thhgle13b manage finances within a budget prepared by jonathan lavaro

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  • THHGLE13B Manage Finances Within a BudgetPrepared by Jonathan Lavaro

  • BudgetingWho of you that wants to build a tower does not first sit down and calculate the expense, to see if he has enough to complete it?- Luke 14:28

  • BudgetsKey financial objectives are derived from strategic objectivesBudgets developed around financial objectivesKey financial objectives usually expressed in profitability terms (e.g., net profit target, percentage return on investment, profit margin in sales)

  • BudgetsBudgets are plans showing dollar or unit valuesFinancial budgets are expressed in dollar termsContains financial estimates of expected results of the operation in a future periodBudget periods should be 12 months or can be split for shorter periods if requiredEstimates should be realistic and achievableShould be developed in consultation with personnel affected by them

  • Role of budgetsPlanningControlEmployee motivation

  • PlanningBudgets are quantitative plans that reflect operational objectives for a future periodContain estimates of future physical operations, expressed in dollar termsThe estimates are targets to achieve

  • ControlBudget estimates provides standards for evaluating actual resultsCorrective actions are employed if results are unsatisfactory

  • Employee motivationBudgets can be used to communicate business objectives to employees and managementMakes employees aware what is expected of themKnowledge of targets helps motivate employees to perform especially if tied in with a desirable bonus/incentive

  • DiscussWhy should employees be involved in budget preparation?

  • How Budgets Can Be AbusedWe are asked to prepare a budget to show how we would spend money if we got it for a program or project - so we inflate everything, assuming that we will never get as much as we ask for Towards the end of the financial year, we spend heavily to match the budget expectations - because there is a danger that if we fall below budget, we will not stand a chance of getting an increase in the next financial year, regardless of increased needs items appear constantly in budgets because they have become implanted - there is no longer a need for them, but they get passed automatically and serve as a contingency for other shortfalls

  • Types of Budgets

  • Operating budgetsPrepared for each operating activity of the operationIncludes:Sales budgetProduction budgetPurchases budgetCost of production budgetCost of goods sold budgetOperating expenses budget

  • Cash Budgetsforecasts of how much cash the organisation will have on hand and how much it will need to meet expenses can reveal potential shortages or the availability of surplus cash for short-term investments

  • Capital BudgetsSummarise proposed acquisitions and disposal of long-term assets used in the operation

  • Revenue Budgets is a forecast because it is based on projecting future salesManagers must take into consideration their competitors, advertising budget, sales force effectiveness and other relevant factors, and they must make an estimate of sales volume Then, based on estimates of demand at various prices, managers must select an appropriate sales price

  • Financial Statement BudgetsMain financial plans of the businessComposite budgets that summarise the estimates in the operating and capital budgets of the operation Presented in the same fixed formats as financial statements for past results

  • Three main financial statement budgetBudgeted income statementBudgeted cash flow statementBudgeted balance sheet

  • Static budgetsShow estimates at one level of assumed business activity

  • Static budget exampleSales budget_____________________________________ July $_____________________________________Sales 14,000 TOTAL 14,000

  • Flexible budgetsShow expected results at various levels of assumed business activitySaves time, as new budgets do not have to be prepared if business activity changes

  • Flexible budgetsSales budget_____________________________________ Worst expected Best expected_____________________________________ July July $ $_____________________________________ Sales 12,000 16,000 TOTAL 12,000 16,000

  • Short-term budgetsPrepared for periods of up to one year aheadCan be weekly, monthly, quarterly or annually

  • Long-term budgetsPrepared for periods exceeding one year and up to five years aheade.g., a three-year operational business plan will include annual budgets for the three-year period of the plan

  • Approaches to Budgeting

  • Approaches to Budgeting

    Incremental BudgetsProgram BudgetsZero-Based Budgets

  • Incremental BudgetsTraditionalHas two identifying characteristics:First, funds are allocated to departments or organisational units. The managers of these units then allocate funds to activities as they see fitSecond, an incremental budget develops out of the previous budget. Each period's budget begins by using the last period as a reference point. Only incremental changes in the budget request are reviewed

  • Problems with Incremental Budgetshow to identify inefficiencies and waste when only incremental changes in the budget request are reviewed?Nothing ever gets cut money can be provided for activities long after their need is gone

  • Program Budgetsallocate funds to groups of activities (programs) that are needed to achieve a specific objectivefunds are allocated to activities, not to departmentsdesigned to deal with one of the major incremental budgets problems, funds are allocated to activities, not to departments

  • Zero-Base Budgetsoriginally developed by Texas Instruments requires managers to justify their budget requests in detail from scratch, regardless of previous appropriations designed to attack the second drawback in incremental budgets: activities that have a way of becoming immortal shifts the burden of proof to the manager to justify why his or her unit should get any budget at all

  • Problems with Zero-Base Budgetsincreases paperwork and requires time to prepareimportant activities that managers want funded tend to have their benefits inflated

  • Questions to ask when budgetingwhat do we want to achieve? how will we go about it? what resources will we need? how many people? how much time? what rates of pay? what can go wrong and how can we plan for emergencies?

  • Desired Profit Target

  • Desired Profit TargetShould be determined before preparing budgetsMinimum acceptable profit required for the operation to remain viableGuide for preparing annual budgets

  • The Desired Profit Target is toRemunerate a business owner for the time and effort put into the businessProvide an adequate ROI

  • FormulaRequired rate of return on owners funds invested (%)

    Risk allowance is normally between 10% and 20%The higher the risk, the higher the premium

  • ExampleAmount of investment: $61,740Wage to hire a manager to manage the business: $50,000Current bank deposit rate: 6% per annumRisk rate: 12%Calculate the desired rate of return (p.a)$50,000 + $11,113 = $61,113

    6% + 12% = 18%$61,740 x 18% = $11,113

  • Your turnAlan wants to know the minimum net profit he should accept for his businessHe could earn $38,000 per annum employed as a manager in a competitors businessHe currently has $40,000 invested in the businessThe current bank deposit rate for a sum of $40,000 is *% per annumThe acceptable risk premium rate for businesses in the industry is 15% per annumDetermine the annual net profit for Alans business

  • Budget-Building Process

  • Annual budget-building processSpecific operating budgetsSales budget ($)Production budget (units)Purchases budget (units)Cost of production budget ($)Cost of goods sold budget ($)Operating systems budget ($)Capital budgetsCapital expenditure budget ($)Capital disposals budget ($)

    Financial statement budgets

    Budgeted income statement ($)Budgeted cash flow statement ($)Budgeted balance sheet ($)



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