BUDGETING

Learning Outcomes
 To Understand the importance of Budgetary Control
as a controlling technique
 To Comprehend the various classes of Budget
 To Understand the significance and preparation of
Cash Budget
 To Understand the significance and preparation of
Flexible Budget
 Budgeting
Budget is a financial and/or quantitative statement,
prepared to a defined period of time, of the policy to be
pursued during that period for the purpose of attaining a
given objective.---CIMA
A budget is a plan of future activities for an organization.
It is mainly expressed in financial terms,
but also usually incorporates many non-financial
quantitative measures as well.
 Budgeting
 A budget is merely a collection of plans and forecasts, which
expresses largely but not exclusively in financial terms.
 Even though many organizations do not plan formally for
more than a year ahead,
 The annual budget must be set in the context of longer term
plans, which are likely to exist even if they have not been
made explicit.
 Budgets should be a management tool rather than merely an
accounting exercise.
 Budgetary Control
It is the establishment of budgets relating 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 objective of that policy or to provide a basis for
its revision.
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 Budget Manual
It is a written document which guides the executives in
preparing various budgets. Budgets are to be prepared keeping
in mind the objectives of the organization as detailed in the
budget manual .

Budget manual is “a document, schedule or booklet which sets

out,
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the responsibilities of the persons engaged in the routine of
and the forms and records required for budgetary control.”
CIMA London
Budgetary Control

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 Requirements of a sound budgeting
system
 1. Clear lines of authority and responsibility have to be established.
 2. Organizational goal should be quantified and stated in clear and
unambiguous terms.
 3. The system should be accepted by all and be established on the highest
possible level of motivation.
 4.The budget control system should provide for a degree of flexibility to
enable more accurate monitoring of managerial and organization
performance.
 5. Proper communication systems should be established for management
reporting and information service.
 6. Educating the budget process and creation of cost awareness
atmosphere will lead to effective implementation of budgets.
 Advantages of Budgeting
1. Budgetary control establishes a basis for internal audit by continuous evaluation of
departmental results.
2. It economizes on managerial time and maximizes efficiency by resorting to
management by exception.
3. Scarce resources are allocated in an optimal manner and hence, it helps in controlling
expenditure.
4. It forces management to plan ahead so that long term goals are achieved.
5. Effective communication leads to better coordination.
6. It has a motivational impact on the work force.
7. Alignment of individual and corporate goals.
8. It facilitates in identifying the areas of efficiency and inefficiency.
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9. Variance analysis prompts remedial action.
10. Budget provides a benchmark against which the performance of the firm and
individuals can be monitored.
 Problems in Budgeting
1. Budgets are perceived by the work force as pressure devices, which may have
adverse effect on labors relations.
2. It may not be easy to motivate an uninterested work force.
3. Pressure in the budgeting system may result in inaccurate record keeping.
4. Managers may overestimate costs in order that they will not be held responsible in
future for overspending, what is called budget slack.

5. If targets are not achieved, departments may start blaming each other .
6. Uncertainties can make the implementation very difficult.
7. It may be difficult to align individual and corporate goals.
8 .Sub-optimal decisions may arise when a manager tries to enhance his short-run
performance in a way which is detrimental to the organization as a whole.
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 Budgeting Process
The method by which a budget is prepared generally differs from
organization to organization. In some organizations, budgeting may be a
well organized, well documented procedure while in others the budget may
be prepared in a rather ad hoc and unorganized manner.

1. Specification and communication of organizational objective.

2. Determination of key success factors.
3. Establishment of clear lines of authority and responsibility.
4. Establishment of budget centre's.
5. Determination of budget period.
6. Setting up of a budget committee.
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7. Appointment of a budget controller.
8. Preparation of budget manual.
Factors considered in Sales Forecasting:
1. General economic conditions.
2. Industry trends.
3. Market research studies.
4. Anticipated advertising and promotion.
5. Previous market share.
6. Price changes.
7. Technological developments.
 Classification of Budgets
According to time:
 Long term
 Short term budget
 Current budget
On the basis of Function :

13 Operating budgets
 Financial budgets
 Master Budgets
 Classification of Budgets
On the basis of Flexibility:
 Fixed budget
 Flexible budget
Financial Budgets: -
 Cash budget
 Working capital budget
 Capital expenditure budget
 Income statement budget
 Balance sheet budget
 Budgeting
Operating Budgets:
 Sales budget
 Production budget
 Purchase
Raw material budget
Labor budget
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Plant utilization budget
Manu O/H budget
Administration & selling expenses budget
Sales Budget:

 This budget is a forecast of quantities and

values of sales to be achieved in a budget
period. Generally, sales budget is the starting
point for the preparation of the functional
budgets. This budget can be prepared on the
basis of products, sales areas or territories,
salesmen or agent wise, types of customers
etc.

