Management Accounting Notes

UNIT – I MANAGEMENT ACCOUNTING INTRODUCTION

• A business enterprise needs systematic records of day-to-day events to understand its financial position.

• Corporate sector businesses are legally required to prepare periodic financial statements.

• Accounting systematically records daily business events, presenting a complete financial picture, and is considered the language of business.

MEANING OF ACCOUNTING

• Accounting involves recording classifying, summarizing, analyzing, and interpreting financial transactions for the benefit of management, shareholders, creditors, bankers, customers, employees, and the government.

• It focuses on financial reporting and decision-making.

• AICPA (1941) Definition: "The art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions and events which are, in part at least, of a financial character and interpreting the results thereof."

BRANCHES OF ACCOUNTING

• Accounting is classified into three categories:

  • Financial Accounting

  • Cost Accounting

  • Management Accounting

FINANCIAL ACCOUNTING

• The term "Accounting" typically refers to "Financial Accounting" unless specified otherwise.

• Financial Accounting occurs in general business offices and deals with revenues, expenses, assets, and liabilities.

• It has two main objectives:

  • To determine the profitability of the business.

  • To understand the financial position of the business entity.

COST ACCOUNTING

• Accounting systems provide necessary and accurate information to stakeholders.

• Financial accounting often satisfies most information needs, but management requires more detailed data.

• Management focuses on the future; cost accounting helps businesses that manufacture goods or offer services.

• Developed due to financial accounting limitations; it extends financial accounting.

• The factory system's rise spurred cost accounting's development as a method of accounting for costs.

• Recording and accounting for all cost elements is cost accounting.

• ICWA (London) Definition of Costing: ―the process of accounting for cost from the point at which expenditure is incurred or committed to the establishment of its ultimate relationship with cost centres and cost units. In its wider usage it embraces the preparation of statistical data, the application of cost control methods and the ascertainment of the profitability of activities carried out or planned.‖

• ICWA (India) Definition of Cost Accounting: ―the technique and process of ascertainment of costs. Cost accounting is the process of accounting for costs, which begins with recording of expenses or the bases on which they are calculated and ends with preparation of statistical data.‖

• Cost Accounting: Process applied to elements of costs (Materials, Labour, and Other expenses).

MANAGEMENT ACCOUNTING

• It's a flexible accounting approach, enhancing business effectiveness and efficiency.

• Supplies economic information to managers for organizational goals, extending cost accounting.

• Information is often financial but structured for specific decisions.

• It involves studying accounting's managerial aspects, redesigning it to aid policy creation, execution control, and effectiveness evaluation.

• Management accounting emerged around 1950, initiated by a team of accountants in the U.S.A.

• Anglo-American Council on Productivity Definition: ―the presentation of accounting information in such a way as to assist management to the creation of policy and the day to day operation of an undertaking‖

• American Accounting Association Definition: ―the methods and concepts necessary for effective planning for choosing among alternative business actions and for control through the evaluation and interpretation of performances‖

• ICAI Definition: ―Such of its techniques and procedures by which accounting mainly seeks to aid the management collectively has come to be known as management accounting‖

• Financial data is recorded, analyzed, and presented to management to aid systematic planning and business operations.

Difference between Financial Accounting and Management Accounting

• Meaning:

  • Financial Accounting: Prepares financial statements for external parties.

  • Management Accounting: Provides relevant information to managers for policy, plans, and strategies.

• Legally Compulsory:

  • Financial Accounting: Yes

  • Management Accounting: No

• Information Nature:

  • Financial Accounting: Monetary.

  • Management Accounting: Monetary and non-monetary.

• Format:

  • Financial Accounting: Specified.

  • Management Accounting: Not specified.

• Objective:

  • Financial Accounting: Provide financial information to outsiders.

  • Management Accounting: Assist management in planning and decision-making.

• Time Frame:

  • Financial Accounting: End of accounting period (usually one year).

  • Management Accounting: As per the organization's needs.

• User:

  • Financial Accounting: Internal and external parties.

  • Management Accounting: Only internal management.

• Reports:

  • Financial Accounting: Summarized reports on financial position.

  • Management Accounting: Complete and detailed reports.

• Publishing and Auditing:

  • Financial Accounting: Required to be published and audited.

  • Management Accounting: Neither published nor audited.

• Scope:

  • Financial Accounting: Large, but less than Management Accounting.

  • Management Accounting: Much broader.

