BUDGET

BUDGET

In a competitive environment the effective operation of a concern resulting into the excess of income over expenditure fully depends upon as to what extent the management follower proper planning, effective coordination and dynamic control. For all these aspects, it has become necessary that management should plan for the future financial and physical requirements. These are the basic criteria that a firm has to adopt to maintain its profitability and productivity. The procedure for preparing plan in respect of future financial and physical requirements is generally called “Budgeting”. It is a forward planning exercise. It involves the preparation in advance of the quantitative as well as the financial statements to indicate the intention of the management in respect of the various aspects of the business. In a broader sense, it is essentially an economic service. Budgeting requires a deeper understanding of the economic system of the environment in which the business concern operates.

MEANING OF A BUDGET

Budget is a numerical statement expressing the plans, policies and goals of an enterprise for a definite period in the future. Budget are not actual but are estimated. It is therefore a financial and/or quantitative statement prepared and approved prior to a definite period of time, of the policy to be pursued during that period for the purpose of attaining a given objective.

OBJECTIVES

Budgeting is a forward planning. It basically serves as a tool for management control. The objectives of budgeting may be taken as

· To forecast and plan for future to avoid losses and to maximize profits.

· To help the concern in planning the activities both physical and financial.

· To bring about coordination between different functions of the enterprise.

· To control actual actions by ensuring that actual are in tune with the targets.

Budgeting and Planning:

The planning normally deals with long term and short goals and operations. The goal can be for the entire organization or department wise or group wise or segment wise to achieve the maximum results and operational efficiency. After setting up objectives in terms of plans, it becomes imperative to organize the factors of production to convert into a reality and workable preposition. In budgeting planning refers to the preparation of budgets in respect of sales. Advertisement, production, inventory, materials cost and requirements, labor cost requirements, expenses, research, capital expenditures and financial plans.

Budgeting and Coordination:

It deals with the combined efforts of all the people involved from the shop floor to the top management. Individual and collective wisdom should be considered in the preparation of budgets at all levels to make it a workable document for translation into reality. For this adequate communication at all levels should be established. It is very important that each member of management is having perfect and clear cut knowledge. There must be continuity to coordination. Budget may help us to evaluate and examine whether the members of the management are working in a cooperative way or not.

Budgeting and Control:

When on relates control function to budget, we find a system what is generally termed as budgetary control. Control signifies such systematic efforts which help the management to know whether actual performance is in line with predetermined goal, policy and plans. It is basically a measurement tool. Yardsticks should be laid down standards must be set up.

The objectives of budget can be summarised as follows.

· To confirm with good business practice by planning for the future

· To coordinate the various divisions of a business.

· To establish divisional and department responsibilities.

· To forecast operating activities and financial position.

· To operate most efficiently the divisions, departments and cost center.

· To avoide waste, to reduce expenses and to obtain the income desired.

· To obtain more economical use of capital available for the efficient operation.

· To provide more definite assurance of earning the proper return on capital employed.

· To centralize management control.

· To show the management where action is needed to remedy a situation.

· To help in controlling cash.

· To help in obtaining better inventory control and turnover.

Principles and Process

An effective budgeting system should have essential features to get best results. In this direction, the following may be considered as essential features of an effective budgeting.

Business Policies defined: The top management of an organization strives to have an action plan for every activity and for each department. Every budget should reflect the business policies formulated from time to time. The policies should be precise and the same must be clearly defined. No ambiguity should enter the document. Clear knowledge should be provided to all the personnel concerned who are going to execute the policies. Periodic suggestions should be called for.

Forecasting: Business forecasts are the foundation of budgets. Time and again discussions should be arranged to derive the most profitable combinations of forecasts. Better results can be anticipated based o the sound forecasts. As far as possible, quantitative techniques should be made use of while forecasting.

Formation of Budget Committee: A budget committee is a group of representatives of various important departments in an organization. The functions of committee should be specified clearly. The committee plays a vital role in the preparation and execution of budget estimated. It brings coordination among the other departments. It aids in the finalization of policies and programs. Non financial activities are also considered to make it a wholesome affair.

Accounting system: To make the budget a successful document, there should be proper flow of accurate and timely information. The accounting adopted by the organization should be proper and must be fine tuned from time to time.

Organizational efficiency: To make the budget preparation and its subsequent implementation a success, an efficient, adequate and best organization is necessary a budgeting system should always be supported by a sound organizational structure. The must be a clear cut demarcation of lines of authority and responsibility. There must also be a delegation of authority from top to bottom line.

Management Philosophy: Every management should set a healthy philosophy while opting for the budget. Management must wholeheartedly support the activities which developing a budget. Encouragement should flow from top management. All the members must be involved to make it a workable preposition and a dream driven document.

