BUDGETING AND BUDGETARY CONTROL £263 OBJECTIVES OF BUDGETARY PLANNING & CONTROL SYSTEMS Budget is defined as a “plan” expressed in monetary terms. The “plan” incorporates what to accomplish and how to go about to accomplish the same. Budget is not a “forecast of future events”, it on the other hand is a systematic analysis and interpretation of such forecasts in terms of products, of markets and the application of resources. Budgeting is a very effective tool for control purposes. Control involves the evaluation of the actual performance by comparison of actual results with the plan. The feed-back is used to determine the corrective steps required or whether the plan is required to be modified. A budget sets targets for each functional area and thus provides an effective tool to the managers for carrying out their control function. The entire system of establishing a budget, evaluating performance and reporting variances for taking appropriate action is termed as the budgetary control system. The terms budget and budgetary control have been defined as follows: a. Budget: “A plan quantified in monetary terms prepared and approved prior to a defined period of time usually showing planned income to be generated and/or expenditure to be incurred during that period and the capital to be employed to attain a given objective” —CIMA Official ‘Terminology. b. Budgetary control : “the establishment of budgets relating the responsibilities of executives to the requirement of a policy, and the continuous comiparison of actual with budgeted results either to secure by individual action the objective of that policy or to provide a basis for its revision”. — CIMA Official Terminology. ‘The entire process of budget and budgetary control can be summarised in terms of a cycle as under. a, Establishment of a budget defining attainable objectives in quantitative (monetary) terms, for the organisation and for each division/department or functional areas, for a defined period of time. b. Continuous comparison of actuals with the budgeted results and identifying the variances. c Investigation of the variances to ascertain the causes that has led to these variances. 4. Determination of the corrective steps to remedy the causes in order to secure the defined objectives. e. Preparing a fresh “plan” based upon the'feed-back and the changed conditions.5. Budget and budgetary control system can not eliminate uncertainties entirely but can surely reduce them, ‘They extend help to the managers to shape the future based on present actions and results thereof. Advantages of Budgeting 6. Budgeting plays an important role inthe effective use of resources and achieving the overall organisational goal. It has the following advantages: a, Budgeting compels and motivates management to make an early and timely study of its problems. b. Budgeting, provides a valuable means of controlling income and expenditure of a business as itis a “plan for spending”. c, Budgeting provides a tool through which managerial policies and goals are periodically evaluated, tested and established as guidelines for the entire organisation. 4. Budgeting helps in directing capital and other resources into the most profitable channels, e. Budgeting co-ordinates and correlates all business activities. f. The use of budgeting in an organisation develops an attitude of “cost consciousness” and stimulates the effective use of resources. 8. _Itprovides a norm, basis or yardstick for measuring performance of departments and individuals working in an organisation, h. Budgeting encourages productive competition, provides incentive to perform efficiently and gives, a sense of purpose to each individual in the organisation. Limitations of Budgeting 1, I. 8 While budgeting has many advantages that are vital to an organisation, it has certain limitations: a, Planning, budgeting or forecasting is not an exact science, It uses approximations and judgement which may not be totally accurate. A budget is an estimate and no one knows precisely what ‘would happen to that in the future. b. The success and utility of budgeting depends on the co-operation and participation of all members of management, c. Theestablishment of a budgeting process takes time. Also, sometimes too much is expected from a budget and in case expectations are not fulfilled, the blame is put on the budget. d. Excessive emphasis on budgeting may result in attempts by lower level management and employees to provide inaccurate estimates of future costs and revenues by taking advantage of the system. As the end of budget period approaches there may be a temptation to spend excessive amounts in order to “use up” the budget allowance, resulting in lower profits for the company. BUDGETING PROCESS ‘The formulation of the budgets involves the following steps: a, Obtaining estimates from each division/department: Each division/department is required to provide information on estimates of sales, production levels, availability of resources etc. The departmental heads or managers are required to provide estimates of future conditions and activities that will have an impact on the company.b. Co-ordinating the estimates: In many organisations, the budget committee evaluates the different plans submitted by various organisational units to determine the viability of the plans and fair resource allocation among the various units of the organisation. ‘Communicating the budgets: After individual budget plans have been approved in the light of organisational goals and availability of resources, the budgets should be communicated to departments and responsible managers. Any changes and modifications made to the final budget should be conveyed to managers to obtain their co-operation and support for the budgets. Functional Budgets 9. A budget is a well-defined plan of action for the future which covers all areas of an organisation. As such, there are many kinds of budget according to the functions or sub-functions they serve and the frequency with which they are established. 10. Budgets may be classified based on the following factors: a. Classification according to time factor. 'b. Classification according to function, ¢. Classification according to flexibility factor or capacity. ‘Time Factor Classification 11. From the point of view of time factor, budgets may be of the following types. a. Long-term budget ‘These budgets are for a longer period, say, five to ten years. Capital budget, which isa forecast of outlay on fixed assets and of the sources of capital, is an example of a long-period budget. b. Short-term budget ‘These budgets are usually for a period of one year. Sometimes a budget may also be prepared for a shorter period like quarterly or half yearly. Most of the functional budgets discussed are short- term budgets. Functional Classification 12. A functional budget is one which relates to any of the functions of an organisation. Though the number of individual budgets vary from firm to firm, the following are commonly used: a. Sales budget b. Production budget c. Purchase budget 4d. Labour budget e. Administration cost budget £. Capital expenditure budget Sales Budget 13. The process of budgeting starts with sales forecasting for the period both in quantity and in volume. It is prepared by the sales manager. In addition to assessment of the number of units of each product that