Should Budgets be Static or Flexible?

Static budgeting has the advantage of being relatively easy to develop, understand and use, but creates variances to actual results as circumstances change from those assumed when budgeting.

Flexible budgeting involves the planning of income and expense at varying levels of resource utilisation. This method has the advantage of recognising the fixed and variable aspects of costs and revenues, and provides a high level of control. It also allows the identification of rate and volume variances. It is, however, more complex to implement and more difficult to understand and maintain. It also provides a moving target for individuals and organisations as volumes and rates change.

Actual results can then be monitored and controlled against the budgets and forecasts through the use of profitability measurement and reporting. Flexible budgets make it easier to manage the impact of external factors, but harder to explain the results.

Flexible budgeting also helps cross-charging. Charges for shared services can be flexed in line with actual results to ensure usage matches cost.

Analysts expect accurate plans and forecasts, so perhaps a combination is the most appropriate answer.  An annual plan which is fixed, but monthly or quarterly forecasts (depending on the level of market volatility) which enable actual results to be compared with the changing market conditions.

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