Professional Documents
Culture Documents
faces. And this can mean we start to miss the bigger picture. Investing time and resources in
creating a budget and a business plan is essential to ensure we form a proper long-term
strategy for the business.
A budget helps us to enforce spending control, which leads to proper planning and clear
business objectives to achieve. It is a forecast of performance over a specified period.
Budgets serve as a plan of action for the management, and also as a reference point for
performance evaluation.
Without preparing a budget, it is hard to identify challenges and to ensure the company has
the liquidity to face them. Having a forecast for the foreseeable future helps with that and
reduces the strain of monitoring our financials. When forecasting, we estimate sales and
expenditures and ensure we place restrictions on spending that is not part of the plan.
When we negotiate with investors and lenders, it is beneficial if we have a strong proven
track record of setting budgets and following them through.
By creating a budget, we make sure we allocate the proper funds to the strategic objectives of
the business.
Value of a Budget
One of the most crucial tools for navigating the business is to have a realistic budget. It's a
framework for the company's finances, incorporating past performance and forecasting future
sales, expenses, balances, and cash flows.
Budgets ensure that all departments within the company have aligned goals.
Miscommunication can lead to limitations in the long-term performance of the company. We
should perceive the process as an integral part of developing the business, as it is a measuring
tool to evaluate the company's goals and performance. Budgets are extremely useful as they
provide the firm with outside accountability. Simply put, creating a budget gives peace of
mind.
The Budget Cycle
We need to grasp that a budget cannot account for everything, and we should strive to avoid
getting lost in too much detail. When we are preparing our forecasts, we have to leave some
wiggle room. A budget is supposed to work as a guide, not a 100% accurate prediction.
One way to approach this is to add scenarios to our models. Doing so, we allow for flexibility
in our budget and allow for unforeseen circumstances.
The budgeting process should start with setting clear and realistic goals for the business.
However, it doesn't end when we have prepared the company's budget statements.
When evaluating performance, we use flexible budgets. Here we apply the same assumptions
as in our master budget, but to unit outputs from the actual performance of the business. An
example is valuing our sold quantities based on our forecasted sales price and variable costs.
On this basis, we perform our Variance Analysis.
Budget Types
Let us take a look at some of the most common types of budgets prepared by businesses.
The Master budget - a forecast for the company as a whole, what we usually refer to
as a 3-statement budget (includes the Income Statement, Balance Sheet and Cash
Flow Statement);
Static budget - a forecast that looks at fixed costs and capital expenditures;
Operating budget - focuses on revenue and expenses from the day-to-day operations,
including the cost of goods sold, overheads and admin costs, tied to activities;
Cash-flow budget - forecasts the cash inflows and cash outflows, focusing on when
they'll happen, to assist liquidity management and assure sufficient funds are available
to the business;
Rolling budget - these are regularly updated to add another period so that they will
keep the same future outlook for the company.
Benefits of Budgeting
Creating a budget is necessary for the performance evaluation of the business to see if the
company is sticking to its plans. Proper forecasting has many benefits for the enterprise, the
most common of which are:
Conclusion
Most companies face unforeseen challenges from time to time. Budgeting provides guidelines
to help managers achieve a more informed decision-making process. It aids us in
performance valuation and is an essential part of forming our long-term strategy.
Spending the time to create a budget might seem like a daunting task at first, but once we
consider all the benefits, it should be clear how crucial it is to set the company for financial
success and growth opportunities.
Setting a plan for future performance is an integral part of running a business efficiently.