Budgeting, Forecasting, and Variance Analysis
What the exam tests
Budgeting and variance questions test budget method choice, forecast quality, and whether you can decompose a total variance into controllable parts. Expect static versus flexible budgets, standard costing, sales mix and yield, and responsibility for variances.
Core rules and concepts
- Budget purposes: planning, coordination, control and motivation. Incremental budgeting starts from prior results; zero-based budgeting justifies each activity; rolling budgets update regularly. Participative budgeting improves buy-in but can create slack.
- Forecasts use quantitative methods (moving average, regression, seasonality) and qualitative judgment. Separate volume, price, mix and cost assumptions.
- A static budget is set for one volume; a flexible budget is restated at actual volume. For cost control, compare actual to flexible budget, not static.
- Standard costing variances: material price = (AP - SP) x AQ purchased or used; material quantity = (AQ - SQ) x SP; labour rate and efficiency follow the same pattern. Sales price and volume variances use contribution margin; mix and yield variances isolate product or input combination effects.
- Assign a variance to the manager who controls it, while recognizing interdependence.
Worked example
Standard: 3 kg at $8 per kg, or $24 per unit. Actual output is 1,000 units, using 3,200 kg costing $24,960 (actual price $7.80). Material price variance = ($7.80 - $8.00) x 3,200 = $640 favourable. Quantity variance = (3,200 - 3,000) x $8 = $1,600 unfavourable. Total = $960 unfavourable. The purchasing manager may own the price variance if purchasing policy sets prices, but the production manager owns usage. Buying cheaper material could cause waste, so the two variances must be read together. If the quantity variance were calculated using purchased rather than used quantity, it would not reflect production efficiency.
Traps that cost marks
- Comparing actual costs to a static budget when volume changed.
- Calculating the price variance on actual quantity used when the exam asks about purchases.
- Treating a favourable variance as always good; cheap materials may raise rework.
- Blaming sales volume variance on the sales manager when supply constrained output.
- Mixing mix and volume effects.