As a business owner or financial analyst, it’s important to track and analyze the financial performance of a company. One key aspect of financial analysis is understanding the difference between actual results and the flexible budget amount. This difference is commonly referred to as a variance.
A variance can be positive or negative depending on whether the actual results exceeded or fell short of the flexible budget amount. Positive variances represent favorable results while negative variances indicate unfavorable ones. By analyzing variances, financial analysts can identify areas of a business where costs can be reduced or revenues increased, to ensure the business reaches its financial goals. Understanding variances can also help businesses set more accurate budgets in the future, essential for effective financial planning.
Types of Variance to Consider
In accounting, there are several types of variances that are crucial to consider when analyzing financial statements. One of the most important variances is the difference between actual results and the flexible budget amount, which is commonly referred to as a variance. Here are the main types of variances to consider:
1. Favorable variance:
A favorable variance is when the actual results exceed the flexible budget amount. In other words, it means that actual performance was better than expected. This is generally viewed as a positive outcome, as it indicates that a company is performing well and is on track to meet its goals. An example of a favorable variance would be a company producing more products than planned, resulting in higher revenue and profits.
2. Unfavorable Variance:
An unfavorable variance is the opposite of a favorable variance, meaning that the actual results fall short of the flexible budget amount. In other words, it means that actual performance was worse than expected. This is generally viewed as a negative outcome, as it indicates that a company is not performing as well and may need to take corrective action to get back on track. An example of an unfavorable variance would be a company experiencing lower sales than planned, resulting in lower revenue and profits.
3. Sales Volume Variance:
A sales volume variance is the difference between the actual amount of products or services sold and the flexible budget amount. This variance is important to consider because it helps a company identify whether changes in sales were due to changes in price or changes in volume. An increase in sales volume variance could indicate that there was an increase in demand, while a decrease could indicate a decrease in demand.
4. Price Variance:
A price variance is the difference between the actual price of a product or service and the flexible budget amount. This variance is important to consider because it helps a company identify whether changes in sales were due to changes in price or changes in volume. An increase in price variance could indicate that the company charged too much for its products or services, while a decrease could indicate that the company charged too little.
In summary, understanding the different types of variances is crucial for analyzing a company’s financial performance. By identifying favorable and unfavorable variances, sales volume variance, and price variance, a company can take corrective action and make changes to improve its financial performance.
When it comes to analyzing financial success and failures, it’s important to understand variances between actual results and the flexible budget amount. A variance occurs when the actual results deviate from the budgeted amounts. In other words, the difference between actual and budgeted amounts is considered a variance.
As an expert, I’ve identified some common causes of variances that businesses encounter. Below are some factors that can contribute to variances:
Causes of Variance in Actual vs. Budgeted Amounts
1. Changes in Sales And Production Volume
Fluctuations in sales volume can have a significant impact on a company’s financial performance. If a company sells more (or less) than what was originally planned, it directly affects the revenue earned. Similarly, changes in production volume can lead to increased or decreased cost of goods sold, resulting in a direct impact on net income.
2. Price Fluctuations
Unpredicted shifts in the market or supply chain can cause prices to increase or decrease unexpectedly. If production costs rise, it will cut into a company’s profits, especially if that budgeted amount was low to begin with and not able to absorb an unexpected increase.