Enrollment No.

MBA Information Systems 1st Year Assignment

Annamalai University

3: Accounting and Finance For Managers

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Question #1: Explain the accounting concepts that are being
followed in organization and how they are useful in preparing
financial statements.
Answer:-

Introduction
Accounting may be defined as the science as well as the art of recording financial transactions under appropriate
accounts. Accounting has rightly been termed as the language of business.

Information that is used in accounts is initially entered into books of prime

entry, which may simply be paper or computer records. This helps with
financial planning. From there the information will be entered into a double
entry system in a book (or computer programme) called the ledger. Each
account is kept on a separate page in the ledger, and every account has two
sides - a debit and a credit side. Information will then be extracted so that it
can be presented in a financial report.
Basic accounting rules group all finance related transactions/things into five
fundamental types of accounts. That is, everything that accounting deals
with can be placed into one of these five accounts:
Assets
things are own.
Liabilities things are owe.
Equity
overall net worth.
Income
increases the value in accounts.
Expenses decreases the value from accounts.
It is clear that it is possible to categorize financial world into these 5 groups.
For example, the cash in the bank account is an asset, mortgage is a liability,
pay check is income, and the cost of dinner last night is an expense.
Net worth is calculated by subtracting liabilities from the assets:
Assets Liabilities = Equity
Equity can be increased through income, and decreased through expenses.
This means pay check make "richer" and expense make "poorer". This is
expressed mathematically in what is known as the Accounting Equation:
Assets Liabilities = Equity + (Income Expenses)
This equation must always be balanced, a condition that can only be
satisfied if values are enter to multiple accounts.

Accounting Concepts
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The term concept includes those basic assumptions or conditions upon which
the science of accounting is based. The following are the important
accounting concepts
Business Entity Concept
In accounting business is treated as a separate entity from its owners. A
distinction is made between business transactions and personal transactions.
A distinction is also made in private property and business property of
owners.
For example, goods used from the stock of the business for business purpose
are treated as business expenditure but similar goods used by the proprietor
for his personal use are treated as his drawings.
Significance
This concept helps in ascertaining the profit of the business as only the
business expenses and revenues are recorded and all the private and
personal expenses are ignored.
These concept restraints accountants from recording of owners private/
personal transactions.
It also facilitates the recording and reporting of business transactions
from the business point of view
It is the very basis of accounting concepts, conventions and principles
Going Concern Concept
It is presumed that the concern will continue to exist indefinitely or at least in
the near future. The present resources of the concern are utilized to attain
the objectives of the business. This concept is very important in relation to
the preparation of financial statements.
Significance
This concept facilitates preparation of financial statements.
On the basis of this concept, depreciation is charged on the fixed asset.
It is of great help to the investors, because, it assures them that they
will continue to get income on their investments.
In the absence of this concept, the cost of a fixed asset will be treated as
an expense in the year of its purchase.
A business is judged for its capacity to earn profits in future.
The Cost Concept
Business involves exchange of goods and services. The exchanges take place
through the medium of money. The money paid for the exchange becomes
the cost of goods. The cost of items to a business is the amount of money
paid in acquiring it. The price which is actually paid is recorded in account
books.
Significance
This concept requires asset to be shown at the price it has been
acquired, which can be verified from the supporting documents.
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It helps in calculating depreciation on fixed assets.

The effect of cost concept is that if the business entity does not pay
anything for an asset, this item will not be shown in the books of
accounts.

Dual Aspect Concept

This concept lies at the heart of the whole accounting system. Modern
accounting system is based on dual aspect concept. It is based on the
principle that for every debit transaction, there is a corresponding credit
transaction. There must be a giver of benefit and also a taker of it. Duality
concept is commonly expressed as follows
Assets = Liabilities + Capital
The above accounting equation states that the assets of a business are
always equal to the claims of owner/owners and the outsiders. This claim is
also termed as capital or owners equity and that of outsiders, as liabilities or
creditors equity.
The interpretation of the Dual aspect concept is that every transaction has
an equal effect on assets and liabilities in such a way that total assets are
always equal to total liabilities of the business.
Significance
This concept helps accountant in detecting error.
It encourages the accountant to post each entry in opposite sides of two
affected accounts.
Money Measurement Concept
According to this concept only those transactions are recorded in accounting
which can be expressed in terms of money. Money provides a mechanism by
which real resources can be transferred among different individuals. Money is
accepted as medium of exchange for goods and services.
Significance
This concept guides accountants what to record and what not to record.
It helps in recording business transactions uniformly.
If all the business transactions are expressed in monetary terms, it will
be easy to understand the accounts prepared by the business
enterprise.
It facilitates comparison of business performance of two different periods
of the same firm or of the two different firms for the same period.
Account Period concept
The concern is considered as a going concern. As per going concept, the
assets are realizable only at the time of dissolution and creditors will be paid
off at that time. According to this concept, the owners will be able ti
ascertain how much money is left with them after paying off all the liabilities.
Significance
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It helps in predicting the future prospects of the business.

