Chapter4Budgetarycontrol

Chapterobjectives
Structureofthechapter
Budgetarycontrolmethods
Managementactionandcostcontrol
Zerobasebudgeting(ZBB)
Keyterms
Therearetwotypesofcontrol,namelybudgetaryandfinancial.Thischapterconcentrateson
budgetarycontrolonly.Thisisbecausefinancialcontrolwascoveredindetailinchaptersoneand
two.BudgetarycontrolisdefinedbytheInstituteofCostandManagementAccountants(CIMA)as:
"Theestablishmentofbudgetsrelatingtheresponsibilitiesofexecutivestothe
requirementsofapolicy,andthecontinuouscomparisonofactualwithbudgeted
results,eithertosecurebyindividualactiontheobjectiveofthatpolicy,ortoprovidea
basisforitsrevision".

Chapterobjectives
Thischapterisintendedtoprovide:
Anindicationandexplanationoftheimportanceofbudgetarycontrolinmarketingasa
keymarketingcontroltechnique
Anoverviewoftheadvantagesanddisadvantagesofbudgeting
Anintroductiontothemethodsforpreparingbudgets
Anappreciationoftheusesofbudgets.

Structureofthechapter
Ofallbusinessactivities,budgetingisoneofthemostimportantand,therefore,requiresdetailed
attention.Thechapterlooksattheconceptofresponsibilitycentres,andtheadvantagesand
disadvantagesofbudgetarycontrol.Itthengoesontolookatthedetailofbudgetconstructionand
theusetowhichbudgetscanbeput.Likeallmanagementtools,thechapterhighlightstheneedfor
detailedinformation,ifthetechniqueistobeusedtoitsfullestadvantage.

Budgetarycontrolmethods
a)Budget:
Aformalstatementofthefinancialresourcessetasideforcarryingoutspecific
activitiesinagivenperiodoftime.
Ithelpstocoordinatetheactivitiesoftheorganisation.
Anexamplewouldbeanadvertisingbudgetorsalesforcebudget.
b)Budgetarycontrol:
Acontroltechniquewherebyactualresultsarecomparedwithbudgets.
Anydifferences(variances)aremadetheresponsibilityofkeyindividualswhocan

eitherexercisecontrolactionorrevisetheoriginalbudgets.
Budgetarycontrolandresponsibilitycentres
Theseenablemanagerstomonitororganisationalfunctions.
Aresponsibilitycentrecanbedefinedasanyfunctionalunitheadedbyamanagerwhois
responsiblefortheactivitiesofthatunit.
Therearefourtypesofresponsibilitycentres:
a)Revenuecentres
Organisationalunitsinwhichoutputsaremeasuredinmonetarytermsbutarenot
directlycomparedtoinputcosts.
b)Expensecentres
Unitswhereinputsaremeasuredinmonetarytermsbutoutputsarenot.
c)Profitcentres
Whereperformanceismeasuredbythedifferencebetweenrevenues(outputs)and
expenditure(inputs).Interdepartmentalsalesareoftenmadeusing"transferprices".
d)Investmentcentres
Whereoutputsarecomparedwiththeassetsemployedinproducingthem,i.e.ROI.
Advantagesofbudgetingandbudgetarycontrol
Thereareanumberofadvantagestobudgetingandbudgetarycontrol:
Compelsmanagementtothinkaboutthefuture,whichisprobablythemostimportant
featureofabudgetaryplanningandcontrolsystem.Forcesmanagementtolookahead,
tosetoutdetailedplansforachievingthetargetsforeachdepartment,operationand
(ideally)eachmanager,toanticipateandgivetheorganisationpurposeanddirection.
Promotescoordinationandcommunication.
Clearlydefinesareasofresponsibility.Requiresmanagersofbudgetcentrestobe
maderesponsiblefortheachievementofbudgettargetsfortheoperationsundertheir
personalcontrol.
Providesabasisforperformanceappraisal(varianceanalysis).Abudgetisbasicallya
yardstickagainstwhichactualperformanceismeasuredandassessed.Controlis
providedbycomparisonsofactualresultsagainstbudgetplan.Departuresfrombudget
canthenbeinvestigatedandthereasonsforthedifferencescanbedividedinto
controllableandnoncontrollablefactors.
Enablesremedialactiontobetakenasvariancesemerge.
Motivatesemployeesbyparticipatinginthesettingofbudgets.
Improvestheallocationofscarceresources.
Economisesmanagementtimebyusingthemanagementbyexceptionprinciple.
Problemsinbudgeting
Whilstbudgetsmaybeanessentialpartofanymarketingactivitytheydohaveanumberof

