The Purpose of Budgets

The Purpose of Budgets

Understanding Budgets

  • A budget is a financial plan that outlines an organisation’s projected income and expenses over a specific period of time.
  • It provides an estimate of the amount of money a business expects to receive and pay out during a set period, usually one fiscal year.

The Purpose of Budgets

Planning:

  • Budgets act as a tool for forecasting income and expenses, aiding in the strategic planning of an organisation’s activities.
  • They outline the financial strategy for a company, presenting and organising ideas in a quantifiable manner.
  • They assist managers in identifying where resources need to be allocated, and in what quantity.

Control:

  • The budgets allow managers to monitor and control costs by comparing actual income and expenditures with budgeted figures.
  • They help minimise financial risk by providing an early warning system for potential problems.
  • They assist management in taking corrective action when actual performance deviates from the budgeted performance.

Coordination & Communication:

  • Budgets help to align the different departments of an organisation, ensuring that everyone is working towards shared financial goals.
  • By setting financial targets, budgets can foster improved communication and coordination between various departments.

Motivation:

  • Budgets often have targets that, if met or exceeded, can lead to incentives or bonuses for employees.
  • They also give employees a clear indication of what is expected of them in terms of contributing towards the financial objectives of the business.

Performance Evaluation:

  • Budgets create a base against which actual performance can be compared, which is necessary for any performance appraisal process.
  • They allow businesses to evaluate how well they’re meeting their financial targets, helping to inform future planning and budgeting processes.

Allocation of Resources:

  • Through the use of budgets, businesses can ensure that they’re allocating their resources in the most effective way.
  • Budgets can aid in the decision-making process regarding where to allocate resources in order to maximise profitability.