• Dependence:

  • Financial Accounting: Not dependent on Management Accounting.

  • Management Accounting: Dependent on Financial Accounting.

• Basis of Decision Making:

  • Financial Accounting: Historic information.

  • Management Accounting: Historic and predictive information.

• Rules:

  • Financial Accounting: Follows GAAP.

  • Management Accounting: No specific rules.

• Verifiable:

  • Financial Accounting: Verifiable.

  • Management Accounting: Predictive, not immediately verifiable.

Difference between Cost Accounting and Management Accounting

• Meaning:

  • Cost Accounting: Recording, classifying, and summarizing cost data.

  • Management Accounting: Financial and non-financial information for managers.

• Information Type:

  • Cost Accounting: Quantitative.

  • Management Accounting: Quantitative and Qualitative.

• Objective:

  • Cost Accounting: Ascertain production costs.

  • Management Accounting: Inform managers to set goals and forecast strategies.

• Scope:

  • Cost Accounting: Ascertainment, allocation, distribution, and accounting of costs.

  • Management Accounting: Impact and effect aspect of costs.

• Specific Procedure:

  • Cost Accounting: Yes

  • Management Accounting: No

• Recording:

  • Cost Accounting: Records past and present data.

  • Management Accounting: Analysis of future projections.

• Planning:

  • Cost Accounting: Short range planning.

  • Management Accounting: Short and long range planning.

• Interdependency:

  • Cost Accounting: Can be installed without management accounting.

  • Management Accounting: Cannot be installed without cost accounting.

• Based On:

  • Cost Accounting: Data from Financial accounting

  • Management Accounting: Data from both Financial and cost accounting

• Users:

  • Cost Accounting: Internal management, shareholders, and creditors.

  • Management Accounting: Only Internal Management

• Principles:

  • Cost Accounting: Only cost accounting Principles are followed

  • Management Accounting: Both financial accounting and cost accounting principles are followed

OBJECTIVES OF MANAGEMENT ACCOUNTING

• Maximizing Profits or minimizing Losses.

• New approach to the function of accounting.

  • Planning and policy formulation: Forecasting, setting goals, determining actions.

  • Interpretation process: Presenting technical financial information understandably, using statistical tools.

  • Assists in Decision-making process: Making decision-making more scientific with relevant data analysis.

  • Controlling: Using tools like standard costing and budgetary control.

  • Reporting: Keeping management informed for quick decisions.

  • Facilitates Organizing: Stresses on Responsibility Centres, facilitates decentralization.

  • Facilitates Coordination of Operations: Provides tools for overall control and coordination.

NATURE AND SCOPE OF MANAGEMENT ACCOUNTING

• Furnishing accounting data for decision-making, improving efficiency, and achieving goals.

  • Provides accounting information: Service function supplying information to management.

  • Cause and effect analysis: Explores reasons for losses and influences on profitability.

  • Use of special techniques and concepts: Like financial planning, standard costing, budgetary control.

  • Taking important decisions: Informing management with data impacting future decisions.

  • Achieving of objectives: Comparing performance, enabling corrective actions.

  • No fixed norms: Adapting rules and tools based on specific concern needs.

  • Increase inefficiency: Performance appraisal, pinpointing efficient and inefficient areas.

  • Supplies information and not decision: Guiding management.

  • Concerned with forecasting: Planning for the future.

LIMITATIONS OF MANAGEMENT ACCOUNTING

• Relies on accuracy of financial and cost accounting data.

• It is a tool, not a substitute for management.

• High installation costs limit accessibility primarily to larger companies.

• Subjectivity in interpretation du

  
  

  e to personal bias.

• Resistance from organizational change and new regulations.

• Developmental stage lacks exact concepts and conventions.

• Provides data, informs, but does not prescribe decision.

• Wide scope can lead to implementation challenges.

MANAGEMENT ACCOUNTANT

• Officer responsible for management accounting.

• Plays role in organizational decision-making.

• Responsible for installing, developing, and efficiently managing the management accounting system.

• Framework Financial and Cost control reports provides most useful data at appropriate time

• Described as Chief Intelligence Officer because of knowledge about the organization.

Role of Management Accountant

• Part of the management team, responsible for collecting vital information.

• Functions laid down by Controller’s Institute of America include:

  • Establish and coordinate control operations.

  • Compare performance with plan, report results.

  • Consult on policy, effectiveness.

  • Administer tax policies.