disadvantages,particularlyinperceptionterms.
Budgetscanbeseenaspressuredevicesimposedbymanagement,thusresultingin:
a)badlabourrelations
b)inaccuraterecordkeeping.
Departmentalconflictarisesdueto:
a)disputesoverresourceallocation
b)departmentsblamingeachotheriftargetsarenotattained.
Itisdifficulttoreconcilepersonal/individualandcorporategoals.
Wastemayariseasmanagersadopttheview,"wehadbetterspenditorwewilllose
it".Thisisoftencoupledwith"empirebuilding"inordertoenhancetheprestigeofa
department.
Responsibilityversuscontrolling,i.e.somecostsareundertheinfluenceofmorethan
oneperson,e.g.powercosts.
Managersmayoverestimatecostssothattheywillnotbeblamedinthefutureshould
theyoverspend.
Characteristicsofabudget
Agoodbudgetischaracterisedbythefollowing:
Participation:involveasmanypeopleaspossibleindrawingupabudget.
Comprehensiveness:embracethewholeorganisation.
Standards:baseitonestablishedstandardsofperformance.
Flexibility:allowforchangingcircumstances.
Feedback:constantlymonitorperformance.
Analysisofcostsandrevenues:thiscanbedoneonthebasisofproductlines,
departmentsorcostcentres.
Budgetorganisationandadministration:
Inorganisingandadministeringabudgetsystemthefollowingcharacteristicsmayapply:
a)Budgetcentres:Unitsresponsibleforthepreparationofbudgets.Abudgetcentre
mayencompassseveralcostcentres.
b)Budgetcommittee:Thismayconsistofseniormembersoftheorganisation,e.g.
departmentalheadsandexecutives(withthemanagingdirectoraschairman).Every
partoftheorganisationshouldberepresentedonthecommittee,sothereshouldbea
representativefromsales,production,marketingandsoon.Functionsofthebudget
committeeinclude:
Coordinationofthepreparationofbudgets,includingtheissueofa
manual
Issuingoftimetablesforpreparationofbudgets
Provisionofinformationtoassistbudgetpreparations
Comparisonofactualresultswithbudgetandinvestigationofvariances.
c)BudgetOfficer:ControlsthebudgetadministrationThejobinvolves:
liaisingbetweenthebudgetcommitteeandmanagersresponsiblefor
budgetpreparation
dealingwithbudgetarycontrolproblems