It helps in calculating tax on business income calculated for a particular
time period.
It also helps banks, financial institutions, creditors, etc to assess and
analyze the performance of business for a particular period.
It also helps the business firms to distribute their income at regular
intervals as dividends.

Realizing Concept
This concept is related to the realization of revenue. The revenue is realized
either from sale of products or from rendering of services. The sale of
products involves a number of stages i.e.
1. Receipt of order
2. Production of goods
3. Despatch of goods
4. Receipt of money
Significance
It helps in making the accounting information more objective.
It provides that the transactions should be recorded only when goods
are delivered to the buyer.
Matching of Cost and Revenue Concept
The aim of every business is to produce profits. The costs are matched to
revenues. The difference between income from sales and cost of producing
the goods will be profit. If the revenue is more than the expenses, it is called
profit. If the expenses are more than revenue it is called loss. This is what
exactly has been done by applying the matching concept.
Therefore, the matching concept implies that all revenues earned during an
accounting year, whether received/not received during that year and all cost
incurred, whether paid/not paid during the year should be taken into account
while ascertaining profit or loss for that year.
Significance
It guides how the expenses should be matched with revenue for
determining exact profit or loss for a particular period.
It is very helpful for the investors/shareholders to know the exact
amount of profit or loss of the business.

Accounting Concepts for Financial Statement Preparation

The Financial Statements are found to be more useful to many people
immediately after presentation only in order to study the financial status of
the enterprise in the angle of their own objectives. The preparation of Final
accounts the business firm involves two different stages, Preparation of
Accounting and Positioning Statement of the enterprises. The preparation of
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accounting statement involves two different category, Trading account and
Profit and Loss account. The preparation of the positional statement involves
only one statement, Balance sheet.
The following Financial Statement are prepared by considering the accounting
concepts:
1. Trading Account
2. Profit and Loss Account
3. Balance Sheet
1. Trading Account
This is first Financial Statement prepared by the owner of the enterprise to
determine the gross profit during the year through the matching Concept of
Accounting. The gross profit of the enterprise is calculated through the
comparison of purchase expenses, manufacturing expenses, and other direct
expenses with the sales.
It is prepared normally for one year in accordance with Accounting Period
Concept i.e., operating cycle of the enterprise which should not exceed 15
months with reference to the Companies Act 1956.
Trading Account of ABC Company for the year ending
Dr
Cr
Rs.
Rs.
Rs.
Rs.
To Opening Stock
xxxxx By Cash Sales
xxxxx
To Cash Purchase
xxxxx
Add Credit Sales
xxxxx
Add Credit Purchase
xxxxx
By Total Sales
xxxxx
To Total Purchase
xxxxx
Less Sales return
xxxxx
Less Purchase Return
xxxxx
By Net Sales
xxxxx
To Net Purchases
xxxxx By Closing Stock
xxxxx
To Wages
xxxxx By Gross Loss C/d
xxxxx
To Carriage Inward
xxxxx
To Factory Lighting
xxxxx
To Fuel, Coal, Oil
xxxxx
To Duty on Import of
xxxxx
Materials
To Gross Profit C/d
xxxxx
Balancing Process: Gross profit is the resultant of an excess of the credit side
total over the total of debit side. It means that the gross profit is the excess of
incomes in the credit side over the expenses in the debit side.
Gross Loss is the outcome of an excess of the debit side total over the total of
credit side. It means that the gross loss is the excess of expenses in the debit
side over the incomes in the credit side.
The purpose of crediting the closing stock in the trading account is to find out
the materials or goods consumed for trading purposes.
Material consumed could be calculated
Material consumption = Opening stock + Purchases - Closing stock
2. Profit & Loss Account
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It is a second statement of accounting in connection with the earlier to
determine the Net profit/loss of the enterprise out of the early found Gross
profit/loss. This is an accounting statement matches the administrative, selling
and distribution expenses with the gross profit and other incomes of the
enterprise.
This is an account prepared for one Operating Cycle of the firm i.e. 12 months
in period. The transactions are recorded in accordance with golden rules of
nominal account. In the profit & loss account, the expenses and losses are
debited and incomes and gains are credited.
The expenses which are matched with the credit total of the profit and loss
account.
Classified into various categories
1. Administrative Expense
2. Selling & Distribution Expenses
3. Financial Expenses
4. Legal Expense.
Profit and Loss account of XYZ
Dr
Rs.
To Gross Loss B/d
xxxxx
Balancing figure
Office
and
Administrative
Expenses
To Salaries
To Rent, Rates and
Taxes
To Office Expenses
To general Expenses
To
Miscellaneous
Expenses
Selling and Distribution
Expenses
To Salary to Sales staff
To Commission charges
To Advertising expenses
To Carriage outwards
To Bad debts
Packing Expenses
Financial Expenses
To Interest on capitol
To Interest on Loan
To
trade
discount
allowed

