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Planning and Budgeting

By A M Kambugu

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Sessional objectives

• After session you should:• Appreciate that

budgets/Budgeting is a process in Strategic Planning Management

• Know why we budget• Appreciate budgeting

environment• Know Budgeting

techniques and flexed budget

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BUDGETING

What is a budget?

A budget is a quantitative expression of a plan of action prepared in advance of the period to which it relates.

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Budgeting and Strategic management

• Strategic Plan-Long term• To operationalise the long term plan require:

– Goals

– Outputs

– Inputs

– Activities

– Workplan

– Budget

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Budgeting and Strategic management

• Periodically monitor the budget:– Keep on track– Correct any bad performance– Monitor staff– Quality assurance of stakeholders

• Ministry • Parental organisation• Management• Board

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The process of preparing and agreeing budgets

is a means of translating the overall objectives

of organisation into detailed, feasible plans of

action.

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Budgeting techniquesFixed budgeting

Flexed Budgeting

Activity Based Budgeting

Zero Based Budgeting

Planning Programming Based Budgeting Systems

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Fixed Budgeting

• Budgeting fixed and remains so during the

budgetary period.

• If budgeted output is not attained variances

done using unrealistic budget figures.

• Traditional Approach

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Flexible Budgeting

• Here the costs are broken into fixed and

variable.

• So that if output changes the budget also

changes.

• This facilitates arriving at amore realistic

budget and relevant variances.

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Zero Based Budgeting

• A method of budgeting whereby all activities

are re-evaluated each time a budget is

formulated. Each functional budget starts

with the assumptions that the function does

not exist and is at zero cost. Increments of

cost are compared with increments of

benefits, culminating in planning maximum

benefits given a cost.

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Zero Based Budgeting (cont’d)

• Do we need activity?

• What happens if it ceased?

• Does it contribute to organisational

objectives?

• Is it at right amount?

• Don’t we perform better without it?

• Is activity essential, cost effective, efficient/

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Zero Based Budgeting (Advantages)

• May result in more efficient use resources.

• Focuses on cost-benefit.

• Develops questioning attitude.

• Does not promote “ghost” expenses.

• Staff and management know the organisation better.

• Irrelevant cost items left out.

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Zero Based Budgeting (Advantages) cont’d

• Time consuming

• Cumbersome

• Few Managers and staff appreciate it

• Could be used by some Managers to lock out others

• Staff could see it as a pre-cursor to retrenchment. Emphasise short-term benefits

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Activity Based Budgeting (ABB)

• It is a development of conventional budgeting

system and is based on activity analysis

techniques

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Activity Based Budgeting Recognises:

• Activities drive costs, so, control activities to

control costs.

• Examine activities as to their value added.

• Costs out of hands of budget holder.

• Traditional performance measures

inadequate. New ones required.

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Activity Based Budgeting (Disadvantages)

• It is not easy to come at representative cost

drivers.

• Monitoring the cost drivers could be

cumbersome.

• Activity could be cost expensive but vital, e.g.

security.

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Activity Based Budgeting (Advantages)

• No place to hide costs.

• Highlights cost and encourages new

thinking

• Enables a more focused view of cost control

• Facilitates benchmarking.

• Concentrates on activities that add value.

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Planning Programme Budgeting System (PPBS)

• Programme budgeting is primarily a system

associated with corporate management which

identifies alternative policies, presents the

implications of their adoption and provides

for the efficient control of those policies

chosen.

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Planning Programme Budgeting System (PPBS) Advantages

• Provides into on objectives of organisation.

• It cuts across conventional lines.

• It exposes programmes that are overlapping and contradictory.

• It concentrates on long-term effects.

• Provides into on impact of existing and alte.

• Resource allocate according to cost-benefits.

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Planning Programme Based System (PPBS) Disadvantages

• Data requirements difficult.

• Defining objectives very difficult.

• Outputs not easy to arrive at and quantify.

• Link between input and output not clear.

• Link between programmes and output is at best calculated guesses.

• Hofstede (1981) calls these political controls

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Planning Programme Based System (PPBS) Disadvantages (cont’d)

• Mainly useful in public service, NGOs, non-

profit making entities.

• Concentrates on programmes.

• Programmes are thought to lead to

organisational objectives.

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THE BENEFITS OF BUDGETING

Communication

• Control

• Motivation, etc.

