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Flashcards

Chpater 33: Budgets

HRYN red AL Business A level English 23 cards

Cards in this deck (23)

  1. 1If no plans are made, an organisation drifts without real direction and purpose. Managers will not be able to allocate the scarce resources of the business effectively without a plan to work towards. Employees with no plans or targets for future action are likely to feel demotivated as they have no goals to work towards and no objective to be praised for achieving. If no targets are set then an organisation cannot review its progress as it has no set objective against which actual performance can be compared. Budget defA detailed financial plan for the future.
  2. 2Planning for the future must take into account the financial needs and likely consequences of these plans. This is the budgeting process. Setting and agreeing financial targets for each section of a business will have many benefits – primary is the ability to measure the performance of each part of the organisation that has been allocated budgets. Budgets are set for both sales revenue and costs and it is usual for each cost centre and profit centre to have budgets set for the next 12 months, broken down by months. Setting budgets and establishing financial plans for the future have 7 main purposes:1.Planning: makes managers consider future plans carefully so realistic targets
    2.Effective allocation of resources: making sure that business doesn’t spend more resources than access.priorities
    3.Setting targets to be achieved: most people work better if haverealisable target. motivation be greater if budget holder or cost-profit-centre manager has given some delegated accountability for setting and reaching budget levels.
    4.Coordination: discussion over allocation of resources to different departments and divisions requires coordination between departments. Once budgets have been set, people will have to work effectively together if targets set achieved.
    5.Monitoring and Controlling: plans cannot be ignored once in place. Need to check regularly that the financial objective is still within reach.
    6.Modifying: if objective cant be reached and budget is unrealistic, eitherplan or way of working towards be changed.
    7.Measuring and assessing performance: once budgeted period has ended, variance analysis used to compare actual performance with original budgets.
  3. 3Budget Holder– Individual responsible for the initial setting and achievement of a budget.
  4. 4Variance AnalysisCalculating differences between budgets and actual performance, and analysing reasons for such differences.
  5. 5A budget is not a forecast, although much of the data which it’s based will come from forecasts, since looking into the future. Budgets are plans that organisations aim to fulfil. A forecast is a prediction of what could occur in the future given certain conditions. Budgets can be established for nay part of an organisation as long as the outcome of its operation is measurable – most cost centres and profit centres will have budgets set including budgets for sales, capital expenditure, labour costs, profit… Coordination between departments when establishing budgets is essential – should avoid departments making conflicting plansDecisions regarding budgets should be made with the subordinate managers who will be involved in putting them into effect. Those held responsible for fulfilling a budget should be involved in setting it. This sense of ownership helps motivate the department concerned to achieve the targets and also leads to the establishment of more realistic targets. This approach is called delegated budgets. The budget will be used to review the performance of the managers controlling the cost or profit centre such as department or division of a business. Will be appraised on their effectiveness in reaching targets. Successful and unsuccessful mangers can be identified. Ties in with Herzberg – making work more challenging and rewarding.
  6. 6Delegated BudgetsGiving some delegated authority over the setting and achievement of budgets to junior managers.
  7. 7The Stages in Preparing Budgets: 1. The most important organisational objectives for the coming year are established – will be established on: 3a. Previous performance of the business
    b. External changes likely to affect the organisation
    c. Sales forecasts based on research and past sales data
  8. 8give the 6 other stages n preparing budgets2.The key or limiting factor that is most likely to influence the growth or success of the organisation must be identified. For most businesses this is likely to be sales. Therefore the sales budget will be the first to be prepared. Care and accuracy are essential at this stage, because an error in the key-factor budget will distort all other budgets as well.
    3.The sales budget is prepared after discussion with sales managers in all branches and divisions of the business
    4.The subsidiary budgets are prepared, which will be based on the plans contained in the sales budget. Will include cash budget, administration budget, labour-cost budget, materials-cost budget, selling and distribution budget. The budget holders eg cost and profit centre managers, should be involved in this process if the aim of delegated responsibility for budgets is to be achieved
  9. 9last 35.These budgets are coordinated to ensure consistency. May be undertaken by a budgetary committee with special responsibility for ensuring that budgets don’t conflict with each other and that the spending level planned doesn’t exceed the resources of the business
    6.A master budget is prepared that contains the main details of all other budgets and concludes with a budgeted income statement and statement of financial position
    7.The master budget is presented to the board – hopefully for the directors approval
  10. 10Once approved, the budgets will become the basis of the operational plans of each department and cost centre within the organisation. However, the overall plan is sally over too long a time period to be a motivating target and will be broken down into short periods like a month or even a week. Setting Budgets – most widely used are: 3- Incremental budgeting
    - Zero budgeting
    - Flexible budgeting
  11. 11Incremental Budgeting def and disUses last year’s budget as a basis and an adjustment is made for the coming year.
    Many business that operate in highly competitive markets may have plans to lower the cost budget for departments each year, but to raise the sales budgets. This puts increased pressure on many staff to achieve higher productivity.
    Incremental budgeting doesn’t allow for unforeseen events. Using last year’s figure as a basis means that each department doesn’t have to justify its whole budget for the coming year – only the change or increment.
  12. 12Zero Budgeting def and dis and advSetting budgets to zero each year and budget holders have to argue their case to receive any finance.
