BUDGETING

NEED OF BUDGETING: A PRIMARY OBJECTIVE OF ANY PROFITABLE ORGANIZATION IS TO MAXIMIZE ITS INCOME BY ATTAINING THE HIGHEST VOLUME OF SALES AT THE LOWEST POSSIBLE COST, PLANNING AND CONTROL ARE ESSENTIAL IN ACHIEVING THIS GOAL AND BUDGETING PRODUCES THE FRAME WORK BY WHICH ORGANIZATION CAN REACH THIS OBJECTIVE. CONCEPT: A BUDGET IS A DETAILED PLAN WHICH SHOWS THE CONSEQUENCES OF AN ORGANIZATIONS OPERATING ACTIVITIES FOR A SPECIFIED PERIOD OF TIME. OR THE BUDGET IS A FINANCIAL MODEL THAT SUMMARIZES THE FUTURE OPERATIONS OF THE FIRM AND IS OFTEN VIEWED AS AN IMPORTANT COMPONENT OF AN ORGANIZATIONS PLANNING SYSTEM. OR A QUANTITATIVE EXPRESSION OF A PLAN OF ACTION THAT SHOWS HOW A FIRM OR ORGANIZATION WILL ACQUIRE AND USE RESOURCES OVER SOME SPECIFIED PERIOD OF TIME. BUDGETING PROCESS: THE ACTIVITIES AND PROCEDURES UNDERTAKEN TO DEVELOP BUDGET. PURPOSES OF BUDGETING: THE BUDGETING PROCESS CAN NORMALLY SERVE FOLLOWING FIVE PURPOSES. 1. 2. 3. 4. 5. PLANNING FACILITATING COMMUNICATION AND COORDINATION ALLOCATING RESOURCES CONTROLLING PROFIT AND OPERATIONS EVALUATING PERFORMANCE AND PROVIDING INCENTIVES

TYPES OF BUDGET
THERE ARE BASICALLY TWO TYPES OF BUDGET 1) MASTER BUDGET/ (STATIC BUDGET)/ ANNUAL BUDGET 2) FLEXIBLE BUDGET 1. MASTER BUDGET: IS A COMPREHENSIVE SET OF BUDGET THAT COVERS ALL ASPECTS OF A FIRMS ACTIVITIES. THE BUDGET IS PREPARED FOR A SINGLE LEVEL OF VOLUME BASED ON MANAGEMENT BEST ESTIMATE OF THE LEVEL OF PRODUCTION AND SALES FOR THE COMING PERIOD. COMPONENTS OF MASTER BUDGET MASTER BUDGET COMPRISES OF TWO COMPONENTS a. OPERATING BUDGET b. FINANCIAL BUDGET a. OPERATING BUDGET: A BUDGET THAT RELATES TO THE OPERATING ACTIVITIES (INCOME STATEMENT) OF THE BUSINESS. AN OPERATING BUDGET IS EXPRESSED IN BOTH UNITS AND RUPEES WHEN AN OPERATING BUDGET RELATES TO REVENUE (SALES) UNITS ARE THOSE EXPECTED TO BE SOLD AND RUPEES REFLECT SELLING PRICES, WHEN AN OPERATING BUDGET RELATES TO COST ITEMS, UNITS ARE THOSE EXPECTED TO BE PRODUCED OR CONSUMED AND RUPEES REFLECTS COST. THE FOLLOWING ARE THE COMPONENTS AND SEQUENCE OF OPERATING BUDGET i. ii.

SALES BUDGET PRODUCTION BUDGET a. DIRECT MATERIAL BUDGET b. DIRECT LABOR BUDGET c. FACTORY OVERHEAD BUDGET ( NOTE : IN CASE OF TRADING BUSINESS INSTEAD OF PRODUCTION BUDGET WE USE THE TERM PURCHASE BUDGET.) iii. SELLING AND ADMINISTRATIVE BUDGET

i.

