standard or budget.
A spending variance may also be known as a rate variance.