budgeting process [cost & management accounting]
TRANSCRIPT
1
Budgeting
Planning for Future Success Through
Effective Resource Allocation
2
Budgets
Quantitative and/or financial plans
Should focus activities/resources on goals
“What do we need to accomplish the goal?”
Not “How much are we allowed to spend?”
Focus should be on overall organizational goals, not local goals
3
Linking Operations to Strategy
Business
Strategy
Product,
Market
Strategies
Multi-Year
Profit
plans
Long-Term
Capital
Budgets
Annual
Operating
Budgets
Variance
Analysis
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Annual Budget Process
Begins with a review of strategy, goals for the
coming year
SWOT analysis
Respond to SWOT
Updating multiyear product/profit plans
Set budget targets
Communicate goals/assumptions to lower levels
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Annual Budget Process
Budget process flows from the top down to
lower levels
Organizational goals must be determined
The goals are achieved through activities
Those activities must be supported with resources
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Annual Budget Process
Prepare operating (activity) budgets
Organizational goal, typically the sales budget, is communicated to lower levels
Process of estimating the resources needed to achieve the sales goal begins
Materials, labor, overhead, administrative, etc.
Trickle down process
Each area must estimate the resources needed to support the area above
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Annual Budget Process
Sales Budget
Production Budget
Materials
Budget
Overhead
Budget
Labor
Budget
Cash
Budget
Pro-Forma
Financial
Statements
S&A
Budget
Capital
Budget
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Annual Budget Process
At the departmental level
Goals determine the activities to be conducted
The activities determine the resources required
Activity-based costing is very helpful
Focus should be on resources required, not on the cost of the resources
Cost should be determined by accounting, other areas
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Annual Budget Process
Consolidate individual budgets into master
budget
Prepare cash flow budget
Prepare pro forma financial statements
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Annual Budget Process
Review and approve
Review for consistency with goals
Revise if necessary
Approve budget after final revisions
Communicate to operating units
Release resources
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Properties of a Good Budget Process
Should provide a common framework for
discussion of objectives and strategies
Documents the operational plan to achieve
the goals
Provides for an appropriate allocation of
resources
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Properties of a Good Budget
Process
Proactive, not reactive
Budget must be tied to strategy
Budget should be a plan for the attainment of needed resources, not for limiting amounts that can be spent
Critical success factors must receive adequate funding, regardless of financial condition
Improves allocation of resources
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Properties of a Good Budget Process
Should be collaborative, with free flow of
information
Strategy, goals come from above
Upper management has better understanding of
strategy
Resource requirements come from lower levels,
based on assigned objectives
Operating managers have better understanding of
resource needs
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Properties of a Good Budget Process
Budget should help develop process understanding
What is done, and why?
Understand the interdependencies among activities
Identify resource drivers
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Properties of a Good Budget Process
Focus on resources needed, not cost
Operating managers should identify the quantities
of resources needed
Accounting should translate into monetary amounts
Managers may not know the cost of the resources
requested
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Properties of a Good Budget Process
Budget should not be a reward/penalty
system
Achievement of organization-wide goals must take
precedence over empire-building
Appropriate funding of activities is more important
than rewarding past success or penalizing past
failures
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Properties of a Good Budget Process
Recognizes that planning, control, and evaluation are different, require different tools
Original budget is a plan for operations
Actual operations may deviate from plan, either intentionally or unintentionally
Usually cannot be used effectively for evaluation of results
Control and evaluation require “apples to apples” comparison
Flexible budget
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Properties of a Good Budget Process
Goals should be reasonable, attainable
Overly ambitious goals are detrimental
System can only produce to its capabilities
Negative impact on employees
“Stretch goals” are fine if attainable, and
resources are provided
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Properties of a Good Budget Process
Should seek to minimize game playing
Padding the budget
Overestimation of resource needs
Results in misallocation of resources
Budget slack
Underestimating achievable goals
Goals are easily achieved
May not reach desired level of achievement
Surpassing goals may strain other areas
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Properties of a Good Budget Process
The budget should not be an end in itself
Budget should be used to guide operations
Avoid institutionalized budgeting
Mechanical, little thought given to the process
Lacks relevance to organization’s plan or problems
Serves no purpose other than to keep employees busy during budget preparation season
Okay to adjust prior year budget for expected changes
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Budgets for Performance Evaluation
“Static” budget is of little use
Conditions may change, requiring deviation from
original plans
Pointless to compare initial plan to final results
when determining appropriateness of resource
use
Given what was achieved, what resources should have
been consumed?
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Budgets for Performance Evaluation
Flexible budget is better for control, evaluation
Sets milestones
Can be tailored to actual operating results
Variances have more meaning when determining whether resource use was efficient or not
Still want explanations for deviations from plan
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Budgets for Performance Evaluation
Variances
Quantity variances
Evaluate reasonableness of the amount of resources
consumed given the output achieved
Price variances
Evaluate the cost of the resources consumed
Both are needed for adequate understanding of
results
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Budgets for Performance Evaluation
Evaluations must be done carefully
Budgets are based on estimates, guesses,
assumptions and lies
Actual results are based on reality