Budgeting

Question 1

What is a budget?

Answer 1

A budget is a plan in monetary terms. A short to medium term detailed plan moving the business towards its corporate objectives.

Question 2

What are the 6 purposes of budgets?

Answer 2

• Planning
• Control & Evaluation
• Coordination
• Communication
• Motivation
• Authorisation

Question 3

Hoe does a budget aid planning?

Answer 3

By setting detailed budgets it forces the management team to plan ahead and to take time out to complete the budgeting process. This may help them to identify opportunities for, or threats to, the business and take effective action in advance.

Question 4

How does a budget enable control & evaluation?

Answer 4

The budget gives a benchmark against which to compare actual results. Variance reports between budgeted and actual figures can be used to hold staff to account for inefficiencies and overspends. The evaluation of such reports enable more accurate future budgets to be generated which could impact product costing and pricing.

Question 5

How does a budget assist co-ordination?

Answer 5

A more formal budget allows for the different parts of the business to be co-ordinated with each other. The ensures goal congruence as all managers are working towards the achievement of the same objectives.

Question 6

How does a budget aid communication?

Answer 6

Budgets can be used to communicate targets and expectations to staff within the business. Staff are able to work more effieciently when they are aware of the overall plan.

Question 7

Hows does a budget aid motivation?

Answer 7

Managers performance is often measured in part by how in line with the budget they are. The budget can be a useful device for influencing the behavior of managers and motivating them to behave in line with business objectives.

Question 8

how does a budget enable authorisation?

Answer 8

The budget authorises managers to make expenditure, hire staff and generally follow the plans laid out in the budget. This can speed up processes.

Question 9

What is the difference between a periodic and rolling budget?

Answer 9

A periodic budget is typically prepared for on year at a time and no alterations are made once the budget has been set.

A rolling (or continuous) budget is kept continuously up to date by adding another accouting period (e.g. month or quarter) when the earliest accounting period has expired.

Question 10

When is a periodic budget most suitable?

Answer 10

It is suitable for stable businesses where forecasting is easy and historic figures are a good reflection of the future. Tight control and constant review is not necessary.

Question 11

When is a rolling budget most suitable?

Answer 11

Rolling budgets are most suitable for dynamic environments with changing demand patterns that require tight control and accurate budgeting.

• It’s based on more up-to-date figures. This means variances have more meaning
• It requires constant reflection. This forces managers to consider the budget and helps ensure tight control. The organisation can focus on the areas of the business that are not performing so well
• This method is more time consuming as there is a continuous need to go through the budgeting process.
• It can be confusing for managers as the budget and therfore targets will change.

Question 12

What is incremental budgeting?

Answer 12

The previous period’s budget is used as a base, with incremental chnages made to relflect known movements in costs, prices, inflation and other factors.

Question 13

When is incremental budgeting most suitable?

Answer 13

It is suitable for a stable environment where last periods figures are a good reflection of whats going to happen going forward. It is often used where budgeting is produced centrally as detailed knowledge is not required.

Its not useful in changing environments where there are chnages in the number of products or scale or production planned.

Question 14

What rae the benefits of incremental budgeting?

Answer 14

• Simple and quick and therefore a low cost option
• Often this is sufficient in comparison to more complex budgeting where the cost can outweigh the benefit
• For many costs e.g. a reccurring phone bill this can be a practical method of budgeting.

Question 15

What are the downsides of incremental budgeting?

Answer 15

• As costs and revenues are not thoughly investigated or challenged it can build on past inefficiencies.
• It may also mean that budgets and therfore targets are set at a level that is too easy to achieve
• It can encourage overspending as if managers do not use up all their budget in one period it may be reduced in the next period.

Question 16

What is zero based budgeting?

Answer 16

This approach treats the budget as a new event every year and starts the process from scratch. This forces management to re-evaluate and justify all of the activities of the business each time a budget is set.

Question 17

When is zero based budgeting most suitable?

Answer 17

It is most suitable when significant expansion or a lange range of new products are planned. Or for project based and one-off production.

This is because it prepares for the future needs of the business rather than reflecting on past actions and helps to generate a budget that better reflects any changes to the external environment.

Question 18

What are the benefits of zero based budgeting?

