Budgets and Variances

Question 1

What is a budget?

Answer 1

• a budget is a financial plan for the future concerning the revenues and costs of a business.
• however, a budget is about much more than just financial numbers.
• Budgetary control is the process by which financial control is exercised within an organisation.
• Budgets are prepared in advance and then compared with actual performance to establish any variances.

Question 2

What are budgets used for?

Answer 2

• Control income and expenditure
• establish priorities and set targets in numerical terms
• provide direction and co-ordination, so that business objectives can be turned into practical reality.
• allocate resources
• managers can use budgets to monitor performance
• managers can use budgets to improve efficiency

Question 3

What are some components for an effective budget system?

Answer 3

• managerial responsibilitiees are clearly defined- in particular the responsibility to adhere to their budgets
• individual budgets lay down a plan of action
• performance is monitored against the budget
• corrective action is taken if results differ significantly from the budget
• departures from budgets are permitted only after approval from senior management
• unaccounted for variances are investigated.

Question 4

What is a variance?

Answer 4

• a variance occurs when there is a difference between actual and budget figures.

Question 5

What is a favourable variance?

Answer 5

• a variance is favourable/positive when the outcome is better than expected
• e.g. costs were lower than expected in the budget
• revenue/profits were higher than expected

Question 6

What is an adverse variance?

Answer 6

• variance is adverse/unfavourable when the outcome is worse than expected
• e.g. costs were higher than expected
• revenue was lower than expected