The approach here is to follow the following steps

·         Prepare the fixed budget in a marginal costing profit statement format. The fixed budgeted is based on the formula budgeted price x budgeted volume. It is important to exclude VAT from the selling price by multiplying €11.25 x 100/112.5

·         Prepare the flexible budget. This is where we ascertain what the budget would look like based on actual volume. The formula for this budget is budgeted price x actual volume. The difference between the fixed budget and flexible budget is due to difference between budgeted volume of activity and actual.

·         Prepare the actual results in a marginal costing profit statement format. Again sales must exlude VAT. This is done by multiplying the sales figure of €732,000 x 100/112.5.

·         In the question there are two categories of variances. Volume variances based on comparing the fixed and flexible budget and price/cost variances based on comparing the flexible budget and actual results. One summary variance is calculated for the volume variances namely the sales margin volume variance. This is because there is only one possible reason for this variance. However the price/cost variances are detailed for each category or type.

·         The figures in bold show the make-up of each variance.

b)      Prepare a statement reconciling the actual net profit with the budgeted net profit

Statement Reconciling Budget Net Profit with Actual Net Profit

Such a report should begin by identifying the overall variance (difference in profit) before focusing on each individual variance, explaining and showing their significance as well as possible causes

Overall profit has fallen by €58,833 or 47% (58,583/124,000). This is a very significant overall variance and thus each variance must be looked at individually beginning with the negative variances. 

Sales price variance: This is a negative variance of €169,333 and is the most significant of the variances. Ultimately the business did not achieve its budget target average spend of €10. The actual average spend was €7.93 (650,667/82,000) a difference of 20.7%. The effect of this variance is that actual profit was 136% (169333/124,000) less than budget due to the business not achieving its target average spend. This equates with a sensitivity rating of 6.57 times. In other words if selling prices falls by 1% profit will fall by 6.57%. The size of this variance suggests that the budget target was very unrealistic and unachievable. Other reasons would include increased competition and reducing prices as a strategy to boost volume sales.

Fixed labour cost variance: This is a negative variance of €7,000. Fixed labour costs were 4.5% (7,000/158,000) above budget. Possible reasons include a new wage agreement or possible extra employee taken on in anticipation of increased activity.

Sales margin volume variance: This positive variance of €33,600 is created by the business selling more covers than anticipated in the budget. Actual volume of activity increased by 9.33% (7000/75,000). Thus actual profit is €33,600 or 27% (33,600/124,000) greater than budget due to the greater level of sales activity. This could be related to the lower average spend achieved or possibly the budget target was too easily achievable.

Food cost variance: This accounts for the biggest positive variance for the period of €57,500 resulting in actual food cost being 17.5% (55,700/328,000) less than budget at the same level of activity. The effect of this variance is that actual net profit is 46% (55700/124,000) greater than budget due to this single cost variance. This amounts to a sensitivity rating of 2.63 times. This is a very significant variance and management should ascertain its causes. These could include an unrealistic budget target, inflation in the food sector not taken into account in preparing the budget, uncompetitive practices in tendering suppliers and lack of good materials /food control with increased levels of waste.

Other variable costs variance; This is a positive variance of €13,400 representing a cost saving. Management must have clear knowledge of what costs are included as part of this category. Part-time labour is a possibility. Questions must be asked as to whether this cost saving is due to an overly conservative budget estimate or as fixed labour costs increased could some part-time labour costs be reclassified as fixed.

Overhead cost variance: This is a positive variance of €13,000. Overheads were €13,000 or 16.67% less than the budget target. Actual profit is 10.5% greater than budget due to this variance. To analyse this variance one would need a break-down of what constitutes fixed costs and the individual variances that make up the overall fixed cost variance. This is not available form the question