Accounting & Financial Analysis 111

Lecture 10

BudgetsBudgets

What is a Budget ?What is a Budget ?

A budget is a plan Developed by management To achieve a goal Within a specified time frame

A budget is a plan Developed by management To achieve a goal Within a specified time frame

What is a Budget ? (2)What is a Budget ? (2)

It is a financial plan, prepared and approved prior to a

defined period of time, incorporating the policy to be pursued

during that period for the purpose of attaining a given

objective. A plan is of little value unless it is

monitored and controlled. The The budget provides a benchmarkbudget provides a benchmark.

It is a financial plan, prepared and approved prior to a

defined period of time, incorporating the policy to be pursued

during that period for the purpose of attaining a given

objective. A plan is of little value unless it is

monitored and controlled. The The budget provides a benchmarkbudget provides a benchmark.

Why prepare a budget?Why prepare a budget?

A budget sets a target / goal to be achieved (Sales, costs, profit)

A budget is a plan set by management for the development of the business.

A means to compare actual results on an ongoing basis to the budget (Monitor)

Provides a check on progress towards the desired goal (Measurement)

Indicates departure from the plan at the earliest possible time. (Timeliness)

Facilitates corrective action to get back on track. (Correction)

A budget establishes a benchmark for operational efficiency. (Standard)

Creates teamwork amongst department managers (Participative approach)

A budget sets a target / goal to be achieved (Sales, costs, profit)

A budget is a plan set by management for the development of the business.

A means to compare actual results on an ongoing basis to the budget (Monitor)

Provides a check on progress towards the desired goal (Measurement)

Indicates departure from the plan at the earliest possible time. (Timeliness)

Facilitates corrective action to get back on track. (Correction)

A budget establishes a benchmark for operational efficiency. (Standard)

Creates teamwork amongst department managers (Participative approach)

Why prepare a budget? (2)Why prepare a budget? (2)

Makes management accountable for performance (Ownership)

An effective management tool, shares knowledge amongst all department managers. (Control & enlightened management team)

Feedback mechanism for management. (Feedback) Highlights fundamental changes within the business

and indicates the need for a modification of the future plans. (Trends)

Identifies the need for capital investment in a timely manner. (Capital)

Motivates staff towards efficiency / reward scheme. (Motivation)

Assists in the development of future plans. (Growth) Identifies trouble spots ahead

Makes management accountable for performance (Ownership)

An effective management tool, shares knowledge amongst all department managers. (Control & enlightened management team)

Feedback mechanism for management. (Feedback) Highlights fundamental changes within the business

and indicates the need for a modification of the future plans. (Trends)

Identifies the need for capital investment in a timely manner. (Capital)

Motivates staff towards efficiency / reward scheme. (Motivation)

Assists in the development of future plans. (Growth) Identifies trouble spots ahead

A Budget will includeA Budget will include

all, or a number of, the following elements: Sales budget, Cost of goods sold budget Purchase Budget Labour Budget Production or manufacturing budget Administration Budget Capital Budget Forecast Profit & Loss Cash Budget Forecast Balance Sheet Master Budget

all, or a number of, the following elements: Sales budget, Cost of goods sold budget Purchase Budget Labour Budget Production or manufacturing budget Administration Budget Capital Budget Forecast Profit & Loss Cash Budget Forecast Balance Sheet Master Budget

Disadvantages of preparing a budget

Disadvantages of preparing a budget

Takes time to prepare. Interrupts operational work.

It is a costly exercise Future information is difficult to predict and

risky. Could create rivalry amongst managers. Blame

on others. An easy budget encourages complacency. Demoralises staff if targets are unachievable. In order to be effective the actual performance

requires regular monitoring to the budget plan. Any departure from budget (variances) require

regular analysis and justifications – time consuming

Takes time to prepare. Interrupts operational work.

It is a costly exercise Future information is difficult to predict and

risky. Could create rivalry amongst managers. Blame

on others. An easy budget encourages complacency. Demoralises staff if targets are unachievable. In order to be effective the actual performance

requires regular monitoring to the budget plan. Any departure from budget (variances) require

regular analysis and justifications – time consuming

Approaches to budget preparation

Approaches to budget preparation

Authoritative Consultative Participative

Authoritative Consultative Participative

Approaches to budget preparation (2)

Approaches to budget preparation (2)

AuthoritativeAuthoritative : This is where top management develops the budget without any consultation with department managers or supervisors.

