Every organization needs to identify its objectives, and the actions to achieve them. The budgets are quantitative expressions of these plans, ie, a method for converting goals and strategies of an organization in operational terms. The Control is the process of setting standards, receiving feedback for actions that will prosecute to the planned performance. In other words, the budgets help to compare the actual results with the planned ones, and even modify the actions if necessary.
Purposes of preparing budgets
The budgeting system serves as a financial plan for both the areas that make up the organization and the activities of the company, since it forces administrators to plan, improves decision-making regarding available resources, and can be used for comparison.
Budgets enable managers to make better decisions for the future, and even for the present, as they are standards that can control the use of a company's resources, which control and motivate employees. In addition, monitoring ensures that what is necessary is being done to achieve the objectives of an organization's plan. Budgets also serve to communicate the organization's plans to each employee and to coordinate their efforts, as they are aware of their role in achieving these objectives.
The budget preparation process
Direction and organization are needed. It is important to have the budget director (controller or someone who reports to him) and a budget committee (reviews, provides basic policies and budget goals, resolves differences that arise as the year progresses, as well as linking with the organization's strategic plan)
Types of budgets
The master budget is a comprehensive financial plan for a year (fiscal) based on several individual budgets at the department and activity level, in addition to being divided into quarterly and annual. The master budget is divided into operating budgets (income-generating activities of a company: sales, production, and finished goods inventories) and financial budgets (cash inflows and outflows and financial position).
A continuous or rolling budget is one that always covers 12 months, when a month ends in the budget another is added, thus, it seeks to ensure that administrators plan regularly.
Obtaining information for the preparation of the budget
Sales forecast
It is the basis for operating and most financial budgets. An individual sales forecast is made by the sales staff, to unite it and present a joint one, the general economic environment, competition, advertising, pricing policies, etc. can be considered.
Forecast of other variables
It is important to consider costs and activities related to cash. In terms of costs, historical data and relevant inflation figures are of great help. The cash budget is important for accounts receivable payment planning.
Preparation of the operating budget
The operating budget consists of a series of schedules for all phases of operations and culminates in a budgeted income statement:
- Sales budget (expected sales for each product in units and amount $). Production budget
Describes the number of units that must be produced to meet sales needs and ending inventory requirements. Production = Ending inventory + sales - beginning inventory
- Direct material purchase budget (input / direct material & final product ratio) Purchases = Desired final inventory + Expected consumption - Initial inventory Direct labor budget
It shows the total direct labor hours required and the cost associated with the number of units in the production budget. It is determined by the relationship between direct labor and units produced, although the average wage paid is also considered.
- Indirect cost budget
Fixed indirect costs (related to the level of activity - supplies, general services) and variable (do not vary with the level of activity, the sum of all budgeted amounts).
- of ending inventory of finished items (Unit cost of production x unit cost) Cost of sales budget
Direct Materials + Labor + Indirect Costs = Budgeted Cost of Items Produced + Initial Finished Items = Items Available for Sale - Ending Inventory = BUDGETED COST OF SALES
- Marketing expenses budget
Planned disbursements for sale and distribution. They can be fixed (staff salaries, depreciation of equipment and advertising) and variable (commissions, freight and supplies).
- Budget of research and development expenses Budget of administration expenses (org. And operations in general of the company) Budgeted income statement
Operating budgets: commercial and service companies
In a commercial company, the production budget is replaced with one for merchandise purchases, in which the quantity of each item for resale, unit cost and total cost is identified, in addition the budget for direct materials and direct labor disappears. In a for-profit service company, the sales budget is also the production budget, the inventory budget disappears because the services produced will be those sold.
Preparation of the financial budget
The financial budgets that are prepared are the cash budget, the budgeted balance sheet, the budgeted cash flow statement, and the capital cost budget (describes the expected long-term asset acquisitions - a number of years).
The cash budget
It is important to budget for cash flow in order to have greater control of inputs and outputs and thus continue according to the master budget to achieve the goals. It is a detailed plan showing all expected cash sources and applications. Contains:
- Total cash available Cash disbursements Cash surpluses or deficiencies (compare cash on hand vs. cash required = total disbursements + minimum cash required by company policy) Financing Cash balance
The main source of cash is that which comes from sales. Since a significant proportion of sales are generally on credit, a major task for an organization is to determine the collection pattern for its accounts receivable.
Budgeted Balance Sheet
It depends on the information contained in the current balance sheet and in other budgets that make up the master budget.
