What is a static budget variance?
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A static budget uses anticipated activity in its estimations, and doesn't change during the period of time the budget covers, regardless of what actually happens. Actual activity, also called actuals, doesn't affect the budget, even if the actuals vary greatly from what was originally expected. Finance managers spend a great deal of time examining the differences between the static budget and the actuals, and this is called variance analysis. Calculating the variance, and the percentage variance from budget, is easy; however, understanding the reasons behind the variance is more complex. Show
Subtract the actual data from the static budget to calculate the variance. For example, if you budgeted $100,000 in sales but you only achieved $90,000, your budget variance is $10,000. If you have a breakdown of budget line items, you can calculate each item's variance. This is best accomplished on a spreadsheet, where multiple calculations can be performed simultaneously and automatically. Divide the result from Step 1 by the budget to calculate the percentage variance from budget. For example, dividing $10,000 by $100,000 is 10 percent; sales of $90,000 are 10 percent shy of budget. Depending on preference, you can alter the formula to show shortfalls as negative percentages. Alternatively, you can program the spreadsheet to show in red ink numbers that are below expectations, which is commonly called in the red. Positive numbers are in the black. Analyze the results from Step 1 and Step 2 to draw conclusions about the forecast. Numbers that are significantly above or below expectations must be examined. Businesses use variance analyses to try to make more accurate predictions of future activity. The revised expectations are shown in the forecast. Whether developing a budget or a forecast, the goal is accuracy. After the forecast is developed, actuals will be compared against both the budget and the forecast. Tips
A static budget is a budget in which the amounts will not change even with significant changes in volume. In contrast to a static budget, a company's sales department might have a flexible budget. In the flexible budget, the sales commissions expense budget would be stated as a percentage of sales. Example of a Static BudgetAssume that a company's annual budget is a static budget. In this static budget is a line "sales commissions expense budget $200,000." This means that the budget for sales commissions expense will be $200,000 whether the actual sales for the year are $2 million, $4 million or $8 million. [In contrast, a flexible budget for sales commissions expense might be expressed as 5% of sales. This means that the budget for sales commissions expense will flex with sales volume. When sales are actually $2 million, the flexible budget for sales commissions will be $100,000. When sales are actually $4 million, the flexible budget for sales commissions will be $200,000. When sales are actually $8 million, the flexible budget for sales commissions will be $400,000.] A static budget is a budget that does not change with variations in activity levels. Thus, even if actual sales volume changes significantly from the expectations documented in the static budget, the amounts listed in the budget are not changed. This budget format is the simplest and most commonly used budgeting format. The static budget is used as the basis from which actual results are compared. The resulting variance is called a static budget variance. Static budgets are commonly used as the basis for evaluating both sales performance and the ability of cost center managers to maintain control over their expenditures. Advantages of a Static BudgetA static budget model is most useful when a company has highly predictable sales and expenses that are not expected to change much through the budgeting period (such as in a monopoly situation). In these situations, a static budget is quite useful for monitoring how well a business is doing against expectations. Disadvantages of a Static BudgetIn more fluid environments where operating results could change substantially, a static budget can be a hindrance, since actual results may be compared to a budget that is no longer relevant. Also, a static budget may not be effective in certain situations for evaluating the performance of cost centers. For example, a cost center manager may be given a large static budget, and will make expenditures below the static budget and be rewarded for doing so, even though a much larger overall decline in company sales should have mandated a much larger expense reduction. The same problem arises if sales are much higher than expected - the managers of cost centers have to spend more than the amounts indicated in the baseline static budget, and so appear to have unfavorable variances, even though they are simply doing what is needed to keep up with customer demand. Static Budgets vs. Flexible BudgetsA common result of using a static budget as the basis for a variance analysis is that the variances can be quite substantial, especially for those budget periods furthest in the future, since it is difficult to make accurate predictions for more than a few months. These variances are much smaller if a flexible budget is used instead, since a flexible budget is adjusted to take account of changes in actual sales volume. Example of a Static BudgetABC Company creates a static budget in which revenues are forecasted to be $10 million, and the cost of goods sold to be $4 million. Actual sales are $8 million, which represents an unfavorable static budget variance of $2 million. The actual cost of goods sold is $3.2 million, which is a favorable static budget variance of $800,000. If the company had used a flexible budget instead, the cost of goods sold would have been set at 40% of sales, and would accordingly have dropped from $4 million to $3.2 million when actual sales declined. This would have resulted in both the actual and budgeted cost of goods sold being the same, so that there would be no cost of goods sold variance at all. What does a static budget mean?A static budget is a budget that uses predicted amounts for a given period prior to the period beginning. The unique aspect of a static budget is that it does not change regardless of deviations in revenue and expenses.
How do you interpret a static budget variance?Understanding the term: Static Budget Variance
The budget figures in a static budget do not change despite the fluctuations in a company's revenue or any other factors of production. Or, we can say that the actual performance of a period does not impact the budgeted numbers.
What is the difference between static and actual budget?The static budget uses the original volume forecasted, while the flexible budget is updated for the actual volume. For example, if during May Year 1, the company budgeted 10,000 units, but actually sold 12,000 units, then the static budget would use 10,000 units and the flexible budget would use 12,000 units.
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