Personnel Dept Monthly Budget Report February

Cost code	Description	Budget	Actual	Variance	Budget	Actual	Variance
	Supervisors’ salary	£58,000	£65,000	£7,000 (A)	£116,000	£125,000	£9,000 (A)

Flexible Budgeting

Up to this point the budget has been fixed. This is quite appropriate for planning purposes but of little use for control purposes. The fixed budget does not respond to the actual level of activity. When organisations compile the master budget it is

based on a certain level of output and sales. In most instances, the company may find that this operating level is not set at the actual level of activity. Indeed most organisations find it difficult to forecast the actual level of activity eg. there may be a seasonal characteristic to the company’ trading. In such cases the business may find it more useful to prepare flexible budgets. A flexible budget is ‘designed to change in accordance with the level of activity attained’ (CIMA)

A fixed budget is not designed to change with different levels of activity. It does not allow for the pre-determination of costs and revenues at different levels of output which would facilitate comparison with actual costs and the identification of variances.

A flexible budget is designed to recognise cost behaviour at different levels of output so actual results can be compared with the expected results and the computation of variances and variance analysis is made possible.

Example:

A company produces garden furniture which experiences fluctuations in production levels because of its seasonal nature. The following costs for the budgeted level of activity of 20,000 units and the actual production costs fpr the period are given.

	Budget Costs (20,000 units)	Actual costs incurred (17,600 units)
	£	£
Materials - variable	21,000	20,000
Labour - variable	1,000
Maintenance - variable	3,000	2,680
Fixed production costs	10,000	10,000
Selling costs - fixed	5,000	6,000
	--------	--------
	40,000
	--------	--------

During the relevant period, the actual number of units produced was 17,600. You are required to prepare a budget flexed at the actual level of activity. In preparing the flexed budgets it is important to identify fixed and variable costs to forecast costs at different levels of activity.

	Actual costs	Flexed budget (17,600 units)	Variance
	£	£	£
Materials	20,000	18,480	1,520 (A)
Labour			100 (A)
Maintenance	2,680	2,640	40 (A)
Fixed productioon costs	10,000	10,000	-----
Selling costs	6,000	5,000	1,000 (A)
	-------	-------	-----------
	39,660	5,000	2,660
	--------	-------	----------

The variance report highlights that in respect to actual materials, labour, maintenance and selling costs, these are higher than expected. Management can examine and analyse the variances and take appropriate action.

Many businesses prepare fixed budgets for departments where expenditure may be more predictable such as the administration department. Flexible budgets can be compiled for those departments whose expenditure is closely linked to the level of operations such as the production department.

The Human Element in Budgeting

So far the emphasis has been on the technical aspects of budgeting viz. the preparation and administration of budgets. However, the behavioural context deserves mention. One of the main components of budgeting is control which is all about altering the behaviour of the human resources in the organisation. Consequently, there may be some staff who regard budgets as a constraint on their freedom and may try to subvert the effectiveness of the budget. How can senior management ensure that the budgeting system can be most effective?

Research findings assert that managers prefer to work towards achieving objectives which motivate them. It appears that motivation is the glue which holds the budgeting and control systems together so creating this motivation is the key. There appear to be a number of factors involved.