Budgeting
Budgeting
Planning stage of any business plays an important role in the progress and profitability of business. Business forecasting means that to predict or access the outcomes or the performance of the business in coming future or the coming accounting period. To maximize the profitability of the business, it is very important for the management of the business to predict the outcomes, both certain and uncertain, to maximize the profitability of the business. Therefore, in these circumstances, management of the business uses probabilities or expected values of expenses and revenues and creates budgets on the basis of forecasting. The results assumed or generated on the basis of forecasting are not one hundred percent correct. ("The difference between,”)
Budgeting can be defined as the financial planning of the business for the specific period of time. Budgeting is the quantitative plan of the business which assists in the proper planning of resource allocation. The main objectives of budgeting are proper planning, giving the responsibility to the relevant managers, improve the motivation level, responsibility accounting, evaluation and control of lower management and the staff. Management of the business must consider achievable and challenging budgets for the lower management to enhance the motivation level and the productivity of the employees. Too much easy targets can de-motivate the employees. Similarly, ideal or unachievable budgets can also de-motivate the employees. ("The difference between,”)
Cash budgets focus on the cash inflows and the outflows only. Cash budgets begin with the cash in hand. In these budgeting techniques only the cash entries of the business are relevant, such as cash sales and cash generated from the creditors. It focuses on the forecasting of future cash inflows and outflows only. As compared to the cash budgets, the operating budget focuses on all the future operations of the business in detail. The operating budget considers all the cash inflows and outflows, operating expenses such as, utility bills, employee’s salaries, tax liabilities and the loan settlements. The estimation of future expenses is performed in detail in the operating budget. (Withrow)
Zero based budgeting is the process in which each department or cost center of the organization justifies their expenses to the management for their budget allocation. The budget for every period starts from zero. In zero based budgeting, the management ranks the departments according to their profitability and importance and grants the budgets according to priority. The advantage of zero based budgeting is that the management divides the budget of every cost center into two parts. The first part of the budget is called ‘base package’ which is compulsory for every cost center of the firm to survive. The second part of the budget is ‘incremental budget’, which is granted on the basis of priority. In most of the cases, the priority of the management is to allocate the resources to profit making centers. For example, if the incremental budget is asked from the manufacturing department to hire a new engineer as compared to the incremental budget for the sports gala for the employees. The management will grant the incremental budget for hiring new employee instead of releasing funds for the employee’s sports gala. Moreover, the upper management negotiates with the managers of lower departments on the distribution of incremental budgets. Zero based budgeting controls the cash allocation in the company and reduce the budget slacks, however, it is expensive and time consuming for the upper management of the business. ("Zero-base budgeting,”)
There are several types of budgets depending on the flexibility, period and the functional basis. However, the two main types of budgets are ‘top to bottom’ and ‘bottom to top’. ‘Top to bottom’ means that the budgets are made by the management of business and assigned to the lower staff. In this type of budgeting, the budgets made are strict, challenging and fix. The motivation level in these budgets is normally low, because the lower staff has always argued in the terms of ‘top to bottom’ budgets. The examples of ‘top to bottom’ budgets are fixed budgets, long term budgets, operating budgets, rolling budgets, and zero based budget. The special features of ‘top to bottom’ budgets are that it reduces the budget slack and motivate the employees to attain the challenging goals. In ‘bottom to top’ budgets, the upper management involves the lower manager to assist them in making of budgets. In this process, the lower management prepares the budgets and sends it to the higher management for the approvals. The lower manager always tries to create budget slacks for extra grants because they have more knowledge of the operations of the business than the higher management. However, the upper management of the business, discusses the budgets made by lower managers and after negotiation and reconsideration, they revise the budgets. It is suitable for the large companies who are performing business in different cities and countries. For Example, the regional manager in New York City can make better budget instead of the higher management sitting in the head office in Houston city. This budgeting type is also known as the participatory style of budgeting. ("Budget strategy: Top-down,”)
The business of retail marketing or super store needs a lot of planning as far as budgeting is concerned. In the business of retail marketing, the rolling budgeting system is the best budgeting system because it provides the facility to revise the budgets after the gap of three to four months. The business of super store is uncertain because it is very difficult to predict the behavior of consumers and clients. Therefore, with the budget of one million dollars, it is very important to re-estimate the budget with the actual results after every three to four months and revise the budget. This process will identify the weaknesses in the planning and allocate the funds in a proper way. Other advantages of adapting the rolling budgeting is that due to maintaining the challenging level of targets, the staff of the business will remain motivated, and ultimately it will increase the profitability of the business. However, rolling budgeting is a time consuming and costly, but, reduction of budget slacks and creation of more realistic budgets will assist the management in making profits effectively.
The calendar year, accounting year or the financial year of the business must start from the 1st of January each year. The reason behind selecting this fiscal year is that in most of the countries, it is easy to pay tax to the tax authorities in time. For example, in the UK the tax year starts from April or each month and if the financial statements are prepared according to the fiscal year starting from 1st January, then it will be easy to submit the tax expense in time. (Weil)
References
The difference between a forecast and a budget. Retrieved from
http://www.financialpreneur.com/?p=162
Zero-base budgeting. Retrieved from http://www.accountingtools.com/zero-based-budgeting
Withrow, C. Cash budget vs. operating budget. Retrieved from
http://www.ehow.com/info_7749249_cash-budget-vs-operating-budget.html
Weil, D. Fiscal policy. Retrieved from http://www.econlib.org/library/Enc/FiscalPolicy.html
Budget strategy: Top-down or bottom-to-top?. Retrieved from
http://www.accts.com/articles/strategy.htm