It is centralised decision making and discourages employee motivation.

AuthoritativeAuthoritative : This is where top management develops the budget without any consultation with department managers or supervisors.

It is centralised decision making and discourages employee motivation.

Approaches to budget preparation (3)

Approaches to budget preparation (3)

ConsultativeConsultative : Top management develops final budget after consulting with supervisors regarding specific aspects of operations.

(Seeking information only, not encouraging participation)

ConsultativeConsultative : Top management develops final budget after consulting with supervisors regarding specific aspects of operations.

(Seeking information only, not encouraging participation)

Approaches to budget preparation (4)

Approaches to budget preparation (4)

ParticipativeParticipative : All levels of management actively participating in the development of the budget, and taking ownership for the performance of their department.

In many cases there is a high interdependence of departments and a participative approach is the only way to achieve a consensus.

ParticipativeParticipative : All levels of management actively participating in the development of the budget, and taking ownership for the performance of their department.

In many cases there is a high interdependence of departments and a participative approach is the only way to achieve a consensus.

Difficulties when preparing a budget?

Difficulties when preparing a budget?

InternalInternal Scarce resources, how to allocate

resources over requirements. Interdependency of departments Conflict amongst managers Reluctance to predict future trends Provide for unforseen circumstances.

What can go wrong. Cash flow requirements Establish measurement criteria Restricted timeframe to produce budget.

InternalInternal Scarce resources, how to allocate

resources over requirements. Interdependency of departments Conflict amongst managers Reluctance to predict future trends Provide for unforseen circumstances.

What can go wrong. Cash flow requirements Establish measurement criteria Restricted timeframe to produce budget.

Difficulties when preparing a budget? (2)

Difficulties when preparing a budget? (2)

ExternalExternal Change in trends / fashion Changes in bank rate Changes in currency exchange rates Changes in infrastructure, diverting traffic, open

new main road. Development of alternate products. Government restrictions/sanctions to other

countries. (AWB export to Iraq) Competitors opening new premises close to

yours, or giving special discounts. Boycott by sectors of the public. (Live trade

export, boycott of wool products)

ExternalExternal Change in trends / fashion Changes in bank rate Changes in currency exchange rates Changes in infrastructure, diverting traffic, open

new main road. Development of alternate products. Government restrictions/sanctions to other

countries. (AWB export to Iraq) Competitors opening new premises close to

yours, or giving special discounts. Boycott by sectors of the public. (Live trade

export, boycott of wool products)

Process of budget preparationProcess of budget preparation

Establish a budget committee – Participative approach, to involve department managers in the process.

Establish desired company direction, (Policies & Procedures)

Responsibility for co-ordination of budget.

Establish deadline for completion of budget

Establish a budget committee – Participative approach, to involve department managers in the process.

Establish desired company direction, (Policies & Procedures)

Responsibility for co-ordination of budget.

Establish deadline for completion of budget

Allocate budget resourcesAllocate budget resources

Funds are always in short supply, one of the major scarce resources within any business.

Management will have to decide which of the projects are most beneficial to the business and allocate funds accordingly.

Funds are always in short supply, one of the major scarce resources within any business.

Management will have to decide which of the projects are most beneficial to the business and allocate funds accordingly.

Allocate budget resources (2)Allocate budget resources (2)

The decision is generally reached The decision is generally reached after the following considerations:after the following considerations:

Feasibility study / best return Department needs / interdependence Capital or expense replacement Return on investment Improved efficiency Management decision / participative approach Staff morale Customer comfort Market research / competitors / client needs

The decision is generally reached The decision is generally reached after the following considerations:after the following considerations:

Feasibility study / best return Department needs / interdependence Capital or expense replacement Return on investment Improved efficiency Management decision / participative approach Staff morale Customer comfort Market research / competitors / client needs

Who sets the budget?Who sets the budget?

