MA Week 7 Flashcards
Budget
A FINANCIAL PLAN OF ACTION relating to a given period, typically 1 YEAR OR LESS, that identifies how much a business would earn, spend or save, based on how much funds are available
Budgeting
The process of SYSTEMATICALLY collecting, evaluating and communicating (quantified) information about an organisation’s FUTURE ACTIVITIES
Planning hierarchy
Triangle of…
- Strategic planning (top)
- Tactical planning
- Operational planning
More and more ppl and info at the operational level. Incorporates what person at top level wants.
Master budget
- All-encompassing budget
- represents a summary of all of management’s plans and goals for the future, and outlines the way in which these plans are to be accomplished
- Includes Financial & Operating budgets
ie. Cash budget, Capital budget (capital expenditure), Operating budget (like income statement type)
9 steps in preparing an operating budget
Always think what’s the 1 step before this!
- Everything starts with SALES BUDGET
- PRODUCTION budget = budgeted sales units + DESIRED CLOSING INVENTORY - Opening inventory
- Direct materials budget (also + planned closing inv - opening inv)
- Direct labour budget (no closing/opening inventory)
- Mfg Overheads budget (Starting point is labour b/c absorbing overheads on direct labour hours basis)
* Depreciation is a NON-CASH expense so we subtract from mfg overheads to get cash disbursement for mfg overheads - Closing inventory budget (in monetary terms)
- Cost of goods sold budget
- Other (non-production) costs budget
- Budgeted operating profit
Then Budgeted Balance sheet & Cash Budget
Cash budget
*Profit is not cash, due to accruals and prepayments
- Budget of estimated cash inflows & outflows incorporating BOTH REVENUE and CAPITAL items
- so cash budget can aid in identifying inefficiencies in cash transactions
- Assists management to keep cash balances at a REASONABLE level. Helps in avoiding unnecessary idle cash / SURPLUSES or possible cash SHORTAGES
ie. Negative cash does not exist. so we need to plan for a bank overdraft. Or plan ahead to invest money earned ASAP to cover for inflation
*to provide information on probable cash NEEDS DURING the budget period, so that required bank loans and other sources of financing can be anticipated and arranged well in advance of the actual time of need.
Capital budgeting
Operating budget
- Process concerned with DECISION MAKING in respect of specific INVESTMENT project choices & the total amount of capital expenditure to commit
- Budget of the REVENUE & EXPENSES expected in a forthcoming period (those in earlier flashcards)
4 factors for effective budgets
- Have PREDICTIVE power (nearer to what the future is likely to be)
- UNAMBIGUOUS TOOLS of communication,
AUTHORITY & RESPONSIBILITY
- you can’t hold anyone responsible unless you are also given authority
- everyone who has some responsibilities should be given budgets & authority to make decisions based on those budgets
- give responsibility to ppl w/ budgets, they will do better - TIMELY information
- Strategic, tactical & operational level SUPPORT (at all levels of organisation)
Budgetary approaches/philosophy:
1. Top-down (imposed)
2 Pros & 3 cons
- would prefer top-down at times of uncertainty, where top mgmt needs to give out clear instructions quickly
2. Bottom-up (participative)
Senior mgmt allocates budget to Department managers, then allocate to Budget-holding staff
Pros:
- Pacy
- Financial control
Cons:
- Inaccurate - may not know what’s happening at grassroots level
- If numbers seem unachievable, won’t motivate people -> UNDERPERFORMANCE
- If numbers seem unachievable, STAFF MORALE affected
Budgetary approaches/philosophy:
1. Top-down (imposed)
- Bottom-up (participative)
5 Pros & 4 cons
- Budget-holding staff submit budget to Dept. managers, then submit to Senior mgmt. If rejected, send back to dept. managers to re-quantify resource requirement.
- After Senior mgmt accepts, sent back to dept. managers, then budget-holding staff
Pros:
- Motivated
- Better information
- Staff ownership of own responsibility
- Better morale
- Senior mgmt can FOCUS on other important STRATEGIC tasks (don’t have to worry about nitty gritty things)
Cons:
- INEXPERIENCED managers, seem to have no clue about numbers
- BUDGETARY SLACK
- easy income targets, or higher spending targets - SLOW budgeting process
- may lead to DYSFUNCTIONAL behaviour
- when budgets are not in line w/ CORPORATE OBJECTIVES
5 Budgetary systems - Incremental budgeting
*Implicit assumption in the traditional approach: current expenditure adds value to customers
- Incremental budgeting
- use CURRENT year’s ACTUAL results as a starting point, then increment for INFLATION, sales growth…
- traditionally used in public sector in many parts of the world, often resulted in INEFFICIENCIES
- can be used for rent; not for advertising expenditure b/c discretionary
- For times of steady growth - predictable industries
- Better for big businesses - as it avoids lots of paperwork
5 Budgetary systems - Flexible budgets
- Flexible budgets
- used at times of UNCERTAINTY
- flexible based on diff. LEVELS of ACTIVITY
* budget flexing: flexing VARIABLE costs from original budgeted levels to the ALLOWANCES permitted for actual volume achieved, while MAINTAINING FIXED COSTS at original budget levels
- for companies with variable output that fluctuates a lot
5 Budgetary systems - Rolling budgets
- Rolling budgets
- continuously updated; used when future costs/activities CANNOT be FORECASTED ACCURATELY
- reassessed every month/quarter & each budget covers the next 12 months/quarter
* but need a lot of reliable data coming in quickly
- Better for smaller businesses - as otherwise this would involve a lot of paperwork
5 Budgetary systems - Zero-based budgeting (ZBB)
- Zero-based budgeting (ZBB)
- add expenditures only if ADD VALUE to CUSTOMER
- each cost element has to be JUSTIFIED, as if the related ACTIVITIES were being undertaken for the 1st TIME -> budget at 0 unless justified & approved
- Encourages a more questioning approach but may be COSTLY to implement & may make employees feel THREATENED
* used by many biz.s & can cut a lot of $$
- Good for fast-growing industries that are constantly changing {constantly assess expenditures}
5 Budgetary systems - Activity-based budgeting
- Activity-based budgeting
- budgets prepared according to COST-DRIVING ACTIVITY rather than functions; based on ABC
*can provide more ACCURATE budgets (b/c defined clearly what the activities are)
& CLOSER LINKS between costs & mgmt’s responsibilities (only get paid for what I’m responsible; activities are being rewarded)
- Used in companies that are highly specialised to avoid undercosting of “high end” products
i) determine SALES BUDGET
ii) identify activities NEEDED to achieve budgeted sales
iii) identify COST DRIVERs for each activity, cost driver RATE, estimate TOTAL USAGE of cost driver based on sales budget
iv) calculate budget using cost driver rate
