Skip to content

Cost Accounting · Standard Costing and Variance Analysis

Variance Reconciliation, Interrelationship and Disposal of Variances

Updated 10 October 2026 · Fact-checked

Variance reconciliation shows how standard or budgeted profit turns into actual profit by adding favourable variances and deducting adverse ones. Compute each variance, mark it F or A, adjust the standard profit, and check the result against actual profit. Related variances add up to their parent variance, which helps you find missing data.

Understand Variance Reconciliation, Interrelationship and Disposal

A variance is the difference between standard and actual. Each variance answers one question: price, quantity, rate, efficiency, spending or volume. One variance alone does not explain the whole profit gap. Management needs the full picture.

Reconciliation of profit gives that picture. You start with the standard (or budgeted) profit. You add every favourable (F) variance and deduct every adverse (A) variance. The result must equal the actual profit. If it does not, a variance is missing, wrongly computed or wrongly signed.

Interrelationship means variances are linked as parts of a whole. Material cost variance = price variance + usage variance. Usage variance = mix variance + yield variance. Labour cost variance = rate + efficiency + idle time. Because they add up, if you know the total and all parts but one, you can find the missing one. This is how missing-data questions work.

Controllability decides who answers for a variance. Price variances often come from the market or purchase department. Usage and efficiency variances usually sit with production. Variances from outside factors, such as a government price change, are uncontrollable. Investigate controllable variances first and by exception, meaning only when they are large or repeated.

Disposal is the accounting side. Variances are collected in variance accounts. At period end, small variances are usually transferred to the Costing Profit and Loss Account. Large ones that reflect a wrong standard may be spread over work-in-progress, finished goods and cost of sales. Abnormal variances, such as those from a strike or a fire, go to the Profit and Loss Account.

Key rules to remember

Profit reconciliation
Actual profit = Standard (budgeted) profit + Favourable variances − Adverse variances
Use the same costing basis throughout. Check that the closing figure equals the given actual profit.
Total cost variance
Cost variance = Standard cost of actual output − Actual cost
Positive is favourable and negative is adverse. So an adverse variance means Actual cost = Standard cost + the variance amount. For sales and profit, the sign logic is reversed: higher actual gives F.
Material variances
MCV = SC − AC; MPV = (SP − AP) × AQ; MUV = (SQ − AQ) × SP; MCV = MPV + MUV
SQ is the standard quantity for actual output. MUV = Mix variance + Yield variance when there is a mix.
Labour variances
LCV = LRV + LEV + Idle time variance; LRV = (SR − AR) × Actual hours paid; LEV = (SH − Actual hours worked) × SR; Idle time variance = Idle hours × SR (always A)
SH is the standard hours for actual output.
Variable overhead variances
VOH cost variance = Standard VOH for actual output − Actual VOH; Expenditure = (Std rate × Actual hours) − Actual VOH; Efficiency = (SH − Actual hours) × Std rate
Expenditure plus efficiency gives the cost variance.
Fixed overhead variances
FOH cost variance = Absorbed FOH − Actual FOH; Expenditure = Budgeted FOH − Actual FOH; Volume = Absorbed FOH − Budgeted FOH
Cost variance = expenditure + volume. Volume can be split into efficiency, capacity and calendar variances.
Sales margin variances
Sales margin variance = Actual profit − Budgeted profit; Price = (AP − SP) × AQ; Volume = (AQ − BQ) × Standard profit per unit
Price plus volume gives the margin variance. Under the margin method, volume is valued at standard profit per unit.
Disposal rule of thumb
Small variance: Costing P&L A/c. Significant variance from wrong standards: prorate to WIP, finished goods and cost of sales. Abnormal variance: P&L A/c
This is accepted practice, not a fixed formula. State your assumption when the question does not say.

How to solve Variance Reconciliation, Interrelationship and Disposal questions

Use this method for reconciliation, missing-data and disposal questions. Write each step on the page so you earn step marks even if one number is wrong.