Company for the year ending.

Cr
Rs.
By Gross Profit
xxxxx

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By Rent Received

By Commission received

By Increase on drawing
By interest on investment
By trade discount received
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Maintenance Expenses
To Depreciation of Fixed
assets
To loss on sale of assets
Other Expenses
To provision for debts
To Net profit c/d

To profit on sale of assets

By Net loss c/d

Balancing process of the profit and loss account leads to two different
categories:
Net profit is the resultant of excess of income in the credit side over the
expenses in the debit side of the Profit and Loss account.
Net Loss is an outcome of excess of expenses in the debit side over the
incomes in the credit side.

3. Balance Sheet
Balance sheet is the third Financial Statement which reveals the financial
status of the enterprise through the total amount of resources raised and
applied in the form of assets. This is the fundamental statement of the firm
which explores the firm financial stature through the resources mobilized and
investments applied i.e. Liabilities and Assets respectively. From the early,
according to Double Entry Concept or Duality Concept, the balance sheet can
be divided into two distinct sides, known as liabilities and assets.
The balance sheet can be disclosed in two different orders:
1. In the order of long lastingness permanence.
2. In the order of liquidity.
Balance Sheet of ABC Company as
Liabilities
Rs.
Capital
xxxx
Less: Drawings
xxxx
Add: Net Profit
xxxx
xxxxx
Long Term Borrowing
xxxxx
Sundrey Creditors
xxxxx
Bills Payable
xxxxx
Bank Overdraft
xxxxx
Outstanding expenses
xxxxx
Pre received income
xxxxx
Total liabilities

xxxxx

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at dated
Assets
Land & Building

Rs.
xxxxx

Plant & Material

xxxxx

Furniture & fittings

xxxxx

Fixtures & tools

Marketable securities
Closing stock
Sundry debtors
Bills receivable
Pre paid expenses
Cash at Bank
Cash in hand
Total Assets

xxxxx
xxxxx
xxxxx
xxxxx
xxxxx
xxxxx
xxxxx
xxxxx
xxxxx
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Total Liabilities

xxxxx

Cash in hand
Total Assets

xxxxx
xxxxx

Methods of determining the accounting income includes:

Cash Method of Accounting: Under this method, cash receipts are
matched with the cash payments irrespective of the time period in order to
determine the income.
Mercantile Method of Accounting: Under this method, time period is
given greater importance than the actual receipts and payments. It records
the receipts and expenses pertaining to the specified period whether them are
actually received /paid or not. The receipts as well as payments of the other
periods should be ignored /eliminated in determining the income of the
stipulated duration. It is popularly known in other words as "Accrual
Accounting System".
Conclusion
Trading Account is first financial statement prepared by the owner of the
enterprise to determine the gross profit during the year through the matching
concept of accounting. In order to find out the total amount of goods or
materials consumed during a year, three different components to be separately
considered i.e. Opening stock, Purchases and Closing Stock;
Profit & Loss Account is a second statement of accounting in connection with
the earlier to determine the Net profit/loss of the enterprise out of the early
found Gross profit/loss.
Balance sheet is the third financial statement based on Duality Concept; which
reveals the financial status of the enterprise through the total amount of
resources raised and applied in the form of assets.