Answer 18

• It encourages managers to question what is done and to seek alternatives that are better or lower cost. It identifies inefficiencies and removes them from the budget.
• It requires the involvement of all levels of staff and this can be motivational. It raises budget awareness and budget acceptance.

Question 19

What are the downsides of zero based budgeting?

Answer 19

• It is time consuming and therfore more costly. This cost may not be justified.
• Staff may not have sufficient capacity or skills to carry out the process.
• It may encourage short-termism with managers being too focuses on achieving short term cost savings rather than looking at the bigger picture. They may for example cut out staff training to save costs.

Question 20

What is activity based budgeting?

Answer 20

Costs determined using ABC are used to prepare budgets for echa activity. The volume of cost driver is estimated.

Question 21

When is Activity Based Budgeting most suitable?

Answer 21

• It requires the existance of activity based costing
• It is best in environments where overheads are a significant proportion of total cost. If overheads are relatively low then it may not be worth the time and cost to implement.
• It can also be useful in a TQM environment

Question 22

What are the benefits of activity based budgeting?

Answer 22

• The link between costs and activity levels is better understood which can lead to a more informed and accurate budget.
• Makes the organsiation consider individual activities and the value that they add, any non-value adding activities can be removed or reduced.

Question 23

What are the downsides to activity based budgeting?

Answer 23

• It is a time-consuming and therfore costly process
• It is only appropriate when ABC is being used

Question 24

What is the difference between Top down and Bottom up budgeting?

Answer 24

Top down budgeting is an imposed process. The budget is prepared by senior management without allowing the final budget holder to participate in the process.

Bottom up budgeting is a participative process. the budget is prepared collaboratively and teh budget holders have an input into setting the budgets.

Question 25

The benefits of Top Down Budgeting?

Answer 25

• Fewer people are involved which leads to a quicker process
• Senior management may have greater budgetary skill. If staff do not have the skill or experience to set budgets they may make ill-informed decisions.
• If senior management were less involved there is a risk they lose touch with the day-to-day runnign of the business and lose some control.
• Senior management may have a better overview of the busienss and be better able to make togh decisions with objectivity

Question 26

What are the Benefits of Bottom Up Budgeting?

Answer 26

• Operational managers may have more detailed information and be more familiar with their own line of work
• Improved staff motivation as involvement in setting the budget makes them feel more ‘ownership’ of the final budget, which can lead to working harder to achieve company goals.
• Staff should have a greater understanding of the budgetary process and this understanding can strenghten their commitmnet to projects
• Communication between departments is enhanced buidling stronger working relationships
• Senior managemnt ahve more time to concentrate on higher level company strategy, as the details of the budget are taken care of at a lower level.

Question 27

What is a fixed budget?

Answer 27

A fixed budget is designed to remain unchanged irrespective of the levl of activity actually attained. It is based on a single level of activity. It assumes that the organisation will work at a specified level of activity and that production will remian unchanged.

Question 28

What is a flexible budget?

Answer 28

A flexible budget is a budget which is designed to change in relation to the levl of activity attained. It prepares a set of alternative budgets for different expected levels of activity.

Question 29

What are the benefits of a flexible budget?

Answer 29

• It is suitable for dynamic environments as it allows for uncertainty in the forecasting of future events
• It provides a easier and reliable basis for comparison as it is made to allow for changes in production activity
• It allows for costs that do not behave the same way as volume increases and therfore may be more accurate
• The ease of comparison, facilitates more meaningful performance measurement and evaluation

Question 31

What is feedback control?

Answer 31

Feedback Control is a method of budgetary control that compares the actual results to the budgeted results at the end of the period. It looks at problems that have occured over the period and seeks corrective action to prevent these problems occuring again. The focus therefore is on past events.

Question 32

What is feedforward control?

Answer 32

Feedforward control is a method of budgetary control that takes a more proactive approach. It aims to anticiplate problems befor ethey occur and prevent them from occuring. Budgeted results are compared with desired results and action is taken to achive those desired results. The focus is on future events.

Question 33

Would feedback or feedforward control be more useful for this company?

Answer 33

Feedback:

• Analysing past events could be useful to help improving on inefficiencies in production or day to day management of staff.

Feedforward:

• The nature of the industry is progressive and forward looking, it is driven by ever chnaging fashions and trends. Therefore past events (and their analysis) may have no relevance to future events. Using a feedforward method may be of more use.