  1. 1Read the question and note what is asked: reconciliation, a missing variance, or an accounting entry. Note the costing basis (marginal or absorption) and the sales method (margin or turnover).
  2. 2Write the standard figures for actual output first: standard quantity, standard hours, standard cost and standard profit per unit.
  3. 3Compute each variance with its formula and mark F or A next to it. Show the working in a small table.
  4. 4Check the interrelationships. Sub-variances must add up to their parent variance. This catches sign errors early.
  5. 5For reconciliation, begin with standard or budgeted profit, list favourable and adverse variances, and reach the closing profit. Compare it with the given actual profit.
  6. 6For missing data, set up the relationship, put in the known values and solve for the unknown. Then verify with a second variance.
  7. 7For disposal, say whether each variance is controllable and normal. Show the journal entry or the transfer to the Costing P&L Account, and give your reason.
  8. 8Add a one-line interpretation for the large variances, naming the likely cause and the department responsible.

Quickest way: Total-and-parts check

When to use it: Use it when time is short, or when the question gives some variances and asks for the rest, or asks for a reconciliation.

  1. Write the parent variance (for example, MCV) and list its parts under it.
  2. Plug in every known value and mark each as F or A. Treat F as plus and A as minus.
  3. Find the unknown as parent minus the known parts.
  4. For reconciliation, run a total of plus and minus items from the standard profit and compare it with the actual profit.
  5. If it does not match, recheck the sign of price and volume items first, since those are the commonest slips.

Common mistakes in Variance Reconciliation, Interrelationship and Disposal

  • Reversing the signs when adding variances to profit

    Students treat 'positive number' as favourable without checking the formula direction, especially for sales and profit variances.

    Fix: Always write F or A beside every variance. Add F, deduct A. Test: higher actual profit or lower actual cost means F.

  • Adding a separate fixed overhead volume variance under the margin method when profit is already at standard absorption

    Students add all variances they have learned. When production equals sales, the sales volume variance at standard profit already covers the volume effect.

    Fix: Assuming production equals sales, do not add a separate FOH volume variance. If production differs from sales, a FOH volume variance arises and must be included. Count each effect once, and check the basis of the standard profit before adding any variance.

  • Using actual hours paid for efficiency and actual hours worked for rate

    Idle time makes the two hours figures differ and students swap them.

    Fix: Rate variance uses hours paid. Efficiency variance uses hours worked. Idle time variance is idle hours × standard rate and is always adverse.

  • Calculating price variance on quantity used instead of quantity purchased

    Students ignore the stock movement given in the question.

    Fix: If price variance is isolated at purchase, use actual quantity purchased. Use quantity used for usage variance. Read the stock details first.

  • Writing every variance off to the Profit and Loss Account without comment

    It is the easiest entry, so students stop thinking about the cause.

    Fix: State whether the variance is small, large or abnormal, and dispose of it accordingly. Give the reason in one line.

  • Finding the missing variance from the wrong parent

    Students forget which variances belong together, for example putting mix variance directly under cost variance.

    Fix: Draw the tree: cost variance splits into price and usage, and usage splits into mix and yield. Solve level by level.

Worked examples

Example 1

Budgeted sales were 10,000 units at a standard price of ₹100 with standard profit ₹20 per unit. Actual sales were 9,000 units at ₹102. Variances: material price ₹12,000 A, material usage ₹5,000 F, labour rate ₹8,000 A, labour efficiency ₹3,000 F, variable overhead expenditure ₹2,000 F, variable overhead efficiency ₹1,000 F, fixed overhead expenditure ₹6,000 A. Assume production equals sales. Reconcile budgeted profit with actual profit, using the margin method and standard absorption costing.

Show the solution
  1. Budgeted profit = 10,000 × ₹20 = ₹2,00,000.
  2. Sales volume variance = (9,000 − 10,000) × ₹20 = ₹20,000 A.
  3. Sales price variance = (₹102 − ₹100) × 9,000 = ₹18,000 F.
  4. Production equals sales, so the volume effect of fixed overhead is already inside the sales volume variance at standard profit. No separate fixed overhead volume variance is added.
  5. Start with ₹2,00,000. Deduct ₹20,000 (volume). Add ₹18,000 (price). Result ₹1,98,000.
  6. Material: deduct ₹12,000 and add ₹5,000. Result ₹1,91,000.
  7. Labour: deduct ₹8,000 and add ₹3,000. Result ₹1,86,000.
  8. Variable overhead: add ₹2,000 and ₹1,000. Result ₹1,89,000.
  9. Fixed overhead expenditure: deduct ₹6,000. Result ₹1,83,000.

