What is variance analysis?
Investigating and explaining differences between two sets of numbers. The work is the reason for the gap, not the gap itself.
Definition
Variance analysis is the work of investigating and explaining a gap between two sets of numbers. On the books, this is not a new account; it is the reason the actual figure did not match the other set you compared it to.
The two sets are often this period's actuals and the plan for the same period. They can also be actual versus a standard cost, or actual versus a target you set in units.
Where it shows up
P&L: Related to explaining gaps between planned and actual income and expense.
Balance Sheet: Related to explaining gaps on balance-sheet accounts when those are in the plan.
Cash flow: Related to explaining gaps on cash versus the plan.
See also: Budget Versus Actual · Flux Analysis · Budget
When you look at your Income Statement, the variance is not a line of its own. Food cost of $11,000 is the actual; the analysis is why that is $3,000 above the $8,000 you planned.
The Balance Sheet gets the same treatment when the plan includes cash, inventory, or debt. A cash balance that missed the plan still needs a reason.
Cash flow reports can show a gap versus the plan too. You explain why cash from operations came in higher or lower than you expected, not only why the P&L missed.
This work usually sits in the close or management package next to the statements. Readers want the cause, not only the size of the miss.
How it works
A typical path starts with two columns for the same period. One column is actual; the other is the plan, the standard, or another agreed set.
You subtract one from the other to size the gap. $11,000 actual food cost versus $8,000 planned is a $3,000 gap, whether you call that over or under.
Then you find the cause. Price, volume, mix, timing, or a booking error are different stories, and they lead to different next steps.
Write the explanation so someone who was not in the shop can follow it. "Tomatoes spiked, so food cost ran $3,000 over the plan" is usable; "food cost high" is not.
Stay with the gap between two sets. You are not, on this page, explaining why this month moved versus last month.
Operating expenses and cost of goods sold are where most small shops start. Balance-sheet and cash gaps get the same treatment when those numbers were in the plan.
If the cause is a booking error, you fix the books before you explain the miss. An invented story on top of a miscoded bill wastes the review.
Keep the notes with the package for the period. Next month's reader should be able to see why food cost missed, not only that it missed.
Example
A sandwich shop planned $8,000 of food cost for June. Actual food cost came in at $11,000.
The $3,000 gap is the variance. The owner traces it to a tomato-price spike, not to extra sandwiches sold.
The variance note is one sentence the package can carry: food cost ran $3,000 over the $8,000 plan because tomato prices jumped. That is the analysis; the $11,000 on the Income Statement is still just the actual.
If sales volume had driven the extra cost, the note would say that instead. The shop would then look at whether the extra sandwiches still covered the extra spend.
Common mix-ups
Variance analysis is not flux analysis. Variance explains a gap between two sets of numbers; flux explains why a line moved versus the prior period.
Variance analysis is not the budget versus actual report itself. That report is the layout of planned and actual columns; this work is the investigation of the gaps those columns show.
Variance analysis is not the gap by itself. $3,000 over plan is the size; the tomato-price spike is the analysis.
Related terms
- Budget Versus Actual: The comparison of planned amounts to what actually happened.
- Flux Analysis: Explaining why each account moved compared with the prior period.
- Cost Variance: The gap between actual cost and the standard or budgeted cost.
- Forecast: An updated projection of where the numbers are actually heading.
- Budget: The approved plan of revenue and spending for a coming period.
- Management Reporting Package: The internal reporting set that pairs financial statements with operating metrics and commentary.
- Purchase Price Variance: The difference between what you paid for materials and the standard price.
- Operating Expenses: The ongoing costs of running the business that are not direct costs of sale.