1. Variance Analysis

2. Warning about Software Associates

3. Agenda Motivate the need for variance analysis
Describe the organizational use of variances
Discuss the mechanics of variance analysis
Example: Ross Parts
Takeaway

4. Management Accounting Systems
Variance Analysis
Cost Accounting Systems
Budgeting Systems
Transfer Pricing
Performance Measurement Systems

5. Variance Analysis
Organizations that have a budget typically compare the actual results to the budget at the end of the period.
Variance: Difference between actual and budgeted results:
Actual
Budget
Variance
Revenue:
$1,150
$1,000
$150F
Direct Material:
$450
$400
$50U
Direct Labor:
$425
$25F
Overheard:
$100 $0
Profit
$175
$50
$125F

6. Labeling Convention
Variance that implies a higher profit: favorable (F)
Actual revenue is higher than budgeted
Actual costs are lower than budgeted
Variance that implies a lower profit: unfavorable (U)
Actual revenue is lower than budgeted
Actual costs are higher than budgeted

7. Goal of Variance Analysis
Quantify the impact of the individual factors on the total variances
Actual
Budget
Variance
Possible reasons for the variance
Sales:
$1,150
$1,000
$150F
Sales volume, sales price
Direct Material:
$450
$400
$50U
Sales volume, material costs, material usage
Direct Labor:
$425
$25F
Sales volume, labor costs, labor usage
Overheard:
$100 $0
Sales volume, resource costs, resource usage
Profit
$175
$50
$125F
- All of the above -

8. Purpose of Variance Analysis
Performance evaluation:
Who is responsible for the overall results?
How well did our sales/ marketing people do?
How efficiently did our production dept. use the resources?
How well did our sourcing dept. negotiate with suppliers?
Planning:
Should we change our product mix?
Should we change our suppliers?

9. Mechanics of Variance Analysis
We can quantify the impact of the individual factors by decomposing the variances:
The decomposition uses a common unit of measure, namely $
It is difficult to compare #units, kg, $/unit, etc., across products

10. Variance Analysis - Mechanics
We can quantify the impact of the individual factors by decomposing the variances:
Sales variance:
Cost variances:
Actual Sales
(AV x AP)
Flexible Budget
(AV x EP)
(Master) Budget
(EV x EP)
Output Price Variance
Sales Volume Variance
Actual Costs
(AO x AI x AP)
Flexible Budget
(AO x EI x EP)
(Master) Budget
(EO x EI x EP)
(AO x AI x EP)
Input Price Variance
Efficiency Variance
Production Volume Variance

11. Example: Ross Parts Ross Parts produces the RP-24 Budget for 2011:
Per Unit
Total: 100,000 Units
Sales:
$20
$2,000,000
Costs:
Direct materials: $3
= $6
$ 600,000
Direct labor:
0.2 $25
= $5
$500,000
Overhead :
$300,000
Profit:
$600,000
*Print this out.

12. Example: Ross Parts Actual results for 2011: Total Sales:
100,000 $20.50
$2,050,000
Costs:
Direct materials:
194,000 $3.50/kg
$ 679,000
Direct labor:
21,000 $23/hr.
$483,000
Overhead :
$300,000
Profit:
$588,000
Actual Direct Material usage per unit:
194,000 kg/ 100,000 units = 1.94kg/ unit
Actual Direct Labor usage per unit:
21,000 hrs./ 100,000 units = 0.21 hrs.

13. Example: Ross Parts Sales variance (Volume is Sales Volume):
100,000 x $ ,000 x $ ,000 x $20
= $2,050, = $2,000, = $2,000,000
Actual Sales
(AV x AP)
Flexible Budget
(AV x EP)
(Master) Budget
(EV x EP)
Price Variance
Volume Variance
Output Price Variance: $50,000 F
Volume Variance: $0

14. Cost variances (Volume is Production Volume):
Direct Material
100,000 x 1.94 x $ ,000 x 1.94 x $3 100,000 x 2 x $ ,000 x 2 x $3
= $679,000 = $582,000 = $600,000 = $600,000
$97,000 U $18,000 F 0
Direct Labor
100,000 x 0.21 x $ ,000 x 0.21 x $ ,000 x 0.2 x $ ,000 x 0.2 x $25
= $483,000 = $525,000 = $500,000 = $500,000
$42,000 F $25,000 U 0
Overhead
$300, $300,000
Actual Costs
(AO x AI x AP)
Flexible Budget
(AO x EI x EP)
(Master) Budget
(EO x EI x EP)
(AO x AI x EP)
Input Price Variance
Efficiency Variance
Volume Variance
“Spending Variance”

15. Variance Decomposition Summary
Sales variances
Price variance
$50,000 F
Volume variance $0
Direct material variances
97,000 U
Efficiency variance
18,000 F
79,000 U
Direct labor variances
42,000 F
25,000 U
17,000 F
Overhead Variance
Profit Variance
$12,000 U
Q: Why is this summary useful to management?

16. Takeaway Variance: Difference between actual results and budget.
Variance Analysis: Quantitative decomposition of total variances into individual components (volume variance, price variance, cost variance, efficiency variance).
Purpose of variance analysis:
Performance evaluation: Who is responsible for the overall results?
Planning

17. Variance Analysis - Worksheet
We can quantify the impact of the individual factors by decomposing the variances:
Sales variance:
Cost variances:
Actual Sales
(AV x AP)
Flexible Budget
(AV x EP)
(Master) Budget
(EV x EP)
Output Price Variance
Sales Volume Variance
Actual Costs
(AO x AI x AP)
Flexible Budget
(AO x EI x EP)
(Master) Budget
(EO x EI x EP)
(AO x AI x EP)
Input Price Variance
Efficiency Variance
Production Volume Variance