Gerhan Company's flexible budget for the units manufactured in May shows $15,720 of total factory overhead; this output level represents 70% of available capacity. During May, the company applied overhead to production at the rate of $3.00 per direct labor hour (DLH), based on a denominator volume level of 5,850 DLHs, which represents 90% of available capacity. The company used 5,000 DLHs and incurred $16,900 of total factory overhead cost during May, including $6,800 of fixed factory overhead.

What will be an ideal response?

$2,067 unfavorable

1. Total budgeted OH @ 90% capacity (the denominator volume level) = 5,850 DLHs (given) × $3.00/DLH (given) = $17,550.

2. Total budgeted OH @ 70% capacity = $15,720 (given).

3. Change in budgeted OH dollars, 90% vs. 70% of capacity = $17,550 ? $15,720 = $1,830.

4. If 5,850 DLHs = 90% capacity, then [(5,850 DLHs/0.90) × 0.70] = 4,550 DLHs at 70% capacity.

5. Change in budgeted OH hours from 90% capacity to 70% capacity = 5,850 ? 4,550 = 1,300 hours.

6. Standard VOH rate/DLH = $1,830 change in dollars/1,300 change in hours = $1.41/DLH.

7. Total OH rate/DLH (given) = $3.00/DLH

8. Therefore, standard fixed OH rate/DLH = Total OH rate/DLH ? Variable OH rate/DLH = $3/DLH ? $1.41/DLH = $1.59/DLH.

9. Finally, fixed overhead production volume variance = 1,300 unfavorable difference in hours × $1.59 fixed OH application rate = $2,067U (to nearest whole dollar).

Note: this variance is unfavorable (U) because actual volume achieved during the period (expressed in terms of standard allowed hours) < the "denominator volume" (i.e., the volume assumed in determining the fixed overhead application rate).