THE PURPOSE OF BUDGETS AIMS Forecasting Planning Control Communication Co-ordination Evaluation Motivation Authorization and delegation THE PERFORMANCE HEIRARCHY Strategic planning is long term , looks at the whole organization and defines resource requirements Tactical planning is medium term, looks at the department/ divisional level and specifies how to use resources Operational planning is very short tem very detailed and is mainly concerned with control . Most budgeting activities fall within operational planning and control

ESSENTIALS OF SUCCESSFUL BUDGETING Top management support Clear and realistic goals Assignment of Authority and responsibility Creation of responsibility centres Reasonable participation Effective communication Budget education Flexibility.

BUDGETS AND PERFORMANCE MANAGEMENT Responsibility accounting Responsibility accounting divides the organisation into budget centres , each of which has a manager who is responsible for its performance The budget is the target against which the performance of the budget centre or the manager is measured

. Advantages Disadvantages Goal congruence Managers may be involved In setting targets , which may make them more realistic Budget targets can be linked to individual rewards , which may be provide motivation to improve performance Managers may work towards specific short term targets to the detriment of long term organisational goals Managers may distort results to try to exceed targets and gain rewards

Management by exception Comparing budgeted results to actual results allows managers to focus on areas that differ from the plan, thus letting them concentrate on areas that might need attention

BEHAVIOURAL ASPECTS OF BUDGETING KEY ISSUES . Dysfunctional behaviour- Want goal congruence Budgetary slack Target setting and Motivation An expectations budget is a budget set at current achievable levels. This is unlikely to motivate managers to improve but may give more accurate forecasts for resource planning An aspirations budget is a budget set at a level which exceeds the achievable level. This will motivate managers to improve if it is seen as attainable but may always result in an adverse variance. This must be managed carefully For Motivation purposes, an aspirations target should be set slightly above the anticipated performance level

Targets should be Communicated in advance Dependent on factors controllable by the individual Based on quantifiable factors Likely to appropriate rewards and penalties Chosen carefully to ensure goal congruence

PARTICIPATION- TOP DOWN V BOTTOM UP Advantages of participative budgets Disadvantages of participative budgets Increased motivation Should contain better information, especially in a fast moving or changing environment Increases managers’ understanding and commitment Better communication Senior managers can concentrate on strategy Senior managers may resent loss of control Bad decisions from inexperienced managers. Budgets may not be in line with org objectives Budget preparation is slower and disputes can arise Figures may be subject to bias if junior managers either try to impress or set easly achievable targets ( Budgetary slack) Certain environments may preclude participation eg a procurement manager may be faced with long term contracts already agreed.

. Conflicting objectives Rolling ( Continous) budgets Company v division Division v division Short termism Individualism Rolling V periodic budgeting Periodic budgets The budget is prepared fro typically one year at a time. No alterations once the budget has been set . Suitable for stable organisations where forecasting is easy and where tight control is not necessary. A budget kept continuously up to date by adding another accounting period ( eg month or quarter) when the earliest accounting period has expired Aim: To keep tight control and always have an accurate budget for the next 12 months. Suitable if accurate forecasts cannot be made , or for any area of organisation that needs tight control

. Advantages of rolling budgets More costly and time consuming Disadvantages of rolling budgets The budgeting process should be more accurate Much better information upon which to appraise the performance of management The budget will be much more relevant by the end of the traditional budgeting period It forces management to take the budgeting process more seriously More costly and time consuming An increase in budgeting work may lead to less control of the actual results

INCREMENTAL AND ZERO BASED BUDGETING Incremental budgeting Advantages of incremental budgeting Start with the previous period’s budget or actual results and add ( or subtract) an incremental amount to cover inflation and other known changes Suitable for stable organisations where costs are not expected to change significantly . There should be good cost control and limited discretionary costs Quickest and easiest method Assuming that the historic figures are acceptable , only the increment needs to be justified Avoids ‘reinventing the wheel”.

FEED FORWARD CONTROL Feed forward control is defined as the forecasting of differences between actual and planned outcomes and the implementation of actions before the event , to avoid such differences An example would be suing a cash flow budget to forecast a funding problem and as a result arranging a higher overdraft well in advance of the problem

. ZERO BASED BUDGETING Advantages of zero based budgeting Preparing a budget from a zero base, as though there is no expectation of current activities to continue from one period to the next, and justifying every piece of expenditure 1. Identify all possible services ( and levels of service) and then cost each service or level of service ; these are known individually as decision packages. 2. Rank the decision packages in order of importance 3. Identify the level of funding that will be allocated to the department Emphasis on future need not past actions Eliminates past errors that may be perpetuated in an incremental analysis A disincentive for management to introduce slack into their budgets as each UGX has to be justified A considered allocation of resources Encourages cost reduction Establishes priorities Produces a working plan than can be adjusted if resource availability changes

Activity Based budgeting Disadvantages of zero based budgeting Activity Based budgeting Can be costly and time consuming May lead to increased stress for management Only really applicable to a service environment may re invent the wheel each year May lead to lost continuity of action and short term planning Use ABC for budgeting purposes Step 1. Identify cost pools and cost drivers Step 2. Calculate a budgeted cost driver rate based on budgeted cost and budgeted activity Step 3 Produce a budget for each department or product by multiplying the budgeted cost driver rate by the expected usage.

ADVANTAGES AND DISADVANTAGES OF ABB Greater focus on understanding overheads Greater control of overheads Better decision making as costs will be more accurate. Extra time and effort to establish an ABC system Problems linking ABB activities to established responsibility centres In the short term , many overheads are not controllable and do not vary directly with changes in the volume of activity for the cost driver

LINE ITEM BUDGETS AND PLANNING PROGRAMMING BUDGETING SYSTEMS(PPBS) Deficiencies of line item budgets Traditional format in Not for profit Organisations. Expenditure – Expressed in considerable great detail Activities being undertaken- Given little attention Show nature of spending but not the purpose. No information on planned and actual accomplishments No provision on efficiency with which activities were carried out No provision of a sound basis for deciding on resource allocation

. Eg Local Govt objective like Universal child care PLANNING PROGRAMMING BUDGETING SYSTEMS Eg Local Govt objective like Universal child care To overcome deficiencies of line item budgets Need to orient objectives or local needs to an objective based programme format hence PPBS PPBS Steps: Establishment of overall objectives Identification of the programmes that might achieve these objectives. Determination of the costs and benefits of each programme Budget allocations on the basis of the cost/benefits of the different programmes. The programme may look like this: The construction of four new kindergartens The repair and extension of seven existing kindergartens The employment of 30 new nursery school teachers The introduction of an hourly baby –sitting service PPBS forces mgt to identify activities , functions or programmes to be provided, thereby establishing a basis for their worthiness .