Unfavourable Variance

Unfavourable Variance Adverse Variance Budget Variance Financial Performance Cost Management Profitability
Unfavourable variance, also known as adverse variance, indicates that actual financial performance is worse than the budgeted expectation, resulting in lower profits or higher costs than anticipated.
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Definition

What is Unfavourable Variance?

Unfavourable variance, also known as adverse variance, occurs when actual performance falls short of budgeted or expected performance. This variance typically signifies higher costs, lower revenues, or reduced profits compared to forecasted figures. Understanding and analyzing these variances is crucial for effective financial management and corrective measures within an organization.

Examples

  1. Cost Variance:

    • If a company budgets $100,000 for raw materials but spends $120,000, the unfavourable variance is $20,000.

  2. Revenue Variance:

    • If a company expects $150,000 in sales but only achieves $130,000, the unfavourable variance is $20,000.

  3. Profit Variance:

    • If a company budgeted a profit of $50,000 but only generates $30,000, the unfavourable variance is $20,000.

Frequently Asked Questions (FAQs)

1. What causes unfavourable variance?

  • Unfavourable variance can be caused by various factors including increased material costs, inefficiencies in operations, unexpected market conditions, and lower-than-expected sales.

2. How is unfavourable variance identified?

  • Unfavourable variance is identified through variance analysis, where actual performance metrics are compared against budgeted figures to highlight discrepancies.

3. What actions can be taken to address unfavourable variance?

  • To address unfavourable variance, companies may need to revise budgets, enhance efficiency, reduce unnecessary expenses, or identify new revenue opportunities.

4. Is unfavourable variance always a negative indicator?

  • While unfavourable variance often signals issues, it may not always be negative. For example, higher-than-budgeted R&D costs could lead to future innovations and revenue growth.

5. How frequently should variance analysis be conducted?

  • Variance analysis should be conducted regularly, typically monthly or quarterly, to ensure timely detection and management of any adverse trends.
  • Favourable Variance: Indicates that actual performance is better than expected, resulting in higher profits or lower costs.
  • Budget Variance: The difference between budgeted figures and actual figures, encompassing both favourable and unfavourable variances.
  • Standard Costing: A costing method that assigns expected costs to products or services and helps detect variances.
  • Variance Analysis: The process of analyzing the differences between budgeted and actual performance to understand the causes and impacts of variances.
  • Flexible Budget: A budget that adjusts based on different levels of activity, providing a more accurate comparison against actual performance.

Online References

Suggested Books for Further Studies

  1. “Managerial Accounting” by Ray H. Garrison, Eric W. Noreen, and Peter C. Brewer

    • An in-depth guide to managerial accounting, covering variance analysis extensively.

  2. “Management and Cost Accounting” by Colin Drury

    • A comprehensive textbook that includes detailed discussions on budget variances and cost control.

  3. “Cost Accounting: A Managerial Emphasis” by Charles T. Horngren, Srikant M. Datar, and Madhav V. Rajan

    • Offers detailed insights into cost accounting techniques including variance analysis.

Accounting Basics: “Unfavourable Variance” Fundamentals Quiz

### What does unfavourable variance indicate? - [ ] Actual performance is better than budgeted expectations. - [x] Actual performance is worse than budgeted expectations. - [ ] Budgeted performance matches actual performance. - [ ] There is no significant difference between budgeted and actual performance. > **Explanation:** Unfavourable variance indicates that actual performance is worse than the budgeted or expected performance. ### In the context of revenue, when does unfavourable variance occur? - [ ] When actual revenue exceeds budgeted revenue. - [x] When actual revenue is less than budgeted revenue. - [ ] When actual revenue is equal to budgeted revenue. - [ ] Revenue is unaffected by variance. > **Explanation:** Unfavourable variance in revenue occurs when the actual revenue is less than the budgeted revenue. ### A company expected to spend $200,000 on marketing but actually spent $250,000. What is the unfavourable variance? - [x] $50,000 - [ ] $150,000 - [ ] $250,000 - [ ] $200,000 > **Explanation:** The unfavourable variance is the difference between the actual and budgeted figures, which is $50,000 in this case. ### Which of the following is NOT a possible cause of unfavourable variance? - [ ] Increased material costs - [ ] Higher labor expenses - [ ] Inefficient operations - [x] Unexpected tax refund > **Explanation:** An unexpected tax refund is not a cause of unfavourable variance; it may actually contribute to a favourable financial outcome. ### How often should variance analysis typically be conducted? - [ ] Once per year - [x] Monthly or quarterly - [ ] Every five years - [ ] Never > **Explanation:** Regular variance analysis, typically conducted monthly or quarterly, enables timely detection and management of adverse trends. ### What type of variance indicates higher profits or lower costs than expected? - [x] Favourable variance - [ ] Unfavourable variance - [ ] Neutral variance - [ ] Negative variance > **Explanation:** Favourable variance indicates higher profits or lower costs than expected. ### How can a company use variance analysis? - [x] To identify areas needing improvement - [ ] To set unrealistic budgets - [ ] To ignore financial discrepancies - [ ] To avoid all variance-related activities > **Explanation:** Companies use variance analysis to identify areas needing improvement and take corrective actions. ### What does unfavourable profit variance specifically indicate? - [ ] Higher than budgeted profits - [x] Lower than budgeted profits - [ ] Profits equal to budgeted profits - [ ] Profits unrelated to budget > **Explanation:** Unfavourable profit variance indicates that the actual profits are lower than the budgeted profits. ### If expected sales are $500,000 but the actual sales are $480,000, what is the unfavourable variance? - [ ] $10,000 - [ ] $15,000 - [x] $20,000 - [ ] $25,000 > **Explanation:** The unfavourable variance is the difference between the expected and actual sales, which is $20,000. ### Why is understanding unfavourable variance important for financial management? - [ ] It can be ignored in strategic planning. - [ ] It provides insights for minor adjustments only. - [x] It helps in taking corrective actions and improving performance. - [ ] It shows only irrelevant discrepancies. > **Explanation:** Understanding unfavourable variance is crucial for taking corrective actions and improving overall financial performance.

Thank you for exploring the concept of unfavourable variance through this detailed definition and engaging quiz questions. Keep enhancing your financial acumen!

Tuesday, August 6, 2024
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