Management Accounting

Unit 6
Budgetary Control I
Table of contents
6.1. Introduction
Learning Objectives
6.2. Concept of Budgetary Control
6.2.1. Characteristics of Budgetary Control
Self-Assessment Questions
6.3. Types of Budget
6.3.1. Functional Budgets
6.3.1.1 Cash budget
6.3.2. Master Budget
6.3.3. Fixed and Flexible Budget
Self-Assessment Questions
6.4. Budget Period
Self-Assessment Questions
6.5. Budgetary control report/Performance report
6.5.1 The role of budget & performance report
Self-Assessment Questions
6.6. Budget Revision
6.6.1 Impact of budget revisions
Self-Assessment Questions
6.7. Summary
6.8. Glossary
6.9. Case Study
6.10. Terminal Questions
Answer Keys
A. Self Assessments Questions
B. Terminal Questions
6.11. Suggested Books and e-References

Conceptual Map

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6.1. INTRODUCTION

Every business needs future planning, weather it is small or large. In larger businesses
planning is done very formally as compared to the smaller businesses. Planning falls in to
two categories

 Short term- for the next year

 Long term- from next year up to, sometimes, as far as twenty years.

Clearly, planning needs different approaches for different time line scales; more the time
lesser details will be there. Broad business objectives are established on long term time
scale. These objectives are not formally written down in medium businesses, although they
are likely to be in larger businesses. In smaller businesses the owners or manager will
discuss and consider the objectives by themselves. The planning notes are taken on
broader business objectives and detailed plans are made to set out on how these objectives
are to be achieved. These detailed plans are known as budgets.

A budget can be set in terms of money or expressed in the terms of units. Budgets can be
the income budgets for the received money (sales budget) or can be the expenditure
budget for money sent (purchase budget).

In this chapter we will discuss in detail about the concept of budgetary control,
characteristics of budgetary control, types of budget, functional budget including the cash
flow budget, master budget, fixed and flexible budget, budget period, budgetary control
reports and budget revision.

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LEARNING OBJECTIVES
After studying this chapter, you will be able to:

 Explain the concept of budget and budgetary control

 Explain the types of budgetary control
 Explain the importance and ways to prepare cash budget
 Determine the fixed and flexible budgets
 Determine the importance budget performance report
 Discuss the budget period and impact of budget revisions

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6.2. CONCEPT OF BUDGETARY CONTROL

The formal statement of the resources of the firm which is kept aside for doing the strategic
planning of finance is known as the budget.The main concern of buget is regarding finance
of the business. Other than finance things the budget can be formed too, like production
budget, sales budget, marketing budget etc.

STUDY NOTE: The process of preparing the budget is known as the

budgeting. The detailed study of business enviorment is
The financial plan for a
done so that there is a hold on the management objectives,
business which is
prepared in advance is capacity of the enterprise and the available resources of
known as a budget the enterprise.

Budgeting or preperation of the budget is the planning

function and the implementation of these plans is control
function. So, the ‘budgetary control’ statrts with budgeting and ends with control.

Budgetary control uses the budget for planning and controlling the aspects of producing
and selling of goods or sevices. The plan is shown by the bugetary control in financial
terms. Bugetary control is the advance planning of the various function of the business
which is done so that the business can be controlled. In order to compare the actual
expences with the bugeted one, the budgetary control relates the expenditure with the
department or section that aquires the expenditure. Therefore it provides a convinent
control method.

The forcast of income and expenditure which is required for efficient production and
distribution of desired volume of sales is included in budgetary control. The expenditures
can be on equipments,materials, man poewer, machineary etc. When the budgetary control
is applied to a whole business or to different section of business it calculates the actual and
the predicted performances of the department and tells about the how each department is
moving towards the achievement of the budgeted target.

By excersising a control and keeping a supervisiory eye on actual performance, the

budgetry control tries to bring the predicted performance equal to the actual performace.
Control follows the coordination and planning. The deviations are noticed by comparing
the predicted planor performance with the actual performance and the cost.

Thus budgetary control is a managerial tool that helps the management to calculate the
data in the form of budget. It also helps in observing the performance, making comparisons,
making the plans, and taking the measures to match the actual and planned performance.

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This can be achieved by creating different budgeting centres or responsibility centres so

that there is a proper check on the utilization of resources of the firm.

6.2.1. CHARACTERISTICS OF BUDGETARY CONTROL

For a successful business firm an efficient budgeting system plays a vital role.
Management cannot be sure about the direction of the business without a fully
coordinated budgetary system. The characteristics/features of budgetary control are as
follows:
 The budgeting system is prepared by the business firm to ensure that company’s
objectives can be achieved within the budget period.
 A budgetary control system helps in determining the number of activities that can
be performed so that company may achieve its objectives.
 Plans or operations’ schedule can be drawn in respect with the number of activities
in both monetary and non monetary forms for a particular budget period .
 Budgetary control system in a firm helps in performance evaluation as this will help
the firm in determining the deviation in actual performance and the expected
performance. The reasons can be find out and plans can be developed to correct the
discrepancies.

