Budgeting

Learning Goals
• Define the term 'budget'. Explain the role and
use of budgets.
• Define, calculate and interpret budget
variances.
• Discuss the possible causes of adverse and
favourable variances, and how businesses
might use this information.
 Budgets
• Estimates of the income and expenditure of a
business or a part of a business over a time
period.
• Used extensively in planning.
• Helps establish efficient use of resources.
• Help monitor cash flow and identify departures
from plans.
• Maintains a focus and discipline for those
involved.
 Approaches to Budgeting
• Flexible Budgets – budgets that take account of
changing business conditions.
• Operating Budgets – based on
the daily operations of a business.
• Objectives Based Budgets - Budgets driven by
objectives set by the firm.
• Capital Budgets – Plans of the relationship between
capital spending and liquidity (cash) in the business.
 The Preparation of Budgets
Set Budget Set
Period Objectives
Provide
Forecasts Information Past
Results

Sales Production
Budget Budget

Co-ordinate Subsidiary Budgets

Master Budget Projected SFA

Cash Budget and
Income Statement
 The Budget Cycle

Preparation
of
Plans

Plans
Analysis of vs.
Variances Actual
Results
 Variance
 The Difference between budgeted business
figures and the actual resulting business
figures.

 Favourable (F)
 When the actual figures are ‘better’ than the
budgeted figures.

 Adverse (A)
 When actual figures are worse than the budgeted
figures.
 Benefits of Variance Analysis
 Performance Monitoring

 Managers can assess whether variances are

caused by internal or external factors

 Enables managers to produce better budgets in

the future

 Improve accountability in the firm

 The Benefits of Budgets
Means of controlling income and expenditure.
Draw attention to losses, waste and inefficiency.
Act as a ‘review’ for a business.
Highlight and clarify the responsibilities of
executives.
Allows management to delegate authority without
losing control.
Improve coordination and communication
between departments.
Create clear targets and goals for employees
 The Drawbacks of Budgets
 Potentialfor resentment from some managers if
they are not involved in the preparation.
 Why is her departments’ annual budget larger
than mine? Why wasn’t I consulted?

 Ifbudgets are too inflexible, the business could

suffer.

 Loss of importance if there is a large difference

between business results and budgeted results.
 Disadvantages of Budgeting
• Using planned figures (the figures in budgets are not
real figures, and they are hard to calculate).
• Collecting information (making budgets requires a
great deal of coordination).
• Time (it can be time consuming).
• Conflict (there can be conflict between departments
when making budgets e.g. marketing department
wants more money but the accounting department
gets all the money).