PRESENTATION 1: INTRODUCTION

PRESENTATION 1 OUTLINE

The following areas are covered in this presentation:

• What is a Budget?

• What are Budgets Used for?

• Where do Budgets Fit Within Financial Plans?

• Types of Budgets

WHAT IS A BUDGET?

Used to predict the future profit of a business and in

turn aid managers in preparing and evaluating

their business plans

Must conform to an organisation’s mission and

be formulated from the strategic plan

Quantitative (i.e. with numbers) expression of a

plan

Attempts to predict the “bottom line” of a business

Business tool used to monitor the health of a

business in a manner that is almost immediate, compared

to full accounting reports

WHAT ARE BUDGETS USED FOR?

• Managers need a basic understanding of how the financial

resources of their organisations are generated, allocated,

managed and reported.

For private sector companies, budgets have 3 purposes:

1. A plan for future income, expenditure and profits

“(A budget)...is not a forecast. A forecast is a prediction of the future...

...a budget is a planned outcome that your business wants to achieve.” (business.gov.uk)

“A budget is basically a model of how the business might perform, financially speaking, if

certain strategies, events, plans are carried out”...

WHAT ARE BUDGETS USED FOR?

2. A guide for decision-making

Everyday business decisions can affect the company’s revenues, costs and profit

performance

Budgets provide a framework for making more rational business decisions as it links those decisions to the financial objectives

of the company“...operating a business without a budget

is very bad management.”

WHAT ARE BUDGETS USED FOR?

3. A tool for monitoring business performance

Managers can monitor performance by comparing actual performance against the

budget targets

A budget “variance” is the difference between planned and actual performance

Managers monitor variances to ensure costs do not run out of control, profit

targets are kept in mind, and to identify circumstances where business strategies

might need to be reviewed...

WHAT ARE BUDGETS USED FOR?

• A budget attempts to predict income and associated expenditure

over a future period of time, usually a fiscal or financial year. In

Australia, the financial year is 1st July to the following 30th June

• Budgets are set for the next fiscal year at either the end of the

current fiscal year or close to it. April through May is a common

time for budgets to be prepared for the forthcoming financial year,

of which will start on 1st July

• As monthly or quarterly income and expenditure figures become

known throughout the year, budgets will evolve. The budget will

attempt to predict the income or cash flor or sales over the year

and proceed to add in the expenses that will occur, allowing for a

prediction of the types of expenses that might come up from time

to time

WHAT ARE BUDGETS USED FOR?

• Expenses and costs are generally divided into two broad groups.

These groups are:

Fixed Costs: expenses of which you know you will have and which shouldn’t change over the course of the year e.g. rent, leases,

wages

Variable Costs: Costs and expenses that will vary over the year e.g. waste disposal,

office expenses, vehicle costs and fuel, professional

fees (accountants, legal, consultant)

WHAT ARE BUDGETS USED FOR?

• An organisation’s business plan or its mission is converted into a

series of budgets. These can also be divided into two groups:

Operational budget: concerned with daily

activities that generate revenue for the organisation

Financial budget: also known as the financial

plan, is concerned with the cash flow of an organisation

WHERE DO BUDGETS FIT WITHIN FINANCIAL PLANS?

• Main use of the budget is to predict the health of a business in the

short term compared with accounting reports, which are published

at the end of a fiscal period

• A budget will usually provide a fairly rapid response to any

questions of extra expenditure such as whether or not you can

afford a new truck or a new employee

• Conversely, a budget is used to keep track of how a department or

division of a large organisation is travelling. For example, is the

Brisbane branch of a national company making budget? Or is the

engineering division or the HR department paying its way?

Budgetary control: process in which actual results and budgetary results are compared and it is determined if corrective action needs

to be taken

TYPES OF BUDGETS

Different types of businesses will require and use different budgets.

Sales budget All companies will have this.

Most difficult to measure correctly and involves estimating

for a future period.

Revenue budgetLike a sales budget, but includes revenue from sources other than actual sales such as investment

income or asset sales

Production budgetProvides an estimate of the

quantity and cost of materials required to meet the sales

budget. How many items do you need to sell to achieve the sales

budget estimates? In other words, how much has to be

produced?

Cost of goods budgetVarious types. Might cover raw

materials, labour, overheads etc.

TYPES OF BUDGETS

• Budgets will be prepared using one of two main approaches

(regardless of business type):

• All good budgets should have elements of both bottom up and top

down budgets

1. Top down budgeting

2. Bottom up budgeting

TYPES OF BUDGETS

Top Down Budgeting:

Senior management produces a master budget

Revenue targets and expenditure limits are passed down throughout the organisation

Unit managers put together their budgets using these pronouncements

Budget negotiations become involved in how best to allocate individual department budgets in order to best achieve the organisation goals and

targets

TYPES OF BUDGETS

Top Down Budgeting:Advantage

Senior management are able to set the budget in line with

the strategic plan for the organisation. Top down

budget setting is also seen as a means of

communication from senior management of this strategic

vision to the rest of the organisation and how it can

be implemented.

Disadvantage Can lead to low commitment from employees on the lower tiers of management as they have usually had little input

into framing the budget. They are less likely to “take ownership “ of the budget.

TYPES OF BUDGETS

Bottom Up Budgeting

• Involves individual departments/cost centres/work units preparing

their own budget proposals and feeding them upwards where they

are compiled into a master budget

AdvantageGreater involvement and ownership will lead to commitment from line

managers and employees. Local knowledge and expertise can be accessed by senior managers.

Disadvantage Very time consuming to involve lots of people in the budget process, it is

difficult to adhere to organisational goals due to local bias and senior managers will find it harder to control expenditure as each smaller budget will invariably opt for increase expenditure. Undemanding targets may also be the result of

individual managers setting their own budgets.