What Is Variance?

Variance in standard costing and budgetary control refers to the difference between budgeted levels of cost or income and the actual costs incurred or income achieved, with variances indicating whether actual performance was better or worse than the standard.

Variance plays a crucial role in the realms of standard costing and budgetary control. It quantifies the difference between the budgeted or standard levels of cost or income for an activity and the actual costs incurred or income achieved.

Historical Context

The concept of variance has been a foundational aspect of cost accounting and financial management for decades. Its origins can be traced back to early 20th-century practices in industrial cost management, where companies sought to improve efficiency and cost control.

Types/Categories of Variance

Variance can be broadly categorized into:

• Cost Variance: Differences between budgeted and actual costs.

  • Material Variance: Differences in the cost of raw materials.
  • Labor Variance: Differences in labor costs.
  • Overhead Variance: Differences in overhead expenses.

• Revenue Variance: Differences between budgeted and actual revenue.

  • Sales Variance: Differences in sales volume or price.

Key Events

Key events in variance analysis often include quarterly or annual financial reviews where companies analyze their performance compared to budgeted expectations. Identifying variances allows firms to make necessary adjustments in strategy and operations.

Detailed Explanations

• Favourable Variance: Occurs when actual performance is better than the budgeted level.
• Adverse Variance: Occurs when actual performance is worse than the budgeted level.
  • Analysis of Adverse Variance: Companies often conduct detailed analyses to pinpoint precise causes of adverse variances.

Formula

The general formula for variance:

$$ \text{Variance} = \text{Actual Value} - \text{Budgeted Value} $$

Charts and Diagrams

Favourable vs. Adverse Variance

    pie
	    title Variance
	    "Favourable Variance": 45
	    "Adverse Variance": 55

Importance and Applicability

Variance analysis is integral for:

• Cost Control: Helps in identifying areas of inefficiency.
• Performance Evaluation: Assists in assessing managerial performance.
• Strategic Planning: Informs decision-making and future budgeting.

Examples

• Material Variance: A company budgets $10,000 for raw materials but actually spends $9,500. The variance is $500 (Favourable).
• Labor Variance: Budgeted labor cost is $15,000, but actual cost is $16,000. The variance is $1,000 (Adverse).

Considerations

• Accuracy of Data: Reliable and accurate data is crucial for meaningful variance analysis.
• External Factors: Economic conditions and market trends can influence variances.

Related Terms with Definitions

• Standard Costing: A costing method that assigns expected costs to production processes.
• Budgetary Control: The process of comparing actual financial performance with budgeted expectations.
• Variance Analysis: The process of analyzing the reasons for variances.

Comparisons

• Variance vs. Deviation: While variance refers to the difference between actual and expected values, deviation generally measures the dispersion around a mean value.

Interesting Facts

• The concept of variance is not limited to accounting and finance but is also a key statistical measure.
• Historical studies in cost accounting reveal that early variance analysis significantly improved production efficiency.

Inspirational Stories

Numerous businesses have turned their performance around by closely monitoring variances. For instance, a manufacturing company managed to reduce its overhead costs by 20% by identifying and addressing adverse variances in their monthly reviews.

Famous Quotes

• “If you can’t measure it, you can’t improve it.” – Peter Drucker

Proverbs and Clichés

• “An ounce of prevention is worth a pound of cure.” This highlights the importance of identifying variances early.

Expressions, Jargon, and Slang

• Variance Report: A detailed document highlighting variances.
• Favourable Skew: Positive deviation in financial terms.
• Budget Creep: Gradual, unplanned increases in the budget.

FAQs

What causes adverse variances?

Adverse variances can be caused by unexpected increases in costs, inefficiencies, or lower than anticipated revenues.

How often should variances be analyzed?

Regular analysis is recommended, typically monthly or quarterly.

Can variances be entirely eliminated?

While it’s challenging to eliminate variances completely, they can be minimized through effective planning and control.

References

1. Horngren, C.T., Datar, S.M., Rajan, M.V. (2011). “Cost Accounting: A Managerial Emphasis.”
2. Kaplan, R.S., Atkinson, A.A. (1998). “Advanced Management Accounting.”
3. Drury, C. (2015). “Management and Cost Accounting.”

Summary

Variance analysis is a pivotal tool in financial management, helping organizations track and manage their performance relative to budgeted expectations. By understanding and analyzing variances, companies can make informed decisions, enhance cost control, and improve overall efficiency.