Join Jim Stice for an in-depth discussion in this video The budgeting process, part of Accounting Foundations: Budgeting.
- Whether we're talking about an individual, a family or a large organization, the overall purpose of a budget is to clearly establish a plan so that performance in relation to a goal or the plan can be carefully monitored. Budgeting has a twofold purpose. The first purpose is to allow individuals or companies to develop a plan to meet a specified goal. The second purpose is to allow ongoing comparison between actual results and the plan.
Now, the penalty for not budgeting is severe. The list of companies that have failed in recent years as a result of poor planning and execution is getting longer every day. Now, the basic difference between companies that budget and those that don't is that those that budget will spend money how, where and when they want to. And those that do not budget often feel like they never have enough money to purchase those things that they need. Now, budgeting is critical to the management planning process.
There are two basic types of planning, a long-run planning which includes strategic planning and capital budgeting, and short-run planning which includes production and process prioritizing and operations budgeting also known as profit planning. Long-run planning involves making strategic decisions where the effects will extend several years into the future. Long-run strategic planning involves identifying the organization's mission, the goals flowing from that mission, and the strategies and actions that will be taken to accomplish those goals.
With strategic planning in place, the company can then plan for the purchase and use of major assets like buildings or equipment to help the company meet its long-range goals. This type of planning is called Capital Budgeting. Once the organization's strategic decisions are in place, managers are able to focus on operating plans for the immediate month, quarter and year. This short-run operational planning can be divided into two categories. First, production prioritization.
With the capital structure in place, things like land, buildings and equipment, managers need to determine how to best use those committed resources to maximize profits. Second is operations budgeting. Once the organization has established its production priorities, managers are ready to go to this second category of short-run planning, operations budgeting. Sometimes known as profit plans, operations budgets are used by managers to establish and communicate daily, weekly and monthly goals for the organization.
Budgeting is such an important activity that the top executives of most companies coordinate and participate in the process. Large firms usually establish a budget committee which may include the vice presidents for sales, production, purchasing and finance and the controller or chief financial officer. These executives work to implement the organization strategy by coordinating the preparation of a detailed budget in their area of responsibility, and then together, oversee the integration of a comprehensive master budget for the firm.
Two important issues faced by executives in the budgeting process are: first, behavioral considerations. How will the budget affect people? And second, involvement in preparing the budget. Who gets to help? We will discuss these two issues in the video that follows.
This course covers purchase budgets, production budgets, hiring budgets, overhead budgets, and cash budgets. Professors Jim and Kay Stice help you weigh the impact of strict versus more moderate budgeting on employee morale, and show how budgets pay off in the future, when you can use them to evaluate your business performance.
- Understanding the budgeting process
- Involving other people
- Creating a manufacturing budget
- Budgeting for merchandising and service firms
- Budgeting cash flow
- Using a flexible budget