Description
explains Budgetary Control. A budget is a plan expressed in quantitative, usually monetary terms, covering a specific period of time, usually one year. In other words, a budget is a systematic plan for the utilisation of manpower and material resources
INTRODUCTION
A budget is a plan expressed in quantitative, usually monetary terms, covering a specific period of time, usually one year. In other words, a budget is a systematic plan for the utilisation of manpower and material resources. In a business organisation a budget represents an estimate of future costs and revenues. Budgets may be divided into two basic classes : Capital Budgets and Operating Budgets. Capital budgets are directed towards proposed expenditure for new projects and often require special financing (this topic is discussed in the next unit).The operating budgets are directed towards achieving short term operational goals of the
organisation, for instance, production or profit goals in a business firm. Operating budgets may be sub-divided into various departmental or functional budgets. Budgeting is the course involved in the preparation of budget of an activity.
Budgetary Control:Budgetary control contains two different processes one is the preparation of the budgetand another one is the control of the prepared budget.
According toJ.Batty"Budgetarycontrolisasystemwhichusesbudgetsasameansofplanning and controlling all aspects of producing and/ or selling commodities and services.
DEFINATION:
Budget is defined as a? financial and /or quantitative statement, prepared and approved prior to adefined Period of time of the policy to be pursued during that period for the purpose of attaining agiven objective. It may include income, expenditure and employment of capital? Budgetary Control is defined as "the establishment of budgets, relating the responsibilities of executives to the requirements of a policy, and the continuous comparison of actual with budgeted results either to secure by individual action the objective of that policy or to provide a base for its revision?
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The main characteristics of a budget are:
? ? ? ? Objectives: Determining the objectives to be achieved, over the budget period, and the policy (ies) that might be adopted for the achievement of these ends. Activities: Determining the variety of activities that should be undertaken for achievement ofthe objectives. Plans: Drawing up a plan or a scheme of operation in respect of each class of activity, in physical a well as monetary terms for the full budget period and its parts. Performance Evaluation: Laying out a system of comparison of actual performance by each person section or department with the relevant budget and determination of causes for the discrepancies, if any. ? Control Action: Ensuring that when the plans are not achieved, corrective action are taken?and when corrective actions are not possible, ensuring that the plans are revised and achieve budgetary control. ? ? ? Futuristic :It is prepared in advance and is derived from the long term strategy of the organisation Financial and/or Quantitative Statement: It is expressed in quantitative from, physical or monetary units, or both. . Components - Income, Expenditure and Employment of Capital
Different types of budgets are prepared for different purposes e.g. Sales Budget. Production Budget, Administrative Expense Budgets, Raw-material Budget, etc. All these sectional budgets are afterwards integrated into a master budget which represents an overall plan of the organisation.
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The objectives of a Budgetary Control System are :
An effective budgeting system plays a crucial role in the success of a business organization. The budgeting system has the following objectives, which are of paramount importance in the overall efficiency and effectiveness of the business organization. These objectives are discussed below. Planning: Planning is necessary for doing any work in a systematic manner. A well- prepared plan helps the organization to use the scarce resources in an efficient manner and thus achieving the pre- determined targets becomes easy. A budget is always prepared for future period and it lays down targets regarding various aspects like purchase, production, sales, manpower planning etc. This automatically facilitates planning. Co-ordination: For achieving the predetermined objectives, apart from planning, coordinated efforts are required. Budgeting facilitates coordination in the sense that budgets cannot be developed in isolation. For example, while developing the production budget, the production manager will have to consult the sales manager for sales forecast and purchase manager for the availability of the raw material. Production budget cannot be developed in isolation. Similarly the purchase and sales budget as well as other functional budgets like cash, capital expenditure, manpower planning etc cannot be developed without considering other functions. Hence the coordination is automatically facilitated. Control: Planning is looking ahead while controlling is looking back. Preparation of budgets involves detailed planning about various activities like purchase, sales, production, and other functions like marketing, sales promotion, manpower planning. But planning alone is not suf? cient. There should be a proper system of controlling which will ensure that the work is progressing as per the plan. Budgets provide the basis for such controlling in the sense that the actual performance can be compared with the budgeted performance. Any deviation between the two can be found out and analyzed to ascertain the reasons behind the deviation so that necessary corrective action can be taken to rectify the same.
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Budgeting helps immensely in controlling function in the following manner. 1. Definition of Goals: Portraying with precision, the overall aims of the business and determining targets of performance for each section or department of the business. 2. Defining Responsibilities: Laying down the responsibilities of each individual so that everyone knows what is expected of him and how he will be judged. 3. Basis for Performance Evaluation: Providing basis for the comparison of actual performance with the predetermined targets and investigation of deviation, if any, of actual performance and expenses from the budgeted figures. It helps to take timely corrective measures. 4. Optimum use of Resources: Ensuring the best use of all available resources to maximize profit or production, subject to the limiting factors. 5. Co-ordination: Coordinating the various activities of the business and centralizing control, but also making a facility for the Management to decentralize responsibility and delegate authority. 6. Planned action: Engendering a spirit of careful forethought, assessment of what is possible and an attempt at it. It leads to dynamism without recklessness. It also helps to draw up long range plans with a fair measure of accuracy. 7. Basis for policy: Providing a basis for revision of current and future policies
Benefits or advantages of budget control system: A budget helps in the following ways:
? ? It brings about efficiency and improvement in the working of the organisation. It is a way of communicating the plans to various units of the organisation. By establishing the divisional, departmental, sectional budgets, exact responsibilities are assigned. It thus minimizes the possibilities of buck-passing if the budget figures are not met.
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? ? ? ?
It is a way of motivating managers to achieve the goals set for the units. It serves as a benchmark for controlling on-going operations. It helps in developing a team spirit where participation in budgeting is encouraged. It helps in reducing wastage's and losses by revealing them in time for corrective action. Effective utilization of various resources like-men, material, machinery and money is made possible, as the production is planned after taking them into account
? ? ?
It serves as a basis for evaluating the performance of managers. It reveals the deviations to management, from the budgeted figures after making a comparison with actual figures It serves as a means of educating the managers. It is a powerful instrument used by business houses for the control of their expenditure. It infact provides a yardstick for measuring and evaluating the performance of individuals and their departments.
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It helps in the review of current trends and framing of future policies
The disadvantages/limitations of the budgetary control system: 1. Estimates: Budgets may or may not be true, as they are based on estimates. The assumptions about future events may or may not actually happen. 2. Rigidity: Budgets are considered as rigid document. Too much emphasis on budgets may affect day-today operations and ignores the dynamic state of organizational functioning. 3. False Sense of Security: Mere budgeting cannot lead to profitability. Budgets cannot beexecuted automatically. It may create a false sense of security that everything has been taken care of in the budgets. 4. Lack of co-ordination: Staff co-operation is usually not available during Budgetary Control exercise. 5. Time and Cost: The introduction and implementation of the system may be expensive.No system of planning can be successful without having an effective and efficient system of control. Budgeting is closely connected with control. The exercise of control in the organisation with the help of budgets is known as budgetary control.
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Process of budgetary control: The process of budgetary control includes ? ? ? preparation of various budgets continuous comparison of actual performance with budgetary performance and revision of budgets in the light of changed circumstances.
A system of budgetary control should not become rigid. There should be enough scope for flexibility to provide for individual initiative and drive. Budgetary control is an important device for making the organisation more efficient on all fronts. It is an important tool for controlling costs and achieving the overall objectives. Installing A Budgetary Control System Having understood the meaning and significance of budgetary control in an organisation, it will be useful for you to know how a budgetary control system can be installed in the organization.
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. This requires first of all, finding answers to the following questions in the context of an organisation: What is likely to happen? What can be made to happen? What are the objectives to be achieved? What are the constraints and to what extent their effects can be minimized? Having found answers to the above questions, the following steps may be taken for installing an effective system of budgetary control in an organization. Organisation for Budgeting The setting up of a definite plan of organisation is the first step towards installing budgetary control system in an organisation. A, Budget Manual should be prepared giving details of the powers, duties, responsibilities and areas of operation of each executive in the organisation. Different steps in preparation of budget Definition of objectives – A budget being a plan for the achievement of certain operational objectives, it is desirable that the same are defined precisely. The objectives should be written out? the areas of control demarcated? and items of revenue and expenditure to be covered by the budget stated. This will give a clear understanding of the plan and its scope to all those who must cooperate to make it a success. Appointment of controller – Formulation of a budget usually required whole time services of asenior executive? he must be assisted in this work by a Budget Committee, consisting of all the heads of department along with the Managing Director as the Chairman. The Controller is responsible for co-ordinating and development of budget programmes and preparing the manual of instruction, known as Budget manual. The Budget manual is a schedule, document or booklet which shows, in written forms the budgeting organization and procedures. The manual should be well written and indexed so that a copy thereof may be given to each departmental head for guidance.
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Budget Period – The period covered by a budget is known as budget period. There is no general rule governing the selection of the budget period. In practice the budget committee determines the length of the budget period suitable for the business. Normally, a calendar year or a period coterminous with the financial year is adopted. The budget period is then sub-divided into shorter periods-it may be months or quarters or such periods as coincide with period of trading activity. Standard of activity or output – For preparing budgets for the future, past statistics cannot be completely relied upon, for the past usually represents as combination of good and bad factors. Therefore, though results of the past should be studied but these should only be applied when there is a likelihood of similar conditions repeating in the future. Also, while setting the targets for the future, it must be remembered that in a progressive business, the achievement of a year must exceed those of earlier years. Therefore what was good in the past is only fair for the current year. Responsibility for Budgeting The responsibility for preparation and implementation of the budgets may be fixed as under: Budget Controller Although the Chief Executive is finally responsible for the budget programme, it is better if a large part of the supervisory responsibility is delegated to an official designated as Budget Controller or Budget Director. Such a person should have knowledge of the technical details of the business and should report directly to the President of the Chief Executive of the organisation. Budget Committee The Budget Controller is assisted in his work by the Budget Committee. The Committee may consist of Heads of various departments, viz., Production, Sales Finance, Personnel, Purchase, etc. with the Budget Controller as its Chairman. It is generally the responsibility of the Budget Committee to submit, discuss and finally approve the budget figures. Each head of the department should have his own Subcommittee with executives working under him as its members.
