Chapter 3 AMAC

What are the different purposes of budgeting and what do they mean?

• Planning—> allows a business to plan revenue and costs for future periods and resources needed

• Co ordination—> activities of different departments need to be coordinated to ensure everyone in an organisation is working towards the same goal.

• Authorisation—> giving the responsibility of meeting the budget to the manager of that department, and authorisation

• Cost control—> existence of a budget will ensure managers try to limit the expenditure to that contained within the budget

• Potential for conflict—> emphasis on any of these areas can damage the business elsewhere, so care needs to be taken to ensure that a balance is maintained between them.

What are the limitations of secondary external sources of data?

• Users will be unaware of any limitations in the data

• Data may not be relevant to the needs of the business

• It may be out of date

• The geographical area covered may not be appropriate

Who does the budget committee consist of?

Consists of senior executives and the budget accountant

What are the key duties of the budget accountant?

• Preparing the budget for the organisation

• Preparing management accounts

• Communication results to senior management

What are the advantages and disadvantages of goal congruence and what could be a possible solution?

Advantage: Moves the business further towards its strategic goals.

Disadvantage: Can lead to conflict and rivalry between departments who blame each other if those targets are not achieved.

Solution: setting the employees’ and managers’ remuneration packages in such a way that the employee or manager is better off financially is they do work towards a corporate goal.

Different methods used for forecasting sales

• Knowledge of managers within the business.

• Market research and sampling to estimate demand for either a new product or a substantially modified product.

• Time series analysis

• Product life cycle analysis and market knowledge

• Index numbers

What are two ethical Issues of a budgetary control system?

• Budgetary slack (managers deliberately overestimate costs and underestimate sales)

• Using up all of the budget even when not needed

What are the advantages and disadvantages of top down budgeting

Advantages:

• Senior management will incorporate the strategic plans into all of the budgets

• The resource budgets will all be in harmony with each other

• Senior management has an overview of all the resources of the business.

• The budget will be produced more quickly

• Any input from junior management which may not be necessary as they do not have the right skill sets is eliminated

Disadvantages:

• Managers may become demotivated by the prospect of working to meet targets that someone else

• The managers detailed knowledge of a particular resource is ignored

• Managers may resent other departments for being allocated a proportionally greater share of the budget of the organisation which leads to rivalry

What are the advantages and disadvantages of bottom up budgeting

Advantages:

• Budgets are based on the detailed working knowledge of managers

• The motivation of the managers to achieve a budget which they have said will increase

• The managers commitment to the strategic plans of the company will increase

Disadvantages:

• The outcome of negotiations with the budget committee may cause the dissatisfaction

• The budgeting process will take more time and involve more personnel

• There may be a lack of coordination between resource budgets that must be correct

• Managers may be tempted to introduce budgetary/in order to ensure that when the actual results are compared to the budget, the outcome is favourable

What is incremental budgeting?

A method where the previous budget is adjusted for changes in price and activity level

What are the advantages and disadvantages of incremental budgeting?

Advantages:

• It is a simple procedure that will not require too much management time

• The budget is stable and changes are only gradual

• Coordination of budget is made easier

Disadvantages:

• Any inefficiencies in the original budget are repeated each period

• There is no incentive to reduce costs or develop new ideas

• The budget may be out of date

What is zero based budgeting

a method where the budget for each class centre is looked up from scratch for each period

What are the advantages and disadvantages of zero based budgeting?

Advantages:

• It challenges existing operations and forces an organisation to examine alternative activities and existing expenditure levels

• Budgetary slack in the budget in one period is not automatically reproduced in the budget for the next period.

• Inefficient practices can be removed

• The cost effect effectiveness of work practices and procedures is constantly being monitored

Disadvantages:

• It is time-consuming, complex and costly

• Short-term benefits are emphasised which may be detrimental in the long-term

What is activity based budgeting?

A method based on the usage of cost drivers throughout the organisation

What are the advantages and disadvantages of activity based budgeting?

Advantages:

• It attempts to provide meaningful product costs

• It recognises that many overhead costs arise out of the diversity and complexity of operation

• It facilitates a good understanding of what drives overhead costs so they can be better managed

Disadvantages:

• It is time consuming

• The ability of a single cost driver to fully explain the cost behaviour is questionable

• Some costs may not be able to relate production output

What are rolling budgets?

they are continually updated in order to project a continual amount of time into the future. They are one of the methods of dealing with uncertainty inherent in budgeting.

What are the advantages and disadvantages of rolling budgets?

Advantages:

• It gives budget holders and the budget committee and opportunity to react to changes in circumstances.

• it will enable a more accurate budget to be produced if any items could not be accurately forecast when the original budget was set

Disadvantages:

• Budgeting will have to be more frequent, therefore take up more management time

What are the external factors affecting cost forecasts?

• Market considerations

• PEST:

  Political

  Economic

  Social

  Technological

What performance related pay elements must be in place to ensure goal congruence?

• Target set must be seen as achievable by the manager

• Measurement of actual performance must be accurate

• Manager must feel they have control over all the costs/revenues

• Managers must not feel meeting their target is dependant on another manager

• Rewards being offered must be desirable enough to motivate the manager to meet the target