5 Whys for Variance Analysis

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5 Whys for Variance Analysis

• Presented byKevin Close and Jeni Halpern

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Requirements

• OMB Circular A-136 requires an analysis of
  significant variances along with quarterly
  financial statements and annually as part of
  Managements Discussion and Analysis.
• The analysis should include managements
  explanation of significant variances in assets,
  liabilities, costs, revenues, obligations and
  outlays.

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Requirements

• USDA defines a significant variance as greater
  than 10 and 100 million for consolidated and
  greater than 10 and 25 million for components.

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Types of Variances

• Variances may result from a program change, a
  change in estimate, a change in accounting
  principle, and an error.

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Types of Variances

• Program change e.g. a change in budget
  authority.
• Change in estimate A revision of an accounting
  measurement based on the occurrence of new
  events, additional experience, subsequent
  developments, better insight and improved
  judgment.

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Types of Variances

• Change in accounting principle A switch from
  one generally accepted accounting principle to
  another generally accepted accounting principle,
  including the methods of applying the principles.
• Error Mathematical mistakes, mistakes in the
  application of accounting principles, or
  oversight or misuse of facts that existed at the
  time the financial statements were prepared.

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Managements Explanation of Significant Variances

• Managements explanation of significant variances
  must explain why the variance occurred.

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Managements Explanation of Significant Variances

• What do the following explanations tell us?
• Variance Other assets decreased.
• Explanation Funds were advanced in FY 2006 but
  not in FY 2007.

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Managements Explanation of Significant Variances

• Variance Gross costs increased.
• Explanation Expenses were higher in the second
  quarter of FY 2007 than they were in FY 2006.

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Managements Explanation of Significant Variances

• Variance Obligations incurred decreased.
• Explanation FY 2006 obligations exceed the
  amount recorded for FY 2007 for the same period.

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Managements Explanation of Significant Variances

• Variance Net outlays decreased.
• Explanation The decrease in net outlays is a
  result of smaller disbursements in FY 2007 as
  compared to the large disbursements which
  occurred in FY 2006.

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Managements Explanation of Significant Variances

• These explanations dont tell us very much.
• Why were funds advanced in FY 2006 but not in FY
  2007?
• Why were expenses higher in the second quarter of
  FY 2007 than they were in FY 2006?

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5 Whys for Variance Analysis

• What is 5 Whys?

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5 Whys for Variance Analysis

• The 5 Whys is a question asking method used to
  explore the cause/effect relationship underlying
  a particular problem.
• Ultimately, the goal of applying the 5 Whys
  method is to determine a root cause of a problem.

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5 Whys for Variance Analysis

• The following example demonstrates the basic
  process.
• My car will not start. (the problem)
• Why? The battery is dead. (first why)
• Why? The alternator is not functioning. (second
  why)
• Why? The alternator is broken beyond repair.
  (third why)

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5 Whys for Variance Analysis

• Why? The alternator is well beyond its useful
  service life and has never been replaced.
  (fourth why)
• Why? I have not been maintaining my car
  according to the recommended service schedule.
  (fifth why, root cause)
• Why? The recommended service schedule is usually
  not reliable and auto shops are not trustworthy.
  (sixth why, true root cause)

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5 Whys for Variance Analysis

• Generally, asking why five times is sufficient to
  get to a root cause. Sometimes it may take only
  two or three whys, sometimes it may take more
  than five.

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5 Whys for Variance Analysis

• How can we use the 5 Whys method for variance
  analysis?

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5 Whys for Variance Analysis

• Replace the problem with the variance.
• Ask why the variance happens.
• If the answer doesnt identify the root cause of
  the variance, ask why again.

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5 Whys for Variance Analysis

• The following example demonstrates the basic
  process
• Costs have doubled from the same period last
  year. (the variance)
• Why? The costs in the Food Stamp Program
  increased. (first why)
• Why? The Congress appropriated more funds.
  (second why)

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5 Whys for Variance Analysis

• Why? The number of eligible participants
  doubled. (third why)
• Why? The unemployment rate is high. (fourth
  why, root cause)
• Why? The economy is in a recession. (fifth why,
  true root cause)

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5 Whys for Variance Analysis

• Use what you learn from asking why to explain the
  variance.

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5 Whys for Variance Analysis

• Variance Costs have doubled from the same
  period last year.
• Explanation Congress appropriated more funds
  for the Food Stamp Program to serve a greater
  number of eligible participants due to higher
  unemployment and unfavorable economic conditions.

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5 Whys for Variance Analysis

• Questions?

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Why? Why? Why? Why? Why?

• June 4 6, 2007