Budget essay

Title: Budget essay
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Abstract
Budgeting plays an important role in business and concept of budgeting is important no matter how small the business is. Without budgeting, most businesses are likely to fail while those that do not budget correctly are likely to have the same effect.
Many businesses ignore the significance of budgeting or do not budget correctly as they feel it involves a lot of paperwork that consumes time that can be used elsewhere. The importance of budgeting is well beyond description
Introduction
A budget is a quantitative or financial statement that is prepared and approved before a definite time period, of the policy that is to be pursued during that time for the purpose of achieving a certain goal. They include expenditure, income and employment of capital. Budgeting is essential in planning, controlling, coordinating, motivating, evaluating and communicating. It can also be said to be a plan that ensures you have money for future activity, control finance and make sound financial decisions by relying on figures that would otherwise be based on guesswork and instincts. Consequently, a budget is a plan of outcome of future that the business wants to attain.
Budgeting therefore ensures sound financial management in a company or in domestic level. However, there are limitations associated with budgeting. These include imposition of pressure by the management which results in bad labor relations and inaccurate record keeping. It also results into departmental conflicts due to dispute over resource allocation.
Waste may also arise as managers adopt the view of spending in place of losing. This is accompanied by empire building in order to enhance the prestige of the company. There are also issues of responsibility and control. For instance; some costs are under the influence of more than one person e.g. power costs. Furthermore, there has been concern over accounting numbers as too narrow gauge of performance of an organization. There have also been situations of dysfunctional behaviors arising from reliance on budgets in assessment tasks. Because of these limitations, beyond-budgeting approach has been advised, where alternative methods of planning and control and performance evaluation methods are relied upon.
This article tries to examine various budgeting methods and their strengths and weaknesses and proposed improvements proposed for budgeting as well as those that relate to beyond budgeting. Their likely impact on planning and control of the organization is also looked into.
1. Types of budgets and their strengths and weaknesses
(a). Incremental budgeting
This is a traditional method commonly used in commercial organizations and public sector. Incremental budgeting implies basing the budget for a department or function on the department of the previous period, usually adjusting for inflation by a percentage increase. Some particular changes that would also be accounted for include planned expansion and reduction in activities. in certain cases, the previous year's actual costs may be used as starting point, in place of the budget, specifically if the actual costs were lower.
Advantages of incremental budgeting
The main advantages of incremental budgeting include:
1. The budget is stable and change can take place slowly in a planned manner.
2. It allows managers to operate their departments on consistent basis.
3. This type of budgeting is relatively simple to operate and understand.
4. Conflicts can be avoided if departments can be seen to be treated similarly, and coordination between budgets is easier to attain
5. Impact of change can be seen quickly.
Disadvantages of incremental budgeting
The main disadvantages of this method of budgeting are as follows:
1. Incremental budgeting assumes activities and methods of working will continue in the same way, giving no encouragement for developing new ideas.
2. There is no incentive to reduce costs- on the other hand, spending up to the budget is encouraged by this method, so that next financial year, the budget level is maintained.
3. The budgets may become obsolete and no longer relate to the level of activity or the type of work being done.
4. The priority for resources for resources may have been altered since the budgets were formed originally.
5. There may be 'budgetary slack' built in to the budgets, which is never renewed- this implies that managers have overestimated their requirements in the past, so that they can obtain a budget which is easier to work to, and which will contribute to favorable results.
(b)Zero based budgeting
This is a method that was developed in mid 1970s with a view to eliminating some limitations of incremental budgeting. It takes the reverse view: instead of assuming everything will continue as before, the objective is on attaining the organization's objectives in the most efficient way. Zero Base Budgeting ensures the budget for each budget centre starts from a base of zero for each period. Budgets for proposed activities are then suggested, assessed and prioritized with respect to the organization's needs, and allocated funds in order of priority.
The following are the stages in the process:
The functions of the organization are analyzed to determine the structure of departments to be used as budget centers.
The work of each department is then examined to identify the activities carried out.
Starting from a base of zero, budgets are made in each department, showing the costs of the work of the department; these budgets show the expected results at various levels of activity and are referred to as 'decision packages '.
Decision packages are then judged by managers and put in order according to how effectively they contribute to the organization's objectives.
The total resources are availed to the decision packages in the order of priority, thus dictating which activities are to be carried out and the level of their execution. If an activity is obsolete or contributing nothing, no funds will be allocated to it and it will be discontinued.
Advantages of zero base budgeting
The following are strengths associated with zero base budgeting:
1. It focuses the use of resources on achieving the organization's objectives.
2. Budget centre managers have to re-evaluate in detail the cost-effectiveness of the working methods and results achieved in their departments.
3. New projects are compared with existing work, so that innovation is encouraged, rather than assuming existing activities have to continue.
4. Allocation of resources is linked to the achievement of the results
5. Wastage and budgetary slack should be avoided, because budgets which are not cost-effective will not be given funds.
6. Planning and budgeting is combined into single process when the decision packages to be funded are selected.
Disadvantages of zero base budgeting
The following are limitations associated with zero base budgeting:
1. It is a complex process and therefore costly to operate
2. By separating different activities, links between them may not be allowed for, leading to uncoordinated approach.
3. Short-term benefits may be emphasized in the decision packages, to the disadvantage of long-term planning.
4. The process of judging and prio...