SALES BUDGET: THE FIRST STEP IN DEVELOPING A MASTER BUDGET. A DETAILED SUMMARY OF THE ESTIMATED SALES UNITS AND REVENUES FROM THE ORGANIZATION PRODUCT FOR THE BUDGETED YEAR. ALL OTHER BUDGETS ARE DEVELOPED FROM THIS BUDGET FORECASTING SALES VOLUME BOTH IN TERMS OF UNITS AND RUPEES, FOR EXAMPLE THE AIRLINES FORECAST THE NUMBER OF PASSENGERS WHO WILL FLY ON EACH OF THEIR ROUTES AND THE AVERAGE FARES, BANKS FORECAST THE NUMBER AND RUPEES AMOUNT OF THE PERSONAL AND HOME MORTGAGE, THAT THEY WILL PROVIDE IN COMING YEAR, HOTEL ESTIMATES THE NUMBER OF ROOMS THAT WILL BE OCCUPIED DURING VARIOUS SEASON. MANUFACTURING AND TRADING BUSINESS CAN FORECAST SALE OF THEIR GOODS FORECASTING ALSO INVOLVES WHICH PRODUCT SHOULD BE ADDED IN THE PRODUCT LINE AND WHICH SHOULD BE DROPPED FOLLOWING MAJOR FACTORS ARE CONSIDERED WHILE DEVELOPING SALES BUDGET INTERNAL FACTORS PAST SALES LEVEL AND TRENDS OF THE COMPANY NEW PRODUCTS PLANNED BY THE COMPANY THE INTENDED PRICING POLICY OF THE COMPANY EXTERNAL FACTORS GENERAL ECONOMIC GROWTH GOVERNMENT POLICIES EXPECTED ACTIVITIES OF COMPETITORS

ii.

COST BUDGET: A SERIES OF BUDGET THAT DETAILS THE COST OF OPERATION NEEDED TO SUPPORT FORECAST SALES DEMAND. IN CASE OF MANUFACTURING AND SERVICE BUSINESS THE BUDGET IS CALLED PRODUCTION BUDGET AND IN CASE OF TRADING BUSINESS IT IS TERMED AS PURCHASE BUDGET. FACTORS TO BE CONSIDERED WHILE DEVELOPING PRODUCTION BUDGETS ARE PROJECTED SALES FOR THE PERIOD, THE DESIRED AMOUNT OF ENDING INVENTORY, AND THE TIME NEEDED TO OBTAIN MATERIAL AND THEN TO MAKE A UNIT OF PRODUCT. AMONG THE FACTORS ENDING INVENTORY IS AN IMPORTANT FIGURE BECAUSE MANAGEMENT WANTS ENOUGH UNITS ON HAND TO MEET CUSTOMER DEMAND AND AT THE SAME TIME NOT SO MANY UNITS THAT WILL RESULT IN EXCESSIVE INVENTORY HOLDING COST . USUALLY THE DESIRED LEVEL OF INVENTORY IS EXPRESSED IN TERMS OF PERCENTAGE OF THE FOLLOWING PERIODS SALES VOLUME, FOR EXAMPLE THE COMPANY HAS ESTIMATED THAT ITS ENDING INVENTORY SHOULD BE 80% OF THE PROJECTED SALES FOR THE NEXT YEAR.

 SELLING AND ADMINISTRATIVE BUDGETS ARE ALSO DEVELOPED ON THE BASIS OF SALES BU COMPONENTS OF PRODUCTION BUDGET: IN CASE OF MANUFACTURING FIRM PRODUCTION BUDGET COMPRISES OF FOLLOWING THREE COMPONENTS. DIRECT MATERIAL BUDGET DIRECT LABOR BUDGET FACTORY OVERHEAD BUDGET DIRECT MATERIAL BUDGET. ON THE BASIS PRODUCTION BUDGET, A SCHEDULE OF DIRECT MATERIAL TO BE USED AND CONSEQUENTLY TO BE PURCHASED DURING THAT PERIOD. DIRECT LABOR BUDGET. ON THE BASIS OF PRODUCTION BUDGET, A SCHEDULE OF DIRECT LABOR REQUIREMENTS( IN TERMS OF HOURS AND COST) FOR THE BUDGETED PERIOD. OVERHEAD BUDGET. ON THE BASIS OF PRODUCTION BUDGET, A SCHEDULE OF PRODUCTION COST OTHER THAN DIRECT MATERIAL AND DIRECT LABOR. THE FACTORY OVERHEAD BUDGET CONSISTS OF INDIVIDUAL FACTORY OVERHEAD ITEMS (WITH THE IDENTITY OF VARIABLE AND FIXED) NEEDED TO MEET PRODUCTION REQUIREMENTS.

iii.

