Budgetary Control

What is Budget

A Budget is a detail plan of operations for a specific period of time. In the present era every one is with the term budget because it is essential in life. A budget is prepared for the effective utilization of resources, which will help in achieving the set objectives. Budget are also very important in individual life as it important in business firms.

Budgetary Control

Every business firms have main objective to maximize the profits and to minimize the cost. An organization cannot run properly without a good budgetary system. Budgetary Control system is very helpful in bringing economy in business. It is applied to a system of management and accounting control by which all the operations and output are forecasted in a proper manner to achieve the best possible profit.

Budgetary is Define

“Budgetary control is a system of controlling costs which includes the preparation of budgets, coordinating the department and establishing responsibilities, comparing actual performance with the budgeted and acting upon to achieve maximum profitability.”

By Brown and Howard

Features of Budgetary Control

• One Year Duration• Estimation of Business Units Profit Potential• Appraisal of Performance• Monetary Terms• Alteration of Approved Budget under

Specified Conditions• Review and Approval by a Higher Authority• Managerial Commitment

Objectives of Budgetary Control• Basic Purpose• Cooperative Spirit• Maximum Profitability• Centralized Control• Optimum Use of Resources• Coordination• Execution• Remedial Measures• Revision.

Advantages of Budgetary Control• Maximization of Profit• Co-ordination• Specific Aims• Tool for Measuring Performance• Economy• Determining Weaknesses• Corrective Action• Consciousness• Reduces Costs• Introduction of Incentive Schemes

Disadvantages of Budgetary Control

• Uncertain Future• Budgetary Revisions Required• Discourage Efficient Persons• Problem of Co-ordination• Conflict among Different Departments• Depends upon Support of Top Management

Classification of Budget

• Classification According to Time• Classification on the Basis of Function• Classification to Flexibility

Classification According to Time

• Long Term Budgets• Short Term Budgets• Current Budgets

Classification on the Basis of Function

1.) Operating Budgets Production Budget Material Budget Labour Budget Overhead Budget

2.) Financial Budgets Cash Budget Capital Expenditure Budget Income Statement of Retained Earnings Budget Budgeted Balance Sheet or Position Statement Budget

3.) Master Budget

Classification to Flexibility

• Fixed Budget• Flexible Budgets

Sales Budget

Sales Budget is an estimate of expected sales during a budget period. It is the starting point on which other budgets are also based.

Factors considered in Preparing a Sales Budget

• Past Sales figures and Trend• Salesmen's Estimates• Plant Capacity• General Trade Prospects • Orders in Hand• Seasonal Fluctuations• Potential Market• Availability of Material and Supply• Financial Aspect

Format of Sales BudgetFormat of Sales Budget

Period/ Area

Budgeted in the current Period

Actual Sales Budgeted for the future Period

Units Rate (Rs.)

Amt (Rs.)

Units Rate (Rs.)

Amt (Rs.)

Units Rate (Rs.)

Amt (Rs.)

Northern Area Product – XProduct – Y

Southern Area Product – XProduct – Y

Grand Total

Production Budget

• It is a component of the master budget that establishes the level of production planned for the budget period. It fixes the target for the future output.

• Production budget attempts to estimate the number of units of each product that the company is planning to produce during the budget period.

Factors while preparing a Production Budget

• Sales• Inventory Policies• Availability of Production Resources• Key Factor• Plant Factor• Plant Maintenance• Technological Obsolescence• Production Control• Time Lag• Time Involved• Change Over• Economic Batch Qauntity

Format of Production BudgetParticulars January February March

Sales in quantity (as per sales budget)

XXX XXX XXX

Add: Desired inventory at the end

XXX XXX XXX

Total quantity required

XXX XXX XXX

Less: Stock at beginning

XXX XXX XXX

Quantity to be produced

XXX XXX XXX

Material Budget

The process of preparing material budget or purchase budget in terms of quantity and money value of materials to be procured in given period of time.

Benefits of Material Budget

• Help to estimate material prices during a year

• Help to analysis material requirement• Reduced risk of inventory planning• Maximum purchase lead time• Reduces transportation cost• Better supplier relations.

Factors Considered in Preparing a Material Budget

• Raw material required for the budget output.• The Percentage of raw material to total cost of products should be

calculated on the basis of previous records. On the basis of this percentage a rough total value of raw materials for the budgeted output will be ascertained.

• Consideration must be given to the companys stocking policy. Figures related to anticipated raw material stock to be held at different time should be known.

• Consideration must be given to the lag between the placing of the order of the purchase of materials and the receipt of materials.