Reporting System: Proper feed back system should be established. Provision should be made for corrective measures whenever comparative measures are proposed.

Availability of Statistical Information: Since budgets are always prepared and expressed in quantitative terms, it is essential that sufficient and accurate relevant data should be made available to each department.

Motivation: Since budget acts as a mirror, the entire organization should become smart in its approach. Every employees both executive and non executives should be made part of the overall exercise. Employees should be persuaded than pressurized to appreciate the benefits of the budgets so that the fruits can be shared by all the members of the organization.

Steps in Budgetary Control:

The procedure to be followed in the preparation and control of budget may differ from business to business. But a general pattern of outline of budget preparation and control may go a long way to achieve the end results. The steps involved are as follows.

Formulation of policies:

The business policies are the foundation stone of budget construction. Function policies should be formulated I advance. Long range policies with short term projections should be made for the functional areas such as ales, production, inventory, cash management capital expenditure.

Preparation of forecasts:

Based on the formulated policies forecast should be made in respect of each function. Activity based concepts should be introduced at the micro level for each function forecasts should not be considered as a mere estimates. Scientific methods should be adopted for forecasting. Analysis of various factors based on past, present and future forecast should be made.

Preparation of budgets: Forecasts are converted into written codified document. Such written documents can be used for coordination purposes. Function budgets will act as guidelines for implementation.

Forecast combinations: While developing the budgets, through a Master Budget various permutations and combination processes are considered and developed. Based on this, establishment of the most preferred one which will yield optimum benefits should be considered. All the factor components should be identified which are likely to cause disturbances while implementing the budgets.

Types of Budget.

The budgets are normally classified according to their nature. They are: 1. fixed budget 2. Flexible budget 3. Functional budget.

Fixed budget: It is also known as static budgets. It is prepared for a fixed or standard volume of activity. They do not change with change in volume of activity. They are prepared well in advance. Due to this there are bound to be variances at the time of comparison. Hence, the budget targets become unsuitable for the purpose of comparison. Wide deviations are noticed due to changes in the volume of activity.

Flexible budget: It is prepared with a view to take into account the periodic changes in the level of activity attained. In this case the revenues and costs of targets are set in respect of different levels of activity even from zero to 100% of product of volume. Such mechanism helps to change revenues and cost targets for the actual level of activity and thus makes the comparison more logical and scientific.

Functional budget: These are also known as subsidiary budgets. These are prepared on the basis of approved forecasts for individual departments. Since departments are created based on the funcitons, they are known as functional budgets. The functional budgets may vary in number from business to business. The functional budgets include sales budget, production budget, selling and distribution overhead budget, plant budget, research and development budget, overhead budget, financial budget such as cash budget and capital expenditure budget.

Cash budget: A proper control over cash is very essential. Cash is important component in any activity. The control becomes inescapable. If ash is not properly managed or if it is mismanaged, the ultimate result would be disastrous. In many times and in many business situations, business failures are noticed due to the lacunae found in the cash management. Hence a cash budgeting occupies a pivotal place in the study of Financial Management.

Cash budgeting is the process of forecasting the expected receipts known as cash inflows, and expected payments known as cash outflows to meet the future obligations. The written statement of receipts and payments form the cash budget. It is a crystal ball which enables one to observe the future movements in cash position. It is a mere forecast of cash position of an undertaking for a definite period of time. The period may be daily, weekly, monthly and quarterly, semi annually or annually. The major two components of cash budget would be forecast first the cash receipts and then second forecasting the cash disbursements.

The receipts of cash are formatted as follows:

· Opening balance of cash in hand and cash at bank

Cash sales

· Collection from debtors to whom sales are effected on credit basis

· Collection from Bills received

· Interest and advances and loans granted

· Dividends received from investments

· Sale of proceeds from capital assets

· Proceeds from issue of shares and debentures

· Any other sources

After determining the various sources, the quantum of receipt should be estimated. Past analysis will help to identify the problem areas for effecting collection of cash.

Forecasts for cash Payments:

The items of expenditures differ from business to business. The normal items which come under the lists are

· Cash purchases

· Payment to creditors or suppliers

· Payments to Bills payable

· Payments to employees in the nature of wages and salaries

· Manufacturing, selling and distribution and administration expenses

· Repayments of bank loan and special obligations such as bonus, donations and advances to employees.

· Interest and dividend payments

· Capital expenditures for acquiring assets of enduring benefit.

· Payment of tax liability

· Other expenses of periodic nature

The quantum of amount likely to be spent on the above each item is generally determined with reference to functional budgets of the concerns. The policy of the management will also play a crucial role. It is the policy which determines the ratio of cash purchases and credit purchases. In many cases the time lag affects the amount of expenditures to be incurred in a particular period.