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Fixation of the Budget Period `Budget period' means the period for which a budget is prepared and employed. the budget period depends upon the nature of the business and the control techniques. For example, a seasonal industry will budget for each season, while an industry requiring long periods to complete work will budget for four, five or even larger number of years. However, it is necessary for control purposes to prepare budgets both for long as well as short periods. Budget Procedures Having established the budget organisation and fixed the budget period, the actual work or budgetary control can be taken upon the following pattern: Key Factor It is also termed as limiting factor. The extent of influence of this factor must first be assessed in order to ensure that the budget targets are met. It would be desirable to prepare first the budget relating to this particular factor, and then prepare the other budgets. We are giving below an illustrative list of key factors in certain industries. Industry-Key factor Motor Car - Sales demand Aluminum- Power Petroleum Refinery- Supply of crude oil Electro-optics -Skilled technicians Hydel power generation -Monsoon The key factors should be correctly identified and examined. The key factors need not be of a permanent nature. In the long run, the management may overcome the keyfactors by introducing new products, by changing material mix or by working overtime or extra shifts etc.
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Making a Forecast A forecast is an estimate of the future financial conditions or operating results. Any estimation is based on consideration of probabilities. An estimate differs from a budget in that the latter embodies an operating plan of an organisation. A budget envisages a commitment to certain objectives or targets, which the management seeks to attain on the basis of the forecasts prepared. A forecast on the other hand is an estimate based on probabilities of an event. A forecast may be prepared in financial or physical terms for sales, production cost, or other resources required for business. Instead of just one forecast a number of alternative forecasts may be considered with a view to obtaining the most realistic, overall plan. Preparing Budgets After the forecasts have been finalized the preparation of budgets follows. The budget activity starts with the preparation of the sales budget. Then production budget is prepared on the basis of sales budget and the production capacity available. Financial budget (i.e. cash or working capital budget) will be prepared on the basis of sales forecast and production budget. All these budgets are combined and coordinated into a master budget. The budgets may be revised in the course of the financial period if it becomes necessary to do so, in view of the unexpected developments, which have already taken place or are likely to take place. Choice Between Fixed and Flexible Budgets A budget may be fixed or flexible. A fixed budget is based on a fixed volume of activity. It may lose its effectiveness in planning and controlling if the actual capacity utilisation is different from what was planned for any particular unit or time e.g. a month or a quarter, The flexible budget is more useful for changing levels of activity as it considers fixed and variable costs separately. Fixed costs, as you are aware, remain unchanged over a certain range of output. Such costs change when there is a change in capacity level. The variable costs change in direct pro-portion to output. If 'flexible budgeting approach is adopted, the budget controller can analyze the variance between actual costs and budgeted costs depending upon the actual level of activity attained during a period of time. This will be explained in detail a little later.
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Fixed Budget
When a budget is prepared by assuming a ?xed percentage of capacity utilization, it is called as a ?xed budget. For example, a firrm may decide to operate at 90% of its total capacity and prepare a budget showing the projected pro?t or loss at that capacity. This budget is defined by The Institute of Cost and Management Accountants [U.K.] as ?the budget which is designed to remain unchanged irrespective of the level of activity actually attained. It is based on a single level of activity.‘ For preparation of this budget, sales forecast will have to be prepared along with the cost estimates. Cost estimates can be prepared by segregating the costs according to their behavior i.e. fixed and variable. Cost predictions should be made element wise and the projected profit or loss can be worked out by deducting the costs from the sales revenue. Actually in practice, fixed budgets are prepared very rarely. The main reason is that the actual output differs from the budgeted output signi?cantly. Thus if the budget is prepared on the assumption of producing 50, 000 units and actually the number of units produced are 40, 000, the comparison of actual results with the budgeted ones will be unfair and misleading. The budget may reveal the difference between the budgeted costs and actual costs but the reasons for the deviations may not be pointed out. A fixed budget may be prepared when the budgeted output and actual output are quite close and not much deviation exists between the two. In such cases, maximum control can be exercised between the budgeted performance and actual performance.
Flexible budget:
A flexible budget is defined as ?a budget which, by recognizing the difference between fixed, semi-variable and variable costs is designed to change in relation to the level of activity attained?. A fixed budget , on the other hand is a budget which is designed to remain unchanged irrespective of the level of activity actually attained. In a fixed budgetary control, budgets are prepared for one level of activity whereas in a flexible budgetary control system, a series of budgets are prepared one for each of a number of alternative production levels or volumes. Flexible budgets represent the amount of expenses that is reasonably necessary to achieve each level of output specified. In other words, the allowances given under flexible budgetary control system serve as standards of what costs should be at each level of output.
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Flexible budget is prepared for any level of production as an estimate of statement of all expenses i-e the expenses are classified into three categories viz variable, semi-variable and fixed expenses. The structure of the budget for any output is only to the tune of the actual performance achieved. This is the budget facilitates not only to have comparison in between various levels of production but also to identify the level of lowest production cost.
Need: The need for the preparation of the flexible budgets arises in the following circumstances: 1. It is mostly suited to the seasonal business, where the sales volume is getting differed from one period to another due to changes taken place in the taste and preferences of the buyers. For example in soft drinks industry? 2. A company which keeps on introducing new products or makes changes in the design of its products frequently. 3. An industry which is influenced by changes in fashion? and general changes in sales. 4. The production is being done on the basis of demand of the products in the market. The demand of the products is studied only through demand forecasting. The flexible budget is more applicable in the case of products, which are greatly finding difficult to forecast the demand.
Fixed cost: A fixed cost is a cost that does not change depending on production or sales levels. The cost of running a business is called operating cost. There are two groups of operating coststhe variable cost and the fixed cost. The fixed costs are incurred on a routine basis, regardless of the volume of the business. Examples of fixed costs are depreciation, insurance, interest, rent, salaries, and wages. Fixed costs incurred by the company are unrelated to fluctuations in productivity or sales. In practice all costs vary over a period of time, indicating that no costs are purely fixed cost. The concept of fixed costs is necessary for short term cost accounting. Though the fixed costs are characterized by regular payments, it does mean it has fixed price. For example the RENT OF THE PREMISES is a fixed expense. The firms with high fixed costs differ from those of with high variable costs. The difference affects the financial structure of the company. It also affects the pricing and profits of the company. A high level of fixed costs increases the operational gearing i.e. the relationship between the sales and the operating profits.
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The unchanging nature if fixed costs may prove to be beneficial for companies with increasing levels of revenue. The fixed costs allow for quicker marginal profitability at high productivity levels. However for the companies who cannot generate more revenue, fixed costs may be debilitating. Variable costs : Variable costs are expenses that are directly proportional to the level of business activity such as production volume or sales — they increase or decrease as a direct result of increases or decreases in sales or production. A manufacturing-based company,
examples of variable costs include raw materials, packaging, and production incentive bonuses. In a retail company variable costs include sales commissions, inventory purchased for resale, and packaging. These types of expenses are called the cost of goods sold, and are always considered to be variable costs. Variable costs are expenses that change in proportion to the activity of a business.[1]Variable cost is the sum of marginal costs over all units produced. It can also be considered normal costs. Fixed costs and variable costs make up the two components of total cost. Direct Costs, however, are costs that can easily be associated with a particular cost object.However, not all variable costs are direct costs. For example, variable manufacturing overhead costs are variable costs that are indirect costs, not direct costs. Variable costs are sometimes called unit-level costs as they vary with the number of units produced.
Semi-variable cost: Semi-variable cost is an expense which contains both a fixedcost component and a variable-cost component. The fixed cost element shall be a part of the cost that needs to be paid irrespective of the level of activity achieved by the entity. On the other hand the variable component of the cost is payable proportionate to the level of activity. Cost of energy, such as electricity, is a good example as it is integral to production of goods and services. This component straddles both the fixed and variable universe because electrical power is essential for the basic operation of the business in lighting and heating – this portion is a sunk cost that is foregone regardless of production. As demand ramps up, more energy is required to ramp up the production process in the use of machinery or large banks of computers for instance. Cost of electrical energy will then rise accordingly as production activities increase. Therefore, the cost of electricity can be viewed as semi-variable.
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Illustration No. 1:
The expenses for budgeted production of 10,000 units in a factory are furnished below .prepare a budget for production .
Particulars Material Labour Variable overheads Fixed overheads (1,00,000) Variable expenses (Direct) Selling expenses (10% fixed) Distribution expenses(20% fixed) Administration expenses(Rs.50,000) Total cost per unit
Per unit 70 25 20 10 5 13 7 75 155
Prepare a budget for a production of 8,000 units 6,000 units Also calculate the cost per unit at both the levels. Assume that administration expenses are fixed for all level of production.
Solution:
Selling expenses (Rs. 13p.u) 10% fixed -1.3 90% variable-11.7 Distribution expenses (Rs7p.u) 20% fixed 1.4 80% variable 5.6
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Flexible Budget
For 10,000 units
For 8,000 units
For 6,000 units
Particulars
Per Unit Rs
Amount Rs
Per Unit Rs
Amount Rs
Per Unit Rs
Amount Rs
Variable expenses ? ? ? ? ? ? Material Labor Overheads Direct Variable expenses Selling Expenses Distribution Expenses Total variable expenses(A) 137.3 13,73,000 137.3 10,98,400 137.3 8,23,800 11.7 5.6 1,17,000 56,000 11.7 5.6 93,600 44,800 11.7 5.6 70,200 33,600 70 25 20 5 7,00,000 250,000 2,00,00 50,000 70 25 20 5 5,60,000 2,00,000 1,60,000 40,000 70 25 20 5 4,20,000 1,50,000 1,20,000 30,000
Fixed expenses ? ? ? ? Fixed Overheads Selling Expenses Distribution Expenses Administration Expenses Total fixed cost (B) TOTAL COST(A+B) 17.7 155 1,77,000 15,50,000 22.125 159.425 1,77,000 12,75,400 29.5 166.8 1,77,000 10,00,800 5 50000 6.25 50,000 8.33 50,000 10 1.3 1.4 1,00,000 13,000 14,000 12.5 1.625 1.75 1,00,000 13,000 14,000 16.67 2.17 2.33 1,00,000 13,000 14,000
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Illustration No. 2:
A manufacturing company is currently working at 50% capacity and produces 10, 000 units at a cost of Rs.180 per unit as per the following details. Materials: Rs.100 Labor: Rs.30 Factory Overheads: Rs.30 [40% fixed] Administrative Overheads: Rs.20 [50% fixed] Total Cost Per Unit: Rs.180 The selling price per unit at present is Rs.200. At 60% working, material cost per unit increases by 2% and selling price per unit falls by 2%. At 80% working, material cost per unit increases by 5% and selling price per unit falls by 5%. Prepare a Flexible Budget to show the pro?ts / losses at 50%, 60% and 80% capacity utilization
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Solution:
Particulars Capacity Utilization 50% Capacity Utilization 60% Capacity Utilization 80%
A] Number of Units
10, 000
12, 000
16, 000
B] Selling Price Per Unit C] Variable Cost Per Unit • Direct Material • Direct Labor • Factory Overheads [60%] • Administrative Overheads [50%] D] Total Variable Cost Per Unit E] Total Variable Cost [A X D] F] Fixed Costs G] Total Cost [E + F] H] Sales Revenue [A X B] I] Profits/Losses [H – G]
200
196
190
100 30 18
102 30 18
105 30 18
10 158
10 160
10 163
15,80,000
19, 20, 000
26, 08, 000
2, 20, 000 18, 00, 000 20, 00, 000
2, 20, 000 21, 40, 000 23, 52, 000
2, 20, 000 28, 28, 000 30, 40, 000
2, 00, 000
2, 12, 000
2, 12, 000
Fixed cost: [Rs.12 + Rs.10 = Rs.22 per unit at existing level of 10, 000 units.]
