Chapter 12

Budgeting And Budgetary Control System

Budgeting• A financial and/or quantitative statement, prepared and approved prior to a defined period of time, of the policy to be pursued during that period for the purpose of attaining a give objective. It may include income, and the employment of capital.

Management AccountingBy Paresh Shah

Oxford University Press

Budgeting• One of the primary objectives of management accounting is to provide useful information to management for planning and control.

• Budgeting acts as a tool for both planning and control.

• Budgeting is a formal process of financial planning using estimated financial and accounting data.

• Forecasting is a process of predicting or estimating future happening.

• Forecasting is an essential part of the budgeting process.

Management AccountingBy Paresh Shah

Oxford University Press

Features Of A Budget• One-year Duration• Estimation of Business Unit’s Profit Potential

• Appraisal of Performance• Monetary Terms• Alteration of Approved Budget Under Specific Conditions

• Review and Approval by Higher Authority

• Managerial CommitteeManagement Accounting

By Paresh ShahOxford University Press

Role Of A Budget OfficerThe Budget Committee acts through the Budget Officer whose responsibilities include the following: 

• Functional Budget Preparation• Communication to Responsibility Centres

• Co-ordination• Follow-up• Budget Committee Review• Board Review

Management AccountingBy Paresh Shah

Oxford University Press

Steps Involved InPreparation Of Budgets

• Definition of Objectives• Identification of Key Factor• Budget committee and controller• Budget Manual• Budget Period• Standard of Activity

Management AccountingBy Paresh Shah

Oxford University Press

Elements Of Successful Budgeting Plan

• Forecasting is an integral part of budgeting process– Accurate Forecasting of Business Activities

– Coordinating Business Activities– Communicating the Budgets– Acceptance and Cooperation– Reasonable Flexibility– Providing a Framework for Evaluation

Management AccountingBy Paresh Shah

Oxford University Press

Budget Centres• An organization is usually broken down into different budget centres for administrative and control purposes.

• CIMA’s definition ‘a section of the organization of an undertaking defined for the purposes of budgetary control.’

• Separate budgets are prepared for each section of the organization.

Management AccountingBy Paresh Shah

Oxford University Press

Budget Manual• Budget manual is a document of schedules which shows in written form the procedures to be followed for budgeting activities.

• A copy of the manual is given to each departmental head for guidance.

Management AccountingBy Paresh Shah

Oxford University Press

Management AccountingBy Paresh Shah

Oxford University Press

Fixed Budgeting• A fixed budget is the budget which is designed to remain unchanged irrespective of the level of activity actually attained.

• It is based on a single level of activity.• A fixed budget performance report compares data from actual operations with the single level of activity reflected in the budget.

• However, in practice, fixed budgeting is rarely used.

• The main reason is that actual output is often significantly different from the budgeted control.

Management AccountingBy Paresh Shah

Oxford University Press

Flexible Budgeting• It is a budget, which by recognizing the difference between fixed, semi-variable, and variable costs, is designed to change in relation to the level of activity.

• A flexible budget is prepared for a range, i.e. for more than one level of activity.

• It is a set of alternative budgets to different expected levels of activity.

Management AccountingBy Paresh Shah

Oxford University Press

Characteristics Of Flexible Budgets

• Cover a range of activity• Dynamic in nature• Facilitate performance measurement

Management AccountingBy Paresh Shah

Oxford University Press

Functional Or Operating Budget

• Broad Categorization– Physical Budgets– Cost Budgets– Profit Budgets– Financial Budgets

• Budgets provide information in terms of physical units and cost information

Management AccountingBy Paresh Shah

Oxford University Press

Functional Or Operating Budget

• Commonly Used– Sales Budget– Production Budget– Plant Utilization Budget– Direct Material Usage Budget– Purchase Budget– Direct Labour Budget– Selling Costs Budget– R & D Budget– Capital Expenditure Budget

Management AccountingBy Paresh Shah

Oxford University Press

Steps Involved In Preparation

Of Operating Budgets• Sales Budget• Production Budget• Direct Labour Budget• Direct materials usage budget• Direct materials purchase budget• Factory overhead budget• Inventory budget• Cost of goods sold budget• Budgeted profit and loss statement• Budgeted balance sheet

Management AccountingBy Paresh Shah

Oxford University Press

Rolling Budget• A rolling budget is a budget which is continuously updated by adding a further period, say a month or a quarter, and deducting the earliest period.

• It is also known as continuous budgeting.

• The environment is full of risk and uncertainty. Rolling Budgets help to overcome this problem.

Management AccountingBy Paresh Shah

Oxford University Press

Cash Budget• Cash budgets are a tool for forecasting short-term cash requirements of a firm.

• They provide a blueprint of the cash inflows and outflows that are expected to occur in the immediate future.