 Revision plan can be developed to ensure corrective actions are taken so that in
future no deviation in actual performance and expected performance will occur.

SELF ASSESSMENT QUESTIONS

1. The process of preparing budget is known as __________.

a. Budget
b. Budgeting
c. Budgetary control
d. None of the above

2. Which of the following is/are characteristic of budgetary control?

a. Planning
b. Coordination
c. Communication
d. All of the above
6.2. TYPES OF BUDGETS

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Depending upon the purpose and requirement of budget, different type of budgets have

6.3.1. FUNCTIONAL BUDGETS AND ITS TYPES

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been designed for management purpose. The figure no……… specifies the different types of
budgets developed-

Out of the above classifications, we shall here understand the concept of budgets classified
on the basis of functions and on the basis of capacity.

As the name suggest, this type of budget is associated with the functions of an organization.
Thus, on the basis of the type of functions an organization have, the functional budgets can
further be segregated into some of the following types-

1. Sales budget –It is an estimate of expected sale during a budget period. It is the starting
in budgeting the budgets in an organization.
2. Production budget – It is an estimated cost of carrying out production as per he
budgeted cost.
3. Cost budget – It lays emphasis on costing of an organization during the budget period.
The cost can be direct or indirect cost.
4. Capital expenditure budget – This budget is to make plan for any capital expenditure
which may be for improvement in old asset or replacement of fixed asset.
5. Cash budget – It is one of the most common and important form of budget in an
organization. It compares the estimated cash inflows and outflows during a budget
period to ensure that sufficient cash is available when required.

6.3.1.1. CASH BUDGET

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Cash budget refers to planning of expected cash receipts and payments during a budget
period. The cash receipts and payments include all kinds of revenue collected or expenses
paid or receipts and payments on account of loan. Cash budget can only be prepared when
sales, production, cost budgets etc are already available since until when the management
knows its sales budgets, it can never predict the expected cash flows of the business.
Management needs the cash budget to make sure that sufficient cash is available with them
to pay its bills when due.

Features of Cash Budget are-

a) Cash budget is prepared in broken periods, mainly in months

b) It is presented in columnar form
c) Payments and receipts are categorized in different headings, with total in each
month
d) The net surplus or deficiency in cash is shown for each month
e) The running balance for each month is identified by taking the previous month
balance and adjusting it with current month surplus or deficiency.

To ensure the solvency of the organization, cash budget is an important tool for planning
and controlling purpose. The importance of cash budget can be summarized below-

1. Planning – Cash budget gives the management selected point of time when the cash
is surplus and when it is deficient. It helps to manage the funds before time or in
case there is surplus, investment will be the option on the management’s table to
make maximum profits without compromising the liquidity of the company.
2. Future needs – It helps forecast the future needs of funds well in advance.
Appropriate funds at the most lucrative rates and terms can be sourced in advance.
3. Maintenance of cash balance – Keeping some fair margin for contingencies, it helps
maintain the liquidity of the company.
4. Controlling cash expenditure – When the budget is set for expenditure, cash budget
helps to control the various expenses in the firm so as not to exceed the cash limit
available.
5. Performance evaluation – It can act as a standard to evaluate the financial
performance.
6. Testing the payback period from proposed expansion plan – Cash budget helps
determine the inflows from the proposed expansion program from which the
payback period of the investment made in the expansion can be determined.
7. Sound Dividend Policy – It help plan for dividend to shareholders, and following a
consistent dividend policy

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8. Basis of long-term planning and co-ordination – It is an important tool for long term
financial planning and helps finding suitable financing with respect to its terms,
timing, repayment etc.

Methods of preparation of Cash Budget

1. Receipt and Payment method

It is the most commonly used form of preparing cash budget to forecast the short-
term cash requirements. To prepare this form of cash budget, information is
collected from different budgets like sales, salary & wages, overheads, material
budget etc. Under this method, the cash budget is divided into cash receipts and
cash disbursements which are estimated as under-

Estimation of cash receipts: Cash receipts in an organization are from Operations

activities and Non-operating activities. Operating cash receipts are those which
arise from the business activities. Receipts from sales, advance from customers,
debtors realization, all forms part of receipts from operational activities. In
estimating the sales receipts, sales and discount policies should be considered and
while forecasting the receipts from customers, credit policy, terms of sale should be
taken care of. Receipts from non-operating activities include interest, dividend,
commission, royalty, sales of scrap etc., i.e. all those receipts which are non-
operating in nature.