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Functional budget
Functional budget – A functional budget is one which is related to function of the business as for example, production budget relating to the manufacturing function. Functional budgets are prepared for each function and they are subsidiary to the master budget of the business. The various types of functional budgets to be prepared will vary according to the size and nature of the business. The various commonly used functional budgets are: 1. Sales budget 2. Production budget 3. Production cost budget 4. Cash budget 5. Budget Summaries / master budget – budgeted income statement and Budgeted balance sheet.
Sales Budget
Sales Budget generally forms the fundamental basis on which all other budgets are built. The budget is based on projected sales to be achieved in a budget period . The Sales Manager is directly responsible for the preparation and execution of this budget. He usually takes into consideration the following organizational and environmental factors while preparing the sales budget: Organisational factors ? Past sales figures and trends ? Salesmen's estimates ? Plant capacity ? Orders on hand ? Proposed expansion or ? discontinuation of products ? Availability of material or supplies ? Financial aspect Environmental Factors ? General trade prospects ? Seasonal fluctuations ? Potential market ? Degree of competition ? Government controls, rules and regulations relating to the industry Political situation and its impact on market
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It is desirable to break up the entire sales budget on the basis of different products, time periods and sales areas or territories The functional budgets are prepared for each function of the organization. These budgets are normally prepared for a period of one year and then broken down to each month.
The following factors are taken into consideration while preparing a sales budget.
Analysis of past sales: Analysis of sales for the last 5-10 years will provide valuable information like the long term trend, seasonal trends, cyclical ? uctuations and other relevant information like customer preference analysis, shift in demand, competition and other environmental factors. This information can be used to predict the likely future demand of the product. Estimates given by the sales staff: Sales staff of the business organization works in the ?eld and hence they know the market situation very well. They have very close interaction with the market and are in a better position to know the demand pattern and other such trends. However, care is to be taken that the subjective element in the sales estimates given by the sales staff should be eliminated to arrive at a realistic sales forecast. Market Potential Analysis: Marketing Research helps any business organization to collect the data regarding markets, demand pattern, customer preferences, market potential and other factors like economic factors and environmental factors. From this analysis, market potential can be worked out which will be used in the sales budget. Dependent Factor: Demand of a product is dependent upon certain factors. For example, the demand for petrol and diesel is dependent on the number of vehicles plying though the roads. Analysis of such dependent factor will help to prepare the sales forecast which can be used in the sales budget. A business ?rm can use any of the above methods or a combination of the above methods to prepare sales forecast and incorporate the same in the sales budget.
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Illustration No. 3:
Rampal company manufactures two products, A and B. Its sales department has three area Divisions, North, East and South. Preliminary sales budgets for the year ending 31st March 2007, based on the assessment of the divisional managers were as follows. Product A: North 2,00,000 units, South 5,50,000 units and East 1,00,000 units Product B: North 3,00,000 units, South 4,00,000 units and East Nil Sale price: A Rs.4 and B Rs.3 in all areas. Arrangements are made for the extensive advertising of Products A and B and it is estimated that the North division sales will increase by 1,00,000 units. Arrangements are also made to advertise and distribute product in Eastern area in the second half of the year 2006-07 when sales are expected to be 5,00,000 units. Prepare a revised sales budget for the year ended 31st March after taking into consideration the above mentioned adjustments.
Solution: Sales budget for the year ended 31st March
Area North Quantity 3, 00, 000 Price 4 Value 12,00,00 0 South 5, 50, 000 4 22,00,00 0 East Total 1, 00, 000 4 4,00,000 38,00,00 0 East Total 5,00,000 3 15,00,000 40,20,00 South 4,40,000 3 13,20,000 Area North Quantity 4,00,000 Price 3 Value 12,00,000
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Illustration no.4
AB Ltd. manufactures two products, A and B and sells them through two divisions, north and south. Budgeted Sales for the current year were, Product A : north 4,000 units @ Rs.9 each, south 6,000 units @ Rs.9 each Product B : north 3,000 units @ Rs.21 each, south 5,000 @ Rs.21 each Actual sales for the current year were, Particulars Product A Product B North 5,000 units @ Rs.9 each 2,000 units @ Rs.21 each South 7,000 units @ Rs.9 each 4,000 units @ Rs.21 each
Adequate market studies reveal that Product A is popular but under priced. It is observed that if the price of A is increased by Re.1 it will still find a ready market. On the other hand, B is overpriced to customers and the market could absorb more if sales price of B is reduced by Re.1. The management has agreed to give effect to the above price changes. The following estimates have been prepared by divisional managers. Percentage increase in sales over current budget is, Particulars Product A Product B North + 10% + 20% South + 5% + 10%
With the help of an intensive advertisement campaign, the following additional sales over the estimated sales of divisional managers are possible. Additional sales above the estimated sales of divisional managers Particulars Product A Product B North 600 400 South 700 500
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Solution:
Division
Sales Budget of AB Co Ltd Budgeted For Future Period 5,000 units @ Rs.10 = Rs.50000 4,000 units @ Rs.20 = Rs.80000 9000 units Rs.1,30,000 Budgeted For Current Period 4000 units @ Rs.9 = Rs.36000 3000 units @ Rs.21 = Rs.63000 7,000 units Rs.99000 Actual Sales For Current Period 5000 units @ Rs.9 = Rs.45000 2000 units @ Rs.21 = Rs.42000 7000 units Rs.87000
Product North Product A
Product B
Total
Quantity Amount
South
Product A
7000 units @ Rs.10 = Rs.70000 6,000 units @Rs.20 = Rs.1, 20,000 13,000 units Rs.1, 90,000 12000 [email protected] Rs.1, 20,000 10000 units @Rs.20 = Rs.2, 00,000 22000 units Rs.3, 20,000
6,000 units @ Rs.9 = Rs.54000 5000 units @ Rs.21 =Rs.1, 05,000 11000 units Rs.1, 59,000 10000 units @ Rs.9 = Rs.90000 8000 units @ Rs.21 = Rs.1, 68,000 18000 units Rs.2, 58,000
7000 units @ Rs.9 = Rs63000 4,000 units @ Rs.21 = Rs.84000 11000 units Rs.1, 47,000 12000 units @Rs.9 = Rs.1, 08,000 6000 units @Rs.21 = Rs.1, 26,000 18000 units Rs.2, 34,000
Product B
Total
Quantity* Amount Product A
Total
Product B
Total
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Production Budget:
This budget shows the production target to be achieved in the next year or the future period. The production budget is prepared in quantity as well as in monetary terms. Before preparation of this budget it is necessary to study the principal budget factor or the key factor. The principal budget factor can be sales demand or the production capacity or availability of raw Material. The policy of the management regarding the inventory is also taken into consideration. The production budget is normally prepared for a period of one year and then broken down on Monthly basis. Production targets are decided by adding the budgeted closing inventory in the sales forecast and subtracting the opening inventory from the total of the same. Production Cost Budget is prepared by multiplying the production targets by the budgeted production cost per unit. The following illustration will clarify the concept.
Material Purchase Budget:
This budget shows the quantity of materials to be purchased during the coming year. For the preparation of this budget, production budget is the starting point if it is the key factor. If the raw material availability is the key factor, it becomes the starting point. The desired closing inventory of the raw materials is added to the requirement as per the production budget and the opening inventory is subtracted from the gross requirements. This budget is prepared in quantity as well as in the monetary terms and helps immensely in planning of the purchases of raw materials. Availability of storage space, financial resources, various levels of materials like maximum, minimum, re-order and economic order quantity are taken into consideration while preparing this budget. A separate material utilization budget may also be prepared as a preparation of material purchase budget.
Master Budget: All the budgets described above are called as ?Functional Budgets‘ that are
prepared for planning of the individual function of the organization. For example, budgets are prepared for Purchase, Sales, Production, Manpower Planning, and so on. A Master Budget which is also called as ?Comprehensive Budget‘ is a consolidation of all the functional budgets. It shows the projected Pro?t and Loss Account and Balance Sheet of the business organization.
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For preparation of this budget, all functional budgets are combined together and the relevant ?gures are incorporated in preparation of the projected Pro?t and Loss Account and Balance Sheet. Thus Master Budget is prepared for the entire organization and not for individual functions.
Illustration no 5:
(Sales, Production, Material Utilization and Material Purchase Budget)
R Ltd. manufactures three products, A, B and C. You are required to prepare for the month of January2008, the following budgets from the information given below.
i. ii. iii. iv.
