Actual vs Budget: A Plain English Guide to Variance Analysis
If someone asked you today whether your business is on track for the year, could you answer with confidence?
Most owners would give an honest guess based on how things feel. Busy months feel good and quiet months feel worrying. However, a feeling isn’t much to go on when you’re deciding whether to hire, invest or change your prices.
Variance analysis replaces that guesswork with clear answers. It shows you how you’re performing against your plan and more importantly, why.
What Is a Variance?
A variance is the difference between what you planned and what actually happened.
It's either favourable, meaning better for profit than planned, or adverse, meaning worse for profit than planned. For example, more revenue than budget is favourable, higher costs than budget are adverse and lower costs than budget are favourable.
Why Does Variance Analysis Matter?
It's easy to see this as something only bigger businesses bother with. Here's what it actually gives you:
It tells you why, not just what - If your profit and loss shows you that profit reduced. Your Variance analysis shows you whether it was price, volume, a cost increase or a one-off.
It separates a blip from a problem - A project slipping into next month and a client leaving look identical on the page. The response to each is completely different
It buys you time - Spotting a cost being adverse in month 2 gives you 10 months to fix it, finding it at year end gives you none.
It sharpens the next plan - The reasons behind this year's variances are what make next year's budget more realistic
It gives you something to say - When a lender, an investor or a buyer asks why a month looks odd, having an answer on record matters as it allows you to respond quickly which builds confidence in your business.
A Worked Example
Here's a hypothetical month for a business with a monthly budget:
Line | Budget | Actual | Variance | % |
Revenue | £80,000 | £72,000 | £8,000 adverse | 10% |
Wages | £30,000 | £31,500 | £1,500 adverse | 5% |
Marketing | £4,000 | £2,000 | £2,000 favourable | 50% |
Software | £1,200 | £1,250 | £50 adverse | 4% |
These 4 example variances alone are not equally important but what to do next with that information is important:
Step 1: Decide What's Worth Investigating
If you investigate every difference, you'll spend an hour explaining £50 and never get to the things that matter.
Set yourself a threshold. A sensible starting point is anything at least 5% and at least £1,000 away from budget. Adjust it to suit the size of your business.
In the example above, that rules out software straight away. Revenue, wages and marketing all need a closer look.
Step 2: Timing or Permanent?
A timing variance means something has moved into a different month. A project slipped from October into November. A supplier invoice arrived early. When you look at it year to date, it will even itself out.
A permanent variance means it's gone. For example, this could be a client leaving or a pay rise landing earlier than planned. That money isn't coming back later in the year.
The £8,000 revenue shortfall means something very different if a £8,000 project has simply slipped to next month, versus a client leaving for good.
Step 3: Favourable Doesn't Always Mean Good
The marketing line shows £2,000 favourable. On paper, it looks good because £2,000 was saved from costs.
However, if that underspend was because an ad campaign didn't run, it may also explain part of the revenue shortfall which means fewer leads this month and could mean fewer sales next month.
This shows how one variance can impact other variances and influence future periods for your business.
Favourable variances deserve the same questions as adverse ones. A saving this month could be a cost that's been pushed into the future.
Step 4: Write One Line for Each Variance
For every variance above your threshold, write down 3 things:
What: revenue £8,000 below budget
Why: 1 project worth £8,000 moved from this month into next
Action: confirm the new start date with the client and update the forecast
This gives you clarity around your numbers and gives you a record to look back on next month.
Step 5: Look at the Year to Date, Not Just the Month
A single month can create a lot of noise if the reason for the variance was a timing difference, as these often wash out across the year to date.
If you're £8,000 behind this month but £6,000 ahead year to date, that's a very different conversation to being behind for the third month running. Patterns matter more than one-off results.
How Do I Make This a Monthly Habit?
Variance analysis isn't about explaining the past for its own sake. It's about spotting what's changed early enough to be able to do something about it before it becomes a problem.
A simple monthly routine:
Update your actuals once your books are closed and reconciled
Compare against budget for the month and the year to date
Investigate anything above your threshold
Label each one as timing or permanent
Agree one action for each permanent variance
Do that every month and your budget stops being a document you wrote once and forgot about. It becomes a tool for running the business with confidence.
At LedgerFix Consulting, I build variance analysis reporting into my clients' monthly management accounts. With clear commentary explaining what moved and why, so you spend less time digging through numbers and more time acting on them.
If you'd like a clearer view of why your numbers are moving, get in touch using the link below.
Ben
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