Total operating budgets for the month exceed budget by only $2,400. A careless builder might feel good about this and not take time to look deeper into the income statement. A smart builder realizes that even though total operating expenses are within target, he may find areas that are not coming in according to plan.
The next area of concern is sales and marketing. Expenses are $6,850 over budget for the month as a result of expenditures exceeding budget by $4,850. Sample Custom Builders identified this variance as simply a timing difference, with the company still on target for spending the total amount budgeted for the year. However, looking further into this category the owner noticed that commissions and sales expenses are 2.5% of year-to-date sales compared to a budget of 2%. Digging deeper, he saw that more jobs were sold with an outside agent than expected. This variance raised the question of whether Sample Builders should reevaluate its marketing or its program of working with outside agents.
Financing expenses also exceed budget for the month and year-to-date. Drilling down into the data, the builder noticed that $20,000 of the year-to-date variance related to interest on finished inventory as a result of the company carrying a spec house completed in the prior year. A keen builder should focus on why the spec isn’t moving. The remainder of the variance related to being over budget on interim interest (interest paid during the construction period). Is this budget overage due to being behind schedule or to paying higher-than-planned interest rates because the project is highly leveraged or because the builder did not do a good job of managing cash flow?
A less perceptive builder might be excited to see indirect costs being under budget for the month and year-to-date, but in reality he should delve into both positive and negative variances. In doing so he would note that indirect costs are below budget as a result of holding off on hiring a new superintendent to handle the increased volume and deciding not to hire a person to handle estimating and purchasing. What effect did these decisions have on margin slippage?
Often I’ll see a custom builder deciding to hold off spending money on indirect costs that would result in increased gross profit. If Sample Custom Builders hired the budgeted estimator, the company might have reduced slippage by 1 percent, adding $42,000 in gross profit for the first five months of the year—more than the savings from postponing the hire. If the superintendent was hired as planned, construction time might have been reduced, thus reducing the overage in financing expenses.
General and administrative expenses had no overall budget variance for the month; however, there is some concern with the individual line items in this category. In questioning why salaries and benefits are over budget for the month, the owner identifies unplanned overtime for office personnel. This overtime was the result of cleaning up problems caused by misposting invoices and chasing money for change orders that were not properly processed. An intelligent builder will work to identify the problems and to make changes to systems so future overtime would not be necessary.
Other general and administrative overhead was under budget for the month but for the year is $20,000 over budget. Will any of this variance reoccur in future months? If so, what effect will this have on the company’s expenses for the balance of the year?
The budget reflected in the nine-column income statement would be the company’s original forecast for the current fiscal year. But as the year goes on events happen that require a company to refore-cast the budget for the balance of the year. I recommend that companies update their budgets on a quarterly basis, expanding the nine-column income statement to include a comparison of the month-to-date and year-to-date results against the original and reforecast budget. For a copy of sample income statements, please e-mail me at smaltzman@smaconsulting.net.
Steve Maltzman, CPA, is president of SMA Consulting in Redlands, Calif.
