Variance analysis software in 2026: What is it? Why does it matter? How to get it right?

Variance analysis serves as a reality check for business performance. It exposes the specific operational gaps that hold you back. Since you can apply it to virtually any metric, it becomes the go-to mechanism for spotting trends and course-correcting your strategy. Many teams now support this with variance analysis software.

The principles are covered in this handbook, including the reasoning behind variance analysis and the particular benefits it brings to an organization. We also walk through thorough math examples to show the procedure step-by-step in order to make it realistic.

Content:

• What is analysis of variance, and how does it connect forecasts to real results?
• Why do companies use variance analysis in FP&A?
• What are the main benefits of conducting variance analysis?
• Which variance analysis terms and definitions do you need to know?
• What are the most common types of variance analysis?
• How do you conduct variance analysis step by step?
• How do you calculate variance analysis figures (with formulas and examples)?
• What are the most common challenges in variance analysis?
• What are the best practices for better variance analysis insights?
• How can MWDN modernize your variance analysis approach?
• FAQs

WHAT IS ANALYSIS OF VARIANCE, AND HOW DOES IT CONNECT FORECASTS TO REAL RESULTS?

The link between your spreadsheet and the bank account is analysis of variance. You can push the company to explain why the numbers changed by comparing projected and actual performance. This establishes a feedback loop that identifies the precise areas in which the plan failed and is frequently provided through a variance report.

Depending on the industry, the emphasis changes. While a digital agency concentrates on intangibles like billable utilization or revenue churn, a manufacturing facility will be fixated on tangible costs like pricing variations and material usage. In either scenario, the study focuses on the few key metrics that determine the performance of the business.

WHY DO COMPANIES USE VARIANCE ANALYSIS IN FP&A?

A crucial component of the larger field of financial planning and analysis (FP&A) is reviewing variance. It is a reliable technique for seeing trends in crucial operational data so that businesses may determine where they are performing well and where they may need to improve.

Making predictions is a good place to start, but it’s crucial to assess how well those projections match reality. It is crucial to investigate the reason for any significant gap. Did company outcomes significantly exceed or fall short of the goals? Or were the forecasts themselves too conservative or too aggressive? Examining the details of why a deviation occurs allows an organization to modify its strategies to improve subsequent results. Yet, that is merely one of multiple advantages of reviewing variance.

WHAT ARE THE MAIN BENEFITS OF CONDUCTING VARIANCE ANALYSIS?

The regular variance analysis provides companies with a number of advantages. Here are some of the main ones.

Firstly, variance analysis can be the initial step in identifying a problem that needs to be addressed. Suppose a clothes manufacturing company conducts a variance analysis on purchasing costs.

Let’s say the analysis shows that the cost of purchasing fabric exceeds the forecast for a certain period of time by 20%. Further investigation reveals that suppliers have increased the price of a certain type of the material used in the product.

Continued use of these materials could threaten profitability. Management may then decide to address the problem, perhaps by switching to cheaper fabric, raising prices for finished clothes, or a combination of the two.

Secondly, in some cases, variance analysis can be useful for measuring how well individual managers are doing. In the clothes company case, an analyst might investigate if managers have done anything to prevent this situation. For instance, trying to negotiate bulk discounts on fabric.

This is one reason why detailed analysis is such an important part of variance analysis. Overall figures will show you patterns, but to understand why those patterns occur, you need to dig deeper. Sometimes this can even point to areas where staff could benefit from additional training.

Thirdly, imagine that the clothes company had not performed variance analysis. What could have happened then? It is quite possible that the problem with the cost of fabric could have gone unnoticed for a long time.

The fact that variance analysis brought the problem to the attention of the management team meant that they could intervene and take action. Shortly, it gave them the opportunity to control the situation and resolve the problem as quickly as possible.

Fourthly, there is also a general aspect. A systematic approach to understanding the reasons for discrepancies between actual and forecast figures allows you to make informed decisions.

Perhaps the management of a clothes company will not want to compromise on quality by using lower quality fabric. And perhaps they also do not want to risk raising prices.

This dilemma requires strategic rethinking. For instance, management may decide that it would be more cost-effective to change the design of some key items. Thus, variance analysis can determine a completely new strategic direction – all because of the price of a modest fabric.

WHAT VARIANCE ANALYSIS TERMS AND DEFINITIONS DO YOU NEED TO KNOW?

Let’s establish a few basic terminology that will help you comprehend variance analysis before moving on.

Purchase costs: how much money a business spends on buying raw materials.

Overhead costs: the sum of money a business pays on running costs like rent.

Budget: the sum of money that a business allots to every type of expense.

Variable price/rate variance: variations in the price of products and services.

Variable quantity and efficiency variance: the discrepancy between the amount of resources (such as labor or raw materials) that a business believes are required to achieve a particular outcome and the actual resources employed to do so.

