Discussion:Comparative Analysis - Prior Year, Budget, or Both?

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Discussion Forum Index --> Accounting Questions --> Comparative Analysis - Prior Year, Budget, or Both?

MJG2112 (talk|edits) said:

9 May 2013

We establish P&L budgets based upon the prior year where the CY budget = pct +- $ change in the case of revenue & fixed costs, pct +- change in the case of variable costs. The purpose of the budget is to define strategic objectives in form of short-term profitability / cash flow and long-term market positioning. Furthermore, the budget is intended to quantify management's / ownerships' vision into obtainable numeric goals.

One tool that has been deemed instrumental in the obtainment of budget goals is a weekly flash report that compares revenue and key budgeted controllables to budgeted expectations on a weekly and period-to-date format.

Question: There is a push from certain managers that the flash reports include a prior year to current period variance analysis in addition to a budget to current period analysis. I am reluctant to do this for fear that financial objectives could become subjective in nature (mgr 1 uses PY to CY because he looks better; mgr 2 uses Bud to CY because she looks better)and thus the budget becomes diluted in its ability to become a company-wide unifier. To me, both comparatives is the equivalent of the old saying "a man who chases two rabbits gets none."

Does the group believe I am being unreasonable for wanting to limit the comparative to the budget only? (Bear in mind that I am referring to management-level financial reporting, not GAAP-approved financial statements)


PVCC-CCIFP (talk|edits) said:

I could see where a budgeting procedure which takes last year's totals then adds a dollar or percentage amount, then divides by 12 or 52 to come up with monthly or weekly sales or production targets might not accurately reflect the realities of a seasonal business. Ideally the budgeting process would assign different goals for different weeks or months which historically under or over perform the average or to production or sales variation that can be linked to specific events...bike week, the big instate rivalry game, the big industry convention, the winter holiday season in construction...the winter in general for road paving companies. Statistical techniques exist to assist with such a weighting scheme, but they can be dependant on the ability to distinguish variables of significance.

MJG2112 (talk|edits) said:

13 May 2013

I agree that a simple annual proration would render a budget a fairly usesless tool in terms of establishing predetermined sales and profit objectives and being an effective management tool. First off, the budget has to be flexible in nature, meaning that variations between actual and budgeted sales volume do not within themselves have an impact upon variable costs. For example, assume budgeted sales of $10m and direct labor of $6m (60%). Also assume a realized sales of $8m and $5m in direct labor. Under a "static" budget, the variances would be: $2M unfavorable budget in sales and a $1m FAVORABLE variance in direct labor. Assuming that DL had only hourly employees and no restrictions upon scheduling (ex. union), the $1m F variance is a complete misstatement when in all actuality, the payroll had a negative variance of $200,000 ($8m x 60%) - $5m in actual payroll.

My budgets are flexible and consist of the following drivers and calculations:

Sales: Prior period sales x budgeted change pct Variable costs: ((Prior period variable cost PCT x budgeted change pct) x actual sales) Fixed costs: Prior period actual amount x projected (budgeted) changed pct

If a significant change in any of these three factors is planned, I would ease the change in through gradual increases or decreases in the monthly percentages

Throughout the budget calculations, the prior period is used as the basis for determining the budgeted amount. Depending upon the report, the prior period could either be weekly, monthly, quarterly, or annually. As such, it is my opinion that the variance from the prior year is not necessary (and in fact is distracting) when presenting internal management reports.

The problem with client acceptance of budgets many times resides with the prorated calculation you have described. What use is a budget if it is not a realistic portrayal of achievable objectives or if it improperly calculates and categorizes variance amounts? The properly with many accounting software packages is that they do not possess the ability properly present a flexible budget. As a result, I export all of my financials from the accounting package into an Excel spreadsheet template which then properly calculates the flexible budget.

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