Why a Flexible Budget May Be a Good Option for Your Business

This flexibility allows management to estimate what the budgeted numbers would look like at various levels of sales. Flexible budgets are prepared at each analysis period (usually monthly), rather than in advance, since the idea is to compare the operating income to the expenses deemed appropriate at the actual production level. A flexible budget is typically created by identifying the various costs and expenses that vary with changes in activity levels and calculating the expected cost or expense for each level of activity.

Advantages of Flexible Budgeting

With an understanding of inflation, you can adjust your budget accordingly and accordingly expect these fluctuations. Datarails’ budgeting and forecasting software can help your team create and monitor budgets faster and more accurately https://www.adprun.net/ than ever before. As a result, management estimates can be inaccurate, resulting in budget variations. Flexible budgeting works well for manufacturing companies or companies that have revenues based on seasonality for instance.

The 3 Levels of Flexible Budget

A flexible budget is more complicated, requires a solid understanding of a company’s fixed and variable expenses, and allows for greater control over changes that occur throughout the year. For example, suppose a proposed sale of items does not occur because the expected client opted to go with another supplier. In a static budget situation, this would result in large variances in many accounts due to the static budget being set based on sales that included the potential large client. A flexible budget on the other hand would allow management to adjust their expectations in the budget for both changes in costs and revenue that would occur from the loss of the potential client. The changes made in the flexible budget would then be compared to what actually occurs to result in more realistic and representative variance. This ability to change the budget also makes it easier to pinpoint who is responsible if a revenue or cost target is missed.

Fixed Budget vs. Flexible Budget: What’s the Difference?

If you have a fixed budget, you want to have an emergency savings account or — at the very least — a low-interest credit card. This can help you cover emergency expenses such as unforeseen car or home repairs. For example, Figure 7.24 shows a static quarterly budget for 1,500 trainers sold by Big Bad Bikes. For example, Figure 10.26 shows a static quarterly budget for 1,500 trainers sold by Big Bad Bikes.

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However, if your production of widgets is 200 per month, your variable admin costs would increase to $400. A flexible budget is one that takes into account your actual production and revenue rather than what you originally projected. This represents your best guess at what will be spent and what will be earned. A flexible budget is a budget that changes based on your actual production or revenue.

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As mentioned before, this model is a much more hands on and time consuming process requiring constant attention and recalibration. Flexible budgets work by taking the pressure off to predict future happenings. Now that you’ve mapped your numerous scenarios, it’s time to assign some budget numbers and parameters. This is more of an art than a science, but you should begin by prioritizing via a conservative budget and then layering on more convenient or superfluous expenses.

  1. Since the flexible budget restructures itself based on activity levels, it is a good tool for evaluating the performance of managers – the budget should closely align to expectations at any number of activity levels.
  2. Accountants enter actual activity measures into the flexible budget at the end of the accounting period.
  3. An organization requires the services of experts to prepare a flexible budget.
  4. Make sure the bulk of your extra income goes toward savings and investments.
  5. As it turns out, the ability to respond to the actual performance of your company can be useful for maintaining the status quo and for growing faster than expected.

Unlike a static budget, it adjusts your original budget projection in using your actual sales or revenue. Once you have created your flexible budget, at the end of the accounting period you will want to compare the flexible budget totals against actuals. This comparison allows you to make any future adjustments based on the flexible budget variance indicated in the comparison. Monitoring the budget at least monthly is essential to ensure that the budget is accurately reflecting the organization’s financial goals. This includes reviewing the budget to ensure that the expenses and revenue have been correctly categorized, and that there have been no unexpected expenses or changes in revenue. Checking that all the budget items are consistent over time is also important, as any missed item could have an impact on the budget.

In addition, a flexible budget can successfully justify increases in costs when compared to actual income. When we compare fixed and flexible budgets, we will discover the more applicable and useful ones. Even if a static or fixed budget is easy to prepare, ideally, it isn’t an excellent budgeting approach because fixed budgeting does not leave room for modifications.

By understanding the advantages and disadvantages of a flexible budget, businesses can make an informed decision about which budgeting approach is best for their needs. Some expenditures differ from revenue in terms of other activity indicators. If this is the case, these additional activity measurements can be incorporated into the flexible budget model. The first step is to analyze your company operations to identify your fixed costs and your variable costs.

Flexible budgets change based on fluctuations with variable costs and have the ability to expand or contract in real time. Flexible budgets have the ability to constantly restructure themselves depreciation of solar energy property in macrs around changes in activity. This adaptability allows flexible budgets to offer a precise picture of company performance, seeing as they’re always working with the most current data and details.

Let’s look at an example of a flexible budget to better understand how it works. Managers are busy and companies need to operate, spending too much time on developing a budget may not be feasible in all instances. In some companies, managers are evaluated based on their ability to ensure the business operations operate as close to the actuals. Its production equipment operates, on average, between 3,500 and 6,500 hours per month. For control purposes, the accountant then compares the budget to actual data.

Layered on top of that is a flexible budget system allowing for variable costs to fluctuate based on sales performance. A great deal of time can be spent developing step costs, which is more time than the typical accounting staff has available, especially when in the midst of creating the more traditional static budget. Consequently, the flex budget tends to include only a small number of step costs, as well as variable costs whose fixed cost components are not fully recognized. A flexible budget adjusts based on changes in actual revenue or other activities. The result is a budget that is fairly closely aligned with actual results.

Flexible budgets are efficient because they do all the work while you’re making the budget. While this results in a longer initial budget time, it makes for a much faster overall budgeting process, since you (ideally) don’t need to re-forecast scenarios or calculate new projections. Because you’ve planned for variances in the budget, you know exactly which path to follow to maintain the trajectory that’ll keep the company on plan. If you’re using a flexible budget, you want to be careful not to lose track of your budget and spend outside your means.

Flexible budget variance is any difference between the results generated by a flexible budget and actual results from following that budget. GOBankingRates’ editorial team is committed to bringing you unbiased reviews and information. We use data-driven methodologies to evaluate financial products and services – our reviews and ratings are not influenced by advertisers. You can read more about our editorial guidelines and our products and services review methodology. A flexible budget helps to recognize operational errors and inefficiencies. Therefore, a flexible budget is a great tool for correction and control.

Some companies have so few variable costs of any kind that there is little point in constructing a flexible budget. Instead, they have a massive amount of fixed overhead that does not vary in response to any type of activity. For example, consider a web store that downloads software to its customers; a certain amount of expenditure is required to maintain the store, and there is essentially no cost of goods sold, other than credit card fees. In this situation, there is no point in constructing a flexible budget, since it will not vary from a static budget. Actual revenues or other activity measures are entered into the flexible budget once an accounting period has been completed, and it generates a budget that is specific to the inputs. Flexible budgeting is the practice of creating and adjusting financial plans to adjust for real-world fluctuations in income, expenses, and other financial factors over time.


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