  • Supervise reports to government.

  • Ensure asset protection.

  • Appraise economic/social forces.

Duties and Responsibilities of Management Accountant:

• Assist management in correct policy decisions.

• Performs staff function and has line authority over accountants.

• They provide input to decisions based on the information tendered and advice if detrimental to the interest of the concern.

• Held liable for wrong decisions influenced by inaccuracy, fabricated data.

• Duties defined by the Controllers Institute of America:

  • Installation and interpretation of accounting records.

  • Preparation and interpretation of financial statements.

  • Continuous audit of all accounts.

  • Compilation of costs of distribution and production.

  • Taking and costing of all physical inventories.

  • Preparing and filing tax returns.

  • Standard practices including clerical and office methods, records, reports and procedures.

Questions:

1. What is Management Accounting? Discuss its nature scope and objectives

2. Discuss the advantages and limitations of Management Accounting

3. Discuss the difference between Financial accounting and Management accounting

4. What are the difference between cost accounting and Management accounting?

5. Discuss the role of Management accountant.

6. Discuss the duties and responsibilities of Management Accountant

Financial Statements UNIT – II SECTION – A ANALYSING FINANCIAL STATEMENTS

Objectives

• Analyze financial statements of any organization.

• Understand a firm‘s position and performance

MEANING AND TYPES OF FINANCIAL STATEMENTS

• Financial statement is an organized data collection based on accounting procedures.

• Convey understanding of financial aspect of business.

• Shows position at a time (Balance Sheet) or over a period (Income Statement).

• The term 'financial statements' generally refers to two basic statements:

  • the Income Statement

  • the Balance Sheet

• Others include

  • Statement of Retained Earnings

  • Statement of Changes in Financial Position

Income Statement

• Explains business operations between two balance sheet dates.

• Matches revenues and costs to show net profit/loss.

• Inputs produce outputs; outputs are goods and services, amounts paid are revenues, inputs are expenses.

Balance Sheet

• Reports financial position at a point in time.

• Assets owned by the business and the owner’s/outsiders’ claims against those assets.

• Income Statement is for a period; Balance Sheet is on a particular date.

• Income Statement is a flow report; Balance Sheet is a static report. Both are complementary.

Statement of Retained Earnings

• Shows accumulated excess of earnings over losses and dividends.

• Connects Income Statement to Balance Sheet, displaying factors changing retained earnings.

• Termed as Statement of Changes in Financial Position.

Statement of Changes in Financial Position(SCFP)

• Balance Sheet shows financial condition; Income Statement shows operations results.

• Identifies movement of working capital or cash.

• Aspects include:

  • Change in working capital position (Funds Flow Statement).

  • Change in cash position (Cash Flow Statement).

  • Change in overall financial position.

ANALYSIS AND INTERPRETATION OF FINANCIAL STATEMENTS

• Profitability and sound finance.

• Analysis classifies data, and interpretation explains the data so simplified.

• Both complement each other; analysis involves interpretation.

• Financial statement analysis is a study of the relationship among financial factors and their trends.

TYPES OF FINANCIAL ANALYSIS

• Material Used

• Modus Operandi of Analysis

On the Basis of Material Used

• External Analysis:

  • By outsiders (investors, credit agencies).

  • Limited scope using published statements.

• Internal Analysis:

  • By insiders (executives, employees, government officers).

  • Access to books, accounts and internal books.

On the Basis of Modus Operandi

• Horizontal Analysis:

  • Reviews financial statements for multiple years.

  • Compares figures of current year with standard/base year.

  • Also called 'Dynamic Analysis'.

• Vertical Analysis:

  • Studies quantitative relationship of various items in the financial Statements.

  • Compares companies/departments in a group.

  • Called 'Static Analysis'.

• Both vertical and horizontal analyses can be done simultaneously.

STEPS INVOLVED IN FINANCIAL STATEMENTS ANALYSIS

• Methodical classification of data.

• Comparison of figures with 'Tools of Financial Analysis'.

• Proper arrangement of figures and presenting in a vertical column that facilities comparison.

TECHNIQUES OF FINANCIAL ANALYSIS

• Comparative Financial Statements

• Common-size Financial Statements

• Trend Percentages

• Funds Flow Analysis

• Cost-Volume-Profit Analysis

• Ratio Analysis

Comparative Financial Statements

• Figures for two or more periods are placed side by side to facilitate comparison.

