What is a Budget?

A budget is simply an estimate of incomes and expenses for a period of time. Organizations prepare five main
types of budgets that assist them in making a number of decisions.

Types of Budgets

Master Budget

This is a financial forecast of all elements in the business for the accounting year. This is usually a collection of
many sub-budgets which are interrelated to each other.

Operational Budgets

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Operational budgets prepare forecasts for routine aspects such as incomes and expenses. While budgeted annually,
operating budgets are usually broken down into smaller reporting periods, such as weekly or monthly.

Cash Flow Budget

This budget projects the expected cash inflows and outflows of the business for the upcoming year. The main
purpose of this budget is to ensure that sufficient liquidity is guaranteed for the period

Financial Budget

Financial budget outlines how the company earns and spend funds at the corporate level. This includes capital
expenditure (funds assigned to acquire and maintain fixed assets) and revenue forecasts from the core business
activity

Static Budget

A static budget contains elements where expenditures remain unchanged with variations to sales levels. These are
popular types of budgets in public and nonprofit sectors, where organizations or departments are funded largely by
grants.

There are two main methods businesses use to prepared budget: incremental budget and zero-based approach.

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Incremental Budget

An incremental budget is a budget prepared using the previous period’s budget or actual performance as a basis
with incremental amounts added for the new budget.  The allocation of resources is based upon allocations from
the previous accounting year. Here the management assumes that the levels of revenues and costs incurred during
the current year will also be reflected during the next year. Accordingly, it will be assumed that revenues and costs
incurred during the current year will be the starting point for estimations for the next year.

Zero-based Budget

When a zero-based Budget is a budget prepared, all revenues and costs must be justified for each new accounting
year. Zero-based budgeting starts from a ‘zero base’ where every function within an organization is analyzed for its
respective revenues and costs. These budgets may be higher or lower than the budget of the previous year. Zero-
based Budgeting is ideal for small scale companies due to its detailed attention to cut costs and to invest scarce
resources effectively.

What is Budgetary Control?

Budgetary Control is the systematic process where management uses the budgets prepared at the beginning of the
accounting period to compare and analyze the actual results at the end of the accounting period and to set
improvement measures for the next accounting year. This process consists of the following steps.

 Preparing the budget

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Budget preparation is a time-consuming and lengthy process that often requires participation from different
personnel representing their respective departments. Revenues and costs will be forecasted for the upcoming
financial year with related justifications. Standard costing is used to make decisions regarding cost estimates. This
refers to the practice of assigning a standard cost for units of material, labor and other costs of production for a pre-
determined time period.

 Comparing and analyzing actual results with the budget

The actual results will be recorded as the business proceeds with trading, and these results will be compared
against the budget. Variance analysis is an important analysis tool used here to calculate to what extent the actual
results vary from the budgeted.

 Deciding on improvement measures on underperforming operations

The key objective of the budgetary control process is to enable a better decision-making platform to improve
performance. Variances may be favorable or adverse, and the reasons for them should be investigated, and the
actions for improvements should be taken.

 Start making plans for the next accounting period

This will be done based on the corrective and improvement actions decided upon based on the results of the current
year. The results of the prevailing year will be used as the basis for budget preparation for the next year.

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Summary- Budget vs Budgetary Control

The difference between budget and budgetary control is that while budget is the tool used as an estimation of
revenue and costs, budgetary control is the process used to evaluate the budgeted results. Thus, budgets allow
better resource allocation and budgetary control facilitates cost control and effective target setting. However while
useful, budgets are heavily dependent on forecasts, which may or may not be predictable. Further, both budget
preparation and budgetary control are time-consuming and costly to implement. Situations such as unforeseen
changes in demand and sudden rise in raw material prices can make the estimations less productive.

Operating Vs. Capital Budget

Definition
A budget details a financial plan. Companies break down the plan into two types: an operating plan and a
capital plan. The operating budget focuses on the day-to-day running of the company and it usually covers a
one-year period. Throughout the year managers continually review the plan and measure any deviation from
expected revenues and expenses as changes will affect the annual operating profit. Capital budgets focus on
internal investment strategy and are usually long-term, although they may be updated annually. A typical
capital budget will extend over five or 10 years.

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Operating Budget

Managers develop an operating budget by first estimating sales revenue. Market trends and pricing decisions
facilitate this forecast tempered with the capacity of the company to deliver the product or service. While a
growing industry may demand almost unlimited product, plant capacities may limit production. Expense
budgets follow and cover costs such as labor, raw materials, utilities, overhead, sales, marketing and research
and development. Budgets are often zero-based, meaning the cost estimates are based on detailed forecasts by
expense type rather than simply estimating costs based on history. Operating budgets are developed by month
and may differ significantly based on timing of outlays such as the purchase of raw materials. Operating
budgets are monitored at least monthly with any variance closely analyzed.

Capital Budget

Capital budgets are developed for two main reasons: expansion and replacement. Successful companies
continually evaluate market conditions and analyze opportunities. They may decide to expand by entering other
geographic areas or may add new products to their offering. Both of these expansion decisions require the
addition of plant and equipment. Facilities also become worn out and machinery eventually needs to be
replaced or updated. The financial plan developed to meet these two needs is called a capital budget. It is an
investment in the future.