Chapter 9

FLEXIBLE BUDGETS AND

PERFORMANCE ANALYSIS

PowerPoint Authors:
Susan Coomer Galbreath, Ph.D., CPA
Charles W. Caldwell, D.B.A., CMA
Jon A. Booker, Ph.D., CPA, CIA

McGraw-Hill/Irwin Copyright © 2011 by the McGraw-Hill Companies, Inc. All rights reserved.
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2

Characteristics of Flexible Budgets

Hmm! Comparing
static planning budgets
Planning budgets with actual costs
are prepared for is like comparing
a single, planned apples and oranges.
level of activity.
Performance
evaluation is difficult
when actual activity
differs from the
planned level of
activity.
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3

Characteristics of Flexible Budgets

May be prepared for any activity

level in the relevant range.

Show costs that should have been

incurred at the actual level of
activity, enabling “apples to apples”
cost comparisons.

Help managers control costs.

Improve performance evaluation.

Let’s look at Larry’s Lawn Service.
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4

Deficiencies of the Static Planning

Budget
Larry’s
Larry’s Lawn
Lawn Service
Service provides
provides lawn
lawn care
care inin aa planned
planned
community
community where
where allall lawns
lawns are
are approximately
approximately the the same
same size.
size.
At
At the
the end
end ofof May,
May, Larry
Larry prepared
prepared his his June
June budget
budget based
based onon
mowing
mowing 500500 lawns.
lawns. Since
Since all
all of
of the
the lawns
lawns are
are similar
similar in
in size,
size,
Larry
Larry felt
felt that
that the
the number
number of of lawns
lawns mowed
mowed in in aa month
month would
would
be
be the
the best
best way
way toto measure
measure overall
overall activity
activity for
for his
his business.
business.

Larry’s Budget
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5

Deficiencies of the Static Planning

Budget
Larry’s Actual Results Compared with the Planning Budget
 9-6
6

Deficiencies of the Static Planning

Budget

 The
The relevant
relevant question
question is
is .. .. ..
“How
“How much
much ofof the
the cost
cost variances
variances is
is due
due to
to higher
higher
activity,
activity, and
and how
how much
much is
is due
due to
to cost
cost control?”
control?”

 To
To answer
answer the
the question,
question,
we
we must
must
the
the budget
budget toto the
the
actual
actual level
level of activity..
of activity
 9-7

How a Flexible Budget Works

To a budget we need to know that:

◦ Total variable costs change
in direct proportion to
changes in activity.
◦ Total fixed costs remain ble
unchanged within the ar ia
V
relevant range. Fixed
 9-8
8

Revenue and Spending Variances

Now, let’s use budgeting

concepts to compute revenue and
spending variances for Larry’s Lawn
Service.
 9-9

Revenue and Spending Variances

Larry’s Flexible Budget Compared with the Actual Results
$1,750 favorable
revenue variance
 9-10

Revenue and Spending Variances

Larry’s Flexible Budget Compared with the Actual Results
Spending
variances
 9-11
11

A Performance Report Combining Activity and

Revenue and Spending Variances

Now, let’s use budgeting

concepts to combine the revenue and
spending variances reports for Larry’s
Lawn Service.
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A Performance Report Combining Activity and

Revenue and Spending Variances
 9-13
13

Customer Profitability Analysis

Studies have shown that only 20 percent of a

company’s customers contribute to profits and
the remaining 80 percent generate losses.
Moreover, with increasing importance of
customer satisfaction and market-oriented
strategy, the costs of marketing and distribution
have been increasing rapidly in recent years.
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14

Customer Profitability Analysis

Customer profitability analysis is an approach to
cost management that identifies the costs and
benefits of serving specific customers or
customer types to improve an organization’s
overall profitability.
Just as ABC can reveal product profitability,
customer profitability analysis based on the ABC
information can identify profitable and
unprofitable customers.
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15

Customer Profitability Analysis

Once profitable and unprofitable customers are
identified, specific customer-related actions can be
taken to improve the company’s overall profitability.
•Determine the activities, costs, and profit associated
with serving specific customers.
•Investigate why some customers are less profitable
than others.
•Take appropriate actions.
Do nothing.
Drop unprofitable customers.
Increase efficiency serving unprofitable customers.
Help unprofitable customers reduce certain
activities.