Managerial Accounting

Flexible Budget and Overhead analysis. Concepts and techniques preparation of flexible budgets. Difference between flexible budgets and static budgets

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Flexible Budget and Overhead analysis

Flexible Budgets and Static Budgets:

Flexible budgets take into account changes in costs that should occur as a consequence of changes in activity. A flexible budget provides estimates of what costs should be for any level of activity within a specifies range. When a flexible budget is used in performance evaluation, actual costs are compared to what the costs should have been for the actual level of activity during the period rather than to the budgeted costs from the original budget. If adjustments for the level of activity are not made, it is very difficult to interpret discrepancies between budgeted and actual costs.

A static budget is prepared at the beginning of the budgeting period and is valid for only the planned level of activity. A static budget is suitable for planning purposes, but it is in adequate for evaluating how well costs are controlled. If the actual activity during a period differs from what was planned, it would be misleading to simply compare actual costs to the static budget. If activity is higher than expected, variable costs should higher than expected and if activity is lower than expected variable costs should be lower than expected.

How a Flexible Budget Works:

The basic idea of the flexible budget approach is that a budget does not have to be static. Depending on the actual level of activity, a budget can be adjusted to show what costs should be for that specific level of activity.