What is a Variance in Accounting?

A variance is the difference between an actual measured result and a basis, such as a budgeted amount. In many accounting applications, a variance is considered to be the difference between an actual cost and a standard cost. There are a multitude of possible variances that can be reported to management, so the person reporting this information should be selective in only forwarding those variances that management can take action to correct. If a variance is insignificant or cannot be corrected in the future, there is less reason to present the information.

How is a Variance Used in Accounting?

Variance reporting is used to maintain a tight level of control over a business. For example, the sales manager might want to review the variance between projected sales and actual sales for a sales region, in order to adjust the sales effort within the region. Or, the production manager might want to review the overtime variance, to see if an excessive amount of overtime is being used on the production line. Similarly, the marketing manager might want to see any expenditure variances relating to certain marketing campaigns.

Most organizations have a standard accounting variance report that they issue to the management team on a regular basis. A sample variance report appears in the following exhibit. In this report, management is receiving information about specific types of accounting variances, including the reasons for a purchase price variance, variable overhead variance, fixed overhead variance, and selling price variance.

Variance Analysis Processing Steps

In order to extract usable information from an accounting variance, follow these processing steps:

Set standards or budgets. Establish baseline figures for costs, revenues, or performance metrics—such as standard costs, budgeted sales, or labor hours—for comparison against actual results.
Measure actual performance. Collect and record actual financial and operational data from business activities for the same period used in setting the standards.
Calculate variances. Compute the difference between the actual results and the standard or budgeted figures. This includes both favorable (better than expected) and unfavorable (worse than expected) variances.
Analyze the causes. Investigate the reasons for each significant variance. This may involve examining internal factors (e.g., inefficiencies, pricing changes) or external factors (e.g., market shifts, supplier issues).
Report findings. Prepare variance analysis reports for management, summarizing the deviations, their causes, and potential impacts on business operations or financial performance.
Take corrective action. Implement operational or strategic adjustments to address unfavorable variances, improve processes, or revise unrealistic standards.
Review and adjust standards (if needed). Periodically reassess and update standards or budgets to reflect changes in business conditions, ensuring future variance analysis remains relevant and useful.

This structured approach helps organizations monitor performance, control costs, and make informed decisions.

How Can a Variance be Manipulated?

The amount of a variance can be manipulated by adjusting the baseline upon which it is calculated. For example, if the purchasing manager wants to generate a favorable materials purchase price variance, he or she can lobby for a high baseline cost. With the standard so high, it is an easy matter to actually purchase at a lower price point, resulting in favorable performance under the variance calculation. For this reason, the formulation of variances should be carefully controlled.