• Both Income Statement and Balance Sheet can be prepared in the form of Comparative Financial Statements.

• Comparative Income Statement:

  • Shows net profit/loss figures for two or more periods, absolute change, and percentage change.

  • Reveals sales and expenses trends.

• Comparative Balance Sheet:

  • Compares assets/liabilities on different dates, showing increases or decreases.

  • Studies trends in an enterprise.

• Comparative Financial Statements can be prepared for more than two periods or more than two dates.

• The presentation of comparative financial statements enhances reports' usefulness and brings out the nature and trend of major changes affecting an enterprise.

Common-size Financial Statements

• Figures reported are converted into percentages of some common base.

• In an Income Statement, the sale figure is considered 100%.

Trend Percentages

• Comparative study of financial statements for several years.

• Calculates percentage relationship each item bears to the same item in the base year.

• Percentages serve as Index Numbers showing relative changes.

• Useful for highlighting important changes.

• Calculations should be made carefully - accounting principles and practices should be consistent; the base year should be a normal year; items should have logical relationships; absolute figures should be considered. The current year’s figures should also be adjusted in the light of price level changes as compared to the base year, before calculating the trend percentages.

Funds Flow Analysis

• Reveals changes in working capital position, sources, and uses.

Cost-Volume-ProfitAnalysis

• Studies relationship between cost, production volume, sales, and profit.

RatioAnalysis

• Most important tool for financial analysts.

• Shows mathematical relationship between accounting figures.

• Expressed as percentage, rate, or pure ratio.

• Classified into liquidity, solvency, activity, and profitability ratios.

Liquidity Ratios

• Measures ability to meet short-term obligations.

• Shows short-term financial solvency.

• Current Ratio

• Quick Ratio

Current Ratio

• Relationship between current assets and current liabilities.

• Measure the ability of the firm to meet its short-term obligations.

• The objective is to measure the safety margin available for short-termcreditors.

• Current Assets: assets converted into cash within a year (cash, marketable securities, debtors, stock).

• Current Liabilities: liabilities maturing within a year (creditors, bills payable, bank overdraft).

• Higher the ratio, greater the safety margin.

• CurrentAssets / CurrentLiabilities

• A current ratio of 2: 1 is considered to be a satisfactory ratio.

Quick Ratio

• Relationship between quick assets and current liabilities.

• Ability of the firm to meet its short-term obligations.

• Quick assets are converted into cash immediately or at a short notice without a loss of value.

• QuickAssts/ CurrentLiabilities

• Traditionally, a quick ratio of 1:1 is considered to be a satisfactory ratio.

SOLVENCY RATIOS

• Show long-term financial solvency.

• Measure ability to pay interest and repay principal.

• Debt-Equity Ratio

• Debt Total Funds Ratio

• Interest Coverage Ratio

Debt-Equity Ratio

• Relationship between long-term debts and share-holders' funds.

• Measure the relative proportion of debt and equity.

• Long - term Debts / Shareholders 'Funds

Debt Total Funds Ratio

• Long-term Debt / Capital Employed

Interest Coverage Ratio (or Time-interest Earned Ratio or Debt-Service Ratio)

• Relationship between net profits before interest and taxes and interest on long-term debt.

• Measure the debt-servicing capacity.

• Net Profit before interest and taxes/ Interest on Long-term debt

• Interest coverage ratio shows the number oftimes the interest charges are covered by the profits out of which they will be paid.

ACTIVITY RATIOS

• Measure effectiveness of resource use.

• Also called Turnover Ratios.

• Includes:

  • Capital Turnover Ratio

  • Fixed Assets Turnover Ratio

  • Net Working Capital Turnover Ratio

  • Stock Turnover Ratio

  • Debtors Turnover Ratio.

  • Creditors Turnover Ratio.

Capital Turnover Ratio

• Relationship between net sales and capital employed.

• To determine the efficiency for capital employed isutilized.

• Net Sales/ Capital Employed

Fixed Assets Turnover Ratio

• Relationship between net sales and fixed assets.

• To determine the efficiency for fixed assets areutilized.

• Net Sales / Net Fixed Assets

Working Capital Turnover Ratio

• Relationship between net sales and working capital.

• To determine the efficiency for working capital isutilized.

• Net Sales / Working Capital

Stock Turnover Ratio

• Relationship between costs of goods sold and average inventory.

• To determine the efficiency for the inventory isutilized.

