## **Learning Outcomes**

After reading this article, you will be able to explain why variances arise, identify when variance investigation is appropriate, describe the significance of favourable and adverse variances, and make recommendations for control actions. You will also understand the factors influencing variance investigation, the behavioural aspects of variance reporting, and how corrective actions are selected and implemented in a budgetary control system.

## **ACCA Management Accounting (MA) Syllabus**

For ACCA Management Accounting (MA), you are required to understand both the procedures and behavioural aspects of variance analysis, including variance investigation and corrective actions within budgetary control. Make sure you are confident with each of the following areas before the exam:

- Calculate and interpret sales price, volume, materials, labour, and overhead variances
- Discuss the significance of variances and when they should be investigated
- Explain potential actions to eliminate or reduce variances
- Identify controllable and uncontrollable costs in variance reporting
- Recommend appropriate control actions based on reported variances
- Appreciate behavioural influences in performance management and reporting

## **Test Your Knowledge**

_Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision._

1. What factors should be considered before investigating a variance?
2. Which is more important for management action: a \$2,000 adverse variance in a major cost area or a \$500 variance in a minor one? Explain.
3. True or false? All adverse variances require immediate corrective action.
4. List two possible control actions management may take to address an adverse materials usage variance.
5. What behavioural issues can arise in variance reporting and investigation?

## **Introduction**

Budgetary control is central to effective management accounting. Managers rely on variance analysis for feedback on performance and to guide decision making. However, not all variances are equally important, nor do they always require action. Determining which variances to investigate and how to respond requires careful judgement.

This article explains how to evaluate the significance of variances, select which should be investigated, and consider appropriate corrective actions. The role of behavioural factors and the impact on motivation are also discussed, supporting you in meeting exam requirements and dealing with real-world management challenges.

## VARIANCE ANALYSIS AND SIGNIFICANCE

Variance analysis involves comparing budgeted results with actual outcomes to identify differences—known as variances—by type and source. Not all variances are meaningful; some may be the result of random fluctuations or unimportant amounts.

> **Key Term: variance**
> The difference between a standard or budgeted cost (or revenue) and the actual cost (or revenue) incurred.

### Interpreting Variances

Variances can be:

- **Favourable (F):** Actual results are better than expected (e.g., costs lower, revenues higher)
- **Adverse (A):** Actual results are worse than expected (e.g., costs higher, revenues lower)

However, analysis does not end here. Managers must then consider:

- Materiality (the size of the variance)
- Frequency (persistent vs. one-off events)
- Impact (does it affect results significantly?)
- Cause (random, operational, or planning issue)

> **Key Term: materiality**
> The importance or significance of a variance, determining whether it is large enough to require management attention.

## INVESTIGATING VARIANCES

Not every variance should trigger an investigation. Unnecessary investigations waste resources and may distract managers from more important issues. The decision to investigate depends on several factors.

### Factors to Consider Before Investigation

- Size of the variance
  - Larger variances are more likely to be significant.
- Trends
  - Persistent variances over several periods may indicate a root issue.
- Cost-benefit
  - The expected benefit of finding and correcting the cause should exceed the investigation cost.
- Controllability
  - Only variances related to areas under management control should be investigated.
- Interrelationships
  - One variance may be linked to another (e.g., a favourable material price variance may cause an adverse usage variance).
- Unexpected results
  - Even small variances may be significant if they are unexpected or a sign of fraud.

> **Key Term: controllable cost**
> A cost that can be influenced or managed by a specific manager or department within a given period.

### **Worked Example 1.1**

A company’s latest report shows:

- Direct materials usage variance: \$5,000 adverse
- Direct materials price variance: \$7,000 favourable
- Adverse usage variances have occurred for three consecutive months.

**Should management investigate the usage variance?**

> **Answer:** Yes. The variance is significant in value, is repeated, and may be offset by the favourable price variance (possibly due to lower quality materials). Investigation is justified.

## SELECTING CONTROL ACTIONS

Once a significant variance is identified, management should recommend appropriate actions, rather than investigating for its own sake.