Question #3: Budgeting is the one of the main tool to control the
cost Give your views.
Answer:-

Budgeting

A Budget is a plan that outlines an organization's financial and operational

goals. So a budget may be thought of as an action plan; planning a budget
helps a business allocate resources, evaluate performance, and formulate
plans.
A budget is Financial and/or quantitative statements, prepared and
approved prior to a defined period of time, of the policy to be pursed during
the period for the purpose of attaining a given objective. ICMA, England
It is also defined as, a blue print of a projected plan of action of a business
for a definite period of time.
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According to the definition, the essential features of a budget are:
It is prepared for a definite period well in advance.
It may be stated in terms of money or quantity or both.
It is a statement defining the objectives to be attained and the policy to
be followed to achieve them in a future period.
Typically, budgets serve three major purposes: Planning; Co-ordinating;
and Controlling.
These three functions dictate that budgeting and the financial management
process be flexible but accountable throughout the fiscal period. At all
management levels, budgets typically represent an effective element of
control, whether on a day-to-day operational basis or on a longer term basis.
Controlling and monitoring are terms often used interchangeably; as one
considers controlling/monitoring.

Types of Budgets

There are many types of budgets. They may be classified into several basic
types. Most organizations develop and make use of three different types of
budgets:
1. Operating budgets;
2. Capital expenditures budgets;
3. Financial budgets; and
4. Zero-Base Budgets;
1. Operating Budgets
An operating budget is a statement that presents the financial plan for each
responsibility centre during the budget period and reflects operating
activities involving revenues and expenses. It is an approach to a budget
that start rom premises that no cost or activities should be factored from the
plans for the coming budget period .Zero based budgeting can be useful to
budget heads such as repairs, maintenance or equipment costs. The most
common types of operating budgets are: Expense Budget, Revenue Budget
and Profit budgets.
a. Expense Budget: An expense budget is an operating budget that
documents expected expenses during the budget period. Three different
kinds of expenses normally are evaluated in the expense budget - fixed,
variable and discretionary. Discretionary expenses - costs that depend
on managerial judgment because they cannot be determined with
certainty, for example: legal fees, accounting fees and R&D expense.
b. Revenue Budget: A revenue budget identifies the revenues required by the
organization. It is a budget that projects future sales. The main benefit of a revenue budget
is that it requires looking into the future. The revenue budget should contain the
assumptions made about the future and the details about the number of units to be sold, the
expected selling prices, and so on.
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c. Profit Budget: A profit budget combines both expense and revenue
budgets into one statement to show gross and net profits. Profit budgets
are used to make final resource allocation, check on the adequacy of
expense budgets relative to anticipated revenues, control activities
across units, and assign responsibility to managers for their shares of
the organization's financial performance.
2. Financial Budgets
Financial Budgets outline how an organization is going to acquire its cash and
how it intends to use the cash. Three important financial budgets are the
cash budget, capital expenditure budget and the balance sheet budget.
a. Cash budget: Cash budgets are forecasts of how much cash the organization has on
hand and how much it will need to meet expenses. The cash budget is prepared after the
operating budgets (sales, manufacturing expenses or merchandise purchases, selling
expenses, and general and administrative expenses) and the capital expenditures budget are
prepared. The cash budget starts with the beginning cash balance to which is added the cash
inflows to get cash available. Cash outflows for the period are then subtracted to calculate
the cash balance before financing. If this balance is below the company's required balance,
the financing section shows the borrowings needed.
b. Capital Expenditure Budget: Capital Expenditure Budgets. Investment in
property, buildings and major equipment are called capital expenditureThe capital
expenditures budget identifies the amount of cash a company will invest in projects and
long-term assets. Although funds for expenditures may be identified and approved in total
during the budget process, most companies have a separate process for approving funds for
the specific items included in a capital expenditures budget. The process includes a
financial evaluation to determine whether the company's return on investment targets are
met and, once the targets are known to be met, a qualitative review by a top management
team.
c. The balance sheet budget: The balance sheet budget plans the
amount of assets and liabilities for the end of the time period under
considerations. A balance sheet budget is also known as a Performa
balance sheet. Analysis of the balance sheet budget may suggest
problems or opportunities that will require managers to alter some of the
other budgets.
3. Variable Budgets
Because of the dangers arising from inflexibility in budgets and because of
maximum flexibility consistent with efficiency underlines good planning,
attention has been increasingly given to variable or flexible budgets. To deal
with this difficulty, many managers resort to a variable budget.
Whereas fixed budgeted express that individual costs should be at one
specified volume, variable budgets are cost schedules that show how each
cost should vary as the level of activity or output varies.
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There are three types of costs that must be considered when variable
budgets are being developed: fixed, variable, and semi-variable costs. The
problem in devising variable budgets is that cost variability is often difficult
to determine and that they are often quite expensive to prepare.
4. Zero-Base Budgets
The conventional budgeting process does have one major disadvantage.
Managers tend to prepare new budget requests by adding an incremental
amount to their previous year's budget requests, rather than re-evaluating
the need for things already included.
Zero-base budgeting (ZBB), in contrast, enables the organization to look at
its activities and priorities a fresh. Zero-base budgeting assumes that the
previous year's budget is not a valid base from which to work. It forces
department managers to thoroughly examine their operations and justify
their departments activities based on their direct to the achievement of
organizational goals.
The specific steps used in zero-based budgeting are as follows:
Break down each of an organization's activities into decisions packages. The
decision package includes written statements of the department's objectives,
activities, costs, and benefits; alternative ways of achieving objectives; plus
the consequences expected if the activity is not approved. Managers then
assign a rank order to the activities in their department for the coming year.
Evaluate the various activities and rank them in of decreasing benefits to the
organization. Rankings for all organizational activities are reviewed and
selecting by top managers.

