A static budget is something of an educated guess in financial planning. As a common tool of managerial accounting, a static budget is typically used by organizations that have been granted a specific budget amount that they must work within, such as governments and nonprofit enterprises. However, cost variance can affect its viability.
A static budget is sometimes referred to as a master budget.
How Do Static Budget Variances Work?
A static budget is a fixed budget. It’s a forecast, and it doesn’t change throughout the budget period it’s designed for, regardless of actual sales or actual performance that can occur to affect the outcome of the period. It might be premised on 1,000 units being sold.
The budget would remain unchanged and unaffected should the organization fall short and sell only 750 actual units. A “variance” is that 250 number of units between the budget’s forecast and what actually occurs during the period in question. This type of budget is something of a planning tool.
Types of Static Budget Variances
A variance can’t be identified until the time period in question has come to a close.
Static Budget vs. Flexible Budget
A static budget is effectively carved in stone. It remains unchanged as actual revenue and actual spending unfold, whereas a flexible budget is tweaked to accommodate business activity as it occurs.
Static budgets are prepared in advance. A flexible budget is prepared after the period closes to reflect what actually occurred financially during that time.
In addition, a flexible budget differentiates between fixed costs, actual costs and actual expenses, variable expenses and variable costs. Flexible budget variances reflect the differences between actual results and the budget, and you can conduct a flexible budget variance analysis.
Static Budget vs. Actual Results
The numbers included in a static budget can be significantly different from actual results. But actual activity, also referred to as “actuals,” doesn't affect the budget even if the actuals vary greatly from what was originally expected.
Calculate Static Budget Variances: Example
- Calculate the budget variance. Subtract the actual data from the static budget to calculate the variance. Your budget variance would be $10,000 if you budgeted for sales volume of $100,000 but you only achieved $90,000. You can calculate each item’s variance if you have a breakdown of budget line items.
- Calculate the percentage variance. Divide the result of Step 1 by the budget to calculate the percentage variance. For example, dividing $10,000 by $100,000 would be 10 percent. Sales of $90,000 are, therefore, 10 percent shy of budget.
- Analyze and draw conclusions. Analyze the results from the previous steps to draw conclusions about the forecast.
Numbers that are significantly above or below expectations should be examined. Businesses use variance analyses to try to make more accurate predictions of future activity, and the revised expectations are shown in the forecast. The goal is accuracy whether you’re developing a budget or a forecast. Actuals will be compared against both the budget and the forecast after the forecast is developed.
What Does This Mean for Your Business?
Static budgets can be a valuable tool for tracking your business’s performance over time. Significant variances can be either a red flag or reason to break out that bottle of champagne.
A static budget can forecast the viability of expansion plans. Managers must work within that budget and cut costs, such as labor costs, going forward if the expense of expansion threatens to soar. A static budget can be indispensable for anticipating cash flow and controlling expenses, but some overhead costs and the cost of goods are fixed.
However, Rice University warns that using only a static budget and basing all business decisions upon one can be tricky, as this type of budget can be slippery. Income will be less than anticipated if production is decreased, and this type of budget doesn’t provide a means for determining whether the reduced cost of production was, therefore, appropriate. Sales might have been more significant if a higher cost limit on production was implemented. It might, therefore, be unfair to gauge a manager’s performance based upon static data.
- Be sure that you're making an "apples to apples" comparison. In other words, compare similar time periods and categories. For example, comparing January 2011 to August 2010 may not be appropriate; instead, compare it to January 2010.
Beverly Bird has been writing professionally for over 30 years. She is also a paralegal, specializing in areas of personal finance, bankruptcy and estate law. She writes as the tax expert for The Balance.