One of the most delicate subjects related to management is, without a doubt, money. In this sense, a budget is a fundamental instrument in the planning and control of your company’s activities that can also improve your decision making.

Among the models available for this tool is the dynamic budget, which can be adjusted depending on your needs. To learn how it functions and how to prepare this type of budget, keep reading this post!

The concept of a dynamic budget

A dynamic budget — or flexible budget as it is also known — analyzes variable costs in a more flexible manner. In other words, budget resources are not fixed based on a predetermined estimate and can be adjusted if the real volume of activity changes compared to the estimate.

The difference between a dynamic and a static budget

A static budget is one of the most frequently used budgets in Brazilian companies. In this type of budget, all budget items (revenues, costs, expenses and investments) are determined by fixing the volume of production or sales that determine the volume of the organization’s other activities.

Once this volume is fixed no changes are permitted, even though during the execution of activities there will be some variation in demand, productivity and results.

A dynamic budget, on the other hand, allows you to alter the volume of resources available based on variations in the results. In other words, if the volume of production increases, you can raise your raw materials, taxes, etc. proportionately.

Advantages and disadvantages of a dynamic budget

Advantages:

  • Through flexibility, it’s possible to adjust forecasts at any time;
  • It’s considered very dynamic, because it shows the relationship between costs and volume in the short term, given that the estimates for expenses for any volume or rhythm of activity can be calculated quickly;
  • It’s possible to take advantage of good moments in the market to maximize profits and increase sales in a more dramatic and rapid fashion;
  • It’s also possible to protect yourself from the bad phases of the market, minimizing losses and reacting to crises in a more efficient manner;
  • Budget items have greater relevance when there are changes in the scenario;
  • Demonstrates the real deviation from the budget and offers managers a broad vision of their business;
  • Smaller companies can apply it with greater ease, because the departments are smaller and they are more agile in changing direction.

Disadvantages:

  • Continual monitoring of changes in the business environment;
  • Constant monitoring of the organization’s levels of activity;
  • The permitted adjustments require that managers be willing to adapt to constant changes;
  • The budget can be considered complex when it’s implemented.

Preparing a dynamic budget

To prepare a dynamic budget, you need to have a master budget already prepared and understand the behavior of your costs — this signifies making a perfect distinction between fixed, variable and semi-variable costs.

You also need to identify the real volume of the items produced and sold and have to make an estimate of your planned revenues to determine how much money you’ll need on hand.

Later you should compare this budget to your previous expenses, costs and revenues to determine the relevance of your dynamic budget. In addition, you need to reevaluate it periodically.

A practical example

Company WYZ wants to prepare a dynamic budget to make monthly comparisons between its real and budgetary values. The organization is projecting the following costs:

 Variable Costs $ Fixed Costs/Month $
Indirect materials 1.10Depreciation12,000
Indirect labor 1.50Supervision 8,000
Commissions 0.80Maintenance 40,000

 

It wants to project its costs for various levels of activity, reaching initial volumes of 9,000 and 11,000 units/month for products A and B.

ProductsABTotal
Sales/Unit9,00011,00020,000
Variable costs
Indirect materials 1.10 9,900.00 12,100.00 22,000.00
Indirect labor 1.50 13,500.00 16,500.00 30,000.00
Commissions 0.80 7,200.00 8,800.00 16,000.00
Total Variable Costs 30,600.00 37,400.00 68,000.00
Fixed costs
Depreciation 6,000.00 2,700.00 3,300.00 6,000.00
Supervision 5,000.00 2,000.00 3,000.00 5,000.00
Maintenance 20,000.00 9,000.00 11,000.00 20,000.00
Total Fixed Costs 31,000.00 9,000.00 11,000.00 20,000.00
Total Costs 39,600.00 48,400.00 88,000.00

 

A well planned dynamic budget can facilitate the functioning of an organization — even if it has a certain degree of complexity, it represents a great tool in the budgeting process.

Now that you know how a dynamic budget works, why not learn “how to project cash flow for your company”?