1、Author: Alton Shader, James Baker,Variance Analysis,March 1998,2,Agenda,What is variance analysis? Linear variance Ice Cream Co. Two component variance analysisJesses Brewery Variance analysis with more than two componentsBoston Video Key takeaways,3,What is Variance Analysis?,Variance analysis is u
2、sed to understand and assess the drivers of change in measured variables.,Variance analysis helps explain and understand what drives the difference between two measures of the same variable (e.g., 1998 profit vs. 1995 profit) Variance analysis explains differences between measures by breaking those
3、measures into their base components (e.g., 1998 revenue and 1998 OPEX as components of 1998 profit) and quantifying the impact of each component Bain frequently uses variance analysis to quantify and identify true profit drivers help drive future analysis on the most leveraged issues,4,The Value of
4、Variance Analysis,Why do we need to perform variance analysis?,Gives business insight as to what drives revenue/cost/ profit,Leads to actions,Bain uses variance analysis to gain business insight and to identify the most effective and valuable action steps.,Why does profit change? What driver has the
5、 most impact? What explains differences in relative cost position?,Used to determine product line profitability Identifies areas of focus for cost reduction Indicates impact of lowering price Drives customer segmentation strategies,5,Definitions in Variance Analysis,Most situations fall into one of
6、three categories of variance analysis.,Description:,Two Component,Understanding individual impact of two variable on a single measure,Linear,Simple comparison of one component against another,More than Two Component,Understanding individual impact of more than two variables on a single measure,Examp
7、le:,1998 revenue increases driven by 1998 price increase and unit sales,1990 total cost per unit versus 1995 total cost per unit,Differences in customer revenue driven by number of transactions, product mix and other fees,6,Agenda,What is variance analysis? Linear variance Ice Cream Co. Two componen
8、t variance analysisJesses Brewery Variance analysis with more than two componentsBoston Video Key takeaways,7,Situation:,Orit and Toms Ice Cream Co. produce ice cream which they sell in gallon-sized containers at supermarkets around the country They have tracked their cost to produce ice cream per g
9、allon over time and have seen it decline over five years by 25%,Question:,What has driven costs downward? What might Orit and Tom focus on to achieve better cost savings going into the future?,Linear Variance Example (Ice Cream Co.),8,1995,1990,Variance,Production costs: (includes sales, labor, admi
10、n),$220,500,$210,000,$10,500,Raw materials costs:,$63,000,$60,000,$3,000,Advertising expenses:,$31,500,$30,000,$1,500,Total gallons sold:,70,000,50,000,20,000,Linear Variance Example,9,Unit production costs:,$3.15,$4.20,($1.05),Unit raw materials costs:,$0.90,$1.20,($0.30),Unit advertising costs:,$0
11、.45,$0.60,($0.15),Total per unit costs:,$4.50,$6.00,($1.50),1995,1990,Variance,Linear Variance Example (Variance per Gallon),10,Thorough Bain analysis of the data allocated the reduced costs into three components.,Linear Variances Example (Ice Cream Co.),11,Linear Variances Example,Management of Ice
12、 Cream Co. appears to have enjoyed increasing economies of scale, particularly relating to production costs, which have driven costs downward Orit and Tom might want to focus in the future on gaining even greater leverage in managing production costs as production volume increases,12,Agenda,What is
13、variance analysis? Linear variance Ice Cream Co. Two component variance analysisJesses Brewery Variance analysis with more than two componentsBoston Video Key takeaways,13,Situation:,Jesses Brewery produces high-quality beers which it sells in cases In the past year, Jesses Brewery has experienced 1