Sales Budget in quantity and value Production Budget Material Utilization Budget Purchase Budget in quantity and value
Sales Forecast Product A B C Quantity 1000 2000 1500 Price Per Unit Rs.100 Rs.120 Rs.140
Materials Used in Company‘s Products Are, Material M1 Rs.4 per unit Material M2 Rs.6 per unit Material M3 Rs.9 per unit
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Quantities used in Product Product A B C M1 4 3 2 M2 2 3 1 M3 2 1
Finished Stocks Product Opening Inventoryunits A 1000 B 1500 C 500
Closing Inventory- units
1100
1650
550
Material Stocks Particulars Opening Stock [Units] M1 26000 M2 20000 M3 12000
Closing Stock [Units]
31200
24000
14400
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SOLUTION: Sales Budget Particulars Product A Product B Product C Total
Units Selling Price Per Unit [Rs.] Sales Value [Rs]
1000 100
2000 120
1500 140
-
100000
240000
210000
550000
Production Budget- in Units Particulars Sales Forecast Add: Expected Closing Stock Gross Requirement Less: Opening Stock Net Production Requirement 2100 1000 1100 3650 1500 2150 2050 500 1550 Product A 1000 1100 Product B 2000 1650 Product C 1500 550
Material Utilization Budget Budgeted Production M1 Units M2 Units M3 Units
A: 1100 units B: 2150 units C: 1550 units
1100 * 4= 4400 2150 * 3= 6450 1550 * 2= 3100
1100 * 2= 2200 2150 * 3= 6450 1550 * 1= 1550
2150 * 2= 4300 1550 * 1= 1550
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Material Purchase Budget Particulars Requirement as per Material Utilization Budget [units] M1 13950 M2 10200 M3 5850 TOTAL 30000
Add: Closing Stock [units] Total Requirements Less: Opening Stock [units] Required Purchases [units] Unit Cost [Rs] Purchase Cost [Rs]
31200
24000
14400
69600
45150
34200
20250
99600
26000
20000
12000
58000
19150
14200
8250
41600
4 76600
6 85200
9 74250
236050
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Cash budget
Cash budget is nothing but an estimation of cash receipts and cash payments for specified period. It is prepared by the head of the accounts department i.e., chief accounts officer. The utility of the cash budget is as follows: ? To meet the revenue and capital expenditures with adequate funds ? It should highlight the additional requirement cash whenever the need arises ? Keeping of excessive funds available in the business firm wont fetch any return to the enterprise but this estimate of future cash needs and resources will guide the firm to plan for an effective investment out of the surplus funds estimated ; enhances the wealth of the investors through proper investment planning out of the future funds available. Cash budget can be prepared in three different ways: i. ii. iii. Receipts and payments method Adjusted profit and loss account Balance sheet method
Cash receipts can be classified into various categories : ? Cash Receipt Sales ? Debtors ? Bills receivables ? Dividends ? Sale of Investments ? Other Incomes Cash payment can be classified into various categories : ? Purchse of assets ? Materials bought ? Salary paid rent paid ? Other expenses
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Illustration No 6:
Summarized below are the Income and Expenditure forecast of Ajay industries for the month March to August 2012. Month Credit Sales Rs. 60,000 62,000 64,000 58,000 56,000 60,000 Credit Purchases Rs. 36,000 38,000 33,000 35,000 39,000 34,000 Wages Rs. Mfg. Expenses Rs. 4,000 3,000 4,500 3,500 4,000 3,000 Office Expenses Rs. 2,000 1,500 2,500 2,000 1,000 1,500 Selling Expenses Rs. 4,000 5,000 4,500 3,500 4,500 4,500
March April May June July August
9,000 8,000 10,000 8,500 9,000 8,000
You are given following further information
i.
Plant Costing Rs. 16,000 due for delivery in June. 10% on delivery and balance after three months
ii. iii. iv. v. vi. vii. viii. ix.
Advance Tax Rs. 3,500 is payable in March and June Period of credit allowed, Suppliers 2 months and Customers 1 month Lag in payment of manufacturing expenses half month Lag in payment of all others expenses one month Cash balance on 1stMay 2012 is Rs. 8,000 Interest on investment amounting to Rs. 40,000 will be received in july. Balance of call on ordinary shares to be received on 1st of may Rs 20,000. Prepare Cash Budget for three months starting from 1st May 2012
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Solution:
Cash Budget from May-August 2012 PARTICULARS Opening Cash Balance RECIEPTS ? ? ? Collections from Debtors [Credit 1 month] Interest on investment Call money received on shares 20,000 90,000 99,750 40,000 1,35,250 62,000 64,000 58,000 MAY 8,000 JUNE 35,750 JULY 37,750
TOTAL RECIEPTS
PAYMENTS ? ? ? ? ? ? ? ? Purchases [2 months credit Manufacturing Expenses [Half month credit] Wages [Half month credit] Office Expenses [one month credit] 8,000 1,500 10,000 2,500 8,500 2,000 36,000 3,750 38,000 4,000 33,000 3,750
Selling Expenses] [one month credit] 5,000 Purchase of Machine Advance Tax -
4,500 3,500
3,500 1,600 -
TOTAL PAYMENTS CLOSING BALANCE(A-B)
54,250 35,750
62,500 37,250
52,350 82,900
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Illustration no.7:
Prepare a cash budget from the following information from Jan.-June.The estimated sales and expenses are as follows Particulars Sales Wages & salaries Miscellaneous expenses Nov. Dec. Jan. Feb. March April May June 2,00,00 2,20,000 1,20,000 1,00,000 1,50,000 2,40,000 2,00,000 2,00,000 30,000 30,000 24,000 24,000 30,000 30,000 27,000 27,000 27,000 27,00 21,000 30,000 24,000 27,000 27,000 27,000
1. 20% of the sales are on cash basis and balance on credit. 2. The firm has gross margin of 25% on sales 3. 50% of the credit sales are collected in the month following sales,30% in 2nd month & 20% in 3rd month. 4. Materials for sales in each month is purchased 1 month in advance on credit of 2 months. 5. Wages and salaries are paid 1/3rd month 6. Other expenses are paid after 1 month 7. Debentures worth Rs 40,000 were sold in Jan. 8. The firm maintains a minimum cash balance of Rs 40,000. Funds can be borrowed 2 12%P.A in the multiples of Rs. 1000. 9. Interest being payable on monthly basis. 10. Cash balance at the end of Dec. is Rs.60,000.
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SOLUTION: Cash budget from January –June PARTICULARS JAN Opening cash balance Receipts Sales Credit sales Cash collected from sales of debentures Cash borrowed Total Receipts 2,60,000 1,94,800 1,93,800 2,16,000 36,000 2,75,500 3,000 2,45,100 24,000 1,36,000 40,000 20,000 1,32,800 30,000 1,04,000 48,000 1,03,200 40,000 1,48,000 40,000 1,61,600 60,000 FEB. 42,000 MARCH 59,800 APRIL 64,800 MAY 51,500 JUNE 40,500
Payments purchases Wages(same month) Wages (next month) Miscellaneous expenses Interest on loan Total Payments 2,18,000 1,35,000 1,29,000 1,64,500 2,35,000 360 204,360 27,000 21,000 30,000 24,000 27,000 27,000 10,000 8,000 8,000 8,000 10,000 9,000 1,65,000 16,000 90,000 16,000 75,000 16,000 1,12,500 20,000 1,80,000 18,000 1,50,000 18,000
Closing balance 42,000
59,800
64,800
51,500
40,500
40,740
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Other Functional Budgets: In addition to the budgets discussed above, the following are other functional budgets. ? Direct Labor Budget: The labor budget estimates the labor required for smooth and uninterrupted production. The labor budget shows the number of each type or grade of workers required in each period to achieve the budgeted output, budgeted cost of such labor, period wise and period of training necessary for different types of labor. ?
Factory Overhead Budget: This budget is prepared for planning of the factory overheads to be incurred during the budget period. In this budget the overheads should be shown department wise so that responsibility can be ?xed on proper persons. Classi?cation of factory overheads into ?xed and variable components should also be shown in this budget.
?
Administrative Overhead Budget: This budget covers the administrative costs for nonmanufacturing business activities. The administrative overheads include expenses like office expenses, office salaries, directors‘ remuneration, legal expenses, audit fees, rent, interest, property taxes, postage, telephone, telegraph etc. These expenses should be classi?ed properly under different headings to determine the responsibilities regarding cost control and reduction.
?
Capital Expenditure Budget: Capital expenditure is incurred with a long - term perspective and with the objective of augmenting the earning capacity of the ? rm in the long run. Capital expenditure results in either acquisition of ? xed asset or permanent improvement in the existing ?xed assets. Another important feature of capital expenditure is that the amount involved is very heavy and the decision to incur capital expenditure is not reversible. Hence a careful planning is required before decision to incur capital expenditure is taken. In the budget of capital expenditure, apart from the planning of incurring the expenditure, evaluation of the same is also shown. This budget therefore becomes extremely crucial as it not only plans the expenditure but also evaluates the same and helps in arriving at a decision.
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?
Manpower Planning Budget: This budget shows the requirement of manpower in the budget period. The categories in which manpower is required are also shown in this budget. The requirement of manpower depends on the expansion plans of the organization and also on the expected separations during the budget period.
?
Research and Development Cost Budget: This budget is one of the important tools for planning and controlling research and development costs. It helps management in planning the research and development activities well in advance and also about the fairness of the expenditure. Research and development is one of the important activities of any ?rm and hence proper planning and coordination is required for effectiveness of the same. This budget also helps to plan the requirement of necessary staff for carrying out research and development.
?
Zero Base Budgeting: Zero Base Budgeting is method of budgeting whereby all activities are revaluated each time budget is formulated and every item of expenditure in the budget is fully justi?ed. Thus the Zero Base Budgeting involves from scratch or zero. Zero based budgeting [also known as priority based budgeting] actually emerged in the late 1960s as an attempt to overcome the limitations of incremental budgeting. The Zero Based Budgeting also focuses on programs or activities instead of functional departments based on line items, which is a feature of traditional budgeting. It is an extension of program budgeting. In program budgeting, programs are identified and goals are developed for the organization for the particular program. By inserting decision packages in the system and ranking the packages, the analysis is strengthened and priorities are determined.
?
Performance Budgeting: It is budgetary system where the input costs are related to the performance i.e. the end results. This budgeting is used extensively in the Government and Public Sector Undertakings. It is essentially a projection of the Government activities and expenditure thereon for the budget period.
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Classi? cation of Budgets According to Time:
According to this classi?cation, budgets are divided in the following categories. ? Short Term Budget: Any budget that is prepared for a period up to one year is known as Short Term Budget. Functional budgets are normally prepared for a period of one year and then it is broken down month wise. ?
Medium Term Budget: Budget prepared for a period 1-3 years is Medium Term Budget. Budgets like Capital Expenditure, Manpower Planning are prepared for medium term.
?
Long Term Budgets: Any budget exceeding 3 years is known as Long Term Budgets. Master Budget is normally prepared for long term. In the modern days due to uncertainty, very few budgets are prepared for long term.
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CONCLUSION
A budget that is carefully prepared, closely monitored and accurately interpreted can mean the difference between success and failure. Also, budgets will only be reliable if management routinely holds accountable its officers, employees and departments for strictly adhering to budgetary procedures regarding cash receipts, encumbrances and cash disbursements. Budgetary goals and objectives should be clearly communicated to all responsible individuals, with the expectation that procedures be followed so as not to compromise or jeopardize the student government‘s/client‘s financial position.
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REFRENCES
Google- search engine Cost Accounting (Problem and Theory)- S.N. Maheshwari (Mahavir Publication) Cost Accounting (Methods & Problems)- B.K. Bhar (Academic Publisher, Calcutta) Costing Accounting for C.A.- Dr. N.K. Agrawal (Suchitra Prakashan Pvt.Ltd.)