The Budget Preparation

There are two type of budgeting process:

1. Top-down Budgeting: Many traditional companies use, a process of
developing budgets in which top management outlines the overall
figures and middle and lower-level managers plan accordingly.
The top-down process has certain advantages: Top managers have
comprehensive knowledge of the organization and its environment,
including their familiarity with the company's goals, strategic plans, and
overall resources availability. Thus, the top-down process enables
managers set budget targets for each department to meet the needs of
overall company revenues and expenditures.
2. Bottom-up Budgeting: Other organizations use, a process developing
budgets in which lower-level and middle managers anticipate their
departments' resource needs, which are passed up the hierarchy and
approved by top management.
The bottom-up approach builds on the specialized knowledge of
operating managers about environment and marketplace, which they
have gleaned from day-to-day operations. In reality, the budgetary
process usually involves a mixture of both styles.
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Budgetary Control

Budgets are the most widely used control system, because the plan and
control resources and revenues are essential to the firm's health and
survival.
"The establishment of budgets relating to the responsibilities of executives to
the requirements of a policy and the continuous comparison of actual with
budgeted results, either to secure by individual action the objectives of that
policy or to provide a basis for its revision. ICMA, England
"Budgetary control is a system which uses budgets as a means of planning
and controlling all aspects of producing and/or selling commodities and
services." J. Batty
The main steps in budgetary control are:
Establishment of budgets for each section of the organization.
Recording of actual performance. In case there is a difference between
actual and budgeted performance taking suitable remedial action
Monitoring of the actual performance with the budget and revise
budgets if necessary.
Objectives of Budgetary Control
The objectives, of budgetary control are:
To define the goal and provide long and short period plans for attaining
these goals.
To co-ordinate the activities of different departments.
To operate various cost centers and departments with efficiency and
economy.
To estimate waste and increase the profitability.
To estimate future capital expenditure requirements and centralize the
control system.
To correct deviations from Established standards.
To fix the responsibility of various individual in the organization.
To indicate to the management as to where action is needed to solve
problems without delay.
Budgetary control helps in eliminating wastes and raises the profitability position of a
business
enterprise.

It makes a prediction about capital expenditure for future.