14、5% revenue growth. During the same time, sales volumes and prices have both increased,Question:,Jesses Brewery would like to understand what percent of the revenue increase comes from the increase in sales volumes, and what percent from the increase in price,Two Component Variance Example - Jesses B
15、rewery (1 of 6),14,Two Component Variance Example - Jesses Brewery (2 of 6),Case Price:,Cases Sold:,$18.20,$20.00,9.7MM,10.2MM,What percent of the $27MM increase in revenue is due to the price increasing? the volume sold increasing? both the price and volume sold increasing? this is covariance, wher
16、e part of the variance is not easily attributable to a single variable,15,Volume,1998 Revenue,$203.5MM,1997 Revenue,Price,Variance,(Part of,revenue,change,attributable to,price),$18.20,(1997),$20.00,(1998),10.2MM,(1998),9.7MM,(1997),Price,Volume Variance,(Part of revenue change,attributable to volum
17、e),Covariance,(part of revenue,change attributable,to change in both,volume and price),The best way to approach variance analysis problems is to use the rectangle diagrams to intuitively understand how the changes in the two variables account for the change in the overall quantity.,Two Component Var
18、iance Example - Jesses Brewery (3 of 6),16,Volume,1998 Revenue,(P2 x V2),1997 Revenue,(P1 x V1),Price,Variance,(Part of,revenue,change,attributable to,price),P1,(1997),P2,(1998),V2,(1998),V1,(1997),Price,Volume Variance,(Part of revenue change,attributable to volume),Co-,variance,Step 1:,Volume Vari
19、ance,= (V2 -V1) x P1,Step 2:,Price Variance,= (P2 -P1) x V1,Step 3:,: Covariance,= (V2 - V1) x (P2 - P1),Step 4:,Allocate covariance,to volume and price variance,based on the proportion of the,total for each variance,-e.g., if:,volume variance = $2M,price variance = $1M,covariance = $.5M,then 66.7%
20、of $.5 is,added to the volume and,33.3% is added to the price,A four-step process leads to the solution.,Two Component Variance Example - Jesses Brewery (4 of 6),17,Jesses Brewery,1997,Variance,Data,Price per case,$18.20,$1.8,Number of cases sold (in MM),9.7,.5,Revenues (in $MM),$176.5,$27.0,Step 1:
21、,Price Variance,$17.0,Step 2:,Volume Variance,$9.1,Step 3:,Covariance,$0.9,Revenue variance excluding covariance,$26.1,Proportions for assigning covariance,Price,Volume,Assignment of covariance,to Price Variance,$0.6,to Volume Variance,$0.3,Adjusted Variances,Price Variance,Volume Variance,(P1),(P2
22、- P1),(V1),(V2 - V1),$176.5 (P1 x V1),(193.5 - 176.5),(185.6 - 176.5),(P2-P1)x(V2-V1),(17.0+9.1),(0.9x65%),(0.9x35%),63%,34%,3%,65%,35%,(17.0/27.0),(9.1/27.0),(0.9/27.0),(17.0/26.1),(9.1/26.1),$176.5 (P1 x V1),1998,$20.00,10.2,$203.5,(P2),(V2),$185.6 (V2 x P1),$193.5 (P2 x V1),$17.6,$9.4,(17.0+0.6),
23、(9.1+0.3),Variance %,Here is an example of an annotated spreadsheet to determine variance.,Two Component Variance Example - Jesses Brewery (5 of 6),18,Price variance:,Volume variance:,Covariance:,$17.0MM,$9.1MM,$0.9MM,Proportions are,65%,35%,65%,35%,to price variance,$0.6MM,to volume variance,$0.3MM
24、,+,+,$17.0MM,$17.6MM,Price,$9.1MM,$9.4MM,Volume,Total variances:,(65%),(35%),If price and volume variances are calculated correctly, then we,can take their proportions to allocate covariance.,Two Component Variance Example - Jesses Brewery (6 of 6),19,Negative Covariance,14.7,new,(1998),9.7,(1997),$
25、18.20,(1997),$17.00,new,(1998),Volume,Price,Even if one variable decreases, the formula applies the same way. The,only difference is that price variance and covariance turn negative.,Volume,= (14.7-9.7) x $18.20,Price,= ($17.00-$18.20) x 9.7,=,=,$91.0 MM,- $11.6 MM,Covariance,= (14.7-9.7) x ($17.00-
26、$18.20),=,- $6.0 MM,$73.4 MM,Total Variance,In some situations one variable may fall as the other rises.,The formula for covariance does not change.,20,Negative Covariance,To summarize, the methodology does not change in calculating negative covariance.,21,Agenda,What is variance analysis? Linear va
27、riance Ice Cream Co. Two component variance analysisJesses Brewery Variance analysis with more than two componentsBoston Video Key takeaways,22,More Than Two Component Variance Example,Situation:,Boston Video is a chain of video rental stores in the Northeast U.S. In addition to renting video movies
