Budgeting and Variance

• What is a budget?

  A budget is a financial plan that outlines expected income and expenses over a specific period of time.
• The person responsible for a budget is known as what?

  Budget holder
• What are some uses of budgets in business?

  • Establish priorities and set targets
  • Provide direction and co-ordination
  • Communicate targets
  • Control income and expenditure
• What are the three main types of budget?

  • Income budget
  • Expenditure budget
  • Profit budget
• How is a profit budget contructed?

  1. Analyse the market
  2. Draw up income budget
  3. Draw up expenditure budget
• Why should a business analyse the market to construct a profit budget?

  To understand demand.

  • Is the market growing or shrinking?
  • Whats our market share?
  • Whats the size of the market?
  • What is our competitors doing?
• What is an income budget?


  Shows the budgeted income for the business and its sources
• Income budget will help a firm to plan its workforce and operations
• Income budget will allow a firm to plan its expenditure based on requirements to meet demand, for example, order levels and staffing
• How to calculate profit budget?

  Profit budget = income budget - expenditure budget
• Profit budget should be viewed as a full year to remove seasonal impacts on demand
• What are the potential drawbacks of budgets and budgeting?

  • Sales forecasting is harder when the market experiences rapid change
  • Startup firms find it hard to estimate likely sales and revenues
  • Changes in the external environment will impact costs (e.g. taxes)
  • Always likely to be unexpected costs
• Income forecasting is harder when the market experiences rapid what?

  Change
• What are the limitations of budgets?

  • Are only as good as the data being used
  • Can lead to inflexibility in decision-making
  • Need to be changed as circumstances change
• What is a variance?

  When there is a difference between actual and budget figures
• What are the two types of variances?

  • Favourable variance
  • Adverse variance
• What is favourable variance?

  When the actual figures are better than the budgeted figures
• What is adverse variance?

  When the actual figures are worse than the budgeted figures
• How to calculate variance?

  Variance = Budget figure - actual figure
• What are possible causes of favourable variances?

  • Stronger demand than expected
  • Better than expected productivity or efficiency
  • Cautious income and expenditure assupmtions
• What are possible causes of adverse variances?

  • Unexpected events lead to unbudgeted costs
  • Income forecasts prove over-optimistic
  • Market conditions (e.g. competitor actions) mean demand is lower than budget