Relationship between Budget and Budgetary Control

Management accounting
LIZA-345

Budget
A budget is a financial plan for a business, prepared in advance. Budgets can be income budgets for money received, e.g. a sales budget, or expenditure budgets for money spent, e.g. a purchases budget. The targeted quantity is the key factor for all departments to prepare a budget. Cash budget combines both income and expenditure. That is receipts and payments. A cash budget sets out the expected cash/bank receipts and payments, usually on a month by- month basis, for the next three, six or twelve months, in order to show the estimated bank balance at the end of each month throughout the period. From the cash budget, the managers of a business can decide what action to take when a surplus of cash is shown to be available or, as is more likely, when a bank overdraft needs to be arranged. Budgets provide benefits both for the business, and also for its managers and other staff: The budget assists planning By formalizing objectives through a budget, a business can ensure that its plans are achievable. It will be able to decide what is needed to produce the output of goods and services, and to make sure that everything will be available at the right time. The budget communicates and co-ordinates Because a budget is agreed by the business, all the relevant managers and staff will be working towards the same end. When the budget is being set, any anticipated problems should be resolved and any areas of potential confusion clarified. All departments should be in a position to play their part in achieving the overall goals. The budget helps with decision-making By planning ahead through budgets, a business can make decisions on how much output in the form of goods or services can be achieved. At the same time, the cost of the output can be planned and changes can be made where appropriate. The budget can be used to motivate A budget can be part of the techniques for motivating managers and other staff to achieve the objectives of the business. The extent to which this happens will depend on how the budget is agreed and set, and whether it is thought to be fair and achievable. The budget may also be linked to rewards (for example, bonuses) where targets are met or exceeded.

BUDGETARY PLANNING Many large businesses take a highly formal view of planning the budget and make use of: Budget manual, which provides a set of guidelines as to who is involved with the budgetary planning and control process, and how the process is to be conducted Budget committee, which organises the process of budgetary planning and control; this committee brings together representatives from the main functions of the business e.g. production, sales, administration and is headed by a budget co-ordinator whose job is to administer and oversee the activities of the committee Whatever the size of the business it is important, though, that the planning process begins well before the start of the budget period; this then gives time for budgets to be prepared, reviewed, redrafted, and reviewed again before being finally agreed and submitted to the directors or owners for approval.

Budgetary Control
Budgeting is closely connected with control. The exercise of control in the organization with the help of budgets is known as budgetary control. The process of budgetary control includes: 1. Preparation of various budgets 2. Continuous comparison of actual performance with budgetary performance 3. Revision of budgets in the light of changed circumstances A system of budgetary control should not become rigid. There should be enough scope of flexibility to provide for individual initiative and drive. Budgetary control is an important device for making the organization more efficient on all fronts. It is an important tool for controlling costs and achieving the overall objectives. Objectives

To provide a detailed plan of action for a business over a period of time. To coordinate the different units & activities of the organization with a view to utilize the resources judiciously. To revise the budgets in the light of changed circumstances. To exercise control and on cost through comparison of actual results with the budgeted one.

Effective control is a key management task which ensures that efforts produced at all levels are commensurate with those required to ensure the long-term future effectiveness and success of the organization Most budgets are prepared for the next financial year (the budget period), and are usually broken down into shorter time periods, commonly four-weekly or monthly. This enables budgetary control to be exercised over the budget: the actual results can be monitored against the budget, and discrepancies between the two can be investigated and corrective action taken where appropriate. Budgetary control as proven management helps organization management, and enhances improved performance of any economy in different ways. Its primary function is to serve as a guide in financial planning operators, it also establishes limits for departmental excesses. It helps administrative officials to make careful analysis of all existing operations, thereby justifying expanding, eliminating or restricting present practice.

Relationship between budget and budgetary control

Budgeting and control entails a distinct pattern of decisions in an organization which is capable of determining its objectives, purposes or goals, and how these goals are achieved by establishing principal policies and plans. However, the inability to recognize the problem concerned and fixing a boundary off investigation creates an obstacle for the successful implementation of budgeting and control. Some organizations only look for narrow ranges of alternatives which they arrive at from their past expenses and present situation, other management levels even avoid long-term planning and budgeting in favor of todays problems thereby making the problems of tomorrow more severe. Budgeting, at both management level and operation level looks at the future and lays down what has to be achieved. Control checks whether the plans are being realized and put into effect corrective measures, where deviation or short-fall is occurring. Without effective controls, an enterprise will be at the mercy of internal and external forces that can disrupt its efficiency, and be unaware, such enterprise will not be able to combat such forces. When a budgeting and control system is in use, budgets are established which set out in financial terms, the responsibility of managers in relation to the requirement of the overall policy of the company.

Continuous comparison is made between the actual and budgeted result, which is intended to either secure, thorough action of managers, the objectives of policy or to even provide a basis for policy revision. Budget is a tool that enables the manager to know when to review and revise plans, either because results are different from expectation or due to environmental, economic conditions, market conditions or technologies change, which no longer correspond to the assumptions of the budget. Budgets should be used as a tool for planning and control. Control involves the making of decisions based on relevant information which leads to plans and actions that improve the utilization of the productive assets and services available to organizations management. Effective control is said to be based on standards with which actual performance can be compared. If there are no standards, then there can be no effective measure of attainment. The five Categories into which standards fall,are: quantity, quality, time, complaint and value. The budget can be used to monitor and control An important reason for producing a budget is that management is able to use budgetary control to monitor and compare the actual results (see diagram below). This is so that action can be taken to modify the operation of the business as time passes, or possibly to change the budget if it becomes unachievable.

BUDGETED FIGURES
CONTROL AND TAKE ACTION MONITOR AND COMPARE Budget information may not be accurate It is essential that the information going into budgets should be as accurate as possible. Anybody can produce a budget, but the more inaccurate it is, the less use it is to the business as a planning and control mechanism. Great care needs to be taken with estimates of sales often the starting point of the budgeting process and costs. Budgetary control is used to compare ACTUAL FIGURES

the budget against what actually happened the budget may need to be changed if it becomes unachievable.

Budgets may lead to disfunctional management A limitation that can occur is that employees in one department of the business may overachieve against their budget and create problems elsewhere. For example, a production department might achieve extra output that the sales department finds difficult to sell. To avoid such dysfunctional management, budgets need to be set at realistic levels and linked and co-ordinated across all departments within the business.

Advantages of budgeting and budgetary control There are a number of advantages to budgeting and budgetary control: Compels management to think about the future, which is probably the most important feature of a budgetary planning and control system. Forces management to look ahead, to set out detailed plans for achieving the targets for each department, operation and (ideally) each manager, to anticipate and give the organisation purpose and direction. Promotes coordination and communication. Clearly defines areas of responsibility. Requires managers of budget centres to be made responsible for the achievement of budget targets for the operations under their personal control. Provides a basis for performance appraisal (variance analysis). A budget is basically a yardstick against which actual performance is measured and assessed. Control is provided by comparisons of actual results against budget plan. Departures from budget can then be investigated and the reasons for the differences can be divided into controllable and noncontrollable factors. Enables remedial action to be taken as variances emerge. Motivates employees by participating in the setting of budgets. Improves the allocation of scarce resources. Economises management time by using the management by exception principle.