SELLING AND ADMINISTRATIVE EXPENSE BUDGET. ONCE THE SALES FORECAST HAS BEEN MADE , A SELLING AND ADMINISTRATIVE EXPENSE BUDGET CAN BE PREPARED, ACTUALLY THIS BUDGET IS A SCHEDULE OF ALL NON PRODUCTION SPENDING EXPECTED TO OCCUR DURING THE BUDGETED PERIOD.

b. FINANCIAL BUDGET. MONETARY DETAILS FROM THE OPERATING BUDGETS ARE AGGREGATED TO PREPARE FINANCIAL BUDGETS. FINANCIAL BUDGET INCLUDES THE ORGANIZATION CASH AND CAPITAL BUDGETS (INDICATED FUNDS TO BE GENERATED AND CONSUMED)AS WELL AS PROJECTED OR PRO FORMA FINANCIAL STATEMENTS. THESE BUDGETS ARE THE ULTIMATE FOCAL POINT FOR TOP LEVEL MANAGEMENT. THE FOLLOWING ARE THE COMPONENTS OF FINANCIAL BUDGET. CASH BUDGET CAPITAL EXPENDITURE BUDGET INCOME STATEMENT BALANCE SHEET STATEMENT OF CASH FLOW STATEMENT OF RETAINED EARNING. CASH BUDGET: THE CASH BUDGET SHOWS EXPECTED CASH RECEIPTS AND DISBURSEMENTS, BASED ON PROJECTED REVENUES ,PRODUCTION SCHEDULE AND EXPENSES DURING A PERIOD. USING THIS BUDGET MANAGEMENT CAN PLAN FOR NECESSARY, FINANCING OR TEMPORARY INVESTMENT OF SURPLUS FUND. THE ACCOUNT RECEIVABLE BUDGET, BASED ON ANTICIPATED SALES WILL INFLUENCE THE CASH BUDGET, BY SHOWING WHEN CASH IS EXPECTED FROM THE TURNOVER OF INVENTORY AND RECEIVABLES. MOST OF THE CASH PAYMENTS ARE BASED ON BUDGETED EXPENSES ,ADJUSTED FOR ANY AMOUNT OF ACCRUED OR PREPAID PREPARING A CASH BUDGET IS AN IMPORTANT COMPONENT OF ANY FORMAL BUDGETING SYSTEM. IT PLAYS AN IMPORTANT ROLE IN HELPING COMPANY TO EVALUATE FINANCIAL NEEDS, BECAUSE WITHOUT CASH A COMPANY CAN NOT SURVIVE. THE CASH BUDGET ALSO FORM THE BASIS FOR DETAILED MONTHLY OR WEEKLY CASH REQUIREMENTS.

CONCEPT OF FLEXIBLE BUDGETING.

BEFORE STUDYING THE CONCEPT OF FLEXIBLE BUDGETING WE SHOULD KNOW WHAT IS A STATIC BUDGET . STATIC BUDGET: A QUANTIFIED PLAN THAT PROJECTS REVENUE AND COST FOR ONLY ONE LEVEL OF ACTIVITY. WEAKNESS IN STATIC BUDGETING: ALTHOUGH STATIC BUDGET HELPS IN PLANNING, BUT THEY ARE NOT USEFUL IN CONTROLLING COSTS AND MEASURING PERFORMANCE BECAUSE THE ACTUAL LEVEL OF ACTIVITY MAY HAVE DIFFERED SIGNIFICANTLY FROM THE PLANNED LEVEL. EXAMPLE:

FLEXIBLE BUDGETING: A QUANTIFIED PLAN THAT PROJECTS REVENUE AND COST FOR VARYING LEVELS OF ACTIVITY. STRENGTH IN FLEXIBLE BUDGETING: A FLEXIBLE BUDGET IS MUCH MORE USEFUL FOR CONTROL AND PERFORMANCE EVALUATION, BECAUSE IT IS NOT CONFINED WITH ONE LEVEL OF ACTIVITY, THEY ARE ACTUALLY DYNAMIC, AND CAN BE TAILORED TO ANY LEVEL OF ACTIVITY WITHIN THE RELEVANT RANGE. THE FLEXIBLE BUDGET IS INFLUENCED BY THE PRESENCE OF FIXED AND VARIABLE COST. FIXED COSTS ARE THOSE COSTS THAT DO NOT CHANGE AS PRODUCTION CHANGES OVER A GIVEN RANGE OF ACTIVITY; ON THE OTHER HAND VARIABLE COSTS VARY IN TOTAL TO ANY CHANGE IN PRODUCTION AND SALES VOLUME. IT IS BECAUSE OF THESE VARIABLE ITEMS THAT TOTAL COST OR REVENUE WILL DIFFER FROM AMOUNT IN MASTER BUDGETS LEVEL, HOWEVER FLEXIBLE BUDGET WILL BE USEFUL, BECAUSE IT WOULD INDICATE THE STANDARD DIRECT MATERIAL, ALLOWED FOR THE ACTUAL LEVEL OF PRODUCTION ACHIEVED.