What is a Flexible Budget?
The term budget usually refers to a static budget which is produced at the start of the accounting period. It is a financial statement of where a business wants to go, it shows the financial outcome for the business based on its current intentions and level of output. The static budget can be thought of as a planned route to a chosen target destination.
A flexible budget on the other hand, can only be generated at the end of an accounting period and is based on the static budget adjusted to reflect the actual level of output of the business.
The purpose of the flexible budget is to allow the business to make actual versus budget comparisons after adjusting for variations in output level.
Flexible Budget Example
Suppose a business had budgeted sales of 1,000 units at a selling price of 9.00 and expenses of 4.00 per unit together with fixed operating expenses of 3,000. At the end of the period, actual sales are 800 units at a selling price of 9.20 with variable expenses of 3.90 per unit and fixed operating expenses of 2,800.
Initially, the actual results are compared to the static budget with the following calculations:
Static budget: Revenue = 1,000 x 9.00 = 9,000 Variable expenses = 1,000 x 4.00 = 4,000 Fixed expenses = 3,000 Actual: Revenue = 800 x 9.20 = 7,360 Variable expenses = 800 x 3.90 = 3,120 Fixed expenses = 2,800
And are presented in table format as shown below:
When the actual unit sales (800) are above or below the static budget (1,000) the comparison of static budget versus actual is not particularly meaningful. In this case the actual sales are lower than the static budget and therefore actual revenue and costs are always likely to be lower then the static budget.
The flexible budget versus actual comparison overcomes this problem by adjusting the static budget based on 1,000 sales units to a flexible budget based on 800 sales units as follows:
Flexible budget: Revenue = 800 x 9.00 = 7,200 Variable expenses = 800 x 4.00 = 3,200 Fixed expenses = 3,000 Actual: Revenue = 800 x 9.20 = 7,360 Variable expenses = 800 x 3.90 = 3,120 Fixed expenses = 2,800
And are again presented in table format as shown below:
Using the flexible budget we can see that for the given level of actual output (800 units), revenue was above budget, and both variable and fixed expenses were below budget.
For further information on the see the Wikipedia definition.
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