• Cost of Goods Sold / Average Inventory

• It indicates the speed with which the inventory is converted into sales.

Profitability Ratio Analysis

• Indicates a firm’s ability to earn a profit.

Net Profit Margin

• Measures net income generated by 1 dollar of sales.
  $Net Profit Margin = Net Income Before Noncontrolling Interest, Equity Income and Nonrecurring<br>Items ÷ Net Sales$

Gross Profit Margin

• Measuring the amount of its gross profit per 1 sales dollar.
  $Gross Profit Margin = Gross Profit ÷ Net Sales$

Operating Income Margin

• The operating income margin is a measure of operating income of an enterprise, generated by 1 dollar of sales
  $Operating Income Margin = (Net Sales – Costs of Goods Sold – Operating Expenses) ÷ Net Sales$
  Or $Operating Income Margin = Operating Income ÷ Net Sales$

Return on Assets

• Return on assets is a ratio, indicating how well company is able to utilize its assets.
  $Return on Assets = Net Income Before Noncontrolling Interest of Earnings and Nonrecurring<br>Items ÷ Average Total Assets$

Return on Operating Assets

• This ratio includes only operating income and operating assets to the computation in order to focus on only revenue generating kind of assets.
  $Return on Operating Assets = Operating Income ÷ Average Operating Assets$

Return on Investment

• Measures the income earned on investments
  $Return on Investment = Net Income before Noncontrolling Interest and Nonrecurring Items +<br>Interest Expense ÷ Average (Long-Term Liabilities + Equity)$

Return on Equity

• Measures the ability of a company to generate profits from the stockholders’ investments.
  $Return on Equity (ROE) = Net Income Before Noncontrolling Interest and Nonrecurring Items ÷<br>Total Equity$
  Or $Return on Equity (ROE) = Net Profit After Taxes ÷ Equity$

DuPont Return on Assets

• Is the return on equity calculation, broken into three parts. This was done to show that the return on assets depends on asset turnover and profit margin. \
  $Net Income Before Noncontrolling Interest and Nonrecurring Items ÷ Average Total Assets =<br>Net Income Before Noncontrolling Interest and Nonrecurring Items ÷ Net Sales × Net Sales ÷<br>Average Total Assets$

LIMITATIONS OF FINANCIAL ANALYSIS

• Only a Means.

• Ignores Price Level Changes.

• Financial Statements are Essentially Interim Reports.

• Accounting Concepts and Conventions.

• Influence of Personal Judgment.

• Disclose only Monetary Facts.

SELF – ASSESSMENT QUESTIONS (SAQs)

1. What are Common-size FinancialStatements?

2. Case the salient features of the various methods of Financial Statements

3. What tools are used to analyze the financialstatements?

4. What significant inferences are brought out by the statement of cashflow?

5. What are the limitations of cash flowstatements?

6. What are the categories under which the various ratios aregrouped?

7. What does Debt-equity Ratioindicate?

8. What is an activity costpool?

9. Describe the benefits of TargetCosting.

10. Describe the major characteristics of product life cycleconcept.

Fund Flow Statement: Meaning, Objectives and Preparation

Meaning of Fund Flow Statement

• It shows the flow financial position between two balance sheet dates clearly showing different sources and applications of funds.

• It summarizes the financing and investing activities of the enterprise during an accounting period.

• If the total of inflows is greater than the outflows, the excess goes to increase in working capital.

• If there is deficit of funds during a particular accounting period, the working capital is impaired.

Objectives of Fund Flow Statement

1. Fund flow statement reveals clearly the changes in items of financial position between the balance sheet dates showing clearly the different sources and applications of funds.

2. It reveals how much of the total funds are being collected by disposing of fixed assets, from issuing shares or debentures, how much from long-term or short-term loans and how much from normal operational activities of thebusiness.

3. It provides information about the specific utilization of such funds i.e., how much has been used for fixed assets, redemption of preference shares, debentures or for short-term loans as well as payment of tax, dividend etc.

4. Helps management to depict all inflows and outflows of funds, which cause change in working capital.

5. The projected fund flow statement helps management to exercise budgetary control and capitalexpenditure control in the enterprise.

Importance of Fund Flow Statement

1. Statement helps us to answers financial questions
   (a)How much fund flowed into the business?
   (b) How much of these funds were provided by the operations?
   (c)What are the other sources of funds?
   (d)How were these funds used?
   (e) How was the purchase of fixed assets financed?

