Recent Approaches to Budgeting and Control

Introduction

A budget is simply a forecast of future events expressed in quantitative terms. It performs

three basic functions of a firm. These include:

The amount and exact timing of the firms needs for future financing
It takes corrective actions where the budgeted figures do not match with actuals.
It provides a basis for performance evaluation

However, the traditional budgeting have many disadvantages and does not hold well
in todays dynamic business environment. Some of the disadvantages of the
traditional budgeting are

Traditional budgeting are inefficient as they consume too much time and too many
management resources.
Traditional budget lacks the flexibility. A traditional budget uses fixed amounts to
plan for spending. They do not take into consideration the various changes that might
occur over a period.
A traditional budget is static, telling what we can spend at the beginning
of the year. A more progressive budget analyses our monthly spending,
compares it against our budgeted amounts and shows us where we will be
at the end of the year if our income and spending levels continue at the
current levels.

The papers reviewed portray different approaches to budgeting besides traditional budgeting.
The following are the approaches that can be adopted rather than traditional budgeting:

1. Activity Based Costing: Activity Based Costing is uses to refine a costing system
in order to get better results. In ABC approach, the first step is to identify the activities
for which cost are to be collected and controlled. The various activities may be
identified as direct and indirect activities. Direct activities may be taken as direct
materials and direct labour. Indirect cost may be identified as order processing,
material handling, repairs and maintenance, etc. The next step is the selection of
suitable cost allocation base for assigning indirect cost to various activities so that all
the activities are suitably burdened.
 2. Incremental Budgeting: In case of Incremental Budgeting, the resource
allocation is dependent on the money distributed at the time of the last budgetary
period. Incremental Budget is steady in nature, characterized by gradual changes. The
changes introduced in an Incremental Budget are easily visible.
3. Flexible Budget: A flexible budget gives different budgeted cost for different
levels of activity. A flexible budget is prepared after making an intelligent
classification, of all expenses between fixed, semi-variable and variable because the
usefulness of such a budget depends upon the accuracy with which the expenses are
classified. Flexible budgets represents the amount of expenses that is reasonably
necessary to achieve each level of output specified. In other words, the allowances
given under flexible budgetary control system serve as standards of what cost should
be incurred at each level of output.
4. Zero Based Budgeting: Zero Based Budgeting is a method of budgeting in
which all expenses must be justified for each new period. Zero Based Budgeting starts
from a zero base and every function within the organization is analysed for its needs
and costs. Budgets are then built around what is needed for the upcoming period
regardless of whether the budget is higher or lower than the previous one. Zero Based
Budgeting allows top-level strategic goals to be implemented into the budgeting
process by tying them to specific functional areas of the organization, where costs can
first be grouped, then measured against previous results and current expectations.
5. Performance Budgeting: Performance oriented budgets are established in such a
manner that each item of expenditure related to a specific responsibility centre is
closely linked with the performance of that centre. Performance-based budgeting is
the practice of developing budgets based on the relationship between program funding
levels and expected results from that program. The performance-based
budgeting process is a tool that program administrators can use to manage more cost-
efficient and effective budgeting outlays.

The term budget was coined in the year 1611. The main objectives of budgetary control is to
plan, monitor, and control and adapt resources to meet agreed business while remaining
within notified limits. Budgetary control is planned to assist the management in the allocation
of responsibilities and authority to aid in making estimates and plans for future, to assist in
analysis of variations between estimated and actual results and to develop basis of
measurement or standards with which to evaluate the efficiency of operations. The major
drawbacks of the traditional budget was highlighted in the Research paper Are the
Traditional Budgets still Prevalent: the Survey of the Czech Firms Budgeting Practices. The
drawbacks is that traditional budgeting are not suitable for the dynamic business
environment. They lack the flexibility that is required to meet the needs of the present
business environment and hence organizations should adopt a different approach to budgeting
that offer more flexibility. The various approaches that could be adopted in place of
traditional budgeting are activity based costing, Zero based budgeting, etc.
Traditional v/s Activity Based Costing
Activity based costing was clearly defined in 1987 by Robert.S.Kaplan and W.Bruns.
Traditional product costing systems were designed when most of the organizations
manufactured a narrow range of products. Direct Material and direct labour are dominant
factors of production then. Overheads were relatively small and distortions due to
inappropriate treatment were not significant.
However, in recent times the companies produce a wide range of products. Overheads are of
utmost importance. Apportioning overhead based on direct labour is not justifiable in the
current business scenario. Intense global competition calls for correct costing of product to
avoid errors in decision-making. Traditional costing can measure volume related cost. Non-
volume related activities like material handling are important and their cost cannot be
apportioned on volume basis. Hence, the need of activity based costing arises.