Fixed budget variance: the discrepancy between the actual expenses and the budgeted overhead expenditures for a given time frame.

WHAT ARE THE MOST COMMON TYPES OF VARIANCE ANALYSIS?

We have already mentioned that there are many different types of variance analysis, depending on the context. Now it’s time to take a closer look at some of the most common ones.

1️⃣ Sales variance analysis involves checking how close the company’s actual sales are to its forecasts. If the two figures are similar, then everything is fine. But if there is a big difference between them, you need to look deeper into the reasons why.

Keep in mind that this does not necessarily mean only cases where sales figures are disappointing. When sales figures are much better than expected, it is also important to understand why this happened, as you can learn how to avoid a one-time coincidence.

2️⃣ Similarly, cost variance analysis examines the difference between expected costs and actual costs. In any business, tracking costs is essential to ensuring the financial stability of the company. If costs spiral out of control, it can create cash flow problems.

Regularly checking cost variances can alert management to emerging cost-related issues. This allows them to address these issues before they turn into more serious problems.

3️⃣ It is important to monitor profit variance because it is an indicator that interests all stakeholders in the company. In addition, it can play a decisive role in financial forecasting.

Maintaining healthy profitability is a key objective of any company’s management. If the profit variance analysis is negative, senior management needs to be aware of this so that they can adjust their strategy.

4️⃣ Is the company using its resources effectively? The answer to this question can be found in the material variance indicator. It reflects the difference between the amount of materials that the company plans to use in the production process and the amount actually used.

Identifying a significant material deviation requires a more thorough analysis of the production process. The company may find ways to improve its efficiency. Or perhaps it would be better to replace the materials with another product.

5️⃣ Labor costs account for a significant portion of any company’s expenses. Tracking deviations in labor costs is extremely important in order to notice the first signs of excessive growth in these costs in a timely manner.

6️⃣ It is equally important to control overhead costs, as they also have a significant impact on fixed costs. Monitoring overhead cost variances over time allows managers to identify potential problems that could negatively impact profits in a timely manner.

HOW DO YOU CONDUCT VARIANCE ANALYSIS STEP BY STEP?

Here are the steps you need to take to implement variance analysis and get the most out of it.

First, you need to collect two sets of data so that they can be compared. Budget data should already be available, as it was compiled in advance as part of operational planning. Then all that remains is to collect the actual data and compare it.

Next, determine the variances you want to monitor. Simply put, this means subtracting the actual figures from the estimates, although some types of variance analysis require a few additional steps before you arrive at the final figure.

Then, once you have identified a significant discrepancy, it is important to find out what caused it. Sometimes the answer will be obvious, but often you will have to dig a little deeper. Make sure you understand the root causes before moving on to the final step.

Finally, compile a report and be sure to include as much useful information as possible. Include both the source data and a detailed description of your research into any notable deviations. The goal is to create a document that will serve as a solid foundation for adapting your strategy. This report can be created manually, but many companies automate it with variance analysis software. 

HOW DO YOU CALCULATE VARIANCE ANALYSIS FIGURES (WITH FORMULAS AND EXAMPLES)?

The best way to understand how this all works is to look at a specific example of variance analysis. We will look at two different versions to illustrate this process.

Labor force variance

It consists of 2 elements: rate variance and efficiency variance. The following formula is used:

Use the following formulas to calculate individual components:

Suppose a Fintech company wants to calculate its total labor variance. It actually worked 3,000 hours per month at a rate of $20 per hour. It planned to work 2,500 hours at a rate of $15 per hour.

Variance type	Formula	Step 1	Step 2	Results
Rate variance	(3,000 × $20) − (3,000 × $15)	$60,000	$45,000	$15,000
Efficiency variance	(3,000 × $15) − (2,500 × $15)	$45,000	$37,500	$7,500
Total variance	$15,000 + $7,500	-	-	$22,500

The labor deviation is significant here, indicating that management may consider opportunities to reduce labor costs.

Overhead variances

At first, it may be a little difficult to understand overhead variances. Keep in mind that we are essentially assigning an average overhead cost per unit of production.

The unit of measurement can be a unit of production, or you can calculate it based on working hours. This concept is sometimes referred to as “absorption” – in other words, each individual unit is considered to “absorb” a portion of the total costs.

Basically, this metric reflects the difference between the amount absorbed into the cost of units actually produced and the actual cost of fixed overhead costs. The reason why this is a little more complicated than some other types of variance analysis is that the amount absorbed per unit will depend on how many units are actually produced.

