Creating a flexible budget Accounting and Accountability

Last Updated on December 12, 2022 by Daniel Cooper

What Is Flexible Budget

But, this savings is inconsequential when compared to the production efficiency and inventory savings that results from using computerized flexible budgeting tools. As production volumes ramp up and down to meet customer demand, computerized flexible budgets are adjusted on a real-time basis to send signals throughout today’s modern organization.

A flexible budget is a tool used in the preparation of financial statements. It allows companies to prepare budgets under different scenarios to be adjusted for future projections.

Mary Girsch-Bock is the expert on accounting software and payroll software for The Ascent. Many or all of the products here are from our partners that pay us a commission. But our editorial integrity ensures our experts’ opinions aren’t influenced by compensation. Compensation may impact the order of which offers appear on page, but our editorial opinions and ratings are not influenced by compensation. Flexible budgets can be very useful, but they do have some downsides. Hearst Newspapers participates in various affiliate marketing programs, which means we may get paid commissions on editorially chosen products purchased through our links to retailer sites. Let’s face it – business moves fast, and we have to be flexible for what is thrown at us.

Sales Volume as a Measure of Activity of a Flexible Budget

However, when you calculate a flexible budget you leave room for unforeseen circumstances or emergencies. All of these budgets have to coincide with the gross margin of the company which is the profitability of the company. Variance Analysis provides useful information as each cost is analyzed according to its nature. Thus it becomes difficult for the experts to prepare Flexible budgets. In the case of a typical business, if it is newly started, it becomes tough to predict the demand for the products/services accurately.

  • You can work towards automating your budget since your expenses are directly tied to your revenue.
  • Let us consider the following information regarding the costs that are expected to be incurred by a company in the upcoming accounting period.
  • It does not consider the possible fluctuations or changes in the costs.
  • But this can be dealt with by putting a Flexible budget in place.
  • An inflexible household budget can lead to a lot of stress if an unexpected cost arises.
  • The budget shows the ways forward to achieve the goals proposed for next year’s financial year .

What adjustments does a company have to make in order to compare the actual numbers to budgeted numbers when evaluating results? If production is higher than planned and has been increased to meet the increased sales, expenses will be over budget.

Static Budget vs Flexible Budget

A limit or value is assigned to each line item, with the total amount of the budget coming to something less than the anticipated income for that same period. Ideally, the amount allotted for each budgetary item will be sufficient to cover all related expenses, and the income levels will be sufficient to allow the budget to stand as is.

Typically, the machine hours are between 4,000 and 7,000 hours per month. Based on this What Is Flexible Budget information, the flexible budget for each month would be $40,000 + $10 per MH.

Flexible budget definition

Leed Company’s manufacturing overhead cost budget at 70% capacity is shown below. Leed can produce 25,000 units in a 3 month period or a quarter, which represents 100% of capacity.

  • These points make the flexible budget an appealing model for the advanced budget user.
  • For example, whether the sales volume increases or decreases, the budgeted costs and expenses will remain the same.
  • The static budget may be inaccurate if the actual volumes vary from the projected volumes.
  • A flexible budget is a revised master budget that represents expected costs given actual sales.
  • Sales decline, but direct labor costs do not decline at the same rate, because management elected to retain the production staff.

Now, between 85% and 95% of activity level, its semi-variable expenses increase by 10%, and above 95% of activity level, they grow by 20%. Prepare a flexible budget for the three scenarios wherein the activity levels are 80%, 90%, and 100%. When preparing a Flexible budget, managers are forced to consider the different scenarios and their responses to them. Thus, for a number of different situations, managers will have calculated their costs and revenues. If an unexpected event does occur, changing the level of activity, the management will be better prepared. While even a static budget is better than no budget at all, creating a flexible budget provides a much clearer picture of revenues and production costs. If you own an ice cream shop, you know that the height of your business will be in the warm summer months.