Budget Control Budgetary control This is the process
Budget Control
Budgetary control • This is the process by which financial control is exercised within an organisation • Budgets for income/revenue and expenditure are prepared in advance and then compared with actual performance to establish any variances • Managers are responsible for controllable costs within their budgets and are required to take remedial action if the adverse
Definition of a budget • “A budget is a quantitative statement, for a defined period of time, which may include planned revenues, expenses, assets, liabilities and cash flows. A budget provides a focus for the organisation, aids the co-ordination of activities and facilitates control” (CIMA) • An agreed plan establishing in numerical or financial terms, the policy to be pursued and the anticipated outcomes of that policy
Budgets • A budget is… • a financial plan • sets out financial targets • a plan expressed in money • an agreed plan of action over a given period expressed in numerical terms
Many uses of budgeting • To establish priorities • To set targets in • • • numerical terms To turn strategic objectives into practical reality To provide direction and co-ordination To assign responsibilities To allocate resources To communicate targets • To delegate without loss • • • of control To motivate staff To improve efficiency To forecast outcomes To monitor performance To promote forward thinking To control income and expenditure
Benefits of budgeting • Strategic planning can be more easily linked to • • management decisions Standards can be set to aid performance and evaluation Plans can be set in financial terms Managers can be made responsible for budgets Budgets encourage co-operation and co-ordination Budget concentrates minds Employees are motivated to achieve objectives Control of operations and activities - outcomes compared to the budget Provides a basis for evaluation -a yardstick by which performance can be judged
The budgeting process Forecasts and plans Objectives Compare results with plans Evaluate performance
Role of budgets in controlling • To provide a framework for evaluating the performance of • • • managers in meeting individual and department targets To control activities by measuring progress against the original plan, making adjustments where necessary To review performance by referring to the set budget To take remedial action when there is deviation from the plan To control expenditure To allow some discretion within the budget To facilitate management by exception To evaluate performance against the budget To compare actual and budgeted results to obtain variances from the plan To provide a basis for revision of the objective or strategy
Principles of good budgetary control • Managerial responsibilities are clearly • • • defined Individual budgets lay down a plan of action Managers have a responsibility to adhere to their budgets Performance is monitored against the budget Corrective action is taken if results differ significantly from the budget Departures from budgets are permitted only after approval from senior management Unaccounted for variances are investigated
Management by exception • This is the process of focussing on activities that • • require attention and ignoring those that appear to be running smoothly Budget control and analysis of variances facilitates management by exception since it highlights areas of the business which deviate from predetermined standards Items of income or spending that show no or small variances require no action. Instead concentrate on items showing a large adverse variance
Variances • A variance arises when there is a difference between actual and budget figures • Variances can be: • Positive/Favourable (better than expected) or • Adverse/Unfavourable ( worse than expected)
Favourable and adverse • Positive/Favourable - actual figures are better than budgeted figure – costs lower than expected – revenue/profits higher than expected • Negative/Adverse - actual figure worse than budget figure – costs higher than expected – revenue/profits lower than expected
Should variances be a matter of concern? • It depends on whether it is positive or negative • Was it foreseen? • Was it foreseeable? • It depends on its size – absolute size in money terms – relative size in percentage terms • It also depends on the cause • And whether it is a temporary problem or the result of a long term trend
What to do about a variance? • Act only if the variance is outside an agreed margin • Investigate excessive variance • Investigate the cause of the variance • Was it avoidable or unavoidable? • Act to remedy the problem
Problems and limitations • Budgets are only as good as the data being used • Budgets can lead to inflexibility • Budgets need to be changed as circumstances • • change Budgeting is a time consuming process Budgets can constrain actions Budgets can result in short term decisions to keep within the budget rather than the right long term decision which exceeds the budget Managers can become too preoccupied with setting and reviewing budgets and forgetting to focus on the real issues of winning customers
Behavioural implications of budgeting • Budgeting has behavioural implications for the • • • motivation employees Budgets are de-motivating if they are imposed rather than negotiated Setting unrealistic targets adds to de-motivation Budgets contribute to departmental rivalry - battles over budget allocation Spending up to budget: it can result in a “use it or lose it” mentality - spend up to the budget to preserve it for next year Budgetary slack occurs if targets are set too low A “name, blame and shame” culture can develop but managers should be answerable only for variations that were under their control
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