• The seasonal nature in the availability of raw material should be considered.

• The price trend in the market.

Direct Labour Budget

The direct labour budget is developed from the production budget. Direct labour requirements must be computed so that the company will know whether sufficient labour time is available to meet the budgeted production needs. By knowing in advance how much labour will be needed throughout the budget year, the company can develop plans to adjust the labour force as situation requires. Companies that neglect to budget run the risk of facing labour shortages or having to hire and lay off workers at awkward times

Department Labour BudgetCost Center: Product Output Quantity Month: Standard Hours

A

B

C

Workers Number Hours Rate of Wages Direct Labour Cost Total Male: Skilled Semi-skilled Unskilled Female: Skilled Semi-skilled Unskilled Total

Availability of Workers in Each Grade

• Overtime working.• Second shift working – full or partly• Transfer from one department to another

department• Recruitment.• Sub – contracting• Reduce idle time.• To investigate possible increased sales.• Retrenchment in case of excess on the long –

term basis.

Overhead Budget OVERHEAD BUDGET shows the expected cost of all

production costs other than direct materials and direct labour. Budgeted variable overhead costs are based on a budgeted variable overhead rate multiplied by budgeted activity. Budgeted fixed overhead costs remain unchanged as the activity level changes within the relevant range.

Format of Overhead Budget

Production BudgetParticulars Original Budget (Rs.) Budget for Next Year

(Rs.)Direct Labour XXX XXX

Direct Material XXX XXX

Prime Cost XXX XXX

Factory Overhead: XXX XXX

Fixed XXX XXX

Variable XXX XXX

Total Cost XXX XXX

Cash Budget A cash budget is extremely important, especially for small

businesses, because it allows a company to determine how much credit it can extend to customers before it begins to have liquidity problems. For example, without setting a cash budget, spending a dollar a day on a cup of coffee seems fairly unimpressive. However, upon setting a cash budget to account for regular annual cash expenditures, this seemingly small daily expenditure comes out to an annual total of $365, which may be better spent on other things. If you frequently visit specialty coffee shops, your annual expenditure will be substantially more.

Characteristics of Cash Budget

• Is a statement of anticipated cash receipts and payments.

• Is related to predetermine future period.• Is expressed in terms of monetary values.• Is forecast of financial aspirations of the

enterprise.• Is an outline of future plans, policies and

actions of the management.

Items in Cash Budget

Cash Receipts Cash PaymentsCash sales Cash PurchaseCollection from Debtors Payment to creditorsSales of fixed assets Labour costIssue of share and debenture Factory overheadLoans and Borrowings Loan repaymentInterest and dividend Purchase of market securitiesMiscellaneous receipts Interest and dividend

Tax paymentPayment for wages and salaries, rent and other expenses.Miscellaneous expenses

Format of Cash BudgetParticulars Jan Feb March

1.) Opening Cash Balance

2.) Estimates Cash Receipts

3.) Total Receipts available during the month (1+2)4.) Estimated Cash Payments

5.) Total Cash Payments6.) Closing Cash Budget (3-4)

Master Budget

• It is summary of various functional budgets. It is prepared by integrating various budget into one consolidated budget so as to represent the budgeted profit and loss account and the budgeted balance sheet as at the end of the budget period.

Steps Involved in Preparation of Master Budget

• Sales budget, as the starting point,• Production budget,• Cost of production budget,• Cash budget• Projected income statement and the balance

sheet.

Advantages of Master Budget• All summary report is prepare in one report.• The accuracy of al.• l the functional budgets is checked because the

summarized information of all functional budgets should agree with the information given in the master budgets.

• Estimated profit of the organization.• Information relating to forecast balance sheet is

available in the master budget.• It reveals the managerial goals regarding revenues,

expenses, profits and cash flows etc.

Format of Master BudgetParticulars January February For the Period

Budget Previous Period

Budget Previous Period Budget Previous Period

Previous period

Less: Purchase as per material budget.

Direct labour as per direct labour budget.

Gross Profit

Less: Factory overhead-variable

Repairs and maintenance

Factory overhead- fixed

Research and development expenses

Administrative overheads

Selling and distribution overheads

Operating Profit

Flexible Budget

Is based upon different levels of activity. It is a very useful tool for comparing actual costs experienced to the cost allowable for the activity level achieved, i.e. it is dynamic in nature as compared to static. A series of budgets can be readily developed to fit any activity level. Flexible budgeting distinguishes between fixed and variable cost, thereby allowing for a budget that can be automatically adjusted to the level of activity actually attained.