Principles and Practices of cost Accounting- Ashish K. Bhattacharya(A.H. Wheeter Publish) http://www.gntmasterminds.com/BUDGETARY.pdf http://www.scribd.com/doc/54229654/Budgetary-Control http://www.egyankosh.ac.in http://www.myicwai.com/StudyMaterial/Cost_Mgmt_Ac.pdf
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doc_889309760.docx
explains Budgetary Control. A budget is a plan expressed in quantitative, usually monetary terms, covering a specific period of time, usually one year. In other words, a budget is a systematic plan for the utilisation of manpower and material resources
INTRODUCTION
A budget is a plan expressed in quantitative, usually monetary terms, covering a specific period of time, usually one year. In other words, a budget is a systematic plan for the utilisation of manpower and material resources. In a business organisation a budget represents an estimate of future costs and revenues. Budgets may be divided into two basic classes : Capital Budgets and Operating Budgets. Capital budgets are directed towards proposed expenditure for new projects and often require special financing (this topic is discussed in the next unit).The operating budgets are directed towards achieving short term operational goals of the
organisation, for instance, production or profit goals in a business firm. Operating budgets may be sub-divided into various departmental or functional budgets. Budgeting is the course involved in the preparation of budget of an activity.
Budgetary Control:Budgetary control contains two different processes one is the preparation of the budgetand another one is the control of the prepared budget.
According toJ.Batty"Budgetarycontrolisasystemwhichusesbudgetsasameansofplanning and controlling all aspects of producing and/ or selling commodities and services.
DEFINATION:
Budget is defined as a? financial and /or quantitative statement, prepared and approved prior to adefined Period of time of the policy to be pursued during that period for the purpose of attaining agiven objective. It may include income, expenditure and employment of capital? Budgetary Control is defined as "the establishment of budgets, relating the responsibilities of executives to the requirements of a policy, and the continuous comparison of actual with budgeted results either to secure by individual action the objective of that policy or to provide a base for its revision?
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The main characteristics of a budget are:
? ? ? ? Objectives: Determining the objectives to be achieved, over the budget period, and the policy (ies) that might be adopted for the achievement of these ends. Activities: Determining the variety of activities that should be undertaken for achievement ofthe objectives. Plans: Drawing up a plan or a scheme of operation in respect of each class of activity, in physical a well as monetary terms for the full budget period and its parts. Performance Evaluation: Laying out a system of comparison of actual performance by each person section or department with the relevant budget and determination of causes for the discrepancies, if any. ? Control Action: Ensuring that when the plans are not achieved, corrective action are taken?and when corrective actions are not possible, ensuring that the plans are revised and achieve budgetary control. ? ? ? Futuristic :It is prepared in advance and is derived from the long term strategy of the organisation Financial and/or Quantitative Statement: It is expressed in quantitative from, physical or monetary units, or both. . Components - Income, Expenditure and Employment of Capital
Different types of budgets are prepared for different purposes e.g. Sales Budget. Production Budget, Administrative Expense Budgets, Raw-material Budget, etc. All these sectional budgets are afterwards integrated into a master budget which represents an overall plan of the organisation.
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The objectives of a Budgetary Control System are :
An effective budgeting system plays a crucial role in the success of a business organization. The budgeting system has the following objectives, which are of paramount importance in the overall efficiency and effectiveness of the business organization. These objectives are discussed below. Planning: Planning is necessary for doing any work in a systematic manner. A well- prepared plan helps the organization to use the scarce resources in an efficient manner and thus achieving the pre- determined targets becomes easy. A budget is always prepared for future period and it lays down targets regarding various aspects like purchase, production, sales, manpower planning etc. This automatically facilitates planning. Co-ordination: For achieving the predetermined objectives, apart from planning, coordinated efforts are required. Budgeting facilitates coordination in the sense that budgets cannot be developed in isolation. For example, while developing the production budget, the production manager will have to consult the sales manager for sales forecast and purchase manager for the availability of the raw material. Production budget cannot be developed in isolation. Similarly the purchase and sales budget as well as other functional budgets like cash, capital expenditure, manpower planning etc cannot be developed without considering other functions. Hence the coordination is automatically facilitated. Control: Planning is looking ahead while controlling is looking back. Preparation of budgets involves detailed planning about various activities like purchase, sales, production, and other functions like marketing, sales promotion, manpower planning. But planning alone is not suf? cient. There should be a proper system of controlling which will ensure that the work is progressing as per the plan. Budgets provide the basis for such controlling in the sense that the actual performance can be compared with the budgeted performance. Any deviation between the two can be found out and analyzed to ascertain the reasons behind the deviation so that necessary corrective action can be taken to rectify the same.
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Budgeting helps immensely in controlling function in the following manner. 1. Definition of Goals: Portraying with precision, the overall aims of the business and determining targets of performance for each section or department of the business. 2. Defining Responsibilities: Laying down the responsibilities of each individual so that everyone knows what is expected of him and how he will be judged. 3. Basis for Performance Evaluation: Providing basis for the comparison of actual performance with the predetermined targets and investigation of deviation, if any, of actual performance and expenses from the budgeted figures. It helps to take timely corrective measures. 4. Optimum use of Resources: Ensuring the best use of all available resources to maximize profit or production, subject to the limiting factors. 5. Co-ordination: Coordinating the various activities of the business and centralizing control, but also making a facility for the Management to decentralize responsibility and delegate authority. 6. Planned action: Engendering a spirit of careful forethought, assessment of what is possible and an attempt at it. It leads to dynamism without recklessness. It also helps to draw up long range plans with a fair measure of accuracy. 7. Basis for policy: Providing a basis for revision of current and future policies
Benefits or advantages of budget control system: A budget helps in the following ways:
? ? It brings about efficiency and improvement in the working of the organisation. It is a way of communicating the plans to various units of the organisation. By establishing the divisional, departmental, sectional budgets, exact responsibilities are assigned. It thus minimizes the possibilities of buck-passing if the budget figures are not met.
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? ? ? ?
It is a way of motivating managers to achieve the goals set for the units. It serves as a benchmark for controlling on-going operations. It helps in developing a team spirit where participation in budgeting is encouraged. It helps in reducing wastage's and losses by revealing them in time for corrective action. Effective utilization of various resources like-men, material, machinery and money is made possible, as the production is planned after taking them into account
? ? ?
It serves as a basis for evaluating the performance of managers. It reveals the deviations to management, from the budgeted figures after making a comparison with actual figures It serves as a means of educating the managers. It is a powerful instrument used by business houses for the control of their expenditure. It infact provides a yardstick for measuring and evaluating the performance of individuals and their departments.
?
It helps in the review of current trends and framing of future policies
The disadvantages/limitations of the budgetary control system: 1. Estimates: Budgets may or may not be true, as they are based on estimates. The assumptions about future events may or may not actually happen. 2. Rigidity: Budgets are considered as rigid document. Too much emphasis on budgets may affect day-today operations and ignores the dynamic state of organizational functioning. 3. False Sense of Security: Mere budgeting cannot lead to profitability. Budgets cannot beexecuted automatically. It may create a false sense of security that everything has been taken care of in the budgets. 4. Lack of co-ordination: Staff co-operation is usually not available during Budgetary Control exercise. 5. Time and Cost: The introduction and implementation of the system may be expensive.No system of planning can be successful without having an effective and efficient system of control. Budgeting is closely connected with control. The exercise of control in the organisation with the help of budgets is known as budgetary control.
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Process of budgetary control: The process of budgetary control includes ? ? ? preparation of various budgets continuous comparison of actual performance with budgetary performance and revision of budgets in the light of changed circumstances.
A system of budgetary control should not become rigid. There should be enough scope for flexibility to provide for individual initiative and drive. Budgetary control is an important device for making the organisation more efficient on all fronts. It is an important tool for controlling costs and achieving the overall objectives. Installing A Budgetary Control System Having understood the meaning and significance of budgetary control in an organisation, it will be useful for you to know how a budgetary control system can be installed in the organization.
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. This requires first of all, finding answers to the following questions in the context of an organisation: What is likely to happen? What can be made to happen? What are the objectives to be achieved? What are the constraints and to what extent their effects can be minimized? Having found answers to the above questions, the following steps may be taken for installing an effective system of budgetary control in an organization. Organisation for Budgeting The setting up of a definite plan of organisation is the first step towards installing budgetary control system in an organisation. A, Budget Manual should be prepared giving details of the powers, duties, responsibilities and areas of operation of each executive in the organisation. Different steps in preparation of budget Definition of objectives – A budget being a plan for the achievement of certain operational objectives, it is desirable that the same are defined precisely. The objectives should be written out? the areas of control demarcated? and items of revenue and expenditure to be covered by the budget stated. This will give a clear understanding of the plan and its scope to all those who must cooperate to make it a success. Appointment of controller – Formulation of a budget usually required whole time services of asenior executive? he must be assisted in this work by a Budget Committee, consisting of all the heads of department along with the Managing Director as the Chairman. The Controller is responsible for co-ordinating and development of budget programmes and preparing the manual of instruction, known as Budget manual. The Budget manual is a schedule, document or booklet which shows, in written forms the budgeting organization and procedures. The manual should be well written and indexed so that a copy thereof may be given to each departmental head for guidance.
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Budget Period – The period covered by a budget is known as budget period. There is no general rule governing the selection of the budget period. In practice the budget committee determines the length of the budget period suitable for the business. Normally, a calendar year or a period coterminous with the financial year is adopted. The budget period is then sub-divided into shorter periods-it may be months or quarters or such periods as coincide with period of trading activity. Standard of activity or output – For preparing budgets for the future, past statistics cannot be completely relied upon, for the past usually represents as combination of good and bad factors. Therefore, though results of the past should be studied but these should only be applied when there is a likelihood of similar conditions repeating in the future. Also, while setting the targets for the future, it must be remembered that in a progressive business, the achievement of a year must exceed those of earlier years. Therefore what was good in the past is only fair for the current year. Responsibility for Budgeting The responsibility for preparation and implementation of the budgets may be fixed as under: Budget Controller Although the Chief Executive is finally responsible for the budget programme, it is better if a large part of the supervisory responsibility is delegated to an official designated as Budget Controller or Budget Director. Such a person should have knowledge of the technical details of the business and should report directly to the President of the Chief Executive of the organisation. Budget Committee The Budget Controller is assisted in his work by the Budget Committee. The Committee may consist of Heads of various departments, viz., Production, Sales Finance, Personnel, Purchase, etc. with the Budget Controller as its Chairman. It is generally the responsibility of the Budget Committee to submit, discuss and finally approve the budget figures. Each head of the department should have his own Subcommittee with executives working under him as its members.