### Types of Control Actions

- Operational
  - Changing processes, re-training staff, or reviewing supplier quality
- Managerial
  - Improving internal controls, reviewing budgets or standards, or strengthening authorisation procedures
- Strategic
  - Re-negotiating contracts or long-term changes to procurement or production

Decisions should consider feasibility, anticipated effectiveness, and cost.

### **Worked Example 1.2**

A factory’s labour efficiency variance is \$3,000 adverse. Investigation finds 20% of lost hours were caused by machine breakdowns.

**What control actions are appropriate?**

> **Answer:** Improve machine maintenance schedules, invest in newer equipment, or train operators in quicker setup. The corrective action should specifically address lost productive time.

### **Revision Tip**

Variances are not always negative; favourable variances can also indicate incorrect standards or missed opportunities for further improvement. Do not ignore these in your analysis.

## INVESTIGATING BEHAVIOURAL ASPECTS

Variance investigation and reporting impact motivation and behaviour. If not managed carefully, this can result in problems.

### Potential Behavioural Issues

- **Demotivation:** Constant reporting of adverse variances may discourage managers, especially if some causes are outside their control.
- **Budgetary slack:** Managers may set easily achievable targets to avoid negative variances.
- **Short-term focus:** Incentives linked solely to variance performance may lead to neglecting long-term objectives or quality.

> **Key Term: budgetary slack**
> The practice of intentionally setting budget targets at a more easily achievable level to increase the likelihood of favourable variances.

### Improving Behavioural Outcomes

- Use variance analysis as a tool for learning and improvement, not just control.
- Involve managers in setting budgets and standards to increase ownership.
- Give attention to both financial and non-financial indicators.

### **Worked Example 1.3**

A sales department shows a \$2,000 adverse sales variance for a new product launch, partly due to a competitor campaign. The sales team feels unfairly judged.

**How should management respond?**

> **Answer:** Recognise some factors are uncontrollable, adjust future targets considering the changed environment, and involve the sales team in future planning.

## INVESTIGATION COSTS AND MANAGEMENT BY EXCEPTION

Resource limitations require managers to focus attention where it will have impacts—this is known as management by exception.

> **Key Term: management by exception**
> The principle that only significant variances or exceptions from budget or standard are brought to management’s attention, allowing routine matters to be handled at lower levels.

Small or routine variances may be accepted; only large, persistent, or otherwise important variances should rise to senior management.

### **Exam Warning**

Not all adverse variances should be seen as negative—sometimes spending more leads to greater efficiency or future savings. Make recommendations based on broader assessment, not just the sign of the variance.

## REPORTING VARIANCES AND RECOMMENDING ACTION

Variance reports should be:

- Clear and concise—highlight material items only
- Linked to lines of responsibility (controllable vs. uncontrollable)
- Timely—delays reduce the value of information
- Accompanied by recommendations for possible corrective actions

> **Key Term: variance report**
> A summary document provided to managers indicating key favourable and adverse variances with accompanying commentary and suggested actions.
>
> **Key Term: corrective action**
> A specific response or adjustment undertaken by management to bring actual results in line with budgets or standards, based on analysis and investigation outcomes.

## SUMMARY

Variance investigation is at the centre of effective budgetary control. Not all variances need action—management must filter matters by significance, cause, controllability, and cost. Well-targeted investigations and prompt corrective actions can improve performance, but attention to behavioural issues is essential to maintain motivation and long-term improvement.

## **Key Point Checklist**

_This article has covered the following key knowledge points:_

- Distinguish between significant and non-significant variances
- Identify factors influencing the decision to investigate variances
- Recommend appropriate operational, managerial, or strategic control actions
- Recognise the role of behaviour in variance investigation and reporting
- Understand the concept of management by exception
- Explain how variance reports support decision making and responsibility assignment

## **Key Terms and Concepts**

- variance
- materiality
- controllable cost
- budgetary slack
- management by exception
- variance report
- corrective action

Budgetary control and behaviour - Variance investigation and corrective actions