Budget vs Actuals: A Budget Variance Analysis Guide

How efficient is your budget variance analysis process? If there is room for improvement, it may be time to restrategize. See how your budget vs. actuals can drive organizational growth with our latest article.

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Budgets can serve as stepping stones for startups to follow as they carve their pathway forward. However, while these financial practices can help a company stay on track, they don't necessarily show how an organization is actually performing. 

So how can a company ensure that they are not drifting off course? Through budget variance analysis. 

Comparing budget vs. actuals allows organizations to assess their performance against their predicted forecast and course-correct as needed so they can continue to climb the staircase to success. In this article, our experts will be covering everything you need to know about budget vs. actual analysis to help your finance team follow FP&A best practices and serve as strategic decision influencers for your entire organization.

What is Budget Variance Analysis?

Finance teams use budget variance analysis to assess business performance. As a critical component of corporate performance management, budget variance analysis ultimately allows an organization to identify where they exceeded expectations and where they fell short. This type of analysis also allows organizations to compare actual results to the outlined budget from a set period and assess the variances between the two. 

The actual process of comparing budget vs. actuals is straightforward. However, assessing the variance is the key component that allows finance teams to derive insights and use that information to support strategic decision-making among senior management. By evaluating whether or not an organization's spending and revenue are leading to a negative or positive variance, the finance team can then reassess their current budgets and create more strategic forecasts moving forward.  

What is Budget Variance?

Variances can be categorized as either a favorable variance or an unfavorable variance. When a variance is favorable, the revenue is higher than the budgeted amount. In the case of an unfavorable variance, revenue falls short of the budget, or the actual cost of expenses is greater than the budget.

There are several causes that may affect an organization’s budget variance analysis. These include:

  • Inaccurate budgeting
  • Changes in business conditions
  • Unmet expectations
  • Customer acquisition

If the budget variance is continuously off, the finance team may have to reassess their current forecasting processes so they can properly assess the actual performance of the organization.  

Budget Variance in a Flexible Budget vs. a Static Budget

When finance teams use a flexible budget, they are able to make adjustments when assumptions used to create the budget have changed. In contrast, a static budget is fixed and cannot be adjusted even if the assumptions are altered. These changes can result in different outcomes, especially when conducting a budget variance analysis. 

Why Should You Assess the Variances Between Your Budgets vs. Actuals?

Budgeting is a fundamental practice for all financial planning. 

By analyzing where your business surpassed expectations and where it fell short, you can then know how to pivot your financial plan in the future. With these objectives in place, the finance team can quantifiably calculate business performance and inform senior management on roadblocks, successes, and new opportunities. Using a budget vs. actual variance analysis allows a company to measure its year-to-date performance and see which initiatives or processes created a favorable variance. Once a variance analysis has been performed, senior management can then steer the right actions and make more strategic decisions to propel the company onward.

Performing a Budget vs. Actual Variance Analysis

There are several steps involved in calculating your budget vs. actual variance analysis. Below are the different steps to consider:  

  1. Identify the forecasted amount

The first step is to uncover the budgeted amount. In most cases, organizations will use revenue and expenses or income to calculate this number. While traditional finance teams depend on templates or excel spreadsheets to derive their budget variance, modern FP&A software can automatically consolidate data and conduct these analyses in a fraction of the time. Aside from an organization's income and expenses, other factors to consider include EBITDA, cost of goods sold, net income, and gross profit.

  1. Determine the actual amount

Next, determine the actual results of what is being analyzed. Businesses typically will use a defined period of time, such as on a monthly, quarterly, or annual basis to conduct their budget variance analysis.

  1. Calculate the variance

Dollar variance

A company can choose to calculate the dollar variance instead of the percent variance. The formula is as follows:

Dollar variance = actual amount - forecast amount

Percent variance

The other method is to calculate the percent variance. This can be done by using the following formula: 

Percent variance = [(actual amount / forecast amount) - 1] x 100

  1. Derive results

Do you notice a positive or negative variance when reviewing results? Through the resulting outcome, a finance team can gain an inside look at their organization’s overall financial performance. From there, they can use that information to derive further insights and steer financial planning forward. 

  1. Create management reports

Once a team has conducted their budget variance analysis, it's time to present that information to senior management, leadership, and investors. In this management and investor report, be sure to include all of the outcomes as well as the causes so teams can gain a greater understanding of trends, patterns, or new areas of opportunity. Not only does this paint a clearer picture into the overall performance of an organization, but it also supports strategic decision-making to drive growth. 

  1. Update forecasts

In some cases, these new insights that have emerged from budget variance analysis may mean that current forecasts need to be altered. If this is the case, be sure to make the necessary adjustments to forecasts or financial models. As a general rule of thumb, the forecast should reflect an organization’s roadmap. If uncertain market conditions or other factors are causing large variances, your team may want to consider adjusting forecasts to reflect these shifts.

Drawing the Connection Between Budget Variance Analysis and Financial Forecasting

So how are budget variance analysis and financial forecasting related? Put simply, budget variance analysis helps an organization create more accurate forecasts for the future. Forecasting is a necessary part of financial planning, which is why it is so important that a finance team makes the necessary adjustments to their models and forecasts on a regular basis. 

If you are looking to streamline your budget variance and analysis processes, consider automating your workflows with the help of a strategic finance solution like Abacum. Unlike Excel spreadsheets that require manual input to conduct analyses, our platform automatically consolidates financial and operational data into a centralized space, allowing finance teams to easily conduct their budget vs. actuals analysis and derive fast and reliable insights. 

Ready to improve your cash flow forecasting through budget variance analysis? Find out how to modernize your financial processes and request a demo today to speak to one of our FP&A experts.