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Fixation of the Budget Period `Budget period' means the period for which a budget is prepared and employed. the budget period depends upon the nature of the business and the control techniques. For example, a seasonal industry will budget for each season, while an industry requiring long periods to complete work will budget for four, five or even larger number of years. However, it is necessary for control purposes to prepare budgets both for long as well as short periods. Budget Procedures Having established the budget organisation and fixed the budget period, the actual work or budgetary control can be taken upon the following pattern: Key Factor It is also termed as limiting factor. The extent of influence of this factor must first be assessed in order to ensure that the budget targets are met. It would be desirable to prepare first the budget relating to this particular factor, and then prepare the other budgets. We are giving below an illustrative list of key factors in certain industries. Industry-Key factor Motor Car - Sales demand Aluminum- Power Petroleum Refinery- Supply of crude oil Electro-optics -Skilled technicians Hydel power generation -Monsoon The key factors should be correctly identified and examined. The key factors need not be of a permanent nature. In the long run, the management may overcome the keyfactors by introducing new products, by changing material mix or by working overtime or extra shifts etc.
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Making a Forecast A forecast is an estimate of the future financial conditions or operating results. Any estimation is based on consideration of probabilities. An estimate differs from a budget in that the latter embodies an operating plan of an organisation. A budget envisages a commitment to certain objectives or targets, which the management seeks to attain on the basis of the forecasts prepared. A forecast on the other hand is an estimate based on probabilities of an event. A forecast may be prepared in financial or physical terms for sales, production cost, or other resources required for business. Instead of just one forecast a number of alternative forecasts may be considered with a view to obtaining the most realistic, overall plan. Preparing Budgets After the forecasts have been finalized the preparation of budgets follows. The budget activity starts with the preparation of the sales budget. Then production budget is prepared on the basis of sales budget and the production capacity available. Financial budget (i.e. cash or working capital budget) will be prepared on the basis of sales forecast and production budget. All these budgets are combined and coordinated into a master budget. The budgets may be revised in the course of the financial period if it becomes necessary to do so, in view of the unexpected developments, which have already taken place or are likely to take place. Choice Between Fixed and Flexible Budgets A budget may be fixed or flexible. A fixed budget is based on a fixed volume of activity. It may lose its effectiveness in planning and controlling if the actual capacity utilisation is different from what was planned for any particular unit or time e.g. a month or a quarter, The flexible budget is more useful for changing levels of activity as it considers fixed and variable costs separately. Fixed costs, as you are aware, remain unchanged over a certain range of output. Such costs change when there is a change in capacity level. The variable costs change in direct pro-portion to output. If 'flexible budgeting approach is adopted, the budget controller can analyze the variance between actual costs and budgeted costs depending upon the actual level of activity attained during a period of time. This will be explained in detail a little later.
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Fixed Budget
When a budget is prepared by assuming a ?xed percentage of capacity utilization, it is called as a ?xed budget. For example, a firrm may decide to operate at 90% of its total capacity and prepare a budget showing the projected pro?t or loss at that capacity. This budget is defined by The Institute of Cost and Management Accountants [U.K.] as ?the budget which is designed to remain unchanged irrespective of the level of activity actually attained. It is based on a single level of activity.‘ For preparation of this budget, sales forecast will have to be prepared along with the cost estimates. Cost estimates can be prepared by segregating the costs according to their behavior i.e. fixed and variable. Cost predictions should be made element wise and the projected profit or loss can be worked out by deducting the costs from the sales revenue. Actually in practice, fixed budgets are prepared very rarely. The main reason is that the actual output differs from the budgeted output signi?cantly. Thus if the budget is prepared on the assumption of producing 50, 000 units and actually the number of units produced are 40, 000, the comparison of actual results with the budgeted ones will be unfair and misleading. The budget may reveal the difference between the budgeted costs and actual costs but the reasons for the deviations may not be pointed out. A fixed budget may be prepared when the budgeted output and actual output are quite close and not much deviation exists between the two. In such cases, maximum control can be exercised between the budgeted performance and actual performance.
Flexible budget:
A flexible budget is defined as ?a budget which, by recognizing the difference between fixed, semi-variable and variable costs is designed to change in relation to the level of activity attained?. A fixed budget , on the other hand is a budget which is designed to remain unchanged irrespective of the level of activity actually attained. In a fixed budgetary control, budgets are prepared for one level of activity whereas in a flexible budgetary control system, a series of budgets are prepared one for each of a number of alternative production levels or volumes. Flexible budgets represent the amount of expenses that is reasonably necessary to achieve each level of output specified. In other words, the allowances given under flexible budgetary control system serve as standards of what costs should be at each level of output.
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Flexible budget is prepared for any level of production as an estimate of statement of all expenses i-e the expenses are classified into three categories viz variable, semi-variable and fixed expenses. The structure of the budget for any output is only to the tune of the actual performance achieved. This is the budget facilitates not only to have comparison in between various levels of production but also to identify the level of lowest production cost.
Need: The need for the preparation of the flexible budgets arises in the following circumstances: 1. It is mostly suited to the seasonal business, where the sales volume is getting differed from one period to another due to changes taken place in the taste and preferences of the buyers. For example in soft drinks industry? 2. A company which keeps on introducing new products or makes changes in the design of its products frequently. 3. An industry which is influenced by changes in fashion? and general changes in sales. 4. The production is being done on the basis of demand of the products in the market. The demand of the products is studied only through demand forecasting. The flexible budget is more applicable in the case of products, which are greatly finding difficult to forecast the demand.
Fixed cost: A fixed cost is a cost that does not change depending on production or sales levels. The cost of running a business is called operating cost. There are two groups of operating coststhe variable cost and the fixed cost. The fixed costs are incurred on a routine basis, regardless of the volume of the business. Examples of fixed costs are depreciation, insurance, interest, rent, salaries, and wages. Fixed costs incurred by the company are unrelated to fluctuations in productivity or sales. In practice all costs vary over a period of time, indicating that no costs are purely fixed cost. The concept of fixed costs is necessary for short term cost accounting. Though the fixed costs are characterized by regular payments, it does mean it has fixed price. For example the RENT OF THE PREMISES is a fixed expense. The firms with high fixed costs differ from those of with high variable costs. The difference affects the financial structure of the company. It also affects the pricing and profits of the company. A high level of fixed costs increases the operational gearing i.e. the relationship between the sales and the operating profits.
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The unchanging nature if fixed costs may prove to be beneficial for companies with increasing levels of revenue. The fixed costs allow for quicker marginal profitability at high productivity levels. However for the companies who cannot generate more revenue, fixed costs may be debilitating. Variable costs : Variable costs are expenses that are directly proportional to the level of business activity such as production volume or sales — they increase or decrease as a direct result of increases or decreases in sales or production. A manufacturing-based company,
examples of variable costs include raw materials, packaging, and production incentive bonuses. In a retail company variable costs include sales commissions, inventory purchased for resale, and packaging. These types of expenses are called the cost of goods sold, and are always considered to be variable costs. Variable costs are expenses that change in proportion to the activity of a business.[1]Variable cost is the sum of marginal costs over all units produced. It can also be considered normal costs. Fixed costs and variable costs make up the two components of total cost. Direct Costs, however, are costs that can easily be associated with a particular cost object.However, not all variable costs are direct costs. For example, variable manufacturing overhead costs are variable costs that are indirect costs, not direct costs. Variable costs are sometimes called unit-level costs as they vary with the number of units produced.
Semi-variable cost: Semi-variable cost is an expense which contains both a fixedcost component and a variable-cost component. The fixed cost element shall be a part of the cost that needs to be paid irrespective of the level of activity achieved by the entity. On the other hand the variable component of the cost is payable proportionate to the level of activity. Cost of energy, such as electricity, is a good example as it is integral to production of goods and services. This component straddles both the fixed and variable universe because electrical power is essential for the basic operation of the business in lighting and heating – this portion is a sunk cost that is foregone regardless of production. As demand ramps up, more energy is required to ramp up the production process in the use of machinery or large banks of computers for instance. Cost of electrical energy will then rise accordingly as production activities increase. Therefore, the cost of electricity can be viewed as semi-variable.
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Illustration No. 1:
The expenses for budgeted production of 10,000 units in a factory are furnished below .prepare a budget for production .
Particulars Material Labour Variable overheads Fixed overheads (1,00,000) Variable expenses (Direct) Selling expenses (10% fixed) Distribution expenses(20% fixed) Administration expenses(Rs.50,000) Total cost per unit
Per unit 70 25 20 10 5 13 7 75 155
Prepare a budget for a production of 8,000 units 6,000 units Also calculate the cost per unit at both the levels. Assume that administration expenses are fixed for all level of production.
Solution:
Selling expenses (Rs. 13p.u) 10% fixed -1.3 90% variable-11.7 Distribution expenses (Rs7p.u) 20% fixed 1.4 80% variable 5.6
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Flexible Budget
For 10,000 units
For 8,000 units
For 6,000 units
Particulars
Per Unit Rs
Amount Rs
Per Unit Rs
Amount Rs
Per Unit Rs
Amount Rs
Variable expenses ? ? ? ? ? ? Material Labor Overheads Direct Variable expenses Selling Expenses Distribution Expenses Total variable expenses(A) 137.3 13,73,000 137.3 10,98,400 137.3 8,23,800 11.7 5.6 1,17,000 56,000 11.7 5.6 93,600 44,800 11.7 5.6 70,200 33,600 70 25 20 5 7,00,000 250,000 2,00,00 50,000 70 25 20 5 5,60,000 2,00,000 1,60,000 40,000 70 25 20 5 4,20,000 1,50,000 1,20,000 30,000
Fixed expenses ? ? ? ? Fixed Overheads Selling Expenses Distribution Expenses Administration Expenses Total fixed cost (B) TOTAL COST(A+B) 17.7 155 1,77,000 15,50,000 22.125 159.425 1,77,000 12,75,400 29.5 166.8 1,77,000 10,00,800 5 50000 6.25 50,000 8.33 50,000 10 1.3 1.4 1,00,000 13,000 14,000 12.5 1.625 1.75 1,00,000 13,000 14,000 16.67 2.17 2.33 1,00,000 13,000 14,000
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Illustration No. 2:
A manufacturing company is currently working at 50% capacity and produces 10, 000 units at a cost of Rs.180 per unit as per the following details. Materials: Rs.100 Labor: Rs.30 Factory Overheads: Rs.30 [40% fixed] Administrative Overheads: Rs.20 [50% fixed] Total Cost Per Unit: Rs.180 The selling price per unit at present is Rs.200. At 60% working, material cost per unit increases by 2% and selling price per unit falls by 2%. At 80% working, material cost per unit increases by 5% and selling price per unit falls by 5%. Prepare a Flexible Budget to show the pro?ts / losses at 50%, 60% and 80% capacity utilization
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Solution:
Particulars Capacity Utilization 50% Capacity Utilization 60% Capacity Utilization 80%
A] Number of Units
10, 000
12, 000
16, 000
B] Selling Price Per Unit C] Variable Cost Per Unit • Direct Material • Direct Labor • Factory Overheads [60%] • Administrative Overheads [50%] D] Total Variable Cost Per Unit E] Total Variable Cost [A X D] F] Fixed Costs G] Total Cost [E + F] H] Sales Revenue [A X B] I] Profits/Losses [H – G]
200
196
190
100 30 18
102 30 18
105 30 18
10 158
10 160
10 163
15,80,000
19, 20, 000
26, 08, 000
2, 20, 000 18, 00, 000 20, 00, 000
2, 20, 000 21, 40, 000 23, 52, 000
2, 20, 000 28, 28, 000 30, 40, 000
2, 00, 000
2, 12, 000
2, 12, 000
Fixed cost: [Rs.12 + Rs.10 = Rs.22 per unit at existing level of 10, 000 units.]