• Prioritisation

• Coordination

• Monitoring and Evaluation

• Specialisation

• Facilitates decision making

• Helps u to fund raise

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Benefits of budgeting cont

• Gives direction

• Keeps us focused

• Assists us to know what assets we have

• Minimises losses and frauds

• Maximises profits

• Helps us to identify risks

• Come up with risk management plan

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BUDGETS SHORT FALLS

• Variances do crop up

• Could perpetuate inefficiency

• May lead to organisational rigidities

• Could demotivate staff

• May be used as punishment

• Projections could be wrong and budget

• May kill initiative and innovation.

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BEHAVIOURAL ASPECTS OF CONTROLS AND BUDGETING

• Goal Congruence

• Performance Appraisal of staff

• Participation in budgeting process

• Setting targets

• Attainment of targets

• Budget slack

• Internal Controls

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Goal Congruence

• Objective of budgeter

• Objective of budgetee

• Objectives of the organisation

• Aspirations of individual

• Budgetary performance

• Individuals have to be persuaded to adjust upwards their aspirations

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Performance Appraisal

• Budget constrainedTension, negative feeling, staff hate the budget,

low performance

• Profit ConsciousFeeling not so negative, long-term nature and

more involved

• Non-AccountingDiscipline, attitude

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Participation in Budgeting

• Beneficial:GenuineLeadership style of ManagerCongruence of objectives (Hopwood)Locus of control an individual who thought

his/her destiny was in handsSuperiors who were In-Charge allowed

subordinates (Licata 1969)Budgetee was involved.

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TARGET SETTING

• If individual was involved

• If set too low no motivation

• If set too high no motivation

• If unclear, non-objective, no motivation

• Targets should be realistic and attainable

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Budgeting Constrained Style

• Manager has to be conscious of the budget

• He/she is punished if not achieved and

rewarded if achieved, Manager may feel

unfairly treated.

• Profit Conscious style as long as profits are made no problem, Manager not tensed up.

• Non-Accounting style the budget is not important

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INTERNAL CONTROLS

• Stifle innovation, creativity and initiatives

• Create rigidities in system

• Could be used to strangle some people and some departments

• Challenge to be beaten

• Some Managers may go to sleep

• Might reduce performance

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RESPONSIBILITY CENTRES

• A unit of a firm where an individual Manager is held responsible for the unit’s performance.

• Centres:CostRevenueProfitInvestment

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OUTPUT CONTROLS

• Coming up with performance measures

• Setting targets

• Measuring performance

• Providing rewards or punishment

• To work:Objective, quantified, precise, timely,

understandable, free from bias, action swift, individual has power, costs controllable

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CONTROLLABILITY PRINCIPLE

• It is only appropriate to charge to an area of responsibility only those costs that are significantly influenced by the manager of that responsibility centre. The controllable principle can be implemented by either eliminating the uncontrollable items from the areas for which managers are held accountable.

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Types of budgetsRaw materials budget

Fixed assets Budget

Working capital budget

Sales Budget

Purchases budget

Man power requirements budget

Cash budget

Profit and loss budget/balance sheet-master budget

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Budgeting Environment

• Budget manual

• Strategic plan

• Budget committee

• Sub budgets

• Consolidation of sub budgets –master budget

• Approval of master budget

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(b) Clarification of Authority and Responsibility

The process of budgeting makes it necessary to clarify the responsibilities of each Manager who has a budget. The adoption of a budget authorises the plans contained within it so that management by exception can be practiced, i.e. a subordinate is given a clearly defined role with the authority to carry out the tasks assigned to him and when activities are not proceeding to plan, the variations are reported to a higher level. Thus the full budgetary process is an excellent example of management by exception in action.

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(d) Control

This aspect of budgeting is the most well known and is the aspect most frequently encountered by the ordinary staff member. The process of comparing actual results with planned results and reporting on the variations, which is the principle of budgetary control, sets a control framework which helps expenditure to be kept within agreed limits. Deviations are noted so that corrective action can be taken.

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THE BUDGET PERIOD

Planning and therefore budgeting must be

related to a specific period of time. The

general process of budgeting breaks down

long range plans and objectives prepared for,

say, the next five years into shorter, operation

periods invariably of one year. Typically

these are subdivided into monthly periods for

the purpose of monitoring and control.

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Budgets can be prepared for any length of time and longer periods may be appropriate for particular types of budget. For example, a research and development budget may be prepared for the next three years because the longer term nature of the activity makes yearly budgets less appropriate. Because of rapidly changing conditions many organisations review and modify their budgets on a rolling basis. Typically, each quarter or half year, budgets are reviewed for the following twelve months. This process is known as continuous or rolling budgeting.

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An Outline of Budgetary Process

OrganisationalObjectives and

Long Rangeplans

Past Result andPerformance

Internal Date onCapacities,

Resources, etc.