It
helps
in
amending
deviations
from the

Budgetary control operates various cost centres and departments with efficiency and

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economy.
The
1.
2.
3.
4.
5.
6.

following steps should be taken in a sound system of budgetary control:

Organization Chart;
Budget Centre;
Budget Committee;
Budget Manual;
Budget Period;
Key Factor;

1. Organization Chart: There should be a well defined organization chart

for budgetary control. This will show the authority and responsibility of each
executive.
2. Budget Centre: A, budget centre is that part of the organization for
which the budget is prepared. A budget centre may be a department, or a
section of the department. (Say production department or purchase section).
The establishment of budget centre is essential for covering all parts of the
organization. The budget centre" are also necessary for cost contra]
purposes. The evaluation of performance becomes easy when different
centers are established.
3. Budget Committee: In small companies, the budget is prepared by the
cost accountant. But in big companies, the budget is prepared by the
committee. The budget committee consists of the chief executive to
managing director, budget officers and the managers of various
departments. The Manager of various departments prepares their budgets
and submits to this committee. The committee will take necessary
adjustments, co-ordinate all the budgets and prepare a master Budget. The
main functions of the committee are:
To receive and scrutinize all budgets and decide the policy to be
followed.
To suggest revision of functional budgets if needed and approve finally
revised budgets.
To prepare the Master Budget after functional budget are approved.
To study variations of actual performance from the budget.
To recommend corrective action if and when required.
4. Budget Manual: Budget Manual is a book which contains the procedure
to be followed by the executives / concerned with the budget. It guides all
executives in preparing various budgets. It is the responsibility of the budget
officer to prepare and maintain this manual.
The budget manual may contain the following particulars:
A brief explanation of objectives and principles of budgetary control.
Duties and powers and functions of the budget officer and the budget
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committee.
Budget period, account classification, Reports, statements form and
charts to be used.
Procedure to be followed for obtaining approval.

5. Budget Period: A budget period is the length of time for which a budget
is prepared and deployed. It may be different for different industries or even
it may be different in the same industry or business. The budget period
depends upon the following factors.
The type of budget whether it is a sales budget, production budget, raw
material purchase budget, by capital expenditure budget. A capital
budget may be for a longer period i.e. 3 to 5 years; purchase and sales
Budget may be for one year.
The nature of the demand for the producer and timings for the
availability of finance.
6. Key Factor: It is also known as limiting factor or governing factor or
principal budget factor. A key factor is one which restricts the volume of
production. It may arise due to the shortage of material, labor, capital, plant
capacity or sales. It is a factor which affects all other budgets. Therefore the
budget relating to the key factor is prepared before other budgets are
framed. The following ore the requirements of a good budgetary control
system:
Budgetary control system should have the whole-hearted support of the
top management.
A budget committee should be established consisting of the budget
director and the executives of various departments of the organization.
There should be a proper fixation of authority and responsibility. The
delegation of authority should be done in a proper way.
The budget figures should be realistic and easily attainable.
Variation between actual figures and budgeted figures should be
reported properly and clearly to the appropriate levels of management.
A good accounting system is essential to make budgeting successful.
The budget should not cost more to operate than is worth.

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Advantages of Budgetary Control

Budgetary control has become an essential tool of the management for

controlling costs and maximizing profits. It acts as a friend, philosopher, and
guide to the management.
The following are the advantages of budgetary control:
Budgetary control defines the objectives and policies of the undertaking
as a whole.
It is an effective method of controlling the activities of various
departments of a business unit. It fixes targets and the various
departments have efficiently to reach the targets.
It helps the management to fix up responsibility to reduce wasteful
expenditure. This leads to reduction in the Cost of production.
It brings in efficiency and economy by promoting cost consciousness
among the employees and facilitates introduction of standard costing.
It acts as internal audit by a continuous evaluation of departmental
results and costs.
It helps in estimating the financial needs of the concern. Hence the
possibility of under capitalization is eliminated.
It provides a basis for introducing incentive remuneration plans based on
performance.
It helps in the smooth running of the business unit. There will be no
stoppage of production on account of shortage of raw materials or
working capital. The reason is that everything is planned and provided in
advanced.
It indicates to the Management as to where action is needed to solve
problems without delay.
Maximization of Profit: The budgetary control aims at the
maximization of profits of the enterprise. To achieve this aim, a proper
planning and co-ordination of different functions is undertaken. There is
proper control over various capital and revenue expenditures. The
resources are put to the best possible use.
Co-ordination: The working of the different departments and sectors is
properly co-ordinate. The budgets of different departments have a
bearing on one another. The co-ordination of various executives and
subordinates is necessary for achieving budgeted targets.

Specific Aims: The plans, policies and goals are decided by the top
management. All efforts are put together to reach the common goal of
the organization. Every department is given a target to be achieved. The
efforts are directed towards achieving come specific aims. If there is no
definite aim then the efforts will be wasted in pursuing different aims.