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Functional budget
Functional budget – A functional budget is one which is related to function of the business as for example, production budget relating to the manufacturing function. Functional budgets are prepared for each function and they are subsidiary to the master budget of the business. The various types of functional budgets to be prepared will vary according to the size and nature of the business. The various commonly used functional budgets are: 1. Sales budget 2. Production budget 3. Production cost budget 4. Cash budget 5. Budget Summaries / master budget – budgeted income statement and Budgeted balance sheet.
Sales Budget
Sales Budget generally forms the fundamental basis on which all other budgets are built. The budget is based on projected sales to be achieved in a budget period . The Sales Manager is directly responsible for the preparation and execution of this budget. He usually takes into consideration the following organizational and environmental factors while preparing the sales budget: Organisational factors ? Past sales figures and trends ? Salesmen's estimates ? Plant capacity ? Orders on hand ? Proposed expansion or ? discontinuation of products ? Availability of material or supplies ? Financial aspect Environmental Factors ? General trade prospects ? Seasonal fluctuations ? Potential market ? Degree of competition ? Government controls, rules and regulations relating to the industry Political situation and its impact on market
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It is desirable to break up the entire sales budget on the basis of different products, time periods and sales areas or territories The functional budgets are prepared for each function of the organization. These budgets are normally prepared for a period of one year and then broken down to each month.
The following factors are taken into consideration while preparing a sales budget.
Analysis of past sales: Analysis of sales for the last 5-10 years will provide valuable information like the long term trend, seasonal trends, cyclical ? uctuations and other relevant information like customer preference analysis, shift in demand, competition and other environmental factors. This information can be used to predict the likely future demand of the product. Estimates given by the sales staff: Sales staff of the business organization works in the ?eld and hence they know the market situation very well. They have very close interaction with the market and are in a better position to know the demand pattern and other such trends. However, care is to be taken that the subjective element in the sales estimates given by the sales staff should be eliminated to arrive at a realistic sales forecast. Market Potential Analysis: Marketing Research helps any business organization to collect the data regarding markets, demand pattern, customer preferences, market potential and other factors like economic factors and environmental factors. From this analysis, market potential can be worked out which will be used in the sales budget. Dependent Factor: Demand of a product is dependent upon certain factors. For example, the demand for petrol and diesel is dependent on the number of vehicles plying though the roads. Analysis of such dependent factor will help to prepare the sales forecast which can be used in the sales budget. A business ?rm can use any of the above methods or a combination of the above methods to prepare sales forecast and incorporate the same in the sales budget.
.
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Illustration No. 3:
Rampal company manufactures two products, A and B. Its sales department has three area Divisions, North, East and South. Preliminary sales budgets for the year ending 31st March 2007, based on the assessment of the divisional managers were as follows. Product A: North 2,00,000 units, South 5,50,000 units and East 1,00,000 units Product B: North 3,00,000 units, South 4,00,000 units and East Nil Sale price: A Rs.4 and B Rs.3 in all areas. Arrangements are made for the extensive advertising of Products A and B and it is estimated that the North division sales will increase by 1,00,000 units. Arrangements are also made to advertise and distribute product in Eastern area in the second half of the year 2006-07 when sales are expected to be 5,00,000 units. Prepare a revised sales budget for the year ended 31st March after taking into consideration the above mentioned adjustments.
Solution: Sales budget for the year ended 31st March
Area North Quantity 3, 00, 000 Price 4 Value 12,00,00 0 South 5, 50, 000 4 22,00,00 0 East Total 1, 00, 000 4 4,00,000 38,00,00 0 East Total 5,00,000 3 15,00,000 40,20,00 South 4,40,000 3 13,20,000 Area North Quantity 4,00,000 Price 3 Value 12,00,000
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Illustration no.4
AB Ltd. manufactures two products, A and B and sells them through two divisions, north and south. Budgeted Sales for the current year were, Product A : north 4,000 units @ Rs.9 each, south 6,000 units @ Rs.9 each Product B : north 3,000 units @ Rs.21 each, south 5,000 @ Rs.21 each Actual sales for the current year were, Particulars Product A Product B North 5,000 units @ Rs.9 each 2,000 units @ Rs.21 each South 7,000 units @ Rs.9 each 4,000 units @ Rs.21 each
Adequate market studies reveal that Product A is popular but under priced. It is observed that if the price of A is increased by Re.1 it will still find a ready market. On the other hand, B is overpriced to customers and the market could absorb more if sales price of B is reduced by Re.1. The management has agreed to give effect to the above price changes. The following estimates have been prepared by divisional managers. Percentage increase in sales over current budget is, Particulars Product A Product B North + 10% + 20% South + 5% + 10%
With the help of an intensive advertisement campaign, the following additional sales over the estimated sales of divisional managers are possible. Additional sales above the estimated sales of divisional managers Particulars Product A Product B North 600 400 South 700 500
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Solution:
Division
Sales Budget of AB Co Ltd Budgeted For Future Period 5,000 units @ Rs.10 = Rs.50000 4,000 units @ Rs.20 = Rs.80000 9000 units Rs.1,30,000 Budgeted For Current Period 4000 units @ Rs.9 = Rs.36000 3000 units @ Rs.21 = Rs.63000 7,000 units Rs.99000 Actual Sales For Current Period 5000 units @ Rs.9 = Rs.45000 2000 units @ Rs.21 = Rs.42000 7000 units Rs.87000
Product North Product A
Product B
Total
Quantity Amount
South
Product A
7000 units @ Rs.10 = Rs.70000 6,000 units @Rs.20 = Rs.1, 20,000 13,000 units Rs.1, 90,000 12000 [email protected] Rs.1, 20,000 10000 units @Rs.20 = Rs.2, 00,000 22000 units Rs.3, 20,000
6,000 units @ Rs.9 = Rs.54000 5000 units @ Rs.21 =Rs.1, 05,000 11000 units Rs.1, 59,000 10000 units @ Rs.9 = Rs.90000 8000 units @ Rs.21 = Rs.1, 68,000 18000 units Rs.2, 58,000
7000 units @ Rs.9 = Rs63000 4,000 units @ Rs.21 = Rs.84000 11000 units Rs.1, 47,000 12000 units @Rs.9 = Rs.1, 08,000 6000 units @Rs.21 = Rs.1, 26,000 18000 units Rs.2, 34,000
Product B
Total
Quantity* Amount Product A
Total
Product B
Total
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Production Budget:
This budget shows the production target to be achieved in the next year or the future period. The production budget is prepared in quantity as well as in monetary terms. Before preparation of this budget it is necessary to study the principal budget factor or the key factor. The principal budget factor can be sales demand or the production capacity or availability of raw Material. The policy of the management regarding the inventory is also taken into consideration. The production budget is normally prepared for a period of one year and then broken down on Monthly basis. Production targets are decided by adding the budgeted closing inventory in the sales forecast and subtracting the opening inventory from the total of the same. Production Cost Budget is prepared by multiplying the production targets by the budgeted production cost per unit. The following illustration will clarify the concept.
Material Purchase Budget:
This budget shows the quantity of materials to be purchased during the coming year. For the preparation of this budget, production budget is the starting point if it is the key factor. If the raw material availability is the key factor, it becomes the starting point. The desired closing inventory of the raw materials is added to the requirement as per the production budget and the opening inventory is subtracted from the gross requirements. This budget is prepared in quantity as well as in the monetary terms and helps immensely in planning of the purchases of raw materials. Availability of storage space, financial resources, various levels of materials like maximum, minimum, re-order and economic order quantity are taken into consideration while preparing this budget. A separate material utilization budget may also be prepared as a preparation of material purchase budget.
Master Budget: All the budgets described above are called as ?Functional Budgets‘ that are
prepared for planning of the individual function of the organization. For example, budgets are prepared for Purchase, Sales, Production, Manpower Planning, and so on. A Master Budget which is also called as ?Comprehensive Budget‘ is a consolidation of all the functional budgets. It shows the projected Pro?t and Loss Account and Balance Sheet of the business organization.
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For preparation of this budget, all functional budgets are combined together and the relevant ?gures are incorporated in preparation of the projected Pro?t and Loss Account and Balance Sheet. Thus Master Budget is prepared for the entire organization and not for individual functions.
Illustration no 5:
(Sales, Production, Material Utilization and Material Purchase Budget)
R Ltd. manufactures three products, A, B and C. You are required to prepare for the month of January2008, the following budgets from the information given below.
i. ii. iii. iv.
