Budgeting

Overview

Budgeting is the process of creating a plan to spend your money and it is one of the most important concepts in finance that every business needs to understand.
It involves allocating financial resources to different departments or functions within an organisation.
The budgeting process helps an organisation to plan ahead, make informed decisions, and anticipate potential financial problems.

Financial Control: By setting expenditure limits, a budget effectively controls the financial operations of the business.
Performance Evaluation: Budgets are used as a yardstick against actual results to evaluate performance and highlight areas for improvement.
Planning: A budget provides a financial roadmap and helps in aligning all the departments towards organisational goals.
Risk Management: By forecasting revenues and expenses, budgets help businesses in identifying potential financial risks.

Master Budget: An all-encompassing budget capturing all the financial activities of a business.
Operating Budget: Contains detailed projection of all revenues and expenses during a specific period.
Cash Flow Budget: Estimates the inflow and outflow of cash within a business.

Setting Goals: Understand the financial and operational objectives that the business aims to achieve.
Projections: Estimate revenues and expenses for the budget period.
Draft Budget: Create a rough draft of the budget which outlines projected income and expenses.
Review and Adjust: Thorough and rigorous review of the draft budget, making necessary adjustments to align it with organisational objectives.
Approval and Implementation: After being reviewed and adjusted, the budget is then approved by relevant stakeholders and implemented.
Monitoring and Review: Regular monitoring of actual performance against the budget, followed by periodic reviews and adjustments as needed.

Estimation Uncertainty: Budgets are based on estimates and assumptions that may not be accurate, leading to deviation from actual results.
Time-Consuming: The process of creating, implementing, and monitoring a budget can be lengthy and complex.
Inflexibility: Traditional budgeting methods often fail to incorporate changes in business environment, and this might make the budget less effective.
Behavioural Issues: Budgets can sometimes create pressure on managers leading to short-term focus and negative behavioural issues.

Flexible budgeting allows businesses to adapt more quickly to changes in the business environment by modifying individual budgets as needed.
It aids in better performance evaluation by providing a more accurate interpretation of variances between budgeted and actual revenues or expenses.
Flexible Budgeting is a more realistic approach, as it takes into consideration the changes in volume or prices.