FINANCIAL BUDGETS – Are a budgeting system to assist in the financial and operating forecasts for the short, medium and long term periods.

Definition of Budget

‘A budget is a quantitative expression for a set time period of a proposed future plan of action by management’.  The planning element of a budget looks forward attempts to predict the future demands placed on the organisation.  It forces a business to ensure that the required resources are available as required and must consist of those 4 key elements to determine the needs of the business:

• Quantitative - The budget must consist of quantities to reflect all aspects from production to sales.
• Economic - Consideration should be given to both monetary terms and the resources/ utilities involved.
• Plan - A budget is a plan, not a hope or forecast but an authoritative intention.
• Time – Always represented over a period of time, ranging from daily to five yearly.

THE PROCESSING/MANAGING OF THE BUDGET, WHO WILL CONTROL IT AND ENSURE THE INFORMATION IS PRODUCED ON TIME

Administration procedures should be introduced to ensure the budget process works effectively which mean the procedures should be tailor made to the requirements of the organisation and certain procedures introduced in order that the  budgets are approved by the relevant managers and the appropriate support staff are available to back up these procedures.

The introduction of a budget committee which should consist  of high level executives who represent major segments (or department heads) of the business, ie the Managing Director, the Accountant, the Workshop Manager, the Warehouse Manager, the Retail Manager, the Mail Order Manager and the Head of Administration.  The major task will be to ensure that budgets are realistically established and properly coordinated.  Standard procedure is for the functional (department) heads to submit their relevant budgets to the committee for approval.  If it doesn’t reflect a reasonable level of performance, a review will be required with a re-adjustment which will be re-submitted for approval.  The section head who’s initial budget is being rejected must agree with the decision that the new budget can be achieved, otherwise it will not act as a motivating device.

The committee should appoint a budget officer, who is usually the accountant.  This person is responsible for the co-ordination of individual budgets into a budget for the whole organisation ( a master budget), so the budget committee can see the impact of an individual budget on the organisation as a whole.  A budgeting manual should be prepared by the accountant and will describe objectives and procedures involved in the budgeting process as well as providing a useful reference source for managers responsible for budget preparation.  It may also include a timetable specifying the order in which the budgets should be prepared and the dates when they should be submitted to the committee.  This manual should then be circulated to all individuals who are responsible for preparing budgets.

Budgetary Planning and Control:

Budgeting is about making plans for the future, implementing those plans and monitoring activities to see whether they conform to the plan.  To do this successfully requires full top management support, co-operative and motivated middle managers and staff, and well organised reporting systems.  Control – this aspect of budgeting is the most well known and is the aspect most frequently encountered by the ordinary staff member.  The process of comparing actual results with planned results and reporting on the variations, which is the principle of budgetary control, sets a control framework which helps expenditure to be kept within agreed limits. Deviations are noted so that corrective action can be taken.

Planning and co-ordination

The formal process of budgeting works within the framework for long term, overall objectives to produce detailed operational plans for different sectors and facets of the organisation. Planning is the key to success in business and budgeting forces planning to take place.  The budgeting  process provides for the co-ordination of the activities and departments of the organisation so that each facet of the operation contributes towards the overall plan.  This is expressed in the Master Budget.

Communicating details of the budget policy

Top management must communicate the policy effects of the long term plan to those responsible for preparing the current years budgets.  It is important for top and middle management  to communicate with regard the firm’s objectives and the practical problems of implementing these objectives and when the budget is finalised, it communicates the agreed plans to all the staff involved.  Full liaison between sales and production functions must also be developed.

Determining the factor that restricts performance

In every organisation there is some factor that restricts performance for a given period.  In the majority of organisations this factor is sales demand.  It could however be production and therefore is important for top management to determine the factor that restricts performance, since this factor determines the point at which the annual budgeting process should begin.

Budgets:

Negotiation of budgets

To implement a participative approach to budgeting, the budget should be originated at the lowest level of management.  The managers at this level should submit their budget to their superiors for approval.  The superior then incorporates this with the other budgets for which he or she is responsible and submits this budget for approval to his superior. This employs a bottom up preparation and a top down approval by senior management.  At every stage deadlines should be imposed and accurate information used in order to ensure that target dates are reached and data is as accurate as possible as an incompetent manager could have adverse effects on the business’ cashflow and future success. Past performance may be used as a starting point but does not determine what will happen the future.  An essential preliminary to making plans and budgets is to prepare forecasts.

Accounting staff will usually assist managers in the preparation of their budgets, e.g. circulate and advise on the instructions about budget preparation, provide past information that may be useful for preparing the present budget, and ensure that managers submit their budgets on time.  These staff do not determine the content of the various budgets but act in an advisory capacity and provide clerical assistance for line managers.

Final acceptance of budgets

When all the budgets are in harmony with each other, they are summarised into a master budget consisting of a budgeted profit and loss, a balance sheet and a cash flow statement.  After the approval of the master budget the budgets are the passed through the organisation to the appropriate responsibility centre.  The approval of the master budget is the authority for the manager of each responsibility centre (or department manager) to carry out the plans contained in each budget.