2.2.4 - Budgets

Question 1

Budget - Definition

Answer 1

a budget is a financial plan for the future

Question 2

Budget - How to Construct

Answer 2

• make a judgement of likely future sales and revenues
• set limits which still allow for profits
• break down into departments/ managers

Question 3

Income Budget - Definition

Answer 3

forecasts the amount of money that will come into the business as a revenue

Question 4

Expenditure Budget - Definition

Answer 4

predicts what the businesses total costs will be for the year, taking into account both fixed and variable costs, is often broken into departments, each is given a certain amount of money to spend

Question 5

Profit Budget - Definition

Answer 5

uses the income budget minus the expenditure budget to calculate what the expected profit or loss will be for that year

Question 6

Budgets - Purpose

Answer 6

• prevents over spending
• measures success
• enables spending power to be delegated
• motivates staff in departments

Question 7

Budgets - Pros

Answer 7

+ can be motivating as gives employees targets
+ help control income and expenditure
+ helps managers review their activities and make decisions
+ can help focus priorities
+ can be used as a communication tool to share information on how
money is being spent
+ let departments coordinate spending
+ help persuade investors that the business will be successful

Question 8

Budgets - Cons

Answer 8

• can cause resentment and rivalry between departments competing for
  money
• can be restrictive
• is time consuming, managers may forget to focus on issues of winning
  business and understanding the customer
• inflation is hard to predict, prices could rise significantly
• start up businesses may struggle to get data from other firms and may
  be inaccurate
• won’t work for seasonal businesses

Question 9

Historical Budgets - Definition

Answer 9

historical budgets are updated each year

Question 10

Zero-based Budgets - Definition

Answer 10

zero-based budgeting are budgets that start from scratch each year

Question 11

Historical Budgets - Pros and Cons

Answer 11

+ quick
+ simple
+ realistic as based on actual results
- assumes business conditions stay unchanged, isn’t always the case
- little incentive for new ideas and reduction in costs
- budget may become completely out of date

Question 12

Zero-based Budgets - Pros and Cons

Answer 12

+ if done properly is more accurate
+ easier to adapt with changing circumstance, flexibility
+ forces managers to think and plan more carefully
- takes much longer
- have to plan and justify their requests to finance director
- can be expensive
- bias

Question 13

Fixed Budgeting - About

Answer 13

stick to budget plans throughout the year even if market conditions change. Can prevent a firm from reacting to opportunities and threats
- provide discipline and certainty > can help control cash flow

Question 14

Flexible Budgeting - About

Answer 14

allows budgeting to be altered in response to significant changes in the market or economy
- zero-based is much more flexible than historical

Question 15

Variance - Definition

Answer 15

the difference between actual figures and budgeted figures

Question 16

Variance Analysis

Answer 16

Favourable variance - higher profit than expected

Adverse variance - lower profit than expected