Estimation of cash disbursement: Cash disbursement in an organization can be

for operational activities, non-operational activities and for capital transactions. As
mentioned above any payments that are for the primary business object, are
considered as disbursement for operational activities like wages, payment to
creditors, bonus, gratuities, pension etc. Similarly, non-operating disbursement
includes interest, donations, income tax etc. Further any expenditure that is made
for expansion, repayment of any loan, redemption of any debentures etc are
considered as disbursement for capital transactions.

2. Balance Sheet method

This method is similar to previous method, in which a budgeted balance sheet is
prepared for the budget period for all items of balance sheet like all assets and
liabilities except for cash balance which is calculated as the balancing figure of
budgeted statement. If the asset side of the balance sheet exceeds the liability side,
then there is deficiency in cash balance or there is bank overdraft, and if liability
side is greater than asset side then the difference is the bank balance.

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3. Adjusted Profit & Loss method or adjusted Earning method or Cash Flow
method
The long-term estimates of cash receipts and payments are prepared by this
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method. This method is also called cash flow statement. Under this method profit
and loss of the firm is adjusted to drive the cash balance at the end of the budget
period. Previous year cash balance is added to obtain the cash available at the end of
budget period.

The method of preparing this form cash budget can easily be understood by the
following table –

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Figure 1: Preparation of Cash flow budget

6.3.2. MASTER BUDGET

Master budget comprise of all functional budget into one harmonious budget. It is
summarized budget prepared after obtaining all functional budgets which is obtained from
the specific budget committee and is then finally approved and adopted. It is then
submitted to board of directors for final acceptance. Once it is accepted by the board of
directors, it becomes the target of the company for the budget period.

6.3.3. FIXED AND FLEXIBLE BUDGET

Fixed budget is a one which is designed to remain the same irrespective of the level of
activity actually being carried on. It is prepared in the beginning of a budget period. This
type of budget does not consider about the cost variance at the different level of activities
and is therefore suitable only under the static conditions.

Flexible budget considers the fixed and variable cost while recognizing the different level of
activities attained. The amount of expenses that are necessary at each level of activity is
represented in flexible budget. In other words, series of fixed budget prepared at different
level of activities, represents a flexible budget. The problem caused by the fixed budget is
solved by this kind of budget.

Advantages of flexible budget are-

1. Budgets at all possible level of activities is prepared.

2. Overheads are analyzed into fixed, variable and semi-variable cost.
3. Expenditures at different level of activities can be forecasted.
4. Related factors can be compared at all time for decision making.
5. It can be prepared with standard costing or without standard costing.
6. It helps in ascertainment of performance of different departments which is
judged by the level of activity attained by the business

FIXED BUDGET FLEXIBLE BUDGET

It is very rigid and cannot be changed on the It is non rigid and can be changed on the
basis of activities achieved.It is also known basis of activities achieved.
as inflexible budget.

Only one budget is there which is prepared It has different budgets for different levels

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by taking one level of activity and one of activities.

condition & assuming that it will not change
so these are very unrealistic.
Variance analysis does not give useful
information as all costs such as fixed,
variable and semi are based on only one
level of activity.
As there is difference in two activities level
comparison of actual performance and
budgeted performance will be meaningless.
The aspects like price fixation and cost
ascertainment does not gives a correct
figure as there is a difference in budget and
actual activity levels.
Variance analysis gives the useful
information as each cost is analysed
according to its behaviour.
Comparison of actual performance and
budgeted performance will provide a
meaningful basis.
Flexible budgeting at different activity levels
facilitates the cost ascertainment, tendering
of quotation and fixation of selling price.

Figure 2: Difference between fixed budget and flexible budget

SELF ASSESSMENT QUESTIONS

3. One of the following budget classifications is not on the basis of time?

a. Long term budget

b. Short term budget
c. Current budget
d. Master budget

4. Which budget will be prepared for planning of expected cash receipts &
payments?

a. Sales budget
b. Fixed budget
c. Cash budget
d. Expense budget

5. Under the cash flow method of preparing cash budget, which of the following
statement is true?

a. Profit & Loss is adjusted for all non-operating expenses.

b. All cash receipts and payments are recognised to estimate the cash balance.
c. The net of all the assets and liabilities would result in cash balance.
d. All of the above.