• They assist the management in determining the surplus or shortage of funds.

Management AccountingBy Paresh Shah

Oxford University Press

Budgetary Control System• Budgetary control is a systematic and formalized approach for accomplishing the planning, coordination, and control responsibilities of management.

• CIMA, - ‘Budgetary control is the establishment of budgets relating the responsibilities of executives to the requirements of a policy and the continuous comparison of actual with budgeted results either to secure by individual action the objective of that policy, or to provide a basis for its revision.’

Management AccountingBy Paresh Shah

Oxford University Press

Prerequisites• Top Management Support• Proper Organizational Structure• Realistic Nature of Goals• Flexibility• Participative Process• Conducive Environment

Management AccountingBy Paresh Shah

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Features• Objectives• Activities• Plans• Performance Evaluation• Control Action

Management AccountingBy Paresh Shah

Oxford University Press

Objectives• Definition of Goals• Defining Responsibilities• Basis for Performance Evaluation• Optimum use of Resources• Co-ordination• Planned Action• Basis for Policy

Management AccountingBy Paresh Shah

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Advantages• Efficiency• Cost Control• Performance Evaluation• Standard Costing and Variance Analysis

• Policy Formulation

Management AccountingBy Paresh Shah

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Limitations• Estimates• Rigidity• False sense of Security• Lack of Co-ordination• Time and Cost

Management AccountingBy Paresh Shah

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Zero-Base Budgeting• Zero-base budgeting (ZBB) is an expenditure control device where each divisional head has to justify the requirement of funds for each head of expenditure and prepare the budget accordingly, without reference to the past budget or achievements.

Management AccountingBy Paresh Shah

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Features• Holistic• Analytical• Priority Based• Review Based• Rational

Management AccountingBy Paresh Shah

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Modus Operandi• Objectives• Coverage• Decision Areas• Ranking• Budgeting

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Advantages• Priority Allocation• Maximum Efficiency• Cost-Benefit Analysis• Goal Congruence• Management by Objective

Management AccountingBy Paresh Shah

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Limitations• Lack of Co-ordination• Old-is-gold Attitude• Time Consuming

Management AccountingBy Paresh Shah

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Activity-Based Budgeting• Activity-based budgeting applies activity-based costing principles to budgeting.

• It focuses on the numerous activities necessary to produce and market goods and services.

• Activity-based budgeting is a useful anticipatory control device, because it estimates the usage and costing rates of drivers before costs are locked in.

• Activity-based budgeting is a planning and control system which seeks to support the objective of continuous improvement.

Management AccountingBy Paresh Shah

Oxford University Press

Life-Cycle Budgeting• Life-cycle budgeting adopts a life-cycle cost approach.

• Life-cycle budgeting emphasizes the relationships among costs incurred at different value-chain stages.

• Accordingly, whole-life cost is a concept closely associated with life-cycle cost.

• Whole-life cost equals the life-cycle cost plus after-purchase costs.

• Attention to the reduction of all elements of whole-life costs through analysis and management of all value-chain activities is a powerful competitive tool.

• Life-cycle and whole-life cost concepts are associated with target costing and target pricing.

Management AccountingBy Paresh Shah

Oxford University Press

Kaizen Budgeting• The Japanese term kaizen means continuous

improvement, and kaizen budgeting assumes the continuous improvement of products and processes, usually by way of many small innovations rather than major changes.

• Kaizen budgeting is based not on the existing system but on changes yet to be made, and budget targets cannot be reached unless those improvements occur.

• A kaizen budget may also relate to the product life cycle concept.

Management AccountingBy Paresh Shah

Oxford University Press

Planning, Programming AndBudgeting System

• PPBS is used in nonprofit or non-commercial organizations to enable them to make more informed decisions about resource allocation.

• PPBS differs from traditional non-profit and non-manufacturing budgets

• In PPBS, budgets for line or functional items for whole department are not presented. Instead, the expenses associated with specific programmes are detailed.

Management AccountingBy Paresh Shah

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Stages• Identify and define the objectives of programme.

• Select performance or output measures.

• Identify and evaluate alternative methods of achieving the objectives

• Select the appropriate programmes on the basis of cost-benefit

• Implement the selected alternative and monitor its performance

Management AccountingBy Paresh Shah

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Advantages• Leads to more effective allocation of resources

• Compels the management for evaluation

• Provides adequate information to management

• Helps management to consider long-term perspective

Management AccountingBy Paresh Shah

Oxford University Press

Government Budgeting• Governmental budgeting differs from private-sector budgeting.

• A governmental budget is a legal document adopted in accordance with procedures specified by applicable laws.

• A governmental budget must be complied by the administrators of the governmental unit for which the budget is prepared.

Management AccountingBy Paresh Shah

Oxford University Press