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Selling and Distribution Cost Budget:

 This budget is a forecast of the expenses

connected with the selling and distributing the
product of a concern during the budget
period. This budget is closely connected with
the sales budget. While preparing this
budget, a classification is made according to
the variability of cost. This budget is prepared
by the sales managers.

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Production Budget:

 After preparing the sales budget, the

production budget is prepared. This budget is
prepared in physical units. It shows the
number of units of each product that must be
produced to satisfy the sales forecasts and to
achieve the desired level of inventory

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Production Cost Budget:

 Production cost budget shows in detail the

estimated cost of carrying out the production plan
and programmes set out in the production
budget.
 This budget summarizes material cost, labour
cost and factory overhead for production. Factory
overheads are usually further subdivided into
fixed, variable and semi-variable. Cost are
analysed by departments and/or products.

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Material Budget:

 A Material Budget shows the estimated

quantity as well as the cost of each type of
direct material and component required for
producing goods as per production budget.
 There are two stages of preparing material
budget. At the first stage, the quantifies of
different types of direct material are
estimated

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Purchase Budget:

 Purchase Budget gives the details of the

purchases which must be made during the
budget period.
 It includes all items of purchase, such as, raw
materials, indirect material and other
equipment

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Labour Budget:

 This budget contains the estimates relating to

number of employees and types of
employees required for the budgeted output.
 Once the classification of labour into its
different grades has carried out, the labour
requirements for each type of product can be
estimated.

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Factory Overhead Budget:

 Factory overhead budget gives an estimates

of all fixed, variable and semi-variable items
of factory overhead to be incurred during the
budget period to achieve the production
budget

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Cash Budget:

 A cash budget is a statement of estimated

sources and uses of-cash. It compares the
estimated cash receipts and cash
disbursements of the concern during the
budget period and shows the resultant
periodical cash position as the budget period
develops.
 This budget is prepared after all the
functional budgets are prepared.
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Master Budget:
 Master budget is a summary of all the functional budgets and
shows the overall budget plan.
 According to CIMA terminology:
 “A master budget is the summary budget incorporating its
component as functional budgets and which is finally
approved, adopted and employed.” This budget commonly
summarizes functional budgets to produce a budgeted Profit
and Loss Account and a budgeted Balance Sheet at the end of
the budget period.

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Fixed Budget (Static Budget):
 A fixed budget is defined as a budget which is designed to
remain unchanged irrespective of the volume of output or
turnover attained. The budget remains fixed over a given
period and does not change with the change in the volume of
production or level of activity attained.

 Thus, it does not provide for any change in expenditure arising

out of changes in the level of activity or capacity. A fixed
budget will, therefore, be useful only when the actual level of
activity corresponds to the budgeted level of activity.

Oct 24, 2021

Flexible Budget:

 A flexible budget is a budget which is designed to change in

accordance with the level of activity actually attained.
 According to the ICMA Terminology:
 “Flexible budget is a budget which, by recognising the
difference in behaviour between fixed and variable costs in
relation to fluctuations in output, turnover, or other variable
factors such as number of employees, is designed to change
appropriately with such fluctuations.”

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Participative Budgeting

Flow of budget data from lower management to top levels.

Budgeting Control Reporting System

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Review Question

Which of the following is not a benefit of budgeting?

a. Management can plan ahead.

ahead
b. An early warning system is provided for
potential problems.
c. It enables disciplinary action to be taken at
every level of responsibility.
d. The coordination of activities is facilitated.

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Review Question

The essentials of effective budgeting do not include:

a. Top-down budgeting.
budgeting
b. Management acceptance.
c. Research and analysis.
d. Sound organizational structure.

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Review Question

A sales budget is:

a. Derived from the production budget.

budget
b. Management’s best estimate of sales revenue for
the year.
c. Not the starting point for the master budget.
d. Prepared only for credit sales.

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Review Question

Each of the following budgets is used in preparing the

budgeted income statement except the:

a. Sales budget.
b. Selling and administrative budget.
c. Capital expenditure budget.
d. Direct labor budget.

Oct 24, 2021

Review Question

Expected direct materials purchases in Read Company

are $70,000 in the first quarter and $90,000 in the
second quarter. Forty percent of the purchases are
paid in cash as incurred, and the balance is paid in the
following quarter. The budgeted cash payments for
purchases in the second quarter are:

a. $96,000
b. $90,000
1st Quarter 2nd Quarter
c. $78,000 40% 28,000 60% 42,000
40% 36,000
d. $72,000 78,000

Oct 24, 2021

THANK YOU