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VARIANCE ANALYSIS



Profit Variance Analysis

• Compare budgeted and actual results to

isolate the impact of individual input and

output factors

• Used to

– Revise plan assumptions

– Evaluate employee performance



The Master Budget

• Benchmark for computing variances

•As you know, the master budget specifies indetail

– Sales volumes and prices

–

Input quantities and costs• Planned efficiencies and prices

– Capacity costs

• Also termed overhead cost

• The master budget is like picking a point onthe profit line in the CVP graph



Volume of Activity P r o f i t o r L o s s

( $ )

Actual Profit

Budgeted Profit

P r o f i t V a

r i a n c e

Budgeted

volume

Actual

volume

(Fixed Cost)

0

Profit Line (per

CVP model)

Budgeted and Actual Results



Variance Conventions



Many Possible Sources

• Variance could be due to

– Output quantities and/or prices

– Input efficiencies and/or prices

– Errors in estimated overhead costs

• Variance analysis

–

Linear decomposition of overall profit varianceinto above factors



Sales Volume Variance - Concept

Total Profit Variance

Flexible Budget Variance

Sales Volume

Variance

Master budgetprofit

Actual profit

Profit in flexible

budget

Sales volume variance Flexible budget variance

Total profit variance



Sales Volume Variance

• Difference between income / contribution in master

and flexible budgets – units × Budgeted UCM = revenue × Budgeted CMR

• Flexible budget is at actual output quantity

– Sales volume is only change in plan assumption

– Profit difference is due to change in sales volume

• Focus on change in CM / income & not revenue

– Change in volume changes revenues and variable costs

– Fixed costs do not change if volume changes



Sales Volume Variance

B

C

A

Volume ofActivity

Profit ($)

Actual

Profit

MasterBudget

Profit

Budgeted

volume

Actual

volume

(Fixed Costs)

0

Profit Line (perCVP relation)

FlexibleBudget

Profit

Sales Volume

Variance

+

Flexible

Budget

Variance

=

TotalProfit

Variance

P r o f i t ( $ )

Volume of Activity



Flexible Budget Variance



Cost Variances

• Cost in flexible budget is the right benchmark

– Activity volume the same in flexible budget and

actual operations

• Can compare line items

– Materials

– Labor

– Overhead costs



Cost Variances

Material cost

variance

Labour cost

variance

Price variance

Usage variance

Rate variance

Efficiency variance



Material Variance

• Material price variance

= (standard price – actual price)*actual quantity

• Material usage variance

= (Standard quantity – actual quantity)* standard

price

= (Standard quantity for actual production –

actualquantity production) * standard price



Labour Variance

• Labour rate variance

= (standard price – actual price)*actual quantity

•

Labour efficiency variance= (standard quantity – actual quantity)*standard

price

= Standard quantity for actual production – actual

quantity used) * standard price



Variable-Overhead Spending

and Efficiency Variances

A variable-overhead efficiency variance occurs when

actual cost-driver activity differs from the standard

amount allowed for the actual output achieved.

A variable-overhead spending variance occurs when

the difference between the actual variable overheadand the amount of variable overhead budgeted

for the actual level of cost-driver activity.



Variable-Overhead Variances

= -Variable

overhead

variance

Standard

variable

overhead

Actual

variable

overhead




With details of input quantities of variable overheads (e.g. hours)

variable overhead variance can be further analyzed as :

• Variable overhead spending variance

• Variable overhead efficiency variance

= -Budgeted

variable

overhead for

actual hours

Actual

variable

overhead

Variable

overhead

spending

variance

= -Standard

variable

overhead rate

per hour

Actual

variable

overhead

rate per

hour

x Actual hours




= -Standard

hours for

actual output

Actual

hours

Variable

overhead

efficiency

variance

xStandard

variable

overhead per

hour



Fixed Overhead Variance

Fixed overhead spending variance = Budgeted fixed

overheads - Actual fixed overheads



Sales Price Variance

Sales Price variance = Actual quantity of sales x

(Actual price – Budgeted price)



Interpreting Variances

• Investigate all significant variances

– Large variance shows poor plan / execution

• Examine trends

– Consistent sign may be related to planassumptions

• Consider the total picture

– Variances ignore interactions

– Price-quantity, input substitution

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