Tool for Measuring Performance: By providing targets to various

departments, budgetary control provides a tool for measuring
managerial performance. The budgeted targets are compared to actual
results and deviations are determined. The performance of each
department is reported to the top management. This system enables the
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introduction of management by exception.

Economy: The planning of expenditure will be systematic and there will
be economy in spending. The finances will be put to optimum use. The
benefits derived for the concern will ultimately extend to industry and
then to national economy. The national resources will be used
economically and wastage will be eliminated.
Determining Weakness: The deviations in budgeted and actual
performance will enable the determination of weak spots. Efforts are
concentrated on those aspects where performance is less than the
stipulated.
Corrective Action: The management will be able to take corrective
measures whenever there is a discrepancy in performance. The
deviations will be regularly reported so that necessary action is taken at
the earliest. In the absence of a budgetary control system the deviation
can determined only at the end of the financial period.
Consciousness: It creates budget consciousness among the
employees. By fixing targets for the employees, they are made
conscious of their responsibility. Everybody knows what he is expected
to do and he continues with his work uninterrupted.
Reduces Costs: In the present day competitive world budgetary
control has a significant role to play. Every businessman tries to reduce
the cost of production for increasing sales. He tries to have those
combinations of products where profitability is more
Introduction of Incentive Schemes: Budgetary control system also
enables the introduction of incentive schemes of remuneration. The
comparison of budgeted and actual performance will enable the use of
such schemes

Budgeting as a Control Tool

A budget serves as a control tool to provide standards for evaluating

performance.
A budget can cover any of the following:
Profit planning forecast of revenues and expenses
Cash budgeting forecast of cash needs and sources
Balance sheet forecasting anticipating future assets, liability and net
worth position of the business
Profit Planning: The sales forecast and corresponding costs and expenses are the major inputs to
a Profit Plan. Why is profit planning important? It enables the entrepreneur to see the complete
picture and to analyze how each cost and expense item behaves in relation to changes in the level
of sales. Budgeted amounts are then compared with actual results and variances are analyzed
and corrected. Profit planning is setting a profit target for the coming period. It is like a
summarized version of estimated income statement. It starts with a forecast of expected sales and
desired percentage for gross profit keeping in view the market conditions.
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Profit planning requires preparation of a master budget and various analyses for risk and whatif scenarios.
Cash Budgeting: A Cash Budget is used to determine anticipated cash
inflows and outflows so that the business maintains the optimum level of
cash. It also provides information on whether or not additional financing is
required to address cash shortfalls. The first step in preparing a Cash Budget
is to list down all transactions having cash flow implications. Cash
Disbursements, on the other hand, may include cash operating expenses,
raw material purchases, equipment and other asset purchases, and
repayments on bank loans. From this exercise, a Net Cash Balance is
derived. This is then carried over to the next as the beginning cash balance.
Some businesses choose to have a pre-determined minimum required cash
balance which they maintain at all times.
Balance Sheet Forecasting: This involves estimating asset levels to
support the forecasted sales targets. For example, if the higher sales targets
would necessitate opening more retail outlets, then necessarily, investments
in fixed assets are a must. Moreover, changes in the funding mix (i.e., a
higher level of long-term loans vs. short-term borrowings) may also occur.
Example:
The Sales Director of a manufacturing company reports that next year he
expect to sell 50,000 units of a particular product.
The production Manager consults the Storekeeper and casts his figures as
follows:
Two kinds of raw materials A and B are required for manufacturing the
product. Each unit of the product requires 2 units of A and 3 units of B. The
estimated opening balances at the commencement of the next year are:
Finished product :
10,000 units
Raw Materials
A: 12,000 units, B: 15,000 units
The desirable closing balances at the end of the next year are:
Finished product 14,000 units,
A: 13,000 units B: 16,000 units
Prepare Production Budget and Materials Purchase Budget for the next year

Solution:
PRODUCTION BUDGET (Units)
Estimated sales
50,000
Add: Desired closing
14,000
stock
64,000
Less: Opening Stock
10,000
Estimated Production
54,000

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MATERIALS PURCHASE OR PROCUREMENT BUDGET. (Units)
Material A Material B
Estimated consumption
2x
1,08,000
54000
1,62,000
3 x 54000
Add: Desired closing stock
13,000
16,000
1,21,000
1,78,000
Less: Opening Stock
12,000
15,000
Estimated Purchase
1,09000
1, 63,000

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