ensuringthatdeadlinesaremet

educatingpeopleaboutbudgetarycontrol.
d)Budgetmanual:
Thisdocument:
chartstheorganisation
detailsthebudgetprocedures
containsaccountcodesforitemsofexpenditureandrevenue
timetablestheprocess
clearlydefinestheresponsibilityofpersonsinvolvedinthebudgeting
system.
Budgetpreparation
Firstly,determinetheprincipalbudgetfactor.Thisisalsoknownasthekeybudgetfactororlimiting
budgetfactorandisthefactorwhichwilllimittheactivitiesofanundertaking.Thislimitsoutput,e.g.
sales,materialorlabour.
a)Salesbudget:thisinvolvesarealisticsalesforecast.Thisispreparedinunitsofeachproductand
alsoinsalesvalue.Methodsofsalesforecastinginclude:
salesforceopinions
marketresearch
statisticalmethods(correlationanalysisandexaminationoftrends)
mathematicalmodels.
Inusingthesetechniquesconsider:
company'spricingpolicy
generaleconomicandpoliticalconditions
changesinthepopulation
competition
consumers'incomeandtastes
advertisingandothersalespromotiontechniques
aftersalesservice
credittermsoffered.
b)Productionbudget:expressedinquantitativetermsonlyandisgearedtothesalesbudget.The
productionmanager'sdutiesinclude:
analysisofplantutilisation
workinprogressbudgets.
Ifrequirementsexceedcapacityhemay:
subcontract
planforovertime
introduceshiftwork
hireorbuyadditionalmachinery
Thematerialspurchasesbudget'sbothquantitativeandfinancial.
c)Rawmaterialsandpurchasingbudget:
Thematerialsusagebudgetisinquantities.
Thematerialspurchasesbudgetisbothquantitativeandfinancial.

Factorsinfluencinga)andb)include:
productionrequirements
planningstocklevels
storagespace
trendsofmaterialprices.
d)Labourbudget:isbothquantitativeandfinancial.Thisisinfluencedby:
productionrequirements
manhoursavailable
gradesoflabourrequired
wagerates(unionagreements)
theneedforincentives.
e)Cashbudget:acashplanforadefinedperiodoftime.Itsummarisesmonthlyreceiptsand
payments.Hence,ithighlightsmonthlysurplusesanddeficitsofactualcash.Itsmainusesare:
tomaintaincontroloverafirm'scashrequirements,e.g.stockanddebtors
toenableafirmtotakeprecautionarymeasuresandarrangeinadvancefor
investmentandloanfacilitieswhenevercashsurplusesordeficitsarises
toshowthefeasibilityofmanagement'splansincashterms
toillustratethefinancialimpactofchangesinmanagementpolicy,e.g.changeof
credittermsofferedtocustomers.
Receiptsofcashmaycomefromoneofthefollowing:
cashsales
paymentsbydebtors
thesaleoffixedassets
theissueofnewshares
thereceiptofinterestanddividendsfrominvestments.
Paymentsofcashmaybeforoneormoreofthefollowing:
purchaseofstocks
paymentsofwagesorotherexpenses
purchaseofcapitalitems
paymentofinterest,dividendsortaxation.
Stepsinpreparingacashbudget
i)Step1:setoutaproformacashbudgetmonthbymonth.Belowisasuggestedlayout.

Month1 Month2 Month3

$

Cashreceipts
Receiptsfromdebtors
Salesofcapitalitems
Loansreceived
Proceedsfromshareissues
Anyothercashreceipts
Cashpayments
Paymentstocreditors

Paymentstocreditors
Wagesandsalaries
Loanrepayments
Capitalexpenditure
Taxation
Dividends
Anyothercashexpenditure
Receiptslesspayments
Openingcashbalanceb/f

Closingcashbalancec/f

ii)Step2:sortoutcashreceiptsfromdebtors
iii)Step3:otherincome
iv)Step4:sortoutcashpaymentstosuppliers
v)Step5:establishothercashpaymentsinthemonth
Figure4.1showsthecompositionofamasterbudgetanalysis.
Figure4.1Compositionofamasterbudget
OPERATINGBUDGET FINANCIALBUDGET
consistsof:

consistsof

BudgetP/Lacc:get:

Cashbudget

Productionbudget

Balancesheet

Materialsbudget

Fundsstatement

Labourbudget
Admin.budget
Stocksbudget

f)Otherbudgets:
Theseincludebudgetsfor:
administration
researchanddevelopment
sellinganddistributionexpenses
capitalexpenditures
workingcapital(debtorsandcreditors).
Themasterbudget(figure4.1)illustratesthis.Nowattemptexercise4.1.
Exercise4.1BudgetingI
DrawupacashbudgetforD.Sitholeshowingthebalanceattheendofeachmonth,fromthe
followinginformationprovidedbyherforthesixmonthsended31December19X2.
a)OpeningCash$1,200.
19X2

