Budgeting in different types of organization

In very large organizations, hundreds of managers may be involved in the budgeting process, and the complete budget will probably be a very thick document.


Budgeting when done well is time well spent

This involvement takes a lot of management time but, if the budgeting is done well, it is likely to be time well spent.

This is because the budget will probably be a realistic one, and because after approval the managers should feel committed to it.


Budget is approved - What happens next?

• When the budget has been approved, individual managers are responsible for their section of it.  the responsibility is like a pyramid.
• At the base of the pyramid are the most junior managers, supervising a comparatively small section, perhaps involving expenditure only.
• These junior managers should, however, have some knowledge of the overall budget and objectives.
• In the middle may be more senior managers and divisional directors, each with a wider area of responsibility for achieving the complete budget objectives.  If everyone else meets their targets they will have an easy job.

Budget must be relevant

Budgets should be designed to meet the needs of a particular organization and its managers.

For example, a large school could well have an expenditure budget of about $4 million.

• There will be little income and the budgeting emphasis will be on capital expenditure and revenue expenditure.  
• The main aims will be informed choice and value for money.

Main Principles of Budget for the Large and Small Companies

• The main principles devoted to the budget of a large company can also be used by a small organization.  
• There will be fewer managers involved, and less paper, but the same procedures should be followed.

After the budget has been approved ... what comes next?

After the budget has been approved, what comes next?  Quite possibly nothing at all.

This is a pity but it does not mean that the budgeting exercise has been a complete waste of time.

• The participants will have thought logically about the organization, its finances and its future.
• Some of the detail will remain in their minds and influence their future actions.
• Nevertheless, the budgets will be much more valuable if they are used in an active way.  

Regular performance reports should be issued by the accountants.

• These should be in the same format as the budgets.
• It should give comparable budget and actual figures.
• Variances should also be given.
• All levels of management should regularly review these figures and explain the variances.
• Significant variances will pose the question of whether corrective action needs to be taken.

Budgets do not necessarily have to be done just once a year.

They may be updated, reviewed or even scrapped and redone as circumstances dictate.

Cash Flow Forecast and the Balance Sheet Forecast

Cash-Flow Forecast

When the profit budgets are complete, it is important that a cash budget is prepared.

This is a Cash-Flow Forecast.  (click to understand this)

In practice, the profit budget and cash budget are linked.

• The profit budget cannot be completed until the interest figure is available.
• This in turn depends on the cash budget. 
• The cash budget depends partly on the profit budget.
• Dilemmas like this are quite common in budgeting.

It is usual to put in an estimated figure for interest and then adjust everything later if necessary.

This can be very time-consuming and budgeting is much simpler if it is computerized.

Several hours' work can be reduced to minutes and management is much freer to test budgets with useful "what if" questions.


Forecast Balance Sheet

Accounting rules stated that every debit has a credit.

It follows that every figure in the budgets has a forecast consequence in a future Balance Sheet.

It is normal to conclude the budgets by preparing a month-by-month forecast Balance Sheet and bankers are likely to ask for this.

It may be that some aspect of the Balance Sheet is unacceptable and a partial re-budget is necessary.

In practice, top management is likely to review and alter some aspects of the budgets several times.

The Capital Expenditure Budget

This is extremely significant in some companies, less so in others.

It will list all the planned capital expenditure showing the date when the expenditure will be made, and the date that the expenditure will be completed and the asset introduced to the business.

Major contracts may be payable in installments and the timing is important to the cash budget.

A sum for miscellaneous items is usually necessary.  For example, major projects might be listed separately and then $15,000 per month added for all projects individually less than $5,000.

Within the capital expenditure budget, timing is very important.

Expenditure affects cash and interest straight away.

Depreciation usually starts only on completion.

Revenue Expenditure Budgets

Revenue expenditure includes cost of sales (direct cost or variable cost) and overhead cost (indirect cost).

The cost of sales will consist of direct wages, items bought for resale, raw materials and others.

The Sales, Finance, and Administration Departments will make up the overhead budget.

In practice, this overhead budget is likely to be divided into three, with a different manager responsible for each section.

As with all the other budgets, each manager should submit a detailed budget for the section for which he or she is responsible.

As with the other budgets (e.g. sales budget), top management should give initial guidance on expected performance and policy assumptions.

For example, a manager might be told to assume a company-wide average pay rise of 5% on 1 January.

The Sales Budget

This should be in sufficient detail for management to know the sources of revenue.

The figures will be broken down into different products and different sales regions.

Each regional sales manager will have responsibility for a part of the sales budget.

Before the sales budget is done it would be normal for top management to issue budget assumptions concerning prices, competition, and other key matters.

The sales budget will be for orders taken.

There will usually be a timing difference before orders become invoiced sales.

The Profit Budget

There are usually several budgets and they all impact on each other.

The profit budget is arguably the most important.

There are two basic approaches to budgeting in a large organization, both having advantages and disadvantages..

1.   The "bottom up" method.  

• Proposals are taken from the lower management levels.  
• These are collated into an overall budget that may or may not be acceptable.  
• If it is not, then top management calls for revisions.

2.  The "top down" method.

• Top management issues budget targets.
• Lower levels of management must then submit proposals that achieve these targets.

In practice, there is often less difference between the two methods than might be supposed.

It is important that at some stage there is a full and frank exchange of views.

Everyone should be encouraged to put forward any constructive point of view, and everyone should commit themselves to listening with an open mind.

Top management will and should, have the final decisions.

It is a common mistake for managers to be too insular and to overlook what changes competitors are making.

All the budgets are important but in a commercial organization the overall profit budget is likely to be considered the most important.



Note the following points:

• Most budgets are for a year but this is not a requirement.  they can be for six months or for any other useful period.
• Most budget gives monthly figures, which is the most common division, but again this is not fixed.  the divisions can be weekly, quarterly or some other period.
• A summary budget is useful for a large organization.  The budgets leading up to these summarized figures will be more detailed.
• Various subsidiary budgets and calculations feed figures through to the summary budget.