Let’s break it down to see how it works. Here are the formulas we’ll need to do this:

Item	Inputs	Formula	Calculation	Result
Activity level (estimated)	10,000 hours	—	—	10
Estimated / standard rate	$20 per hour	—	—	$20
Fixed overhead cost (actual)	$220,000	—	—	$220,000
Standard hours	8,000 hours	—	—	8
Budgeted fixed overhead cost	10,000 hours; $20/hr	10,000 × $20	$200,000	$200,000
Budget variance	Actual: $220,000; Budgeted: $200,000	$220,000 − $200,000	$20,000	$20,000
Fixed overhead applied to inventory	8,000 hours; $20/hr	8,000 × $20	$160,000	$160,000
Volume variance	Budgeted: $200,000; Applied: $160,000	$200,000 − $160,000	$40,000	$40,000
Overall variance	Budget variance: $20,000; Volume variance: $40,000	$20,000 + $40,000	$60,000	$60,000

This is a fairly large difference in overhead costs, so management may consider looking for ways to allocate resources more efficiently.

WHERE ARE THE MOST COMMON CHALLENGES IN VARIANCE ANALYSIS?

Analyzing variances in finance and accounting can be useful, but it also comes with certain challenges. Here are some of the most common ones:

WHAT ARE THE BEST PRACTICES FOR BETTER VARIANCE ANALYSIS INSIGHTS?

To properly analyze financial variances, you need to follow a few key principles. Let’s take a look at them now.

Best practice	What it means	How to apply it (simple examples)
Communication and transparency	Establish an open practice of sharing deviation data and explanations. Do not only report “bad news”. Report everything consistently.	Set up a monthly review of variances. Ask teams to add brief notes to each significant variance (positive or negative).
Set clear performance metrics	Define the goals and key performance indicators associated with the deviations you are tracking.	If you monitor variances from purchase cost, also track purchase cycle time and invoice cost. If you monitor variances from labor cost, monitor billable hours and utilization.
Avoid “political” standard setting	Stick to realistic standards and budgets. Do not raise or lower your goals to make the results look better.	Use the same rules to set budgets for each cycle. Document assumptions. Review standards with finance and operations departments.
Monitor regularly	Variance analysis yields the best results when performed regularly rather than sporadically.	Analyze variances monthly (or after each sprint). Compare trends over several periods to identify recurring issues early on.

HOW CAN MWDN MODERNIZE YOUR VARIANCE ANALYSIS APPROACH?

Variance analysis works best when it is fast, consistent, and reliable. This is difficult to achieve with manual spreadsheets and data scattered across different tools.

MWDN can help modernize your entire workflow – from data collection to variance analysis reports and dashboards. We build and integrate solutions that connect your ERP, accounting, CRM, and BI systems, automate calculations, and identify the right variances early on. We can also implement variance analysis software capabilities into your existing stack so that finance and project teams spend less time hunting for numbers and more time executing on ideas.

If you want a clearer variance analysis cycle (plan → actuals → variances → explanations → actions) with fewer manual operations, MWDN can provide engineers and data specialists to help make it happen.

FAQs

What does variance analysis give us?

Variance analysis explains the magnitude of the corresponding fluctuations and the reasons for the changes. Most variances are caused by changes in volume, price, or efficiency, or a combination of these three factors. Sometimes variance analysis reveals errors in the data and can be a useful internal control tool.

What is flux analysis?

Flux analysis is the informal name for variance analysis, which in accounting and finance terminology is synonymous with variance analysis. Flux analysis compares two financial indicators, such as this month’s sales and last month’s sales, and then answers the questions “What has changed?” and “Why?”

How do you write a flux analysis?

A flux (or variation) analysis usually consists of columns that show two points of data being compared from left to right, along with their difference in dollars and the percentage change between them. As a general formatting rule, unfavorable variations are marked in red and/or parentheses, while favorable variations are marked in black without parentheses.

Is flux analysis the same as variance analysis?

Yes. In accounting and finance, flow analysis is the same as variance analysis. In other disciplines, flow analysis has a different meaning.

What is variance analysis in accounting?

Variance analysis in accounting is the study of changes between two points in financial data. Most often, actual results are compared to budgets, forecasts, or other time periods. The goal is to explain why the changes occurred in order to better inform future decisions.

What is variance analysis?

Variance analysis is a comparison of data that identifies changes and tells us why they occurred. It requires the ability to determine the causes and effects of changes, as well as the relationships between different accounts. It helps business managers better understand actual performance results.

What is an example of variance analysis?

A typical example of variance analysis is comparing actual results with planned results for a specific period. Such a comparison can reveal areas that do not match the plan and explain the reasons for this. Sometimes the reasons are positive, and sometimes they are negative.

What are some methods of variance analysis?

Variance analysis can be performed at the financial statement level by comparing actual income statements, balance sheets, and cash flow statements with their planned, forecasted, or prior counterparts. Another method of variance analysis involves focusing on changes in specific general ledger accounts, such as sales revenue, raw materials, or interest expense.

What is the purpose of variance analysis?

The purpose of variance analysis is to identify areas of the business that have changed and explain the reasons for those changes. Changes may be related to planned activities or other time periods. By identifying changes, investigating them, and providing useful explanations backed by data, managers can better understand business and operational performance to make informed decisions in the future.