Business 2.2.4 Budgets

• What is the definition of a budget?

  A future financial plan concerning the revenues / costs of a business
• What are the purposes of a budget?

  • Planning = establishing priorities for the business
  • Forecasting outcomes
  • Communication = revenue / expenditure targets
  • Assigning responsibilities
  • Allocating resources
  • Controlling expenditure
  • Motivating employees - achieving specific budget targets
  • Start - up - helps it obtain finance
• Types of budgeting:

  • Historical
  • Zero based
  • A business may set a revenue, expenditure and profit budget
  • A business may have a specific marketing budget or a budget for research and development
• What does historical budgeting mean?

  • Uses last year ( historic ) figures as the basis for the budget, but considers future actions / circumstances like a production increase or changes to costs and prices
  • Realistic given that it’s based on actual, past results
• What is zero - based budgeting?

  • Costs / revenue is set to 0
  • Based on new proposal for sales / costs - EG. The budget is built from the bottom up
  • All elements must be justified and set for the new budgeting period
• What is variance analysis?

  Involves calculating / investigating the differences between actual results and the budget

  Variances can be either:

  • Favourable ( better than expected )
  • Adverse ( worse than expected )
• What does Favourable Variance Analysis mean?

  • Costs were lower than expected in the budget
  • Revenue / Profits were higher than expected
• What does Adverse Variance Analysis?

  • Costs were higher than expected in the budget
  • Revenue / Profits were lower than expected
• What are the difficulties of budgeting?

  • Only as good as the data being used. Inaccurate and unreasonable assumptions can quickly make a budget unrealistic
  • Can lead to inflexibility in decision - making
  • Need to be changed as circumstances change
  • Can take significant time to prepare
  • Can result in short - term decisions to keep within the budget, rather than the long - term which exceeds it
  • Can become too preoccupied with setting / reviewing budgets and forget to focus on real issues - winning customers
• What are the behavioural challenges?

  • Implications for employee motivation
  • De-motivating if imposed rather than negotiated
  • Unrealistic targets - de - motivation
  • Contribute to department rivalry
  • ‘Use it or lose it’ mentality - spending up to budget
  • ‘Name, blame and shame’ culture can develop - managers should be answerable only for variations that were under their control