The Car and Truck Fleet and Leasing Management Magazine

Developing and Controlling a Fleet Budget

September 2015, by Mike Antich - Also by this author

Image courtesy of iStockPhoto.com. 
Image courtesy of iStockPhoto.com.

As acquisition costs of fleet vehicles and other assets have escalated over the years, fleet managers, by necessity, have become important money managers within their companies. To effectively manage corporate funds and assets, a fleet manager must have the ability to prepare, present, and implement a sound budget. Since some managers do not have a background in finance, they have been forced to take a seat-of-the-pants approach to fleet budgeting. This article will present an overview of the three essential steps necessary to establish a fleet budget and the procedures to determine key line-item expenses.

The No. 1 question posed by a novice budgeteer is: “Where do I start?”

According to budget experts, the best place to start is with an account of last year’s actual expenses compared against the past year’s budget.

However, when preparing a new budget some managers apply the “x-percent rule,” which simply means adding “x” percent of the cost of each of last year’s line items. This approach usually doesn’t work, since it doesn’t take into account past, present, and future forces that may impact projected budget expenses.

A fundamental budgetary concept to grasp is that budgeting is a process, not a goal. There is no such thing as a 100-percent accurate budget. Since you are budgeting for an unknown future, it’s important to recognize that a budget will be constantly in flux.

Step 1: Determining Cost Assumptions

When developing a budget, it is important to recognize there are internal and external forces over which you may or may not have any control, but which will impact your budget. These forces will vary depending on the type of business conducted by your company.

Ask yourself, what past factors influenced last year’s budget? What factors are present today that may impact the budget you are currently working on? And, finally, what future developments may affect your upcoming budget? When trying to anticipate future factors, recognize they are simply “guesstimates,” since no one can predict the future with any degree of accuracy. However, you need to be aware of what may be just over the horizon to help minimize financial surprises.

As a result, it is necessary to document — in writing — your cost assumptions as to what factors may cause fleet expenses to change prior to determining the line item dollar amounts in your budget requests. By going through this process, you need to document your assumptions as to why these costs may increase or decrease. This way, you will build documentation to substantiate your budget request. If someone questions your numbers, all you have to do is refer to your documented assumptions as to how you arrived at those dollar figures.

Documenting assumptions about how costs were derived provides the fleet manager with an effective means to defend his or her budget request. But, if your assumptions are faulty, so, too, will be your budgeted numbers.

At a Glance
  • Document in writing cost assumptions by identifying factors that may cause fleet expenses to change prior to determining line item dollar amounts in your budget requests.
  • You cannot determine depreciation expense without first determining the capitalized cost of the fleet, since this is the dollar base that is being depreciated over an accounting period.
  • Once the budget line item costs have been established, the total annual dollar amount necessary to run your department for a year can be determined. 
  • The next step is identifying the "variance" to determine whether you are under or over budget for a specific month for a specific line item.

Step 2: Determining Line-Item Costs

The key line items in a fleet budget are: 

  • Vehicle depreciation.
  • Interest expense.
  • Leasing and fleet management (if fleet is leased or managed by a third-party).
  • Personal-use chargebacks.
  • Fuel expense.
  • Vehicle maintenance.
  • Accident/collision expenses.
  • Resale value adjustment.

These line items do not represent all expenses that may appear on your budget, such as taxes; insurance; vehicle registration and licensing; administration; and other incidental expenses, such as tolls, traffic or parking tickets. However, for the sake of illustration, they represent the key elements crucial to developing a fleet budget.

The cornerstone of the entire fleet budgeting process is determining the capitalized cost of the fleet.

Capitalized cost refers to the total amount of money to be financed over the term of the lease. It’s also an accounting term that describes the valuation used when calculating the depreciation of an asset.

You cannot determine depreciation expense without first determining the capitalized cost of the fleet, since this is the dollar base being depreciated over an accounting period. Specifically, depreciation is the portion of the capitalized cost of the fleet you will be expensing over a specified period of time or vehicle usage. Another way of defining capitalized cost is that it is the total dollar amount the fleet of vehicles is going to cost your company at acquisition.