Drawbacks of the traditional master budget
The criticisms of the master budget can be classified into several categories. The traditional master budget is characterized by:
- Be department-oriented and do not recognize interdependencies between departments Be static and not dynamic Be results-oriented and not process-oriented
Flexible budgets for planning and control
It is important to consider in the budgets that they can be compared with real results and that these impact on human behavior. Well, seldom is the anticipated activity level equal to the actual activity level.
Flexible budgeting provides the expected costs for a range of activity or the budgeted costs for the actual activity level to prepare a performance report that compares the expected costs with the actual ones.
Budgets can be used to examine the efficiency and effectiveness of a business. The efficiency is achieved when a business process is executed in the best way possible, using the available resources, the effectiveness means that an administrator reaches or exceeds the goals described by the static budget.
Activity-based budgeting (ABB)
Functional for companies that have found that product diversity means that the richest possible set of activity-based costing drivers is required to describe their cost structure.
It begins with the final results and then determines the resources necessary to generate such results, is related to performance evaluations and, in particular, to the economic value added.
To develop an activity-based budget for the department there are four steps: (1) the final output of the department must be determined; (2) identify the activities necessary to deliver the final products, along with their respective generators; (3) estimate the demand for each activity; and (4) determine the cost of the resources required to produce the relevant activities.
The costing features assign costs to activities and products or services based on the characteristics of a product or service.
The behavioral dimension of budgeting
Budgets are frequently used to judge the actual performance of managers. The congruence with the goals is positive behavior, is you say when administrators goals are aligned with the organization and has the momentum to achieve them. In opposition, dysfunctional behavior is when individual behavior is in basic conflict with the goals of the organization.
Characteristics of a good budgeting system
An ideal budgeting system is one that achieves total congruence with goals and simultaneously creates momentum for managers to achieve organizational goals in an ethical manner.
- Monetary and non-monetary incentives - means used to motivate managers to work toward organizational goals Participatory budgeting - emphasis on broad objectives and not individual budget items.
There is budget slack when you deliberately underestimate revenue and overestimate costs.
- Realistic standards - emphasis on broad objectives and not individual budget items Cost controllability - cost accountability Multiple performance measures avoiding myopic (narrow- minded) behavior, that is, taking actions that improve budget performance in the short term but cause long-term damage to the company.
Questions
- What is budget?
It is a method of converting the goals and strategies of an organization into operational terms
- Why is it said that the budget system serves as a financial plan?
Since it sees the organization as a whole, both the areas and the activities, it also forces administrators to plan, improves decision-making regarding available resources, it can be used as a point of comparison.
- Who is on the budget committee and what is their role?
The president of the organization appoints the members of the committee, usually the president, vice presidents and controller. The committee function is reviews, provides basic policies and budget goals, resolves differences that arise as the year unfolds, as well as the link with the organization's strategic plan
- What is the difference between the master budget and the rolling budget?
The master budget has a duration of one year (fiscal), divided into quarterly and monthly, ending at the end of the fiscal period. The continuous budget also has a duration of 12 months but it is fixed, that is, when one month expires another is added in order to always have 12 months.
- How is the operating budget integrated?
The operating budget consists of a series of schedules for all phases of operations and culminates in a budgeted income statement (sales budget, production, direct material purchases, direct labor, indirect costs, final inventory of items completed, cost of sales, marketing expenses, research and development expenses, administration expenses and ending with the budgeted income statement).
- Why is the cash budget important?
It is a detailed plan that shows all the expected sources and applications of cash in order to know if the flow is ideal to achieve the previously designated goals.
- What could be considered drawbacks of the traditional master budget?
That it is oriented towards the departments and does not recognize the interdependencies between the departments, it is static and is oriented more to results than to processes.
- Why is it important to have a flexible budget?
Well, it provides the budgeted costs for the real activity level and prepare a performance report that compares the expected costs with the real ones, since many times the budgeted activity is not equal to the real one.
- For which companies is activity-based budgeting (ABB) most useful?
For those who have found that product diversity means that the richest possible set of activity-based costing drivers is required to describe their cost structure.
- What's the difference between traditional, flexible, and activity-based budgeting?
Traditional budgets are based on the use of line items that are based on functions, such as salaries, supplies, equipment depreciation, and so on. Flexible budgeting uses knowledge of cost behavior to divide function-based line items into fixed and variable components. Activity-based budgeting works backward with respect to activities and their drivers for fundamental costs.
