1. Flexible Budgets and Performance Analysis

2. Learning Objectives Prepare a flexible budget
Explain the advantages of the flexible budget over the planning (static) budget
Use the flexible budget approach to prepare performance reports and analyze variances
Understand common errors in preparing performance reports

3. Planning Budgets and Performance Evaluation
The Budgets we studied previously are static in nature: based on a single, planned level of activity.
Performance evaluation using planning budgets is useless.
Hmm! Comparing actual revenue and costs with planning budgets is like comparing apples and oranges.

4. Planning Budgets and Performance Evaluation

5. Planning Budgets and Performance Evaluation

6. Planning Budgets and Performance Evaluation
U = Unfavorable variance Actual revenue is less than budgeted revenue.

7. Planning Budgets and Performance Evaluation
F = Favorable variance Actual costs are less than budgeted costs.
U = Unfavorable variance Actual costs are more than budgeted costs.

8. Planning Budgets and Performance Evaluation
Since most cost variances and income variance are favorable, have we done a good job?

9. Planning Budgets and Performance Evaluation
Actual activity is below budgeted activity.
So, shouldn’t revenue and costs be lower if actual activity is lower?
I don’t think I can answer the question using a planning budget.

10. Planning Budgets and Performance Evaluation
The relevant question is . . .
“How much of the variance is due to lower activity, and how much is due to good (or poor) performance?”
To answer the question, we must FLEX the budget to the actual level of activity.

11. Preparing a Flexible Budget
To prepare a flexible budget, we must:
choose the activity base(s) and determine the relevant range
know how revenue and costs behave within the relevant range in response to changes in activity
Recall that costs are classified as either variable or fixed
variable costs change in total in direct proportion to changes in activity
fixed costs remain unchanged in total within the relevant range
Variable
Fixed

12. Flexible Budgets and Performance Evaluation

13. ABC and Flexible Budget
Companies that use ABC system also use flexible budgets.
The difference between a company that uses ABC and one that does not lies in the number of flexible budgets that are prepared.
In particular, with ABC a flexible budget is prepared for each activity center.

14. Flexible Budgets and Performance Evaluation
Remember the question: “How much of the total variance (of $9,450 favorable income variance) is due to lower activity and how much is due to good or poor control?”

15. Flexible Budgets and Performance Evaluation
Variance Analysis
Let’s place the flexible budget for 8,000 Cards here.
Difference between original planning budget operating income and actual results = $9,450 F.

16. Flexible Budgets and Performance Evaluation
Variance Analysis
Activity
Control
This $18,000 U income variance is due to lower activity.
This $27,450 F income variance is due to good/poor control

17. Flexible Budgets and Performance Evaluation
These differences are called revenue and spending variance.
These differences are called activity variances.

18. Common Errors in Preparing Performance Reports
Comparing planning budget amounts to actual amounts
Assumes all revenue and costs are fixed
Adjusting all amounts on planning budgets proportionately and comparing them to actual amounts
Assumes all revenue and costs are variable