SELF ASSESSMENT QUESTIONS

Page6.| 11 In respect of cash flow statement, non-operating income consist of-

a. Interest
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ACTIVITY:

You are provided with pocket money by your parents to meet your monthly
expenses. What kind of budget will be prepared fixed or flexible?. Mention the
reason for making such decision.
6.4.BUDGET PERIOD

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While developing comprehensive budgeting program the budget period plays a very
important part. This is a period for which budgets can be formulated and the forecasts can
be made reasonably. A business enterprise usually prepares a long-term budget and short-
term budget.
Short-Range Budget: The period that is covered by a short-term budget depends upon the
nature of the business.This period can be of three, six or twelve months. The planning
period in most of the manufacturing firms is of one year. Whereas, the retail firms and the
wholesalers use a budget which is associated to their selling season, usually a six months
budget.
The factors that have to be considered while determining the period of the short-range
budget are:
 The budget period for business of seasonal nature should cover the minimum of one
entire seasonal cycle.
 The budget period should have sufficient amount of time in which the production of
different types of products can be completed.
 In order to facilitate the better interpretation of the performance, the financial
accounting period and the budget period should be coincided together to compare
the actual results with the budget estimated.
 To make the finances available for production in advance of its actual needs,
adequate time must be there for arranging funds. Therefore, the budget period must
be long enough to allow such time.
Long-Range budget: The systematic and formalized processfor controlling and directing
the future operations in order to achieve a desired objective for the period extend beyond
one year is known as the long-range budget. The areas covered by the long-range budgets
are; future production, future sales, extensive research and development programs, long-
term capital expenditures, profit forecast, financial requirements.
Associated with the present decisions, they evaluate the future implications and helps the
management in making the present decision and select the alternative which is most
profitable. The risk is not eliminated totally by the long-range budgeting; It reduces that
much risk by which the production and achievement of company objectives is not
hampered.
While preparing a long-range budget there are many factors that are considered, like
economic factors, market trends, growth of population, industrial production, consumption
pattern, government’s economic and industrial policy and nation income. The period for
which the quantitative sales can be budgeted is of three to five years.

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A budgeted profit and loss account can be prepared after forecasting the sales and the
corresponding cost so that net operating profit can be forecasted. Similarly, a balance sheet
to forecast cash, account receivable, inventory levels, accounts payable, liabilities, etc can
be prepared. For accomplishing the objectives of the organization, the balance sheet for a
long range and the forecasted profit and loss account can be used as a very useful tool.
In both long term and short-term budgeting there are advantages and disadvantages, so the
choice must be made very cautiously. The advantage with the short-term budgeting is that
it provides more accuracy in budgeted figures which relate to future activity. Whereas, the
long-term budgeting can be less reliable as the longer period predictions can be inaccurate.
Alternatively, there are some limitations in short term budgeting. Anticipating the
problems long before they appear is the one of the objectives of making budget.This is done
so that there is sufficient time to find out the satisfactory solution. Achieving this objective
in short term budgeting is very difficult. Hence, to prepare both long- and short-term
budget is necessary for a business firm.

SELF ASSESSMENT QUESTIONS

12. What is the time period for a short-term budget?

a. Three months
b. Six months
c. Twelve months
d. All of the above

13. As compared to long term budget, short term budget provides-

a. Less accurate data

b. More accurate data
c. No difference in accuracy
d. None of the above

6.5.BUDGET PERFORMANCE REPORT

A budget performance report can be defined as the management report that compares the
actual revenues and cost for a period with the budgeted revenues and cost based on actual
sales volume. Viz., the difference between the actual company performance and the
budgeted performance is shown in this report.

This budget performance report is prepared by the management at the end of the
budgeting/accounting period to see the difference between the estimated budgeted

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numbers which were created at the starting and the actual ending numbers. This report is a
key tool for the management as it allows them to analyse which areas of the business are
fulfilling their budget goals and which areas/departments needs to be improved.

6.5.1 THE ROLE OF BUDGETS & PERFORMANCE REPORT

The common financial tool which is used to manage a company’s finances is known as
budgets. The assessment of the functions in small business environments is referred to as
performance reports.

Facts-The financial budgets are usually developed by the finance or accounting department
of the company. In order to make budgets in small businesses, owners or entrepreneur are
required to complete the function. The budget contains the specific amount which is
allowed to expend for completing a particular function. The company’s overall budget
management system is usually specified on a performance report. The necessary
information regarding the budget, attribute relating to various budget, variance or specific
traits are listed in these reports.

Plan Future Expenditures-In order to plan the future expenditure, small businesses make
the budget. These plans allow the business to determine that how much amount of sales
are needed for generating the capital for funding the budget. On the basis of past budget
performance, the business owners can adjust their future expenditure. Business owner can
understand why and how they are spending money in their business by reviewing the
historical budgets. Budgets can also be used to secure external financing for business
expansion.

Track spending variance-By using the budget the small owners can track spending
variances. Tracking budget variances can typically be done on monthly bases as most of the
financial processes of budget are done on annual basis. Reviewing a monthly spending
variance can help the small businesses to understand where money was spent each month
and compare it with the amount of generated sales on financial statement. In case of
excessive budget variance, the business owners have to review their budget process
completely to make sure that they have forecasted accurately any financial needs.