The budget is generally prepared by a Budget Committee which comprises the key managers of the company, or their representatives.

The committee will decide on a general program for the preparation of the budget, and

the nominated officer (usually the accountant) will be responsible for such functions as:

The budget is generally prepared by a Budget Committee which comprises the key managers of the company, or their representatives.

The committee will decide on a general program for the preparation of the budget, and

the nominated officer (usually the accountant) will be responsible for such functions as:

Nominated Budget OfficerNominated Budget Officer Issues instructions to various departments Receives and checking budget estimates Provides historical information to department

managers to help them in their forecasting. Suggests possible revisions. Discusses department budgets with the

managers. Ensures the managers prepare their budgets in

time. Prepares long-term budget summaries. (Annual). Analyses the budget into reporting periods.

(Monthly) Presents budget to the committee. Co-ordinates final preparation for approval Prepares comparative statement of current year

as to budget, explaining any relevant variances.

Issues instructions to various departments Receives and checking budget estimates Provides historical information to department

managers to help them in their forecasting. Suggests possible revisions. Discusses department budgets with the

managers. Ensures the managers prepare their budgets in

time. Prepares long-term budget summaries. (Annual). Analyses the budget into reporting periods.

(Monthly) Presents budget to the committee. Co-ordinates final preparation for approval Prepares comparative statement of current year

as to budget, explaining any relevant variances.

Maintain detailed records of resource allocation in accordance with

enterprise control systems

Maintain detailed records of resource allocation in accordance with

enterprise control systems

Financial records are developed in a variety of ways

One of the most common methods is by use of spreadsheets to calculate project

revenue and expenses. These calculations will represent standard

expectations and will be used as a benchmark to evaluate actual results

Financial records are developed in a variety of ways

One of the most common methods is by use of spreadsheets to calculate project

revenue and expenses. These calculations will represent standard

expectations and will be used as a benchmark to evaluate actual results

Maintain detailed records of resource allocation (2)

Maintain detailed records of resource allocation (2)

Source documents and accounting records relating to expenditure are checked and monitored to ensure that they comply with earlier estimates.

A budget is of little use unless it is monitored and controlled.

The budget is a benchmark for the business activities, it is a management tool used to detect if the business is drifting away from its goals.

Constant monitoring of expenses will ensure accurate allocation as well as economies and best value.

Source documents and accounting records relating to expenditure are checked and monitored to ensure that they comply with earlier estimates.

A budget is of little use unless it is monitored and controlled.

The budget is a benchmark for the business activities, it is a management tool used to detect if the business is drifting away from its goals.

Constant monitoring of expenses will ensure accurate allocation as well as economies and best value.

Processes required in order to maintain appropriate records of expenditure

Processes required in order to maintain appropriate records of expenditure

Analyse and review source documents. Check source documents are properly

authorised. Check allocation of expenses to

appropriate account heading in the general ledger.

Check debtor’s schedule to estimate receipts in the short term.

Check creditor’s schedule to confirm payments due in short term.

Analyse and review source documents. Check source documents are properly

authorised. Check allocation of expenses to

appropriate account heading in the general ledger.

Check debtor’s schedule to estimate receipts in the short term.

Check creditor’s schedule to confirm payments due in short term.

Processes required in order to maintain appropriate records of expenditure (2)

Processes required in order to maintain appropriate records of expenditure (2)

Check cash flow to confirm sufficient cash available.

Complete monthly bank reconciliations. Check Capital budget to see what requires to be

purchased in the short term. Substitute/adjust capital purchases in the event

of cash shortage. Monitor project expenses to stay within budget

and detect any blow-outs as early as possible. Establish variances between actual and budget,

notify department manager, and implement corrective action.

Check cash flow to confirm sufficient cash available.

Complete monthly bank reconciliations. Check Capital budget to see what requires to be

purchased in the short term. Substitute/adjust capital purchases in the event

of cash shortage. Monitor project expenses to stay within budget

and detect any blow-outs as early as possible. Establish variances between actual and budget,

notify department manager, and implement corrective action.

Some of this may be useful!Some of this may be useful!

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PROJECTPROJECTCASE STUDYCASE STUDY