Answer: Actual profit = ₹1,83,000. The statement runs: Budgeted profit ₹2,00,000 − sales volume ₹20,000 A + sales price ₹18,000 F − material price ₹12,000 A + material usage ₹5,000 F − labour rate ₹8,000 A + labour efficiency ₹3,000 F + VOH expenditure ₹2,000 F + VOH efficiency ₹1,000 F − FOH expenditure ₹6,000 A = ₹1,83,000. Interpretation: the lower volume and the adverse input prices hurt profit, and the higher selling price recovered part of the loss.

Example 2

For a product, the standard cost of actual output of material is ₹40,000 at a standard price of ₹10 per kg. The material cost variance is ₹3,050 A and the material usage variance is ₹2,000 A. Find the actual quantity used, the actual cost, the actual price per kg and the material price variance. Then show the entries for the price variance if the material is purchased and stored at standard price. Assume the quantity purchased equals the quantity used.

Show the solution
  1. Standard quantity for actual output = ₹40,000 ÷ ₹10 = 4,000 kg.
  2. MCV = SC − AC = −₹3,050 (adverse), so AC = ₹40,000 + ₹3,050 = ₹43,050.
  3. MUV = (SQ − AQ) × SP. So −₹2,000 = (4,000 − AQ) × ₹10, which gives 4,000 − AQ = −200 and AQ = 4,200 kg.
  4. Actual price = ₹43,050 ÷ 4,200 = ₹10.25 per kg.
  5. MPV = MCV − MUV = ₹3,050 A − ₹2,000 A = ₹1,050 A.
  6. Check: (₹10 − ₹10.25) × 4,200 = ₹1,050 A. This matches.
  7. Assumption: the quantity purchased equals the quantity used, 4,200 kg. The question gives no separate purchase data.
  8. Entry on purchase at standard: Stores A/c Dr ₹42,000 (4,200 × ₹10); Material Price Variance A/c Dr ₹1,050; to Creditors ₹43,050.
  9. At period end, if the variance is small, transfer it: Costing P&L A/c Dr ₹1,050; to Material Price Variance A/c ₹1,050.

Answer: Actual quantity 4,200 kg; actual cost ₹43,050; actual price ₹10.25 per kg; material price variance ₹1,050 A. Because the variance is small and adverse, it is written off to the Costing Profit and Loss Account. If it were large because of a faulty standard, you would spread it over stock, work-in-progress and cost of sales.

Exam tips

  • Write a short table of variances with F or A before you start the reconciliation. Examiners award marks for each correct variance and for the final tally.
  • For missing-data questions, draw the variance tree first. It shows the relationship in seconds and prevents mixing parents and parts.
  • Always add a one-line cause or controllability comment to the large variances. Interpretation is often a separate mark.
  • In MCQs, check the sign before the value. Options are usually built from the same number with F and A swapped.
  • For journal entries, state your assumption (standard price at purchase or at issue) and keep it consistent through all entries.

Practice questions from Standard Costing and Variance Analysis

Variance Reconciliation, Interrelationship and Disposal in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Variance Reconciliation, Interrelationship and Disposal: frequently asked questions

How do I reconcile standard profit and actual profit?

Start with the standard or budgeted profit. Add every favourable variance and deduct every adverse variance. The closing figure must equal the actual profit. If it does not, recheck signs and whether a variance was counted twice or left out.

How do I find a missing variance?

Use the relationship between a parent variance and its parts. For example, material cost variance equals price plus usage variance. Put in the known values with F or A signs and solve for the missing one. Verify it with its own formula.

What are the methods of disposing of variances?

Small variances are normally transferred to the Costing Profit and Loss Account. Large variances caused by inaccurate standards may be spread over work-in-progress, finished goods and cost of sales. Abnormal variances go to the Profit and Loss Account. State the reason for your choice.

Which variances are controllable?

Usage, efficiency and expenditure variances are usually controllable by the responsible manager. Price variances caused by market movements or government action are usually uncontrollable. Controllability depends on the facts of each case, so name the cause in your answer.