Module 1 of 1 · 60 minutes
Building it, flexing it and explaining the variance
By the end of this module you will be able to
- Build a budget from underlying activity
- Classify costs as fixed, variable or stepped
- Flex a budget before comparing it to actuals
- Interpret a variance and identify the action it implies
Amara Our budget is last year plus five per cent. Everybody does that.
Nadia Everybody does, and it fails in a specific way: nobody can explain any figure in it. Ask why the training line is what it is and the honest answer is that it was that last year, and the year before, and nobody now living knows why.
Amara So where do I start instead?
Nadia With activity. How many clients, shifts, units or cases. Then let the costs follow from that. Now every line has a reason attached to it, and you can defend it to somebody who challenges you.
Amara Tell me about the costs that catch people out.
Nadia Stepped costs. One supervisor covers eight staff. Take on a ninth and you need a second supervisor, and that cost arrives whole, not in one eighth slices. Percentage based budgets smooth straight over it and the jump lands as a shock in month seven.
Amara Now the monthly meeting. We are over budget. Everybody looks at me.
Nadia First question: did you do more than the budget assumed? If the budget was built for a hundred and you delivered a hundred and forty, of course you spent more. Flex the budget to what you actually did, then compare.
Amara And if it is still over after that?
Nadia Now you have a real variance, and you split it. Did you use more per unit, or did each unit cost more? Those are different problems with different owners. One is operational, the other is procurement or price. A total figure alone just produces an argument.
Amara Last thing. Our forecast always seems to land back on the budget.
Nadia Then your forecast is not a forecast, it is a wish with a spreadsheet around it. The budget is what you planned. The forecast is what you now genuinely believe. When they differ, that gap is the single most valuable number in the pack.
Amara Because it is early warning.
Nadia Because it is the only early warning. Close it on paper and the problem still arrives, just later, and with nobody able to do anything about it.
The written material
Building from activity, not from history
A defensible budget starts with what the business will actually do: how many units, clients, shifts or cases. Costs then follow from that activity, and the budget can be explained line by line to somebody who challenges it.
Last year plus a percentage cannot be explained, because nobody remembers why last year's figure was what it was. It also embeds every past error permanently, since each year is built on the one before it.
Fixed, variable and stepped costs
Fixed costs do not move with activity in the short term: rent, insurance, salaried staff. Variable costs move directly with it: materials, agency hours, consumables.
Stepped costs are the ones that catch people out. They are flat until a threshold and then jump: one supervisor covers up to eight staff, and the ninth requires a second supervisor. A budget built by smooth percentages will miss that jump entirely, and it is usually the largest single surprise in the year.
Flexing, and variances that lead somewhere
Comparing a budget built for a hundred units against actuals for a hundred and forty is meaningless: of course the costs are higher. Flex the budget to actual activity first, then compare. What remains is a real variance rather than an arithmetic one.
A useful variance separates price from volume. Spending more because you did more is a different fact from spending more per unit, and they call for entirely different responses. A variance that stops at the total figure produces blame; one that separates price from volume produces a decision.
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