2. Rational Allocation of Policy: Financial resources are always limited. So it helps management to make its properuse.

3. Guide to Future Course of Action: The future needs of the fund for various purposes can be known well in advance from the projected fund flowstatement

4. Proper Managing of Working Capital: It helps management to know whether working capital has been effectively used to the maximum extent in business operations ornot.

5. Analyses Financial Statements: Inflow and outflow of funds/helps to take corrective measuresin thefuture

Limitations of Fund Flow Statement

1. Historical inNature: It does not estimate the sources and application of funds for the near future.

2. Structural Changes Not Disclosed: The fund flow statement does not disclose the structural changes financial relationship in afirm.

3. Not Foolproof: he defects in financial statements will be carried over to the fund flow statement also.

4. Ignores Non-Fund Items:As fund flow statement ignores non-fund items, becomes as crude device compared to income. statement and balance sheet.

5. Not Relevant: A study of changes in cash (i.e., cash flow statement) is more relevant than a study of changes in the funds for the purposes of managerial decisionmaking.

CASH FLOW ANALYSIS

MEANING OF CASH FLOW STATEMENT

• It depicts change in cash position from one period to another.

• Explains the reasons for cash inflows or outflows.

• Helps management in immediate planning.

PREPARATION OF CASH FLOW STATEMENT

• Prepared similarly to Funds Flow Statement.

SOURCES OF CASH

Internal Sources

• Cash from operations, Depreciation, Amortization of Intangible Assets, Loss/Gains on Sale of Fixed assets, Creation ofReverses.

External Sources

• Issue of New Shares, Raising Long-term Loans, Purchase of Plant and Machinery on Deferred Payments, Short-term Borrowings, Sale of Fixed Assets, Investment, etc.

APPLICATIONS OF CASH

• Purchase of Fixed Assets, Payment of Long-term Loans, Decrease in Deferred Payment Liabilities, Loss on Account of Operations, Payment of Tax, Payment of Dividend.

DIFFERENCE BETWEEN CASH FLOWANALYSISAND FUNDS FLOWANALYSIS

• Cash Flow Statement focuses on change in cash position while Funds Flow Analysis deals with change in working capitalposition.

• A Cash Flow Statement is a record of cash receipts and disbursements which fails to bring out many important changes which involve the disposition of resources. While studying the short-term solvency of a business one is interested not only in cash balance but also in the assets which are easily convertible intocash.

UTILITY OF CASH FLOW ANALYSIS

• Helps in Efficient Cash Management, Helps in Internal Financial Management, Discloses the Movements of Cash, Discloses Success or Failure of CashPlanning.

LIMITATIONS OF CASH FLOW ANALYSIS

• CashflowstatementcannotbeequatedwiththeIncomeStatement, thecashbalanceasdisclosedbythecashflowstatementmaynotrepresenttherealliquidposition, Cash flow statement cannot replace the Income Statement or the FundsFlowStatement.

• SELF – ASSESSMENT QUESTIONS (SAQs)

1. What are Common-size FinancialStatements?

2. Case the salient features of the various methods of Financial Statements.

3. What tools are used to analyze the financialstatements?

4. What significant inferences are brought out by the statement of cashflow?

5. What are the limitations of cash flowstatements?

6. What are the categories under which the various ratios aregrouped?

7. What does Debt-equity Ratioindicate?

8. What is an activity costpool?

9. Describe the benefits of TargetCosting.

10. Describe the major characteristics of product life cycleconcept.

BUDGETS AND BUDGETORYCONTROL

Introduction:

• Effective and efficient management helps and organisation to achive objectives chalkingout of actions in advace.

Definition of Budget:

• A budget is a comprehensive and coordinated plan, expressed in financial terms, for the operations and resources of an enterprise for some specific period in thefuture.

• A budget is a predetermined detailed plan of action developed and distributed as a guide to current operations and as a partial basis for the subsequent evaluation ofperformance.

• A budget is a financial and/or quantitative statement, prepared prior to a defined period oftime, of the policy to be pursued during the period for the purpose of attaining a givenobjective.

Elements of Budget:

1. It is a comprehensive and coordinated plan ofaction.

2. It is a plan for the firm‟s operations andresources.

3. It is based on objectives to beattained.

4. It is related to specific futureperiod.

5. It is expressed in financial and/or physicalunits.

Budgeting:

• Budgeting is the process of preparing and using budgets to achieve managementobjectives.