Performance report information-In order to provide the small business

owners/managers with extra information related to budget variance, the companies use
the performance reports along with the budget. This extra information can be related to
financial or non-financial issues which causes the budget to cross its allowable range. The
common reasons for financial budget increase are resource cost increase or other
additional costs. The reasons for non-financial increases can be replacement of inferior
resources is needed or for producing goods more employees are needed.

Considerations-The automated computer software program may be used by the

companies for tracking the financial or accounting information related to budget process.
These days’ companies are now making use of computer software packages in which data is
fed in pre-set budget format that allows companies to gather information electronically.

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These computerized budgets also save the time and money of the company which they use
to spent during the planning and development phase of the budget. By the help of this
software companies can link those budgets with specific financial accounts and can track
information in a real-time format.

SELF ASSESSMENT QUESTIONS

14. Which of the following are the roles of budget report?

a. Coordination
b. Track spending variance
c. Both A and B
d. None of the above

15._________ can be done on monthly basis?

a. Plan future expenditures

b. Tracking spending variance
c. Both A and B
d. None of the above

6.6. BUDGET REVISIONS

Everyone is already aware about the fact that the budgets are prepared for future. Future is
very uncertain. Hence, in the light of changing conditions there are needs to revise the
budget accordingly so that employees can be controlled properly.

While reviewing the budget here are the following points that are to be considered.

1. There can be some errors while originally preparing the budget so those errors can
be easily found out while revising.
2. Appearance of unforeseen and unanticipated situations.
3. Changes can be made in internal factors such as; grade of staff, utilization of capacity
etc.
4. Changes can be made in external factors such as; Prices of materials, government
policies, nature of economy etc.

6.6.1. IMPACT OF BUDGET REVISIONS

The revision in one budget can have major or minor impact on other budgets. In case of
minor impact management has no problems with it.In case of major impact, the

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management has to face two types of problems. First is that they have to change only one
budget and the second is that they need to change the master budget. In both the cases
whatever the impact is, it should be communicated by the management to all the concerned
departments without any delay.
A revision in budget is not debatable, it can be in any budget including master budget. In
case of opposition for the revised budget, it is uncounted by the management with the help
of suitable control device. The budget revision helps the management to exercise the
control in more effective basis and to evaluate the performance of the employees.

SELF ASSESSMENT QUESTIONS

16. what are the external factors in which changes can be made?

a. Prices of materials
b. Government policies
c. Nature of economy
d. All of the above

17. The revision in one budget can have ____________ impact on other budgets.

a. Major or Minor
b. Short-term and long-term
c. Both A and B
d. None of them

ACTIVITY:

In every household a monthly budget is prepared on the basis of previous

expenses.

You are required to prepare a monthly budget of household expenditure and

compare it with the actual expenditures. Contract both and find out the
deviation if any.

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6.7. SUMMARY

 The formal statement of the resources of the firm which is kept aside for doing the
strategic planning of finance is known as the budget.
 The process of preparing the budget is known as the budgeting. The detailed study of
business enviorment is done so that there is a hold on the management objectives,
capacity of the enterprise and the available resources of the enterprise.
 Budgetary control is a managerial tool that helps the management to calculate the data
in the form of budget. It also helps in observing the performance, making comparisons,
making the plans, and taking the measures to match the actual and planned
performance.
 There are four characteristics of budgetary control: planning communication,
coordination and Control and performance evaluation
 Fixed budget is a one which is designed to remain the same irrespective of the level of
activity actually being carried on. It is prepared in the beginning of a budget period.
 Flexible budget considers the fixed and variable cost while recognizing the different
level of activities attained. The amount of expenses that are necessary at each level of
activity is represented in flexible budget.
 Master budget comprise of all functional budget into one harmonious budget. It is
summarized budget prepared after obtaining all functional budget which is obtained
from the specific budget committee and is then finally approved and adopted
 Budget period is a period for which budgets can be formulated and the forecasts can
be made reasonably. A business enterprise usually prepares a long-term budget and
short-term budget.
 A budget performance report can be defined as the management report that compares
the actual revenues and cost for a period with the budgeted revenues and cost based
on actual sales volume.
 The role of budget and performance report are facts, planning of future expenditure,
tracking spending variance, performance report information, considerations.
 Everyone is already aware about the fact that the budgets are prepared for future.
Future is very uncertain. Hence, in the light of changing conditions there are needs to
revise the budget accordingly so that employees can be controlled properly.
 The revision in one budget can have major or minor impact on other budgets. In case
of minor impact management has no problems with it.
 In case of major impact, the management has to face two types of problems. First is
that they are changing only one budget and the second is that they are changing the
master budget.

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6.8. GLOSSARY

 Budget: The financial plan for a business which is prepared in advance is known as
a budget

 Budgeting: The process of preparing the budget is known as the budgeting. The
detailed study of business enviorment is done so that there is a hold on the
management objectives, capacity of the enterprise and the available resources of the
enterprise.
 Budgetary control:Thus budgetary control is a managerial tool that helps the
management to calculate the data in the form of budget.