28、 and games, the stores sell a variety of movie-related items (popcorn, candy, film magazines). They also get money for late fees Bain has been hired to help Boston Video segment its customer base and understand what drives the differences in spending patterns between segments,Question:,What variable
29、s impact revenue per customer? What is the overall variance by customer type? What are the breakdowns of that variance by customer type? What should Bain focus on improving?,23,11,411 customers,74K transactions,$441K,Customers were segmented into 3 groups. “A” customers represent only 20% of Bostons
30、 customer base but generate 50% of store transactions and 60% of revenue.,A, B, & C Customers Data,How might you frame an analysis to understand a lot impacts revenues per customer?,More Than Two Component Variance Example,24,Revenue Drivers Framework,The differences in customer spending levels betw
31、een segments can be identified and isolated into two broad categories.,Number of Transactions,Late Fees and Other,Quantity,Product Mix,Revenue per Transaction,More Than Two Component Variance Example,25,Number of Transactions,Revenue per Transaction,The following data was made available about custom
32、er habits.,Customer Segmentation,More Than Two Component Variance Example,26,Revenue Per Customer Per Month,“A” customers spent on average 2.6x the average “B” customer and nearly 10x the average “C” customer.,$11.82,$17.02,Customer segment:,More Than Two Component Variance Example,2.76 x $6.89,1.29
33、 x $5.38,0.45 x $4.45,27,Drivers of Variance,How would you complete this slide showing the split between the two variance drivers?,More Than Two Component Variance Example,28,This spreadsheet details the calculations necessary to compute the variances and covariance for transactions and revenue per
34、customer.,Sample Spreadsheet,More Than Two Component Variance Example,29,Sample Spreadsheet,More Than Two Component Variance Example,30,Now suppose the client wants to further understand what drives revenue per transaction. How would you complete this slide showing the split between the three revenu
35、e per transaction variables?,Customer segment:,More Than Two Component Variance Example,Revenue Per Transaction Sources of Variance,Variance Analysis (Revenue per Transaction),31,Sample Spreadsheet,This spreadsheet further allocates revenue per transaction variance into types of product purchased.,M
36、ore Than Two Component Variance Example,32,Variance analysis showed that the primary difference between customer segments was how often they came to the store. Over 70% of the variance between A customers and the others was explained by transaction frequency.,Drivers of Variance,26%,74%,70%,30%,More
37、 Than Two Component Variance Example,33,Revenue per transaction analysis was not very telling.,Customer segment:,Revenue per Transaction Sources of Variance,Variance Analysis (Revenue per Transaction),34,Summary,What drives A customer behavior is the number of transactions they complete so, Bain nee
38、ds to help improve the frequency of transactions of B and C customers (assuming that A customers continue to remain loyal and that a retention strategy is therefore not the most leveraged work),35,Agenda,What is variance analysis? Linear variance Ice Cream Co. Two component variance analysisJesses B
39、rewery Variance analysis with more than two componentsBoston Video Key takeaways,36,Key Takeaways,Variance analysis is a simple way of breaking down changes in a,variable into their component parts, to yield business insight,Know how to set up a spreadsheet and variance analysis becomes,straightforw
40、ard,Often we only look at two components at a time,The basic approach is to change only one variable at a time and,observe the effect on the total,Covariance explains the amount of variance that is attributable to,the change of both variances (as opposed to one) and is normally,split between variables in proportion to their variances,37,Sample Spreadsheet,