    This is time-consuming as a fundamental review of the work and importance of each budget- holding section is needed each year. However, it does provide added incentive for managers to defend their work of their own section. Also, changing situations can be reflected in very different budget levels each year.
  13. 13Flexible BudgetingCost budgets for each expense are allowed to vary if sales or production vary from budgeted levels.
  14. 14flexible budgeting dis and advSo far have referred to as fixed budgeting – based on assumption that the level of output remains at the predicted or budgeted level. If actual output fell or rose above level then this could lead to obvious variances – but won’t necessarily indicate real efficiency problems. Flexible – sets new budgets depending on the actual output level achieved. Are more motivating for middle and lower-level managers as they will not be criticised for adverse variances that may occur just because output was lower than budgeted. The flexed targets they are given are more realistic. Make it easier to produce valid and accurate variance analyses as they will now highlight changes in efficiency, not changes in output.
  15. 15Potential limitations of budgeting: 5- Lack of flexibility: if budgets are set with no flexibility built into them, then sudden and unexpected changes in the external environment can make them very unrealistic. Often come in the form of unplanned-for increases in world materials and energy-cost inflation
    - Focused on the short term: budgets tend to be set for the relatively short term ie 12 months. Managers may take a short-term decisions to stay within budget that may not be in the best long-term interests of the business.
    - May lead to unnecessary spending: when the end of the budgeting period approaches and managers realise they have under-spent their budgets, unnecessary spending decisions may be made so the same level of budget can be justified next year.
    - Training needs must be met: setting and keeping to budgets isn’t easy and all managers with delegated responsibility for budgets will need extensive training in this role
    - Setting budgets for new projects: when a major new project is being undertaken setting realistic budgets may be difficult and frequent revisions in the budgets may be necessary.
  16. 16Budgetary Control – Variance Analysis During the period covered by the budget and at the end, the performance of the organisation needs to be compared with the original targets, and reasons for differences must be investigated. Known as Variance Analysis. Variance – the difference between budgeted and actual figures. Analysing these variances is an essential part of budgeting for a number of reasons:3- Measures differences from the planned performance of each department both month by month and at the end of the year
    - Assists in analysing the causes of deviations from budget
    - An understanding of the reasons for the deviations can be used to change future budgets in order to make them more accurate
    The performance of each individual budget-holding section may be appraised in an accurate and objective way. If the variance has had the effect of increasing profit then it is termed an unfavourable or adverse variance.
  17. 17Adverse VarianceExists when the difference between the budgeted and actual figure leads to a lower-than-expected profit.
  18. 18Favourable VarianceExists when the difference between the budgeted and actual figure leads to a higher-than-expected profit.
  19. 19Adverse Variances Causes: 4-Sales revenue is below budget either because units sold were less than planned or selling price had to be lowered due to competition
    -Actual raw material costs are higher than planned for either because output was higher than budgeted or the cost per unit of materials increased
    -Labour costs are above budget either because wage rates had to be raised due to shortages of workers or the labour time taken to complete the work was longer than expected
    -Overhead costs are higher than budgeted perhaps due to annual rent rise was above forecast
  20. 20Favourable Variances Causes: 4-Sales revenue is above budget due to higher-than expected economic growth or problems with one of the competitors’ products
    -Raw material costs are lower either because output was less than planned or the cost per unit of materials was lower than budget
    -Labour costs are lower than planned for either lower wage rates or quicker completion of work
    -Overhead costs lower perhaps because advertising rates from TV companies were reduced
  21. 21Benefits from regular variance analysis 2- Identifying potential problems early so remedial action can be taken
    - Allowing managers to concentrate their time and efforts on the major, or exceptional, problem areas – known as management by exception
  22. 22adverse and favorable variances noteManagers may need to respond quickly to both adverse and favourable variances. Adverse variances will need to be looked at in some detail to see if cheaper supplies or working methods can be adopted. However an adverse variance caused by an increase in output leading to higher material costs is of much less concern. Favourable variances may reflect a poor and inaccurate budgeting process where cost budgets were set too high. A favourable direct cost variance caused by output being much less than planned for is not very promising – why were sales and output lower than planned for?
  23. 23Setting, agreeing and controlling budgets is time-consuming. Budgets can fail to reflect changing circumstances and become inflexible. Budget-holders can look upon a budget as a limit up to which they can spend, whether needs all resources or not. However advantages: 5- Without a detailed and coordinated set of pans for allocating money and resources of the business, who would decide who gets what?
    - Without a clear sales budget as the cornerstone of the budgetary process, how would departments know how much to produce or to spend on sales promotion or how many people to employ?
    - Would it be possible to assess how the business had done or how well individual departments had performed without a clear series of targets with which to compare performance?
    - Figures to monitor process during the budgetary period to know where the business is or to suggest changes that may be made
    - Budgets have to be agreed and controlled. Gives responsibility and a sense of direction o those delegated to work with them. Human advantages are difficult to ensure without planed money values to work with

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A level AL Business (Unit 5: Finance and Accounting) Flashcards on Chpater 33: Budgets, created by HRYN red on 18/04/2022.
Created by
HRYN red · Apr 2022
Updated
Apr 29, 2022
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