 Budget period:A period for which budgets can be formulated and the forecasts can
be made reasonably is referred to as budget period.

 Budget report: A budget performance report can be defined as the management report
that compares the actual revenues and cost for a period with the budgeted revenues and
cost based on actual sales volume.

 Cash budget: Cash budget refers to planning of expected cash receipts and
payments during a budget period.

 Fixed budget:Fixed budget is a one which is designed to remain the same

irrespective of the level of activity actually being carried on. It is prepared in the
beginning of a budget period.

 Flexible budget: Flexible budget considers the fixed and variable cost while
recognizing the different level of activities attained. The amount of expenses that are
necessary at each level of activity is represented in flexible budget.

 Master budget:Master budget comprise of all functional budget into one

harmonious budget. It is summarized budget prepared after obtaining all functional
budget which is obtained from the specific budget committee and is then finally
approved and adopted

 Sales budget:Sales budget is a part of functional budget and is primarily

prepared for forecasting the sales and quantity in the budget period.

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6.9.CASE STUDY

XYZ Ltd is a software consultancy company. The company is having its office in multistory building at
Bangalore. In recent years, the competition has intensified in the software consultancy. Although XYZ Ltd is
a profitable company, but it as been facing liquidity problem in recent years. For the year ending 31 st March
2022, the company has estimated the following receipts and expenses-

Sales - 100 Salaries - 36

Office Rent - 12 Maintenance - 18
Computer Purchase - 20 Advertisement - 3
Donation - 2 Interest Paid - 12
Depreciation - 10 Increase in debtors - 12
Increase in creditors - 5
The management of the Company has decided to implement budgetary control system in the Company so
that the it can ascertain the deficiency. The cash flow for the Company has been drafted as follows-

A. Receipts from operations activities:

Sales (100 – 12) 88 88
B. Disbursement for operations activities:
Salaries 36
Office Rent 12
Maintenance (18 – 5) 13
Computer Purchase 20
Advertisement 3 84
C. Disbursement for non-operational activities:
Donation 2
Interest Paid 12 14
D. Net Cash Deficiency (A-B-C) 18

Questions:
1. The management’s decision to implement budgetary control system is understand the reason and
cause of deficiency. What could be the other importance of creating cash budget?
2. Cash flow statements could be prepared by different methods. The above statement is prepared
using cash receipt and payment method. What are the other methods of preparing the cash flow
statement? Prepare the above cash flow statement with one of the other methods.

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6.10.TERMINAL QUESTIONS

SHORT ANSWER QUESTIONS

Q1. Define budgetary control.

Q2. What is budget and budgeting?
Q3. Define master budget.
Q4. Mention characteristics of budgetary control.
Q5. What are fixed and flexible budget.
Q6. Write about the impact of budget revision?

LONG ANSWER QUESTIONS

Q1.What are the types of budget ? Explain about the functional budget.
Q2.What are the methods for preparing a cash budget?
Q3. Differentiate between fixed budget and flexible budget.
Q4. Explain about the budget period.

ANSWERS

SELF-ASSESSMENT QUESTIONS

1. B. Budgeting
2. D. All of the above
3. D. Master budget
4. C. Cash budget
5. A. Profit & Loss is adjusted for all non-operating expenses.
6. C. Both of the above
7. A. Maintenance of cash balance
8. C. Functional budget
9. D. All of the above
10. A. Fixed budget is designed to remain same irrespective of level of activity
11. C. On the basis of capacity
12. D. All of the above
13. B. More accurate data
14. C. Both a and b
15. B. Tracking spending variance
16. D. All of the above
17. A. Major or minor

TERMINAL QUESTIONS

SHORT ANSWER QUESTIONS

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Management Accounting Unit 6

Answer1: Thus budgetary control is a managerial tool that helps the management to
calculate the data in the form of budget. It also helps in observing the performance, making
comparisons, making the plans, and taking the measures to match the actual and planned
performance. This can be achieved by creating different budgeting centres or responsibility
centres so that there is a proper check on the utilization of resources of the firm.
Answer 2: The financial plan for a business which is prepared in advance is known as a
budget and the process of preparing the budget is known as the budgeting. The detailed
study of business enviorment is done so that there is a hold on the management objectives,
capacity of the enterprise and the available resources of the enterprise.

Answer 3: Master budget comprise of all functional budget into one harmonious budget. It
is summarized budget prepared after obtaining all functional budgets which is obtained
from the specific budget committee and is then finally approved and adopted. It is then
submitted to board of directors for final acceptance. Once it is accepted by the board of
directors, it becomes the target of the company for the budget period.