External Data,Economic Trends,

Indices, MarketResearch

Notes:

1. The Budget Committee is given responsibility for the task of developing and coordinating budget. The membership varies between organisations but usually comprises people from various functions of the company. The committee would be serviced by the Budget Officer, usually the Accountant. His responsibility is to administer the budget when agreed and to provide technical assistance and data during the budget preparation. The budget planning process takes place prior to the budget period and where budgets are prepared on a rolling basis, budget planning is a regular continuous activity. . .

Budget Committee

Derive Key Forecast

See Note 1

See Note 2

Prepare “quantity”Budgets withAppropriateManagers

BUDGETARY PLANNING

See Note 3

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Amend if Necessary

2. An essential preliminary to making plans and budgets is to prepare forecasts. Forecast is a prediction of future events which are expected to happen, whereas a budget is a planned series of actions to achieve a given result. Invariably the primary forecast, from which much of the subsequent planning derives, is the sales forecast. Forecasting is a large and complex field frequently involving advanced statistical and mathematical techniques.

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Check Feasibility &Adherence to

Policies ofQuantity Budgets

Produce e Financial budgets

3. These steps comprise the bulk of the planning process. Coordination and communication Produce Master Budget between functions is essential to ensure interlocking, feasible budgets which accord to company policies and objectives. Many of these steps need to be repeated during the budget development as inconsistencies become apparent. The testing of one budget against Submit Budgets to Chief Executive for Approval/Amendment another for feasibility and practicability is a key element in coordinating the budget process.

Produce Master Budget

See Note 3

BUDGETARY PLANNING

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4. The Budget comprising the individual departments and functional budgets and the Master Budget, is submitted to the Chief Executive or the Board of Directors for examination and approval after any. Publish Agreed Budgets for Ensuing Period revisions thought necessary. When approved, the budget becomes an executive order and shows for each budget centre an approved plan of action together with an appropriate level of expenditure . (A budget budgetary control centre is a section of the organisation so designated for budget purposes. It may be a cost centre, a group of cost centres or a department. It will be the responsibility of a designated person, the budget holder).

Submit Budgets toChief Executive for

Approval/Amendment

Publish Agreed BudgetsFor Ensuing Period

Recording of Actualresults

5. The agreed budgets are published and distributed to all the budget holders and budget centres. In this way budgets serve as a means of communicating plans and objectives downwards. In addition, that part of budgetary process concerned with monitoring results known as Actual/Budget Comparison & Identification of Variances budgetary control, provides upward feedback on the progress made towards meeting plans.

Actual/Budget Comparisonand

Identification of Variances

Reporting to BudgetHolders and Senior

Management

6 These are the main stages in budgetary control. They take place after the actual events, usually Reporting to Budget Holders & Senior Management on a monthly basis. Speedy production of budgetary control statements and immediate investigation of revealed variances provide the best basis for bringing operations into line with the plan, or where there have been substantial changes in circumstances, making agreed alterations to the plan.

.

See Note 6

See Note 5

See Note 4

BUDGETARY CONTROL

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7. The investigations into the variances and their causes provide the link between budgetary control and budgetary planning. The experience of operations, levels of performance and difficulties are fed to the budget committee so that the planning process is continually refined.

Variance Investigation

Developing Solutions toProblems Revealed by

Budgetary Control

See Note 7

BUDGETARY CONTROL

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THE INTERELATIONSHIP OF BUDETS

Notes:

(a) There are many more relationships than depicted, for example, the capital expenditure budget depends on various factors such as the level and type of sales, the usage of machinery, the overall long-term objectives of the organisation, etc.

(b) Only the main functional budgets are shown. Invariably these are broken down into departmental budgets for day-to-day control process.

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(c) Because of the importance of liquidity and cash flow the cash budget frequently receives special attention.

(d) All supporting budgets contribute to the Master Budget I.e. the budgeted Operation Statement (for Profit and Loss Account) and budgeted Balance Sheet. In general, the Sales Budget and the various budgets which make up the cost of sales, e.g. material usage, wages, salaries, overheads and so on are used to produce the budgeted Operating Statement and the budgets which deal with assets and liabilities, e.g. capital expenditure, cash, stock, stock, debtors and creditors and so on make up the budgeted Balance Sheet.

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Naturally, there are cross relationships

between them. For example, the Capital

Expenditure Budget affects the amount of

Fixed Assets (balance sheet item) bit also

affects the budgeted Operating Statement

through the depreciation charges for the new

assets.