19X3

Salesat$20perunit MAR APR MAY JUN JUL AUG SEP OCT NOV DEC JAN FEB
260

200

320

290 400 300

350 400 390

400

260 250

Cashisreceivedforsalesafter3monthsfollowingthesales.
c)Productioninunits:240 270 300 320 350 370 380 340 310 260 250

d)Rawmaterialscost$5/unit.Ofthis80%ispaidinthemonthofproductionand20%after
production.
e)Directlabourcostsof$8/unitarepayableinthemonthofproduction.
f)Variableexpensesare$2/unit.Ofthis50%ispaidinthesamemonthasproductionand50%in
themonthfollowingproduction.
g)Fixedexpensesare$400/monthpayableeachmonth.
h)Machinerycosting$2,000tobepaidforinOctober19X2.
i)Willreceivealegacyof$2,500inDecember19X2.
j)Drawingstobe$300/month.
Anexample
AsugarcanefarmintheLowvelddistrictmaydeviseanoperatingbudgetasfollows:
Cultivation
Irrigation
Fieldmaintenance
Harvesting
Transportation.
Witheachoperation,therewillbecostsforlabour,materialsandmachineryusage.Therefore,for
e.g.harvesting,thesemayincludefourresources,namely:
Labour:
cutting
sundry
Tractors
Canetrailers
Implementsandsundries.
Havingidentifiedcostcentres,thenextstepwillbetomakeaquantitativecalculationofthe
resourcestobeused,andtofurtherbreakthisdowntoshorterperiods,say,onemonthorthree
months.Thelengthofperiodchosenisimportantinthattheshorteritis,thegreaterthecontrolthat
canbeexercisedbythebudgetbutthegreatertheexpenseinpreparationofthebudgetand
reportingofanyvariances.
Thequantitativebudgetforharvestingmaybecalculatedasshowninfigure4.2.
Figure4.2Quantitativeharvestingbudget
Harvesting

1stquarter 2ndquarter

3rdquarter

4thquarter

Labour
Cutting

nil

9,000tonnes

16,000tonnes 10,000tonnes

Sundry

nil

300mandays 450mandays 450mandays

Tractors

nil

630hours

1,100hours

Canetrailers

nil

9,000tonnes

16,000tonnes 10,000tonnes

Imp,&sundries nil

9,000tonnes

16,000tonnes 10,000tonnes

700hours

Imp,&sundries nil

9,000tonnes

16,000tonnes 10,000tonnes

Eachitemismeasuredindifferentquantitativeunitstonnesofcane,mandaysetc.anddepends
onindividualjudgementofwhichisthebestunittouse.
Oncethebudgetinquantitativetermshasbeenprepared,unitcostscanthenbeallocatedtothe
individualitemstoarriveatabudgetforharvestinginfinancialtermsasshownintable4.2.
Chargeoutcosts
Intable4.2tractorshaveaunitcostof$7.50perhourmachinesliketractorshaveawholerange
ofcostslikefuelandoil,repairsandmaintenance,driver,licence,roadtaxandinsuranceand
depreciation.Someofthecostsarefixed,e.g.depreciationandinsurance,whereassomevary
directlywithuseofthetractor,e.g.fuelandoil.Othercostssuchasrepairsareunpredictableand
maybeveryhighorlowanestimatedfigurebasedonpastexperience.
Figure4.3Harvestingcostbudget
Itemharvesting