Answer 4:There are four characteristics of budgetary control

i. Planning
ii. communication,
iii. coordination
iv. Control and performance evaluation

Answer 5:Fixed budget is a one which is designed to remain the same irrespective of the
level of activity actually being carried on. It is prepared in the beginning of a budget period.
Flexible budget considers the fixed and variable cost while recognizing the different
level of activities attained. The amount of expenses that are necessary at each level of
activity is represented in flexible budget.

Answer 6:The revision in one budget can have major or minor impact on other budgets. In
case of minor impact management has no problems with it.
In case of major impact, the management has to face two types of problems. First is that
they are changing only one budget and the second is that they are changing the master
budget. In both the cases whatever the impact is it should be communicated by the
management to all the concerned departments without any delay.
A revision in budget is not debatable it can be any budget including master budget. In case
of opposition for the revised budget it is uncounted by the management with the help of
suitable control device. The budget revision helps the management to exercise the control
in more effective basis and to evaluate the performance of the employees.

LONG ANSWER QUESTIONS

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Answer 1: Depending upon the purpose and requirement of budget, different type of
budgets have been designed for management purpose. Following are the classification of
budgets-

1. On the basis of time – Long term budget, short term budget and current budget
2. On the basis of functions – Functional budget and master budget
3. On the basis of capacity – Fixed budget and flexible budget

Functional budget-

As the name suggest, this type of budget is associated with the functions of an organization.
Thus, on the basis of the type of functions an organization have, the functional budgets can
further be segregated into some of the following types-

1. Sales budget –It is an estimate of expected sale during a budget period. It is the starting
in budgeting the budgets in an organization.
2. Production budget – It is an estimated cost of carrying out production as per he
budgeted cost.
3. Cost budget – It lays emphasis on costing of an organization during the budget period.
The cost can be direct or indirect cost.
4. Capital expenditure budget – This budget is to make plan for any capital expenditure
which may be for improvement in old asset or replacement of fixed asset.
5. Cash budget – It is one of the most common and important form of budget in an
organization. It compares the estimated cash inflows and outflows during a budget
period to ensure that sufficient cash is available when required.

Answer 2: Methods of preparation of Cash Budget

1. Receipt and Payment method

It is the most commonly used form of preparing cash budget to forecast the short-
term cash requirements. To prepare this form of cash budget, information is
collected from different budgets like sales, salary & wages, overheads, material
budget etc. Under this method, the cash budget is divided into cash receipts and
cash disbursements which are estimated as under-

Estimation of cash receipts: Cash receipts in an organization are from Operations

activities and Non-operating activities. Operating cash receipts are those which
arise from the business activities. Receipts from sales, advance from customers,
debtor’s realization, all forms part of receipts from operational activities. In
estimating the sales receipts, sales and discount policies should be considered and
while forecasting the receipts from customers, credit policy, terms of sale should be

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Management Accounting Unit 6

taken care of. Receipts from non-operating activities include interest, dividend,
commission, royalty, sales of scrap etc., i.e. all those receipts which are non-
operating in nature.

Estimation of cash disbursement: Cash disbursement in an organization can be

for operational activities, non-operational activities and for capital transactions. As
mentioned above any payments that are for the primary business object, are
considered as disbursement for operational activities like wages, payment to
creditors, bonus, gratuities, pension etc. Similarly, non-operating disbursement
includes interest, donations, income tax etc. Further any expenditure that is made
for expansion, repayment of any loan, redemption of any debentures etc are
considered as disbursement for capital transactions.

2. Balance Sheet method

This method is similar to previous method, in which a budgeted balance sheet is
prepared for the budget period for all items of balance sheet like all assets and
liabilities except for cash balance which is calculated as the balancing figure of
budgeted statement. If the asset side of the balance sheet exceeds the liability side,
then there is deficiency in cash balance or there is bank overdraft, and if liability
side is greater than asset side then the difference is the bank balance.

3. Adjusted Profit & Loss method or adjusted Earning method or Cash Flow
method
The long-term estimates of cash receipts and payments are prepared by this
method. This method is also called cash flow statement. Under this method profit
and loss of the firm is adjusted to drive the cash balance at the end of the budget
period.
Cash Flow from Operating Activities-
 Profit as per the Profit & Loss statement is adjusted for non-operating incomes and
expenses.
 All non-cash expenses which are debited to profit and loss statement are added to
the budgeted profit like depreciation, pre-paid expenses, write off etc.
 Changes in working capital which would result in cash inflow or outflow is adjusted
here like increase in sundry debtors would result in cash outflow, increase in sundry
creditors would result in cash inflow.
Cash Flow from Investment Activities-
 This includes cash outflow in any future expansion programme of the company.
 Receipts from sale of any plant & machinery will also form part of it.

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Management Accounting Unit 6

Cash Flow from Financing Activities-

 Financing activities includes raising finance for the company from shares,
debentures, loans etc. Any repayment to loan will also form part of cash outflow
under financing activities.
 Payment of interest, dividend etc is also part of financing activity.