Sales Budget in quantity and value Production Budget Material Utilization Budget Purchase Budget in quantity and value
Sales Forecast Product A B C Quantity 1000 2000 1500 Price Per Unit Rs.100 Rs.120 Rs.140
Materials Used in Company‘s Products Are, Material M1 Rs.4 per unit Material M2 Rs.6 per unit Material M3 Rs.9 per unit
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Quantities used in Product Product A B C M1 4 3 2 M2 2 3 1 M3 2 1
Finished Stocks Product Opening Inventoryunits A 1000 B 1500 C 500
Closing Inventory- units
1100
1650
550
Material Stocks Particulars Opening Stock [Units] M1 26000 M2 20000 M3 12000
Closing Stock [Units]
31200
24000
14400
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SOLUTION: Sales Budget Particulars Product A Product B Product C Total
Units Selling Price Per Unit [Rs.] Sales Value [Rs]
1000 100
2000 120
1500 140
-
100000
240000
210000
550000
Production Budget- in Units Particulars Sales Forecast Add: Expected Closing Stock Gross Requirement Less: Opening Stock Net Production Requirement 2100 1000 1100 3650 1500 2150 2050 500 1550 Product A 1000 1100 Product B 2000 1650 Product C 1500 550
Material Utilization Budget Budgeted Production M1 Units M2 Units M3 Units
A: 1100 units B: 2150 units C: 1550 units
1100 * 4= 4400 2150 * 3= 6450 1550 * 2= 3100
1100 * 2= 2200 2150 * 3= 6450 1550 * 1= 1550
2150 * 2= 4300 1550 * 1= 1550
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Material Purchase Budget Particulars Requirement as per Material Utilization Budget [units] M1 13950 M2 10200 M3 5850 TOTAL 30000
Add: Closing Stock [units] Total Requirements Less: Opening Stock [units] Required Purchases [units] Unit Cost [Rs] Purchase Cost [Rs]
31200
24000
14400
69600
45150
34200
20250
99600
26000
20000
12000
58000
19150
14200
8250
41600
4 76600
6 85200
9 74250
236050
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Cash budget
Cash budget is nothing but an estimation of cash receipts and cash payments for specified period. It is prepared by the head of the accounts department i.e., chief accounts officer. The utility of the cash budget is as follows: ? To meet the revenue and capital expenditures with adequate funds ? It should highlight the additional requirement cash whenever the need arises ? Keeping of excessive funds available in the business firm wont fetch any return to the enterprise but this estimate of future cash needs and resources will guide the firm to plan for an effective investment out of the surplus funds estimated ; enhances the wealth of the investors through proper investment planning out of the future funds available. Cash budget can be prepared in three different ways: i. ii. iii. Receipts and payments method Adjusted profit and loss account Balance sheet method
Cash receipts can be classified into various categories : ? Cash Receipt Sales ? Debtors ? Bills receivables ? Dividends ? Sale of Investments ? Other Incomes Cash payment can be classified into various categories : ? Purchse of assets ? Materials bought ? Salary paid rent paid ? Other expenses
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Illustration No 6:
Summarized below are the Income and Expenditure forecast of Ajay industries for the month March to August 2012. Month Credit Sales Rs. 60,000 62,000 64,000 58,000 56,000 60,000 Credit Purchases Rs. 36,000 38,000 33,000 35,000 39,000 34,000 Wages Rs. Mfg. Expenses Rs. 4,000 3,000 4,500 3,500 4,000 3,000 Office Expenses Rs. 2,000 1,500 2,500 2,000 1,000 1,500 Selling Expenses Rs. 4,000 5,000 4,500 3,500 4,500 4,500
March April May June July August
9,000 8,000 10,000 8,500 9,000 8,000
You are given following further information
i.
Plant Costing Rs. 16,000 due for delivery in June. 10% on delivery and balance after three months
ii. iii. iv. v. vi. vii. viii. ix.
Advance Tax Rs. 3,500 is payable in March and June Period of credit allowed, Suppliers 2 months and Customers 1 month Lag in payment of manufacturing expenses half month Lag in payment of all others expenses one month Cash balance on 1stMay 2012 is Rs. 8,000 Interest on investment amounting to Rs. 40,000 will be received in july. Balance of call on ordinary shares to be received on 1st of may Rs 20,000. Prepare Cash Budget for three months starting from 1st May 2012
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Solution:
Cash Budget from May-August 2012 PARTICULARS Opening Cash Balance RECIEPTS ? ? ? Collections from Debtors [Credit 1 month] Interest on investment Call money received on shares 20,000 90,000 99,750 40,000 1,35,250 62,000 64,000 58,000 MAY 8,000 JUNE 35,750 JULY 37,750
TOTAL RECIEPTS
PAYMENTS ? ? ? ? ? ? ? ? Purchases [2 months credit Manufacturing Expenses [Half month credit] Wages [Half month credit] Office Expenses [one month credit] 8,000 1,500 10,000 2,500 8,500 2,000 36,000 3,750 38,000 4,000 33,000 3,750
Selling Expenses] [one month credit] 5,000 Purchase of Machine Advance Tax -
4,500 3,500
3,500 1,600 -
TOTAL PAYMENTS CLOSING BALANCE(A-B)
54,250 35,750
62,500 37,250
52,350 82,900
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Illustration no.7:
Prepare a cash budget from the following information from Jan.-June.The estimated sales and expenses are as follows Particulars Sales Wages & salaries Miscellaneous expenses Nov. Dec. Jan. Feb. March April May June 2,00,00 2,20,000 1,20,000 1,00,000 1,50,000 2,40,000 2,00,000 2,00,000 30,000 30,000 24,000 24,000 30,000 30,000 27,000 27,000 27,000 27,00 21,000 30,000 24,000 27,000 27,000 27,000
1. 20% of the sales are on cash basis and balance on credit. 2. The firm has gross margin of 25% on sales 3. 50% of the credit sales are collected in the month following sales,30% in 2nd month & 20% in 3rd month. 4. Materials for sales in each month is purchased 1 month in advance on credit of 2 months. 5. Wages and salaries are paid 1/3rd month 6. Other expenses are paid after 1 month 7. Debentures worth Rs 40,000 were sold in Jan. 8. The firm maintains a minimum cash balance of Rs 40,000. Funds can be borrowed 2 12%P.A in the multiples of Rs. 1000. 9. Interest being payable on monthly basis. 10. Cash balance at the end of Dec. is Rs.60,000.
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SOLUTION: Cash budget from January –June PARTICULARS JAN Opening cash balance Receipts Sales Credit sales Cash collected from sales of debentures Cash borrowed Total Receipts 2,60,000 1,94,800 1,93,800 2,16,000 36,000 2,75,500 3,000 2,45,100 24,000 1,36,000 40,000 20,000 1,32,800 30,000 1,04,000 48,000 1,03,200 40,000 1,48,000 40,000 1,61,600 60,000 FEB. 42,000 MARCH 59,800 APRIL 64,800 MAY 51,500 JUNE 40,500
Payments purchases Wages(same month) Wages (next month) Miscellaneous expenses Interest on loan Total Payments 2,18,000 1,35,000 1,29,000 1,64,500 2,35,000 360 204,360 27,000 21,000 30,000 24,000 27,000 27,000 10,000 8,000 8,000 8,000 10,000 9,000 1,65,000 16,000 90,000 16,000 75,000 16,000 1,12,500 20,000 1,80,000 18,000 1,50,000 18,000
Closing balance 42,000
59,800
64,800
51,500
40,500
40,740
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Other Functional Budgets: In addition to the budgets discussed above, the following are other functional budgets. ? Direct Labor Budget: The labor budget estimates the labor required for smooth and uninterrupted production. The labor budget shows the number of each type or grade of workers required in each period to achieve the budgeted output, budgeted cost of such labor, period wise and period of training necessary for different types of labor. ?
Factory Overhead Budget: This budget is prepared for planning of the factory overheads to be incurred during the budget period. In this budget the overheads should be shown department wise so that responsibility can be ?xed on proper persons. Classi?cation of factory overheads into ?xed and variable components should also be shown in this budget.
?
Administrative Overhead Budget: This budget covers the administrative costs for nonmanufacturing business activities. The administrative overheads include expenses like office expenses, office salaries, directors‘ remuneration, legal expenses, audit fees, rent, interest, property taxes, postage, telephone, telegraph etc. These expenses should be classi?ed properly under different headings to determine the responsibilities regarding cost control and reduction.
?
Capital Expenditure Budget: Capital expenditure is incurred with a long - term perspective and with the objective of augmenting the earning capacity of the ? rm in the long run. Capital expenditure results in either acquisition of ? xed asset or permanent improvement in the existing ?xed assets. Another important feature of capital expenditure is that the amount involved is very heavy and the decision to incur capital expenditure is not reversible. Hence a careful planning is required before decision to incur capital expenditure is taken. In the budget of capital expenditure, apart from the planning of incurring the expenditure, evaluation of the same is also shown. This budget therefore becomes extremely crucial as it not only plans the expenditure but also evaluates the same and helps in arriving at a decision.
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?
Manpower Planning Budget: This budget shows the requirement of manpower in the budget period. The categories in which manpower is required are also shown in this budget. The requirement of manpower depends on the expansion plans of the organization and also on the expected separations during the budget period.
?
Research and Development Cost Budget: This budget is one of the important tools for planning and controlling research and development costs. It helps management in planning the research and development activities well in advance and also about the fairness of the expenditure. Research and development is one of the important activities of any ?rm and hence proper planning and coordination is required for effectiveness of the same. This budget also helps to plan the requirement of necessary staff for carrying out research and development.
?
Zero Base Budgeting: Zero Base Budgeting is method of budgeting whereby all activities are revaluated each time budget is formulated and every item of expenditure in the budget is fully justi?ed. Thus the Zero Base Budgeting involves from scratch or zero. Zero based budgeting [also known as priority based budgeting] actually emerged in the late 1960s as an attempt to overcome the limitations of incremental budgeting. The Zero Based Budgeting also focuses on programs or activities instead of functional departments based on line items, which is a feature of traditional budgeting. It is an extension of program budgeting. In program budgeting, programs are identified and goals are developed for the organization for the particular program. By inserting decision packages in the system and ranking the packages, the analysis is strengthened and priorities are determined.
?
Performance Budgeting: It is budgetary system where the input costs are related to the performance i.e. the end results. This budgeting is used extensively in the Government and Public Sector Undertakings. It is essentially a projection of the Government activities and expenditure thereon for the budget period.
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Classi? cation of Budgets According to Time:
According to this classi?cation, budgets are divided in the following categories. ? Short Term Budget: Any budget that is prepared for a period up to one year is known as Short Term Budget. Functional budgets are normally prepared for a period of one year and then it is broken down month wise. ?
Medium Term Budget: Budget prepared for a period 1-3 years is Medium Term Budget. Budgets like Capital Expenditure, Manpower Planning are prepared for medium term.
?
Long Term Budgets: Any budget exceeding 3 years is known as Long Term Budgets. Master Budget is normally prepared for long term. In the modern days due to uncertainty, very few budgets are prepared for long term.
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CONCLUSION
A budget that is carefully prepared, closely monitored and accurately interpreted can mean the difference between success and failure. Also, budgets will only be reliable if management routinely holds accountable its officers, employees and departments for strictly adhering to budgetary procedures regarding cash receipts, encumbrances and cash disbursements. Budgetary goals and objectives should be clearly communicated to all responsible individuals, with the expectation that procedures be followed so as not to compromise or jeopardize the student government‘s/client‘s financial position.
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REFRENCES
Google- search engine Cost Accounting (Problem and Theory)- S.N. Maheshwari (Mahavir Publication) Cost Accounting (Methods & Problems)- B.K. Bhar (Academic Publisher, Calcutta) Costing Accounting for C.A.- Dr. N.K. Agrawal (Suchitra Prakashan Pvt.Ltd.)
Principles and Practices of cost Accounting- Ashish K. Bhattacharya(A.H. Wheeter Publish) http://www.gntmasterminds.com/BUDGETARY.pdf http://www.scribd.com/doc/54229654/Budgetary-Control http://www.egyankosh.ac.in http://www.myicwai.com/StudyMaterial/Cost_Mgmt_Ac.pdf
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doc_889309760.docx