Module 8 Budgeting Techniques

Question 1

Budget helps in whta 6 key areas?

Answer 1

1. Planning
2. Communitcating
3. Co-ordinating
4. Controlling
5. Motivating
6. Evaluating

Question 2

Typical sequence of budget creation

Answer 2

• Sales budget
• Production budget
• Overheads budget
• Research and development budget
• Administrative budget
• Master budget

Question 3

What are the criticisms of a traditonal budget?

Answer 3

• Excessive reliance on past data and their use to evaluate performance of managers
• Can be seen as oppressive, a limit on managers’ activities, a threat, or a mechanism for continually reducing the resources available
• Managers must be convinced that budgeting is a positive

Question 4

What is budget padding?

Answer 4

• Deliberate underestimate of future sales performance, and/or overestimate of future costs
• To create a good appraisal of the manager responsible for meeting or beating the budget
• Budgetary slack is the extra added

Question 5

Effects of padding the sales budget for production resources?

Answer 5

• Production resources will be based on the sales forecast.
• Sales forecast has been underbudgeted, production resources will be based on this lower volume of sales
• Resulting in lost sales and/or higher production costs

Question 6

Effects of padding the sales budget for R&D?

Answer 6

• Research and development budget is often a fixed percentage of budgeted sales
• Lower sales budget will reduce the research and development
• Limit future succes

Question 7

Effects of padding the sales budget for cashflow?

Answer 7

• Lower sales equals less cash in, while higher costs equals more cash out.
• Organisation may well have prepared a wholly unnecessary financing package with the bank to deal with a cashflow problem, which may never occur.

Question 8

Behavioural effects of budgets

Answer 8

• Perceive budget as too difficult to achieve, they may simply view the budget as unrealistic and give up.
• Budget was very easy to achieve, may not try very hard to beat the budget, again performing below their abilities

Question 9

Methods for improving the effectiveness of budgeting

Answer 9

• linking budgeting explicitly to strategy
• demonstrating top management support for the budget
• involving those responsible for achieving the budget in the budget setting process
• using the budget as a control tool during the budget period
• remembering budgeting is a human process
• balancing financial and non-financial

Question 10

What is incremental budgeting?

Answer 10

Taking historic budgeted or actual figures and updating by an incremental amount each period

Question 11

Advantages of incremental budgeting

Answer 11

• Simple, understandable and easy to apply
• Non-threatening
• All figures are known to managers
• Variances have been discussed
• The process is familiar so can be easily understood

Question 12

Disadvantages of incremental budgeting

Answer 12

• Perpetuates past inefficiencies
• Starting point assumes that the prior year reflected efficient performance
• May include an element of budgetary slack or one off additions

Question 13

Zero Based Budgeting Process

Answer 13

• Every budget centre starts with a zero-budget allocation
• The budget centre then builds up budget proposals at different levels of service and activity based on their department’s size and business
• Each service level proposal is then subject to review by senior management
• Senior management select and approve a level of spending and service for each department

Question 14

ZBB requires managers to do what?

Answer 14

• Rank objectives, operations and activities
• Explore alternative means of conducting each activity
• Determine activity costs

Question 15

Advantages of ZBB

Answer 15

• Resources are allocated on need rather than by historic events
• Increased participation of employees in the budgeting process
• Focus on value for money

Question 16

Disadvantages of ZBB

Answer 16

• ZBB is very time consuming and can be difficult to perform
• ZBB is often unnecessary
• The process can be very unsettling for staff

Question 17

How would ZBB be practically used?

Answer 17

• A full ZBB review every five years, with incremental budgets inbetween
• ZBB review for functional areas that undergo significant changes in their operations
• A sample of the functional areas of the organisation will be subject to ZBB each year

Question 18

Kazizen Costing

Answer 18

• Japanese technique for setting targets and budgets
• Method of budgeting based on continual improvement in cost performance
• Assumes that when a product is in production, it is difficult and costly to introduce large changes
• Goal of Kaizen costing is to ensure that this year’s production cost will be less than last year
• A target-reduction rate is established and compared to actual cost reductions achieved
• Cost reduction targets are set and applied monthly

Question 19

What is a rolling budget?

Answer 19

• A budget which is continuously updated at the end of each control period
• Control period is typically montly or quarterly but can be daily
• Ensuring that there is always a twelve month budget

Question 20

Advantages of Rolling Budgets

Answer 20

• Budgets are more realistic and achievable as they are continuously planned
• Rolling budgets may reduce padding as managers can continuously update performance benchmarks.

Question 21

Disadvantages of Rolling Budgets

Answer 21

• Rolling budgets may encourage slack to give the impression of continual improvement

Question 22

What is Cross-Functional budgeting?

Answer 22

• Provides managers with information to understand and manage costs across the whole of the organisation’s activities
• Clarifies the implications of decisions made in one part of the organisation for the rest

Question 23

What is top down budgeting?

Answer 23

• Begins the budgeting process with the top-level management agreeing to take on a project
• Initial budget is then divided among the various departments
• Managers in those departments will divide this further

Question 24

What is bottom up budgeting?

Answer 24

• Starts by estimating the costs of each of the individual tasks involved in a project
• If a project has various different layers, then all of the bottom layer costs are added together and then the second layer costs are estimated
• Continues up until final budget is arrived at

Question 25

What is responsibility-based budgeting?

Answer 25

• Budget which is based on the profit centre of a manager#
• Set by senior management with input from that manager

Question 26

Advantages of activity based budgeting

Answer 26

• Ability to set more realistic budgets
• Better identification of resource needs
• Linking of costs to outputs
• Clearer linking of costs with staff responsibilities
• Identification of budgetary slack

Question 27

Two methods for analyising Activity based budgeting?

Answer 27

• activity level variance - how often an organisation performed an activity
• activity cost variance - how much it cost the organisation to perform an activity

Question 28

Several factors organisation should take into account when evaluating their existing budget?

Answer 28

• What budget planning horizon do we use? – annual, quarterly
• How frequently do we report to managers? – quarterly, monthly
• How have we dealt with the human factors involved in budgeting? - padding
• What budgeting techniques shall be used?
• How have the business strategies been incorporated into the budgets?