WHAT IS BUDGETING?
Budgeting – is a process of estimating incomes and expenditures of an organization over a specific period in the future-i.e 6 months,1year or 5 years. Budgeting entails creating a detailed plan, outlining the organization’s predefined spend over a specific period, usually a fiscal or calendar year
KEYWORDS FOR FURTHER REVIEW
- Estimate of Incomes
- Estimate of Expenditures
- Specific future Period
ESTIMATING INCOME AND EXPENDITURE
An estimate refers to- an approximate calculation or judgement of the value, number, quantity, or extent of something.
- Estimate relies on Economic variables and statistical data-I.e inflation etc
- Estimate relies heavily on historical data, patterns etc
- Estimate also relies on Current market information
- Estimate relies also on Percentages
Hence an effective estimate of Income and Expenditure rely largely on historical data, Current data(rate/prices/fair value etc), percentage and other non quantitative considerations.
WHY SPECIFIC FUTURE PERIOD
A Budget is prepared for specific future period because it helps with:
- Accountable Use of resources- i.e resource utilization for predetermined course or purpose.
- Efficient use of resources- i.e What measure of input should be utilized for the production of certain output/result.
- Optimal Use of Assets.
- Serves as a guide for all actions within the organization for that period – i.e. nature of investment, expansions, recruitment, new stream of income, every key action.
- Performance measurement basis for a specified period.
- A basis for appraisal for managers and organizations rather than prior period performance.
TYPES OF BUDGET
Below are some of the commonly used types of budgets:
1. Operating budget: It highlights the day-to-day expenses and income of the organization and typically includes salaries, utilities, marketing expenses, and salary projections.
2. Capital Budget: It helps organizations to forecast their long-term investments in equipment, machinery and infrastructure.
3. Cash Budget: It helps forecast and track the organization’s incoming and outgoing cash flows and predict cash surpluses to meet financial obligations.
4. Master budget: It includes all the individual budgets of different departments or divisions and is the organization’s overall financial plan.
5. Flexible budget: It is a budget that incorporates adjustments based on the changing environment and key budget variables, like variations in sales and production levels.
6. Zero-based budget: Every expenditure is justified by analyzing it from scratch. This approach helps in optimizing resource allocation by reducing unnecessary costs.
7. Sales budget: It predicts the expected sales volumes and revenue for the period and is the basis for planning production and setting sales revenue targets.
8. Expense budget: The planned expenses for various departments, like marketing, sales, research and development, and office.
9. Project budget: It is the budget of a specific project and includes expenses, project profitability and strategies for cost-cutting.
10. Departmental budget: The budget allocated to each department helps the managers plan their expenses to achieve the organizational and departmental objectives efficiently.
BUDGET MONITORING & VARIANCE
- Budget Monitoring: For effective Budgeting, regular implementation monitoring is required. Decisions and actions should be in conformity with budgetary provision for the achievement of desired goals.
- Budget Variance: This refers to the difference between actual performance results and projected performance results. This could be Positive or negative.
“A positive Variance refers to Excess Actual Income over projected income . While negative variance refers to lower actual income over expected income. Every entity is desirous of Positive Budget variance .- Where actual income level exceeds projected income level.“
- Variance Analysis: Analysis of all budget variances should be done monthly, quarterly and annually. This is an objective review of performance for a given period.
- Example of Unfavorable Variance: Let’s say that a company’s sales were budgeted to be $250,000 for the first quarter of the year. However, the company only generated $200,000 in sales. The unfavorable variance would be $50,000, or 20%. The company needs to take immediate actions to remedy this unfavorable situation.
- So Budget Variance is necessary to monitor progress. Budget monitoring and variance analysis are critical requirements for achievement of projected performance results or goals for the period. This can guide us in making necessary adjustments to conform with the set goals and even to exceed income level or reduce expenditure with the view to achieving set objectives.
IMPORTANCE OF BUDGETING
- Budgeting keeps your finances under control (helps you to determine ahead –income and expenditures).
- Budgeting shows when you need to make adjustments to your spending,
- helps you decide where your money goes instead of wondering where it all went.
- Helps you to know the need to increase your income
- Achieve efficiency (less input for greater output)
- Helps you to keep your goals/objectives in sight. etc.