Features of Flexible Budget

• Cover a Range of Activity• Dynamic in nature• Facilitate Performance Measurement

Advantages of Flexible Budget

• A flexible budget makes it possible to establish budget cost for any level of activity within the relevant range even after the periods activity is over.

• Helpful in assessing the performance of the department heads,

• Ascertain the cost• Evaluating the effects of varying volumes of activities

on profits and cash position. It helps in production planning as well as profit planning.

• It control overheads.

Disadvantages of Flexible Budget

• Linearity of cost and not maintain record of e.g. discounts of bulk purchase of goods or material.

• It make on assumption of continuity, but in future it may be stop.

• Determining the fixed and variable elements• It tend to maintain fixed cost at the same

level of output or sales.

Format of Flexible BudgetParticulars Capacity 60% Capacity 80% Capacity 100%

Prime cost

Variable Overheads

Marginal Cost (A)

Sales (B)

Contribution C= (B-A)

Fixed Cost (D )

Profit (C-D)

Zero Based Budgeting (ZBB) A method of budgeting in which all expenses must be justified

for each new period. Zero-based budgeting starts from a "zero base" and every function within an organization is analyzed for its needs and costs. Budgets are then built around what is needed for the upcoming period, regardless of whether the budget is higher or lower than the previous one.

ZBB allows top-level strategic goals to be implemented into the budgeting process by tying them to specific functional areas of the organization, where costs can be first grouped, then measured against previous results and current expectations.

Definition: Zero Based Budgeting (ZBB)

ZBB is a method of budgeting whereby all activities are re-evaluated each time a budget is set. Discrete levels of each activity are valued and combination chosen to match funds available.

By CIMA

Features of ZBB• Decision completely justify by manager.• Activities are identified in decision packages.• Decision packages are ranked in order of priority,• Packages are evaluated by systematic analysis.• There should be good relation between superior

and subordinates. So that they can discuss and plan for future step they are going to take.

• Corporate objective should be clear.• Arrange the order on priority basis for good

results or output.

Important Aspects of ZBB

• It emphasises on all requisites of budgets.• Evaluation on the basis of decision packages and

systematic analysis, i.e., in view of cost benefit analysis.• Planning the activities, promotes operationai efficiency

and monitors the performance to achieve the objectives.

Steps Involved in ZBB• No Previous year performance of inefficiencies are to be

taken as adjustments in subsequent year.• Identification of activities in decision packages.• Determination of budgeting objectives to be attained.• Extent to which Zero Base Budgeting is to be applied.• Evaluation of current and proposed expenditure and

placing them in order of priority.• Assignment of task and allotment of sources on the basis of

cost benefit comparison.• Review process of each activity examined afresh.• Weightage should be given for alternative course of

actions.

Advantages of ZBB• Utilization of resources at a maximum level.• It serves as a tool of management in formulating production

planning.• It facilitates effective cost control.• It helps to identify the uneconomical activities.• It ensures the proper allocation of scarce resources on priority

basis.• It helps to measure the operational inefficiencies and to take the

corrective actions.• It ensures the principles of Management by Objectives.• It facilitates Co-operation and Co-ordination among all levels of

management.• It ensures each activity is thoroughly examined on the basis of cost

benefit analysis.

Disadvantages of ZBB• It is not suitable for all the activities in an

organization.• It has limited application in a profit making

organization. It applied in case of workers welfare measures.

• It is not apply in R&D activities .• ZBB is indifferent as to whether total budget is

increasing or decreasing.• More paper work• It takes more time and efforts.

Performance Budgeting

“The Process of analyzing, identifying, simplifying and crystallizing specific performance objectives of a job to be achieved over a period, in the framework of the organizational objectives, the purpose and objectives of the job.“

BY National Institute of Bank Management

Features of Performance Budgeting

• Classification into functions, activities or programme.

• Specifying objectives of each programme.• Establishing appropriate methods for

measurement of work.• Setting work target for each programme.

Importance of Performance Budgeting

• It correlates the financial and physical aspects of every programme or activity

• It improves budget formulation.• It facilitates better appreciation and review of

the organization activities by the top management.

• It measures progress towards long term goals.• It helps in making effective performance audit.

Steps of Performance Budgeting

• Classification of Activities• Specification of Objectives.• Analysis of Activities.• Establishing Control Norms.• Clears Lines of Authority and Responsibility.• Evaluation.

Advantages of Performance Budget

Disadvantages of Performance Budget

• Rapid Organizational Activities not Considered• Difficulties in Comparison.• Quality is Ignored.• External Factors not Considered.

END CHAPTER