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Budgeting - A Budget is a plan expressed in financial terms.

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Introduction

BUDGETING A Budget is a plan expressed in financial terms. C.I.M.A. defines a budget as 'A plan quantified in monetary terms, prepared prior to a defined period of time... to attain a given objective', A budget is normally for a relatively short period, e.g. 1 year. Purposes of Budgeting A number of purposes of budgeting have been identified. They include: 1. Planning. 2. Resource Allocation. 3. Co-ordination. 4. Control. 5. Communication. 6. Motivation. 7. Performance Evaluation. Budgetary Control This is a system which uses budgets as a means of controlling the activities of the organisation. It has three main aspects:- 1. Planning. 2. Co-ordination. 3. Control. Planning Budgetary planning is the process of preparing detailed, short-term plans for all the functions, departments and activities of the organisation. It is important that the short-term plans and objectives that make up the budget are related to the long-term plan and objectives of the organisation. The budget may be drawn up by preparing an overall budget for the organisation which is then broken down into more detailed budgets for the different parts of the organisation [the top-down approach] or by devising budgets for the various parts of the organisation and then bringing them together to build up the overall budget [the bottom up approach]. Extrapolations, Forecasts and Plans In discussing budgetary planning it is important to distinguish between extrapolations, forecasts and plans. An extrapolation is the continued projection of an existing trend. A forecast will be based on an extrapolation, but is adjusted to take account of any known factors which will affect the trend. A plan involves some intervention by the organisation in order to modify events in such a way as to make it more likely that the organisation's objectives will be achieved. Co-ordination It is vital that the plans of each department are related to each other and are integrated together to make a coherent whole e.g. ...read more.

Middle

Budget periods in excess of one year would be broken down into annual amounts, and the annual amounts would be further sub-divided into monthly accounting periods. Budgets which are compiled for the duration of one year, would similarly be broken down into accounting periods. Having arrived at the amounts for each period, the actual expenditure incurred during a period can be compared with the appropriate Budget and Variances extracted. Types of Budget - There are two basic types of Budget: 1. Operating Budgets - These relate to the day to day operating of the enterprise. Examples: (a) Sales Budget a. Manpower Budgets a. Revenue Expenditure Budgets d. Short Term Cash Budgets 2. Capital Expenditure Budgets - Capital expenditure is expenditure that is committed in the acquisition of long lived [or fixed] assets. These assets take the form of such items as: i. Premises ii. Plant and Machinery iii. Lorries, Vans, Cars iv. Office Equipment [Desks, Typewriters, Computers]. These budgets are inter-related. (See Chart on PXX) Designing and Operating a Budgetary Control System The procedures will vary from one organisation to another, but a general pattern can be established as follows:- 1. Forecasts are made to cover e.g. a. Sales b. Production c. Stocks d. Costs:- i. Production ii. Selling and Distribution iii. Administration iv. Research and Development a. Capital Expenditure a. Cash 2. Alternative combinations of forecasts are compared. Principal budget factor and limiting factors are considered. That combination of forecasts which is most likely to achieve the objective(s) is chosen. 1. Budgets are prepared to cover the items in (1) above. The activities of the organisation are integrated into a complete plan [The Master Budget]. NB It will take a number of attempts before the budget is finalised. Thus budgeting is a reiterative process. Budget Centres Costs are best controlled at the point at which they occur. Suitable areas of control must be selected and they should not be too large. Examples might be workshops in a factory and wards in a hospital. ...read more.

Conclusion

3. The detailed examination of the organisation's structure and cost behaviour necessary for budgeting, highlights strengths and weaknesses and indicates potential areas for cost reduction. 4. Co-ordination between the department and functions of an organisation will be improved by a good budgeting system. 5. The development of routine management in setting budgets and accepting targets should lead to increased motivation. 6. Performance is reported and monitored thus aiding control. 7. Variance analysis reveals the nature of any weaknesses. It indicates areas for further investigation and points to the corrective action to be taken. Limitations of Budgeting These include: .1. The budget system may cause antagonism and poor motivation [due to undue pressure, poor human relations etc]. 2. Variances are frequently due to changed circumstances, poor forecasting etc., rather than management performance. 3. Budgets reflect the current organisation structure which may not be optimal, especially during rapid change. 1. There is a danger of inertia and inflexibility because of an unwillingness to change well established plans. 5. There are considerable difficulties in setting appropriate levels of attainment. 6. There is the problem of time lag in the system [e.g. June's results are not available until late July, are reported in August and are compared to forecast made months earlier]. 7. The technique should not be relied upon as a substitute for good management. Conditions for Successful Budgeting 1. The involvement and support of top management. 2. A clear definition of long term objectives and their communication. Short term plans must be linked to long term objectives. 3. A realistic organisation structure with clearly defined responsibilities. 4. Genuine involvement of managers in all aspects of the budgeting process. 5. An appropriate accounting information system. This requires: i. The recording of performances in relation to responsibilities. ii. Prompt and accurate reporting of results. iii. The ability to provide more detailed information and advice on request. 6. Budgets should be administered in a flexible manner. Significant changes in circumstances should lead to changes in plan. Rigid adherence to budgets which are inappropriate for current conditions leads to loss of credibility and effectiveness. ...read more.

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