Unitcost

1stquarter 2ndquarter 3rdquarter 4thquarter

Total

Labour
Cutting

$0.75pertonne

6,750

12,000

7,500

26,250

Sundry

$2.50perday

750

1,125

1,125

3,000

Tractors

$7.50perhour

4,725

8,250

5,250

18,225

CaneTrailers

$0.15pertonne

1,350

2,400

1,500

5,250

Imp.&sundries $0.25pertonne

2,250

4,000

2,500

8,750

$15,825

$27,775

$17,875

$61,475

So,overalloperatingcostofthetractorfortheyearmaybebudgetedasshowninfigure4.4.
Ifthetractorisusedformorethan1,000hoursthentherewillbeanoverrecoveryonitsoperational
costsandifusedforlessthan1,000hourstherewillbeunderrecovery,i.e.inthefirstinstance
makinganinternal'profit'andintheseconda'loss'.
Figure4.4Tractorcosts

Fixedcosts

Depreciation

Unitrate

Costperannum(1,000hours)

($)

($)

2,000.00

Licenceandinsurance 200.00

2,000.00
200.00

Driver

100.00permonth 1,200.00

Repairs

600.00perannum 600.00

Variablecosts Fuelandoil
Maintenance

2.00perhour

2,000.00

3.00per200hours 1,500.00
7,500.00

No.ofhoursused

1,000.00

Costperhour

7.50

Masterbudget
Themasterbudgetforthesugarcanefarmmaybeasshowninfigure4.5.Thebudgetrepresents
anoverallobjectiveforthefarmforthewholeyearahead,expressedinfinancialterms.
Table4.5Operatingbudgetforsugarcanefarm19X4
1stquarter 2ndquarter 3rdquarter 4thquarter Total$

1stquarter 2ndquarter 3rdquarter 4thquarter Total$

Revenuefromcane

130,000

250,000

120,000

500,000

Less:Costs
Cultivation

37,261

48,268

42,368

55,416

183,313

Irrigation

7,278

15,297

18,473

11,329

52,377

Fieldmaintenance

4,826

12,923

15,991

7,262

41,002

Harvesting

15,825

27,775

17,875

61,475

Transportation

14,100

24,750

15,750

54,600

49,365

106,413

129,357

107,632

392,767

Add:Openingvaluation 85,800

135,165

112,240

94,260

85,800

135,165

241,578

241,597

201,892

478,567

Less:Closingvaluation 135,165

112,240

94,260

90,290

90,290

Netcropcost

129,338

147,337

111,602

388,277

Grosssurplus

66,200

102,663

8,398

111,723

Less:Overheads

5,876

7,361

7,486

5,321

26,044

Netprofitless)

(5,876)

(6,699)

95,177

3,077

85,679

Oncetheoperatingbudgethasbeenprepared,twofurtherbudgetscanbedone,namely:
i.Balancesheetattheendoftheyear.
ii.Cashflowbudgetwhichshowstheamountofcashnecessarytosupportthe
operatingbudget.Itisofgreatimportancethatthebusinesshassufficientfundsto
supporttheplannedoperationalbudget.
Reportingback
Duringtheyearthemanagementaccountantwillpreparestatements,asquicklyaspossibleafter
eachoperatingperiod,inourexample,eachquarter,settingouttheactualoperatingcostsagainst
thebudgetedcosts.Thisstatementwillcalculatethedifferencebetweenthe'budgeted'andthe
'actual'cost,whichiscalledthe'variance'.
Therearemanywaysinwhichmanagementaccountscanbeprepared.Tocontinuewithour
exampleofharvestingonthesugarcanefarm,managementaccountsattheendofthethirdquarter
canbepresentedasshowninfigure4.6.
Figure4.6ManagementaccountsactualcostsagainstbudgetcostsManagement
accountsforsugarcanefarm3rdquarter19X4
3rdquarter

Yeartodate

ItemHarvesting Actual Budget Variance Actual Budget Variance

Labour
Cutting

12,200 12,000 (200)

19,060 18,750 (310)

Sundry

742

1,125

383

1,584

Tractors

9,375

8,250

(1,125)

13,500 12,975 (525)

Canetrailers

1,678

2,400

722

2,505

3,750

1,245

Imp&sundries

4,270

4,000

(270)

6,513

6,250

(263)

28,265 27,775 (490)

