Static Budget
A static budget, also known as a fixed budget, is a budget that does not change or adjust as volume or activity levels change. It’s established before a reporting period begins and remains unchanged regardless of actual activity during the period. The static budget is useful for comparison purposes because it allows organizations to compare actual results to the original budgeted amounts to identify variances and assess performance.
Key aspects of a static budget:
- Fixed Nature: Once established, the amounts in a static budget remain constant, regardless of fluctuations in activity levels during the budgeted period.
- Comparison and Analysis: The primary purpose of a static budget is to serve as a benchmark. By comparing actual results to the static budget, management can analyze variances to determine if the company performed better or worse than expected.
- Best for Fixed Costs: Static budgets are especially suitable for costs that don’t change with the level of production or sales, such as rent or salaries for permanent staff.
- Variance Analysis: Differences between actual results and the static budget are termed “variances.” Variances can be favorable (better than expected) or unfavorable (worse than expected). For example, if actual sales are higher than budgeted, this would be a favorable variance.
- Limitations: Since the static budget remains unchanged even when business conditions shift, it may not always provide the most actionable insights in environments with significant fluctuations or unpredictability.
For example, consider a manufacturer who creates a static budget expecting to produce 10,000 units of a product. The budget might include costs for raw materials, labor, overhead, and expected revenues based on a specific selling price. If the company ends up producing only 8,000 units, the static budget won’t change to reflect this reduced production. Comparing actual results to the static budget can highlight areas where costs were higher or lower than expected or where revenues missed the target.
In practice, while many businesses use static budgets for their simplicity and straightforwardness, they might also use flexible budgets (which adjust for changes in volume or activity) to get a more nuanced view of performance against expectations.
Example of a Static Budget
Let’s walk through a simplified example involving a hypothetical small business: a bakery.
Static Budget for ABC Bakery for the Month of January:
| Item | Budgeted Amount |
|---|---|
| Revenues | |
| Sales of Bread (1,000 loaves) | $5,000 |
| Sales of Cakes (500 cakes) | $2,500 |
| Total Revenues | $7,500 |
| Expenses | |
| Ingredients | $1,500 |
| Rent | $1,000 |
| Salaries | $2,500 |
| Utilities | $500 |
| Total Expenses | $5,500 |
| Net Profit | $2,000 |
Now, let’s assume the month of January has ended, and the actual results are in:
| Item | Actual Amount |
|---|---|
| Revenues | |
| Sales of Bread (800 loaves) | $4,000 |
| Sales of Cakes (600 cakes) | $3,000 |
| Total Revenues | $7,000 |
| Expenses | |
| Ingredients | $1,400 |
| Rent | $1,000 |
| Salaries | $2,500 |
| Utilities | $600 |
| Total Expenses | $5,500 |
| Net Profit | $1,500 |
Comparing the static budget to the actual results:
- Revenues: The bakery sold fewer loaves of bread but more cakes than anticipated. Total revenues were $500 less than budgeted.
- Expenses: Ingredient costs were $100 less than budgeted, likely because fewer loaves of bread were made. However, utility costs were $100 more than anticipated.
- Net Profit: The actual net profit was $500 less than the budgeted amount.
By comparing the static budget to actual results, the bakery can identify areas of over- or underperformance and adjust strategies accordingly. For instance, given the increased cake sales, the bakery might decide to produce more cakes in the coming months or consider potential reasons for the drop in bread sales.
