Variance

• one which departs from expectations
• one that varies from norm or standard
• disagreement
• discrepancy

A variance as we understand in the topic variance analysis in cost accounting is a value that indicates either a loss or gain. It is the gain or loss on account of the actual activity not being exactly as planned.

We learn about the different kinds of variances with respect to the various elements of cost that we deal with in cost accounting and how we calculate them.

Analysis

• An investigation of the component parts of a whole and their relations in making up the whole
• The abstract separation of a whole into its constituent parts in order to study the parts and their relations
• synthesis

Variance Analysis

Variance analysis involves analysing the variances in costs incurred on account of the various elements of cost by segregating the variance relating to an element of cost into various components.

Mathematical Interpretation

The variances that we calculate in the topic variance analysis are all value variances i.e. any variance that we calculate is the difference between two values.

⇒ Variance = Value₁ − Value₂

The value that we consider here is the labor/labour cost which is the product of time and rate of pay.

⇒ Labour/Labor Cost = Labour/Labor Time × Rate of Pay

Thus,

Variance = (Time₁ × Rate₁) − (Time₂ × Rate₂)

Positive/Favourable Variance

If a variance indicates a gain or benefit, it is said to be either Positive or Favourable. It is indicated by a positive sign (+) prefixed (before) the value of the variance or by the letters Fav or F or Pos suffixed (after) the value.

• +5,000
• 5,000 Fav
• 5,000 F
• 5,000 Pos

In mathematical calculations a positive variance is taken as a positive value.

Adverse/Negative/Unfavourable Variance

If a variance indicates a loss, it is said to be either negative or Adverse or Unfavourable. It is indicated by a negative sign (−) prefixed (before) the value of the variance or by the letters UF or Unf or Adv suffixed (after) the value.

• − 1,200
• 1,200 Unf
• 1,200 Neg
• 1,200 Adv

In mathematical calculations a negative variance is taken as a negative value.

Costs

With respect to costs there would be

• Loss

  If the actual cost is greater than the standard cost there would be a loss.

  The variance would be negative if Actual cost > Standard Cost.

  Gain

  If the actual cost is lesser than the standard cost there would be a gain.

  The variance would be positive if Actual cost < Standard Cost.

Profits/Incomes

With respect to Profits/Incomes there would be

• Loss

  If the actual profit/income is lesser than the standard profit/income there would be a loss.

  The variance would be positive if Actual profit/income < Standard profit/income.

  Gain

  If the actual profit/income is greater than the standard profit/income there would be a gain.

  The variance would be positive if Actual profit/income > Standard profit/income.

Variance is the difference between two values. Many a times in writing the formulae for calculating variance, we get struck up with deciding whether the standard data comes first or the actual data i.e. which term forms the minuend and which forms the subtrahend.

Minuend

• A quantity or number from which another is to be subtracted.

Subtrahend

• A quantity or number to be subtracted from another.

Cost Variances

In calculating cost variances standard data forms the minuend and the actual data the subtrahend.

Variance = Standard − Actual

Illustration

When in doubt imagine a simple example generating a negative variance.

Sale/Yield Variances

In calculating sales or yield variances actual data forms the minuend and the standard data the subtrahend.

Variance = Actual − Standard

Illustration

When in doubt imagine a simple example generating a positive variance.

The variance in the cost of labour/labor i.e. the difference between the standard cost of labour/labor for actual output and the actual cost of labour/labor would give the variance on account of labour/labor. We call this the Labour/Labor Cost Variance.

Labour/Labor Cost Variance gives an idea of how much more or less cost that has been incurred is when the actuals are compared to standards. However, it does not give a scope for pin pointing the reasons for variance and thereby take corrective actions.

We cannot identify whether the variance is on account of more or less wage rate being paid (in which case, the department having the authority to fix wage rates should be further investigated) or on account of more or less labor/labour time being used for production (in which case the production department should be further investigated) etc.

Therefore to enable derivation of data that would be useful, labour/labor cost variance is analysed further into its constituent parts.

The analysis of labour/labor cost variance into its constituent parts gives an idea of the labour/labor variance in various other angles. This possibility for analysis arises on account of the fact that labour/labor cost is a product of and is thereby influenced by two factors, i.e. the time for which the labourers/laborers work and the wage rate paid for labour/labor.

All the variances involving labour/labor which are collectively called Labour/Labor variances and their inter relationships are depicted in the illustration below:

This can be understood as the Labour/Labor Cost Variance broken down into its constituent parts and the constituent parts further broken down wherever possible.

Inter-relationships

The inter-relationships as can be interpreted from the above illustration are

1. LCV = LRPV + LUV/LEV + LITV

   Cost variance

   =	Rate of Pay variance + Usage/Efficiency variance + Idle Time Variance

2. LCV = LRPV + LUV/LGEV

   Cost variance

   =	Rate of Pay variance + Usage/Gross-Efficiency variance

3. LUV/LGEV = LEV + LITV

   Usage/Gross-Efficiency variance

   =	Efficiency variance + Idle Time Variance

4. LEV = LMV/GCV + LYV/LSEV

   Efficiency variance

   =	Mix/Gang-Composition variance + Yield/Sub-Efficiency variance

5. LCV = LRPV + LMV/GCV + LYV/LSEV + LITV

   Cost variance

   =	Rate of Pay variance + Mix/Gang-Composition variance + Yield/Sub-Efficiency variance + Idle Time Variance

These inter-relationships will be useful in problem solving for deriving the required answers as well as in checking for the correctness of answers.

There is an alternative method of breaking down the labour/labor cost variance into various constituent variances wherein the presence of Gross Variance is eliminated by replacing it with its constituent parts.

Calculation of other variances is not affected by this difference in classification. The only difference would be absence of additional information in the form of Gross Efficiency Variance.

The variances involving labour/labor which are collectively called Labour/Labor variances and their inter relationships under this classification are depicted in the illustration below:

This can be understood as the "Labour/Labor Cost Variance" broken down into its constituent parts and the constituent parts further broken down wherever possible.

Inter-relationships

The inter-relationships as can be interpreted from the above illustration are

1. LCV = LRPV + LUV/LEV + LITV

   Cost variance

   =	Rate of Pay variance + Usage/Efficiency variance + Idle Time Variance

2. LUV/LEV = LMV/GCV + LYV/LSEV

   Usage/Efficiency variance

   =	Mix/Gang-Composition variance + Yield/Sub-Efficiency variance

3. LCV = LRPV + LMV/GCV + LYV/LSEV + LITV

   Cost variance

   =	Rate of Pay variance + Mix/Gang-Composition variance + Yield/Sub-Efficiency variance + Idle Time Variance

These inter-relationships will be useful in problem solving for deriving the required answers as well as in checking for the correctness of answers.