PMP Formulas – Cost Variance

I started taking Project Management course and I feel stuck at the formulas for the lack of business background, and instead of running away from it (IT IS REALLY SCARY!). I will face it by reading online materials and share it here (with proper citation) and hopefully will get feedback on whether I’m on the right track or not.

AccountingCoach costing is an important subtopic of cost accounting. Standard costs are usually associated with a manufacturing company’s costs of direct material, direct labor, and manufacturing overhead.

Rather than assigning the actual costs of direct material, direct labor, and manufacturing overhead to a product, many manufacturers assign the expected or standard cost. This means that a manufacturer’s inventories and cost of goods sold will begin with amounts reflecting the standard costs, not the actual costs, of a product. Manufacturers, of course, still have to pay the actual costs. As a result there are almost always differences between the actual costs and the standard costs, and those differences are known as variances.

Standard costing and the related variances is a valuable management tool. If a variance arises, management becomes aware that manufacturing costs have differed from the standard (planned, expected) costs.

If actual costs are greater than standard costs the variance is unfavorable.
An unfavorable variance tells management that if everything else stays constant the company’s actual profit will be less than planned.
If actual costs are less than standard costs the variance is favorable.
A favorable variance tells management that if everything else stays constant the actual profit will likely exceed the planned profit.

The sooner that the accounting system reports a variance, the sooner that management can direct its attention to the difference from the planned amounts.

I think the quality of this introductory paragraphs to Cost Variance is the reason why AccountingCoach is making it the first result when you Google accounting related keywords.

The concept of Cost Variance is explained as

Cost Variance (CV)
Concept: Provides cost performance of the project. Helps determine if the project is proceeding as planned
Formula: CV = EV – AC
Result Interpretation:
Negative = over budget = bad
Positive = under budget = good

This did not sound simple when I read it first, as someone who did not come from business background, I could not understand the formula without a scenario like the one provided by AccountingCoach.

I will try to make it a habit to post on issues that I see as problematic during my PMP training and share whatever I find.