2.2.4 Budgets

Question 1

Define the term ‘budget’

Answer 1

• A financial plan that a business (or department in a business) sets about costs & revenue

Question 2

What are the reasons for a business using budgets?

Answer 2

Planning & monitoring- businesses that use budgets are actively planning ahead - problems & their solutions may be considered & solved in advance

Control- Frequent monotoring of budgets allows managers to precisely control their functional area

Motivation & efficiency- Budgets play an important role in target-setting & performance management which can be used by managers to measure successs

Question 3

What types of budgets are there?

Answer 3

• Historical figure budgets
• Zero based budgets

Question 4

What is historical figure budgeting?

Answer 4

• Budgets which are based on historical data from previous years in the business
  & are adjusted when needed

Question 5

What is zero based budgeting?

Answer 5

When all expenses must be justified for a new period or year starting from zero

Question 6

What is a budget variance?

Answer 6

• A difference between a figure budgeted & the actual figure achieved by the end of the budgetary period (e.g. twelve months)

Question 7

What is a variance analysis?

Answer 7

Seeks to determine the reasons for the differences in the actual figures & budgeted figures

(links with budget variance)

Question 8

What is a favourable variance?

Answer 8

Where the actual figure achieved is better than the budgeted figure

Question 9

What is a favourable variance in terms of revenue, profit or costs?

Answer 9

Revenue or profit- budget is where the actual figure is higher than the budgeted figure

Costs- Where the actual figure is lower than the budgeted figure

Question 10

What is an adverse variance?

Answer 10

When the actual figure achieved is worse than the budgeted figure

Question 11

What is an adverse variance in revenue, profit or costs?

Answer 11

• Revenue or profit budget- Where the actual figure is lower than the budgeted figure
• Costs budget- where the actual figure is higher than the budgeted figure

Question 12

What are the difficulties of budgeting?

Answer 12

• Data must be up-to-date, accurate and free of bias
  Sources of data must be selected carefully & used with care to ensure the most appropriate assumptions are made
  Those constructing budgets will require skills & relevant experience to do so effectively
  This may involve training or the recruitment of specialist staff
• Budgeting can encourage managers to focus on the short-term rather than the long term performance
• Unachievable or ambitious budgets can have a negative impact on motivation
• Budget setters have significant influence over the setting & review of budgets
• The budget is only as good as the data used to construct it - inaccurate data renders budgets useless
• Budgets take time & skill to set, monitor & review