What is a flexible budget?

define flexible budget

If you’re constantly monitoring, you can reallocate funds on the fly. Maybe you spent less on facilities than expected, but new tariffs mean manufacturing is not going to make its numbers. By investing what you would have spent on utilities and in-office food service on a one-time effort to find and sign on alternate suppliers, you set that team up for more predictable costs going forward.

define flexible budget

It’s also important to understand the concept of flexible budget variance. In simple terms, flexible budget variance means that there will likely be a difference between your forecasted expenses and your actual expenses. Therefore, you should always review your budget on occasion so that you can account for flexible budget variance with some degree of accuracy. In this method, you list all our income and expenditure items separately and then add them up to get our total income and expenditure.

Static Budget Definition, Limitations, vs. a Flexible Budget

Revenues and expenses are constantly adjusted in flexible budgets for current operating conditions. New environmental regulations might increase the costs of production and could require the purchase of different types of machines. Weather conditions could increase shipping costs and result in delayed shipments to customers. With static budgets, costs of operations and product profit margins are set at the start of the year, based on historical data.

What is the difference between flexible and fixed budget?

A fixed budget is a budget that doesn't change due to any change in activity level or output level. A flexible budget is a budget that changes as per the activity level or production of units. The fixed budget is static and doesn't change at all.

A static budget may be more inaccurate than a flexible budget if the actual volumes vary from the projected volumes. This could occur since it doesn’t consider current sales or other changes that could impact the company’s revenue. On the other hand, flexible budgets can vary and take these changes into consideration. At its simplest, the flexible budget alters those expenses that vary directly with revenues. There is typically a percentage built into the model that is multiplied by actual revenues to arrive at what expenses should be at a stated revenue level. In the case of the cost of goods sold, a cost per unit may be used, rather than a percentage of sales.

Flexible Budget Vs Static Budget: Pros and Cons

The formula for calculating a fixed budget is rather simple and straightforward. First, you determine your fixed costs, and then you add the variable costs for each unit of activity multiplied by the number of units of each activity or purchase. The ability to provide flexible budgets can be critical in new or changing businesses where the accuracy of estimating sales or usage my not be strong. For example, organizations are often reporting their sustainability efforts and may have some products that require more electricity than other products. The reporting of the energy per unit of output has sometimes been in error and can mislead management into making changes that may or may not help the company. While flexible budgets are often used for manufacturing overhead, they’re also pretty common for SaaS businesses.

It might be a price increase or an effort to find cost savings in manufacturing expenses. The table below shows that Lobster Instant Noodles sold 7000 less units and instead of making a budgeted $42,500 of profit, instead made just $900. Of course, if you sell 18,000 less units, you would expect profit to be less – this is where the flexible budget comes in.

Leave a Reply

Your email address will not be published. Required fields are marked *