What is the Idle Capacity Variance?

The idle capacity variance is the amount by which actual production usage declines below the normal or expected production level, multiplied by the overhead application rate. It is an indicator of why the full amount of overhead in a reporting period is not being allocated to the production generated within that period.

Example of the Idle Capacity Variance

As an example of the idle capacity variance, a machine has a normal, long-term usage level of 400 hours per month (essentially two shifts of work per business day). In May, the actual usage level was 320 hours. The factory overhead application rate is $30 per hour. Based on this information, the idle capacity variance is the 80-hour difference between the normal and actual usage, multiplied by the $30 overhead rate, which is $2,400.

Disadvantages of the Idle Capacity Variance

The idle capacity variance may not be a useful measurement, for the following reasons:

Does not inform about causes. The idle capacity variance only shows the financial impact of unused capacity, without explaining why the capacity is idle. Causes like equipment downtime, seasonal demand fluctuations, or strategic decisions (e.g., building up extra capacity for future growth) are not revealed by this metric alone.
Creates a false incentive. The idle capacity variance creates an incentive to keep using production facilities even when there is no need to build excess inventory levels. Thus, it can be better to absorb the negative variance than to avoid the variance by investing in more output.
Imposes a short-term focus. The idle capacity variance encourages a short-term view, pushing managers to reduce excess capacity without considering long-term business growth or flexibility needs. If managers reduce capacity too aggressively, it could hurt the company’s ability to scale or handle unexpected demand spikes.
Discourages investments in extra capacity. Tracking the idle capacity variance might discourage investment in additional capacity or flexible production systems. While these investments may lead to temporary idle capacity, they might be essential for agility and responsiveness, which are not captured by the metric.