Budget Line Item: Calculating Vehicle Depreciation

The key area in which rising vehicle acquisition costs have affected fleet management the most is depreciation. Determining the depreciation factor for your fleet — namely, the number of months you want to write off your vehicle acquisition costs — is the next crucial step in preparing a fleet budget. This depreciation period can vary depending on your company’s accounting procedures.

For instance, a 36-month depreciation period is typically used by a company that owns its vehicles. Since cash is expended at the time of acquisition, the company attempts to write-off the cost of the asset as quickly as possible. A faster write-off rate tends to increase a company’s profits by lowering the taxes it must pay during the write-off period. On the other hand, when a vehicle is leased, a company will usually seek a longer write-off period to obtain lower monthly payments. For the sake of illustration, let’s assume your fleet is leased and a 50-month depreciation period is used, which means you are going to write off the full capitalized cost of a car over 50 months.

Now that you know the total capitalized cost of your fleet, depreciation is easy to determine by multiplying the total capitalized cost by your depreciation factor, which traditionally has been based at 2 percent per month. To determine your yearly depreciation, multiply the 2-percent monthly depreciation by 12 months, which will equal a 24-percent annual depreciation.

Budget Line Item: Determining Interest Expense

As acquisition prices increase, the amount of money a fleet is financing increases and, as a consequence, overall interest payments do as well. Regardless of whether a vehicle is purchased or leased, you will be paying interest on the unpaid portion of the vehicle’s acquisition cost (book value), which a third-party is funding.

The first step is to determine the amortization factor, which, when applied to the total fleet capitalized cost, will yield the average loan principal financed for the budget year. To determine this, you need to know the average months-in-service, which for illustration purposes will be based on 27 months, based on average service life for intermediate vehicles as reported in the annual Automotive Fleet operating cost survey. If the funded amount is amortized at 2 percent each month, the average loan balance should equal 73 percent of the total capitalized cost.

Now, add an interest rate to this loan balance and forecast what the interest will be, on average, for the next budget period. This is easy when using a fixed interest rate, but requires a little more guesswork when you have a floating interest rate, which is the norm for most fleets. The basis of your interest rate projections should be outlined in writing in your cost assumptions, which you prepared earlier.

If your vehicle is leased, the leasing company will normally provide you with interest rate projections. If your company purchases its vehicles using company funds, ask your corporate treasurer’s office for information on your company’s internal cost of funds.

Budget Line Item: Notating Leasing and Management Fees

If you are leasing all or part of your fleet, there are leasing and management fees, which is what you have agreed to pay for the lessor’s services.

This fee is determined by multiplying the capitalized cost of your leased vehicles, by the fee factor times 12 months.

Budget Line Item: Capturing Personal-Use Chargebacks

Personal-use chargebacks refer to how much company drivers are charged for personal use of company vehicles per mile, per month, or a combination thereof.

The number of employee drivers affected by this policy is determined by the fleet “manning factor,” which indicates what percentage of the positions within your sales territory are filled at any given time. This factor can be obtained from your company human resources managers. If you’re at “0.95,” this means that, on average, 95 percent of the positions within your sales territories are filled at any given time.

On a fixed monthly basis, personal-use chargeback figures can be determined by multiplying the number of vehicles in your fleet by the average manning factor — 95 personal-use chargebacks per year. This is budgeted as a negative expense since the fleet budget received credits by collecting these monies from its drivers.

Budget Line Item: Forecasting Fuel Expense

Determining annual fuel expenditures for budgeting is very difficult, at best. There is really no reliable method of predicting the prices of fuel.

When developing a fuel budget, it may be helpful to look at historical fuel prices. That information might come from the U.S. Energy Information Administration (EIA), which is the principal agency of the U.S. Federal Statistical System responsible for collecting, analyzing, and disseminating energy information.

Another consideration in budgeting for fuel is determining the actual miles per gallon attained by your fleet units. This information can be obtained by referring to the expense control reports provided by your fleet management company, or by taking a sampling average of the vehicles in your fleet.

Another factor in your fuel budget is the average turn-in mileage for your fleet vehicles.

Once you have identified the projected cost of fuel, your fleet’s average fuel economy, and the number of miles it travels per year, then it’s a simple mathematical process to complete the fuel line item in the fleet budget.