1,875

291

43,162 43,600 438

Here,actualharvestingcostsforthe3rdquarterare$28,265againstabudgetof$27,775indicating
anincreaseof$490whilstthecumulativefigurefortheyeartodateshowsanoverallsavingof
$438.Itappearsthatactualcostsarelessthanbudgetedcosts,sotheharvestingoperationsare

proceedingwithinthebudgetsetandsatisfactory.However,afurtherlookmayrevealthatthismay
notbethecase.Thebudgetwasbasedonacanetonnagecutof16,000tonnesinthe3rdquarter
andacumulativetonnageof25,000.Ifthesetonnageshavebeenachievedthenthestatementwill
besatisfactory.Iftheactualproductionwasmuchhigherthanbudgetedthenthesecostsrepresent
averyconsiderablesaving,eventhoughonlyamarginalsavingisshownbythevariance.Similarly,
iftheactualtonnagewassignificantlylessthanbudgeted,thenwhatisindicatedasamarginal
savinginthevariancemay,infact,beaconsiderableoverspending.
Priceandquantityvariances
Justtostatethatthereisavarianceonaparticularitemofexpendituredoesnotreallymeanalot.
Mostcostsarecomposedoftwoelementsthequantityusedandthepriceperunit.Avariance
betweentheactualcostofanitemanditsbudgetedcostmaybeduetooneorbothofthesefactors.
Apparentsimilaritybetweenbudgetedandactualcostsmayhidesignificantcompensatingvariances
betweenpriceandusage.
Forexample,sayitisbudgetedtotake300mandaysat$3.00permandaygivingatotalbudgeted
costof$900.00.Theactualcostoncompletionwas$875.00,showingasavingof$25.00.Further
investigationsmayrevealthatthejobtook250mandaysatadailyrateof$3.50afavourable
usagevariancebutaveryunfavourablepricevariance.Managementmaythereforeneedto
investigatesomesignificantvariancesrevealedbyfurtheranalysis,whichacomparisonofthetotal
costswouldnothaverevealed.Priceandusagevariancesformajoritemsofexpensearediscussed
below.
Labour
Thedifferencebetweenactuallabourcostsandbudgetedorstandardlabourcostsisknownas
directwagesvariance.Thisvariancemayariseduetoadifferenceintheamountoflabourusedor
thepriceperunitoflabour,i.e.thewagerate.Thedirectwagesvariancecanbesplitinto:
i)Wageratevariance:thewageratewashigherorlowerthanbudgeted,e.g.using
moreunskilledlabour,orworkingovertimeatahigherrate.
ii)Labourefficiencyvariance:ariseswhentheactualtimespentonaparticularjobis
higherorlowerthanthestandardlabourhoursspecified,e.g.breakdownofamachine.
Materials
Thevarianceformaterialscostcouldalsobesplitintopriceandusageelements:
i)Materialpricevariance:ariseswhentheactualunitpriceisgreaterorlowerthan
budgeted.Couldbeduetoinflation,discounts,alternativesuppliersetc.
ii)Materialquantityvariance:ariseswhentheactualamountofmaterialusedisgreater
orlowerthantheamountspecifiedinthebudget,e.g.abudgetedfertiliserat350kgper
hectaremaybeincreasedordecreasedwhentheactualfertiliserisapplied,givingrise
toausagevariance.
Overheads
Again,overheadvariancecanbesplitinto:
i)Overheadvolumevariance:whereoverheadsaretakenintothecostcentres,a
productionhigherorlowerthanbudgetedwillcauseanoverorunderabsorptionof
overheads.
ii)Overheadexpenditurevariance:wheretheactualoverheadexpenditureishigheror
lowerthanthatbudgetedforthelevelofoutputactuallyproduced.
Calculationofpriceandusagevariances
Thepriceandusagevariancearecalculatedasfollows:

Pricevariance=(budgetedpriceactualprice)Xactualquantity
Usagevariance=(budgetedquantityactualquantity)Xbudgetedprice
Nowattemptexercise4.2.
Exercise4.2Computationoflabourvariances
Itwasbudgetedthatitwouldtake200mandaysat$10.00perdaytocompletethetaskcosting
$2,000.00whentheactualcostwas$1,875.00,being150mandaysat$12.50perday.Calculate:
i)Pricevariance
ii)Usagevariance
Commentbrieflyontheresultsofyourcalculation.