• It is the systematic approach for accomplishing the planning, coordination, and controlresponsibilities of management by optimally utilizing the givenresources.

• ―The entire process of preparing the budgets is known as Budgeting. Elements ofBudgeting

Budgetary Control:

• the establishment of the budgets relating to the responsibility of executives to the requirements of a policy and the continuous comparison of actual with budgeted result either to secure by individual action the objectives of that policy or to provide a firm basis for itsrevision―

• Budgetary Control is a planning in advance of the various functions of a business so that the business as awhole iscontrolled‟

• Budgetary Control is a system of controlling costs which includes the preparation of budgets,coordinating the department and establishing responsibilities, comprising actual performance with the budgeted and acting upon results to achieve maximump profitability. Elements ofbulk get earlycontrol:
  1.Establishment of budgets for each function and division of theorganization.
  2.Regular comparison of the actual performance with the budget to know the variations from budget and placing the responsibility of executives to achieve the desire result as estimated in thebudget.

1. Taking necessary remedial action to achieve the desired objectives, if there is a variation of the actual performance from the budgetedperformance. Eliminatingwastes and increasing profitability
   4.Revision of budget when circumstances change

• Objectives of Budgetary Control.

1. Planning: It operates as a mechanism through which objectives and policies are carriedout, helpful in selecting a most profitable alternative.

2. Co-ordination: coordinates various activities of the business to achieve its common objectives.

3. Control: compares the actual performance with that of the budgeted performancerequirescorrectsaction.

Installation of Budgetary Control

• There are certain steps necessary to install a good budgetary control system in anorganization.

  • Determination of theObjectives

  • Organization forBudgeting

  • BudgetCentre

  • BudgetOfficer

  • BudgetManual

  • BudgetCommittee

  • BudgetPeriod

  • Determination of KeyFactor

Types of Budgeting:

1. According toFunction

2. According toFlexibility

3. According toTime

According to Function:

• Sales Budget: The budget which estimates total sales in terms of items, quantity, value, periods, areas,etc,

• Production Budget: It estimates quantity of production in terms of items, periods, areas,etc. It is prepared on the basis of Sales

• Budget: Cost of Production Budget: This budget forecasts the cost of production

• Personnel budget: The budget that anticipates the quantity of personnel required during a periodfor production activity

• Research budget: The budget relates to the research work to be done for improvement in quality of the products or research for new products

• Capital expenditure budget: that may be required for procurement of capital assets during the budget.

• Cash budget: This budget is a forecast of the cash position by time period for a specific duration oftime.

• Master budget: It is a summary budget incorporating all functional budgets in a capsuleforn.

i. According toFlexibility:

• On the basis of flexibility, budgets can be divided into twocategories.
  ○Fixed Budget Fixed Budget is one which is prepared on the basis of a standard or a fixed level
  ○ Flexible Budget A budget prepared to give the budgeted cost of any level of activity is termed as a flexiblebudget. In accordancewith level of activityattained.It isgenerally prepared by taking into account the fixed and variable elements ofcost.

According toTime:

• The budget can be classified as follows:

  • Long termbudget

  • Short termbudget

  • Currentbudget

  • Rollingbudget

PREPARATION OF BUDGETS:

I. SALESBUDGET:

• Sales budget is the basis for the preparation of other budgets.

• It is the forecast of sales to be achieved in a budget period.

II. PRODUCTIONBUDGET:

$Production = Sales + Closing Stock – Opening Stock$

FLEXIBLEBUDGET:

• A flexible budget consists of a series of budgets for different level of activity.

• Therefore, it varies with the level of activityattained.

• It is prepared by taking into account the fixed and variable elements ofcost.

• Fixed expenses will remain constant at all capacities.

• Semi-variable expenses will not change between 45% and 60% capacity, will rise by 10% between 60% and 75% capacity, a further increase of 5% when capacity crosses75%.

ZERO BASE BUDGETING (ZBB)

• It is a management technique aimed at costreduction.

• Every budget starts with a zero base.

• No previous figure is to be taken as a base foradjustments

• Each budget allocation is to be justified on the basis of anticipatedcircumstances

• Alternatives are to be given due consideration

PERFORMANCE BUDGETING:

• It involves evaluation of the performance of the organization in the context of both specific as well as overall objectives of theorganization.

MASTER BUDGET:

• Master budget is a comprehensive plan which is