Budget Variance Analysis: Benefits and Pitfalls of Using a Budget

In my last blog, I talked about how to create a useful budget. Now I want to talk about some of the benefits and some of the pitfalls to consider when using a budget, and how to look at budget variance.

The main purpose of a budget is to provide some guidance when making business decisions. A budget reflects a simplified view of where your business is going and how it is going to get there. It provides boundaries for spending decisions and guidance for acceptance of new sales opportunities. But when things don’t go as planned, it’s important to look at the budget variance analysis.

Budget versus actual analysis can provide insight as to what really happened in your business against what you thought was going to happen. Your budget is never going to be exact. Budgets typically use rounded and estimated numbers, where in reality, these are simply forecasts. However, investigation into the items where there is a significant variance can help you understand what your business is doing well in and identify areas in which you need to improve. Negative variances can be caused by an efficiency problem, a utilization problem, or simply some type of unexpected and unavoidable occurrence. On the other hand, you may find that you are doing better than expected. Analysis of the positive variances can provide insight to why you did so well and what processes are working for your business.

Sometimes, however, budget variance analysis can be misleading. For example, you may find that your admin wages and benefits were less than budgeted. This causes a positive budget variance. On the surface this looks very positive, but was that because you have fewer people than budgeted? If that’s the case, was everything that was required done efficiently? Or do you need to hire another person to do the work that did not meet company standards? Or did you come under budget because you were able to find a cheaper medical benefits plan for your employees and have truly accomplished cost savings while maintaining the appropriate number of staff? Simply focusing on the positives and negatives of the budget variance can be misleading. You have to really dig into variances to find out if you are really on track to accomplish your goals.

One more tip when using budgets is to use a budget that is relevant to the state of your business at the time. Usually, a budget is created at the beginning of the fiscal year for the entire coming year. Things are constantly changing in a business and the budget created at the beginning of the year may not be relevant come September. If that is the case, any analysis may be useless. Be sure to be flexible with your budget and revise as things change in your business.

Budgets can provide a lot of insight into a budget if used the right way. Make sure that you are getting the right information out of your analysis. For help building or starting the process, call TGG Accounting. We can help.

Written by:
Ashley Peth
TGG Accounting
 
 
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