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Budget variance is the term applied to a business situation when the amount spent is greater than the budget set aside for the spending. For example, if a company budgets $1,000 US Dollars (USD) for two new computers but the new computers cost $1,200 USD, then there is a budget variance of $200 USD. There are a number of common causes for budget variance, including poor budgeting, poor logistical planning and increased product costs.
Budget variance can be divided into several categories. These include material variance, labor variance and sales variance. Identifying the causes of each variance is useful because it helps people, businesses and organizations to better prepare their next budget.
Material variance concerns the cost of products. Using the computer example from above, the computers may have been advertised in a catalog or online at $500 USD apiece. If the computers are $600 USD when actually purchased, there will be a variance.
All manner of products — from food to office supplies — are liable to increase or decrease in cost. This is especially the case if natural disasters affect food prices or if the product, such as gasoline, is dependent on oil prices. The introduction of new taxes or increases in old ones also will have an adverse effect on the budget.
Labor variance involves the cost and contribution of employees to the company or organization. Most companies will have a total wage budget. Similarly, a household will budget in line with an expected number of people working an expected amount. Any unpaid leave or loss of work will adversely affect the budget. If a company employs too many people or if their employees’ productivity decreases, their cost will cause a budget variance.
Staff productivity partly affects sales variance. Most companies will set a target for sales required for the company to break even. If sales dip below this budget, then the cost of keeping the company running is more than the revenue it brings in. As with material variance, sales variance can be attributed either to poor performance or bad luck.
For example, an ice cream vendor is likely to suffer if there is a cold summer, because anticipated sales will decrease. Likewise, a shop that poorly organizes its products and staff is also likely to see reduced sales and a budget variance. There is not much the ice cream vendor can do to raise sales in cold weather, but the shop should have organized itself better.
There are multiple reasons for a budget variance, and these reasons are often divided into uncontrollable and controllable variances. Oil prices are often difficult to predict, making them rather uncontrollable, but tax increases are often advertised well in advance and can be figured into a budget with a decent amount of accuracy. A well-prepared budget should take variance into account by budgeting to spend less than the amount of money expected to be available. Any spare money can be stored in a contingency fund.
It sounds like this article suggests that it is better to over estimate the cost of labor and materials so that you are less likely to have extra money at the end of the year instead of a variance.
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