Budget Line Item: Documenting Vehicle Maintenance Expenses

To determine maintenance costs, first develop a “laundry list” of maintenance services each vehicle will need during its service life. For instance, if an intermediate-size car is going to accumulate 60,000 miles, it is safe to assume it will need 10 to 11 oil and filter changes, two new sets of tires, and so forth, during its service life. Next, ask your fleet management company maintenance manager or, if managed in-house, ask your national account representative what he or she thinks the prices for these maintenance services will be in the next year.

In addition, maintenance or national account personnel should be consulted on the costs to perform non-routine maintenance series, which only a portion of your fleet vehicles might require, such as replacing a broken windshield. Your internal records can assist in calculating the past average cost and frequency of occurrence.

Budget Line Item: Forecasting Accident and Collision Expenses

This expense is extremely difficult to predict since no one knows when, or at what frequency, accidents are going to happen. The best way to forecast this cost is to review your past year accident history. Take the last year’s accident costs and adjust them for inflation to project the total cost for the upcoming budget. This is one instance where the “x-percent rule” is applicable.

You can also reference industry benchmark surveys, such as the annual accident management survey published by Automotive Fleet magazine. For instance, the most current survey reported that accident costs saw a modest increase in 2014 vs. 2013 figures, with the percentage of preventable accidents remaining mostly flat, according to data provided by Element Fleet Management, The CEI Group, Corporate Claims Management (CCM), and Fleet Response.

“From 2013 to 2014, there was a 5-percent increase in fleet accident management costs. Automotive technology is contributing to the cost of accident repairs. Also, the use of alternative materials in new vehicles, such as aluminum, is causing an increased number of parts that need to be replaced instead of repaired; additionally, these materials are causing an increase in more complex repairs,” said Eliot Bensel, director, accident management & risk safety at Element Fleet Management.

Budget Line Item: Forecasting Resale Adjustment
Resale adjustment or terminal rental adjustments are difficult to determine, mainly due to changing used-vehicle market conditions. One method to budget for future resale adjustments is to use historical depreciation rates and apply those rates to vehicles that will be sold in the upcoming budget year.

If you expect changes in used-vehicle market conditions in your vehicle cycling period, then you must add or delete budget dollars based on your predications and stipulate the reasons why in your written cost assumptions.

Step 3: Controlling the Budget

Once the budget line costs have been established, the total annual dollar amount necessary to run your department for a year can be determined. The next step is determining the “variance” — in other words, whether you are under or over budget for a specific month for a specific line item. A budget can be controlled by identifying these variances and implementing the changes necessary to bring these costs back in line.

To identify such variances, it is helpful to use a spreadsheet. Once the spreadsheet template has been set up, break down each line item’s annual expense into months that the expenditures are required. If an expense is a fixed cost, simply divide by 12 to determine its monthly expenditure. If the expense for a particular line item is seasonal, indicate those months where the expense will be occurring.

After completing the budget flow sheet, the next step is critical. At the end of the first month of your budget, you will have access to the actual expenditures incurred for each line item. Once the actual expenditures for each month are available, these numbers should be compared against that month’s numbers to control your budget and fine-tune it to stay within your budgeted parameters.

In your spreadsheet template, create two new, temporary columns between the completed budget month and the following month. One of the new columns will be the actual line-item expenditure and the next column will be the difference in dollars between actual cost and your initial budgeted cost. This difference is referred to as the variance.

Determining variances identifies the areas you need to control in your budget. One way to evaluate the impact of such variances is to replace that month’s budgeted amount with the actual cost for that month. After inserting the actual costs, calculate how much over, or under, budget you will be at the end of 12 months, if nothing is done to control the variances. Often, this can be a very sobering exercise.

Correcting budget variances is a four-step process. Once the variances have been identified, you should:
1. Identify the expense factors that caused the variance to occur.
2. Communicate the budget variance to those people who can rectify the problem.
3. Implement the changes necessary to prevent the variance from recurring in subsequent months.
4. Once the variances have been corrected, document the reasons why they occurred so they can be referenced as “past forces” when getting ready to prepare your following year’s budget.

This is called variance documentation. Basically, you’re writing down what happened so you can build better cost assumptions in the future about a particular line.

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