How Do You Calculate Budget Variances?
Learn how to calculate budget variances for A Level Business, label favourable and adverse results, and see what sales and cost differences mean for profit.
To calculate a budget variance, subtract the budgeted figure from the actual figure. A variance is the difference between what a business planned and what happened:
Variance=Actual figure−Budgeted figure \text{Variance}=\text{Actual figure}-\text{Budgeted figure} Variance=Actual figure−Budgeted figureThen decide whether the difference is favourable (better for the business than planned) or adverse (worse than planned). The sign of the calculation does not tell you this on its own: it depends on what the figure measures.
Sales and costs
For sales revenue, an actual figure above budget is favourable because the business earned more than expected. An actual figure below budget is adverse. For costs, it is the other way round: spending less than budget is favourable, while spending more is adverse.
For a quick check, ask whether the change would increase or decrease profit if everything else stayed the same. Higher revenue tends to increase profit; higher costs tend to reduce it. This is why the same positive numerical difference can receive different labels. You can also state a variance as an amount above or below budget, provided you make clear which figure you are comparing.
Suppose a business budgeted sales revenue of 12,00012{,}00012,000 pounds and achieved 13,50013{,}50013,500 pounds. Its sales revenue variance is:
13,500−12,000=1,500 13{,}500-12{,}000=1{,}500 13,500−12,000=1,500This is a favourable variance of 1,5001{,}5001,500 pounds. If its budgeted costs were 8,0008{,}0008,000 pounds but actual costs were 9,0009{,}0009,000 pounds, the cost variance is 1,0001{,}0001,000 pounds adverse: it spent more than planned.
What does it mean?
You can use the figures to check the effect on profit. Budgeted profit was 12,000−8,000=4,00012{,}000-8{,}000=4{,}00012,000−8,000=4,000 pounds; actual profit was 13,500−9,000=4,50013{,}500-9{,}000=4{,}50013,500−9,000=4,500 pounds. Profit is therefore 500500500 pounds above budget, a favourable outcome overall.
A variance identifies a difference, but does not explain its cause. The business would need to investigate why sales or costs changed before deciding what action to take. In an exam, the common mistake is to call every positive result favourable: higher costs are adverse, even though actual−budget\text{actual}-\text{budget}actual−budget gives a positive number.
