A budget is an agreed plan using numerical or finincial terms to anticipate the outcome of business but in order for it to work the plans need to be stuck to.
Income Budget - this shows the agreed, planned income of a business (or division of a business) over a period of time. (can also be referred to as revenue busget or sales budget).
Expenditure Budget - this shows the agreed, planned expenditure of a business (or division of a business) over a period of time.
Profit Budget - this shows the agreed, planned profit profit of a business (or division of a business) over a period of time.
Benefits of Budgeting
- To establish priorities byshowing the level of importance attached to a particular division
- To provide direction by ensuring that spending is geared towards the businesses aims
- To assign responsibility by identifying the person who is responsible for success or failure
- To motivate staff by giving them greater responsibility and recongnition when they meet targets
- To improve efficiency by investigating reasons for failure and success
- To encourage forward planning by studying possible outcomes
Drawbacks of Budgeting
Undesirebale consequences can occur if the budgets are too rigid
Incorrect allowcations - a budget that is too generous many enourage inefficiency. A budget that is insufficient will demotivate staff and hinder progress through lack of money
External factors - changes outside the busget holders' control may affect their ability to stick to the plan
Poor communicatio - budgets must be agreed between people who understand the area in question and also other factors that may influence the budgets
A variance represents the difference between the budget and the actual performance. If the variance reveals a poorer performance than planned, it is known as an adverse variance, e.g. higher costs or lower sales revenue. If the variance shows a better performance than planned, it is knows as a favourable variance, e.g. lower costs or higher sales revenue.
For an adverse variance, providing the factor that caused it is under the businesses control, alternaitive methods can be investigated. Favourable variances can be used to identify efficient methods that can be adopted more widely in the company.
Variance in costs can be cause by changes in:
- Material costs (cheaper or dearer)
- Efficiency changes
- Morale and efficiency of staff
- Quality of material
- Storage and wastage of materials