Answer 3:
FIXED BUDGET FLEXIBLE BUDGET
It is very rigid and cannot be changed on the It is non rigid and can be changed on the basis of
basis of activities achieved.It is also known activities achieved.
as inflexible budget.

Only one budget is there which is prepared It has different budgets for different levels of
by taking one level of activity and one activities.
condition & assuming that it will not change
so these are very unrealistic.
Variance analysis does not give useful Variance analysis gives the useful information as
information as all costs such as fixed, each cost is analysed according to its behaviour.
variable and semi are based on only one
level of activity.
As there is difference in two activities level Comparison of actual performance and budgeted
comparison of actual performance and performance will provide a meaningful basis.
budgeted performance will be meaningless.
The aspects like price fixation and cost Flexible budgeting at different activity levels
ascertainment does not gives a correct facilitates the cost ascertainment, tendering of
figure as there is a difference in budget and quotation and fixation of selling price.
actual activity levels.

Answer 4:While developing comprehensive budgeting program the budget period plays a
very important part. This is a period for which budgets can be formulated and the forecasts
can be made reasonably. A business enterprise usually prepares a long-term budget and
short-term budget.
Short-Range Budget: The period that is covered by a short-term budget depends upon the
nature of the business this period can be of three six or twelve months. The planning period
in most of the manufacturing firms is of one year. Whereas, the retail firms and the whole
sellers use a budget which is associated to their selling season usually a six months budget.

The factors that have to be considered while determining the period of the short-range
budget are:

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Management Accounting Unit 6

 The budget period for business of seasonal nature should cover the minimum of one
entire seasonal cycle.
 The budget period should have sufficient amount of time in which the production of
different types of products can be completed.
 In order to facilitate the better interpretation of the performance, the financial
accounting period and the budget period should be coincided together to compare
the actual results with the budget estimated.
 To make the finances available for production in advance of its actual needs,
adequate time must be there for arranging funds. Therefore, the budget period must
be long enough to allow such time.

Long-Range budget:
The systematic and formalized process for controlling and directing the future
operations in order to achieve a desired objective for the period extend beyond one
year is known as the long-range budget. The areas covered by the long-range budgets
are; future production, future sales, extensive research and development programs,
long-term capital expenditures, profit forecast, financial requirements.
While preparing a long-range budget there are many factors that are considered, like
economic factors, market trends, growth of population, Industrial production,
consumption pattern, government’s economic and industrial policy, nation income. The
period for which the quantitative sales can be budgeted is of three to five years.
A budgeted profit and loss account can be prepared after forecasting the sales which
related the anticipated sales to the corresponding cost so that net operating profit can
be forecasted. Similarly, a balance sheet to forecast cash, account receivable, inventory
levels, accounts payable, liabilities, etc can be prepared. For accomplishing the
objectives of the organization, the balance sheet for a long range and the forecasted
Profit and loss account can be used as a very useful tool.

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Management Accounting Unit 6

6.11. SUGGESTED BOOKS AND E-REFERENCES

BOOK REFERENCES:

 Charles T Horngren, Introduction to Management Accounting, 14 th edition, Pearson.

 P.K. Jain and M.Y. Khan, 2009, Management Accounting, 7 th edition, Tata McGraw
Hills.
 Shashi K. Gupta, 2003, Management Accounting, Kalyani Publishers.

E- REFERENCES:

 Concept of Budgetary Control-characteristics viewed on 28th May 2021

<https://www.shareyouressays.com/knowledge/4-important-features-of-
budgetary-control/116334>
 Type of budgets-Functional budget viewed on 27th May 2021
<https://www.playaccounting.com/explanation/managerial-accounting/which-
functional-budgets-are-commonly-used-by-the-managment/>
 Type of budgets-Cash budget-Fixed budget and flexible budget viewed on 27 th May
2021
<https://www.dynamictutorialsandservices.org/2018/10/management-
accounting-notes-budget-and.html>
 Budgetary Control-Budget period viewed on 27th May 2021
<https://www.yourarticlelibrary.com/accounting/budgeting-accounting/budget-
period-short-range-and-long-range-budget/52792>
 Budgetary Control-Budgetary control report viewed on 28 th May 2021
<https://richardfap.wordpress.com/preparing-a-budgetary-controlperformance-
report/#:~:text=A%20budget%20performance%20report%20is,performance
%20and%20the%20budgeted%20performance.>
 Budgetary Control-Budget revision viewed on 28th May 2021
<https://accountlearning.com/need-for-budget-revision-impact-of-budget-
revision/#:~:text=The%20reason%20is%20that%2C%20budget,which%20they
%20will%20be%20accountable.>

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Figure4: Conceptual Map
Unit 6