What is Budget to Actual Variance Analysis?
Budget to Actual Variance Analysis is among one of the key functions for a FP&A professional to perform while on the job.
A budget to actual variance analysis is a process by which a company’s budget is compared to actual results and the reasons for the variance are interpreted.
What is the Role of Budget to Actual Variance Analysis?
The purpose of budget to variance analysis is to provoke questions such as:
- Why did one division, product line or service perform better (or worse) than the others?
- Why are selling, general and administrative expenses higher than last year?
- Are variances being caused by execution failure, change in market conditions, competitor actions, an unexpected event or unrealistic forecast?
The basis of virtually all variance analysis is the difference between actuals and some predetermined measure such as a budget, plan or rolling forecast. Most organizations perform variance analysis on a periodic basis (i.e. monthly, quarterly, annually) in enough detail to allow managers to understand what’s happening to the business while not overburdening staff.
How to Perform Budget to Actual Variance Analysis
Variances fall into two major categories:
- Favorable variance: Actuals came in better than the measure it is compared to.
- Negative variance: Actuals came in worse than the measure it is compared to.
When explaining budget to actual variances, it is a best practice to not to use the terms “higher” or “lower” when describing a particular line time. For example, expenses may have come in higher than planned, but that produces a negative variance to profit.
In addition, variances are relative to an organization’s key performance indicators (KPIs). If the organization utilizes a driver-based, flexible budget or plan where production costs come in higher in a period due to increased sales volume, than that may have a positive effect on organizational profit and show that in the budget to actual variance analysis.
Most variance analysis is performed on spreadsheets (Excel) using some type of template that’s modified from period to period. Most enterprise systems have some type of standard variable reporting capability, but they often do not have the flexibility and functionality that spreadsheets provide. Given the very ad hoc nature of variance analysis, spreadsheets are a very useful tool.