Managementactionandcostcontrol
Producinginformationinmanagementaccountingformisexpensiveintermsofthetimeandeffort
involved.Itwillbeverywastefuliftheinformationonceproducedisnotputintoeffectiveuse.
Therearefivepartstoaneffectivecostcontrolsystem.Theseare:
a)preparationofbudgets
b)communicatingandagreeingbudgetswithallconcerned
c)havinganaccountingsystemthatwillrecordallactualcosts
d)preparingstatementsthatwillcompareactualcostswithbudgets,showingany
variancesanddisclosingthereasonsforthem,and
e)takinganyappropriateactionbasedontheanalysisofthevariancesind)above.
Action(s)thatcanbetakenwhenasignificantvariancehasbeenrevealedwilldependonthenature
ofthevarianceitself.Somevariancescanbeidentifiedtoaspecificdepartmentanditiswithinthat
department'scontroltotakecorrectiveaction.Othervariancesmightprovetobemuchmoredifficult,
andsometimesimpossible,tocontrol.
Variancesrevealedarehistoric.Theyshowwhathappenedlastmonthorlastquarterandno
amountofanalysisanddiscussioncanalterthat.However,theycanbeusedtoinfluence
managerialactioninfutureperiods.

Zerobasebudgeting(ZBB)
Afterabudgetingsystemhasbeeninoperationforsometime,thereisatendencyfornextyear's
budgettobejustifiedbyreferencetotheactuallevelsbeingachievedatpresent.Infactthisispart
ofthefinancialanalysisdiscussedsofar,buttheproperanalysisprocesstakesintoaccountallthe
changeswhichshouldaffectthefutureactivitiesofthecompany.Evenusingsuchananalytical
base,somebusinessesfindthathistoricalcomparisons,andparticularlythecurrentlevelof
constraintsonresources,caninhibitreallyinnovativechangesinbudgets.Thiscancauseasevere
handicapforthebusinessbecausethebudgetshouldbethefirstyearofthelongrangeplan.Thus,
ifchangesarenotstartedinthebudgetperiod,itwillbedifficultforthebusinesstomakethe
progressnecessarytoachievelongertermobjectives.
Onewayofbreakingoutofthiscyclicalbudgetingproblemistogobacktobasicsanddevelopthe
budgetfromanassumptionofnoexistingresources(thatis,azerobase).Thismeansallresources
willhavetobejustifiedandthechosenwayofachievinganyspecifiedobjectiveswillhavetobe
comparedwiththealternatives.Forexample,inthesalesarea,thecurrentexistingfieldsalesforce
willbeignored,andtheoptimumwayofachievingthesalesobjectivesinthatparticularmarketfor
theparticulargoodsorservicesshouldbedeveloped.Thismightnotincludeanyfieldsalesforce,or
adifferentsizedteam,andthecompanythenhastoplanhowtoimplementthisnewstrategy.

Theobviousproblemofthiszerobasebudgetingprocessisthemassiveamountofmanagerialtime
neededtocarryouttheexercise.Hence,somecompaniescarryoutthefullprocesseveryfive
years,butinthatyearthebusinesscanalmostgrindtoahalt.Thus,analternativewayistolookin
depthatoneareaofthebusinesseachyearonarollingbasis,sothateachsectordoesazerobase
budgeteveryfiveyearsorso.

Keyterms
Budgeting
Budgetarycontrol
Budgetpreparation
Managementactionandcostcontrol
Masterbudget
Priceandquantityvariance
Responsibilitycentres
Zerobasedbudgeting