Steps in preparing a Budget:
The following steps are involved in
the preparation of a budget:
- Budget centers are needed to be established.
- A clearly defined organizational chart is required to be prepared which will state,
for each member of the management team, the functional responsibilities.
- A budget manual is needed to be prepared.
- A budget committee is required to be formed.
- The limiting factor or key factor is needed to be determined.
- The budget period is to be selected.
- Objectives which are to be reached by the end of the period of the budget are to
be set.
- Forecast for the period is needed to be prepared.
- The policies of the enterprise e.g. range of product, distribution channels, per
week normal hours of work, appropriation of research & development, stocks,
investments etc. are needed to be determined.
- The requirements in terms of economic quantities which are needed to meet the objectives
while complying with the policies are required to be computed from the forecasts & subsequently
these quantities are to be converted into monetary values. Thus this will result
in an initial provisional budget.
- With respect to the planned budget, initial budget is to be reviewed & until
an acceptable budget emerges, the objectives or policies or both needs to be reviewed
repeatedly.
- The budget when gets formally accepted becomes the master budget & as such is an executive order.
Budget Centre:
Budget center is that section or department
of the organization which for the purposes of budgetary control, is identified & separated
from the rest of the sections or departments of the organization. The departmental
heads works like responsibility centers. There should be a separate budget for each
budget centre & also independent comparison should be made with actual.
Budget Manual:
A budget manual is usually prepared
for assisting everyone who is engaged in budgeting & budget administration. The
procedures which are to be followed, the forms which are to be used & the responsibilities
of various persons & the part that should be played by them in the budgeting process
are specified by a budget manual.
A budget manual is very helpful because
a reference source which the persons who are involved in budgeting & budgetary
control may need is provided by it.
But there could be a radical difference
between the current procedures & the written instruction in the manual; this is
the danger of a budget manual.
Hence, preparation of budget manual
should be in loose leaf form so that the amendments can be made easily for keeping
the manual up-to-date.
Budget Committee:
In a large concern a frequent
establishment of budget committee is needed. It is a useful device which coordinates & reviews
the budget programme. The heads of the various departments or other high level executives
should constitute the budget committee. It is generally advisory in nature.
The main functions of the budget committee are:
- formulation of guidelines so that the budgets can be prepared;
- receiving & reviewing of all the budgets;
- suggesting of amendments & revisions;
- approving of original, revised or amended budgets;
- recommendation of actions which are needed to taken for the improvement of the
effectiveness;
- coordinating all the activities which are related to budgeting.
Limiting Factor:
In each organization, some factor
by which scale of its activity are being governed is always there. Such a factor is
called the ‘limiting factor’, ‘key factor’ or ‘principal
budget factor’. Some examples of limiting factors are below:
- capacity of production;
- skilled labor’s shortage;
- material’s shortage;
- space’s shortage;
- low demand for market;
- lack of capital.
Always one factor, with this type of
nature will be more dominant than the other factors but for each budget period that
factor does not remain constant. However, once removal has been made of the factor
which imposes limitation, that place is taken by another factor which then becomes
the limiting factor.
When the budget is being prepared,
the limiting factor is one of vital importance. Generally, demand for the products & that
of production capacity are the two most important factors.
If producing 10000 units is the capacity
of the production department but there is sales potential for 20000 units, then in
that case excess sales potential is not of much consequence. Similarly, if selling
capacity of the sales department is of 20000 units & production department has
produced 35000 units, then such extra production is of no use. Therefore, the establishment
of limiting factor & the limit imposed by it before the beginning of the functional
budgets is very important. If level of demand is the main factor then before other
functional budgets have been prepared, preparation has to be made of the sales budget.
On the basis of the volume of goods that can be sold by the business, the production & other
budgets should be prepared.
Budget Period:
The period of time for which the preparation & employment
of budget is done is known as a budget period. Specifying the budget period at the
outset of the preparation of the budget is necessary.
Depending upon the type of business & the uncertainties that are involved, budget
periods will vary. Usually with the capital expenditure the long-range budgets are
concerned, the span of which may be of five or more years. However, on the other hand,
only a week or month is covered by short-term budgets e.g. cash budget. Master budgets
by which an organization’s overall goals get consolidated, are usually prepared
on an annual basis so that it can coincide with the financial year of the business.
Annual budgets are usually sub divided into monthly or four-weekly period budget so
that proper control can be exercised.
Distinction between Forecast & Budget:
Prediction of relevant future factors
by which an entity & its environment gets affected so that the preparation of planning
decisions can be facilitated is defined as a forecast. Budget is a plan which is set
by the organization itself as a target regarding what should happen, whereas a forecast
predicts what is likely to happen. A forecast is a judgement which anybody can make
whereas budget is objective of an enterprise which only the authorized management can
make. Basis for the budget is prepared by the forecast. It’s not necessary that
the forecast of a function needs to be well coordinated. However, good coordination
among various operations & functions of an organization is needed in budgeting
so that the desired results can be attained. The period covered by the forecast may
range from one to five years or in case of certain types of business, even longer.
However, except in case of capital expenditure, the projection of budget is rarely
done for more than a year in advance & often projection is made for only three
months. Control of variances from the approved plan so that the desired result may
be achieved is involved in budgeting whereas no such control is involved in forecasting.
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