Variance Analysis

04 Aug 2018 01:18
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Interpretation and interrelationship of variances.

To investigate or not to investigate before management determines whether or not to investigate a particular variance, there are a number of factors that ought to be considered.

o Materiality. Small variations in a single time are bound to occur and are unlikely to be significant. Obtaining and'explanation'is likely to be time-consuming and irritating in the manager concerned. The explanation will probably offer be'chance'that is not, in any case, particularly helpful. For these variations further investigation is not worthwhile.

o Controllable. Controllable should also influence the decision whether to investigate further. If there is general worldwide price increase in the price increase in the price of an important raw material there is nothing that can be done internally to control the impact of this. Uncontrollable

If, say, an efficiency variance is $ 1,000 adverse per month 1, the obvious conclusion is that the process is out of control and that corrective action has to be taken. This may be correct but what should the same variance is $1,000 adverse each month? The trend indicates that the process is in control and the standard has been wrongly set. Suppose, though, that calculate variance is consistently $1,000 advise for each of the first six months of the year but that production has steadily fallen form 100 units per month 1 to 65 units by month6.The variance fad in absolute terms is constant, but relative to the number of units generated, efficiency has tot steadily worse.

Management signals from variances fashion information.

Variance analysis is a fix of assessing performance, but it is only a method of signaling to management areas of possible weakness where control action might be necessary. It does not supply a ready-made diagnosis of faults, nor does it provide management with a reedy made indication of what action needs to be taken. It merely highlights items for potential investigation.

Individual variances shouldn't be looked at in isolation. As an obvious example, favorable sales price variance is likely to be accompanied by an adverse sales volume variance: the increase in price has caused a fall in demand. We know in addition that set of variances must be scrutinized for a variety of successive periods if their entire significance is to be appreciated.

Here are a Few of the signals that may be extracted form variance trend information,

O Materials price variances may be favorable for a few months, then change to adverse variances in the upcoming few weeks and so forth. This may indicate that process are seasonal and perhaps stock can be built it up cheap seasons.

O Regular, perhaps fairly modest, increase in adverse rice variances usually indicates the working of general inflation. If desirable allowance could be made for general inflation when flexing the funding.

O Rapidly large increases in adverse price variances may suggest a scudded scarcity of a source.

O Gradually improving labour efficiency variances may signal the existences of a learning curve, or the success of a productivity incentive scheme. In either case opportunities must be sought to encourage the trend.

O Worsening trends in machine running expenses may show up that equipment is deteriorating and will need repair or even replacement.

Interrelationships between variances

Quite possible, individual variances should not be looked at in isolation. One variance might be inter-related together with another, and much of it might have happened only because the other, inter-related variance occurred also.

Here is an example,

O Material price and usage-if cheaper materials are purchased to be able to obtain a favorable price variance, materials wastage may be higher and an adverse usage variance will happen. If the cheaper material is more challenging to handle, there might be an adverse labour efficiency variance too. If more expensive material is purchased, however the price variance is likely to be adverse but the usage variance might favorable.

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