Budgeting
Essay Preview: Budgeting
Report this essay
Budgeting
Properly focusing the planning process on the organizations strengths and weaknesses will help the organization to achieve its strategic and financial goals. A critical part of this strategy includes the budgeting process. According to the text “A budget quantifies future financial plans and budgeting is the process of planning, in financial terms, the organizations activities and the results of those activities” (Marshall 2004). Some of the purposes of budgeting include helping to plan work effectively, assisting in allocating resources, and aiding in controlling resources during the budgeting period. Moreover, it is important to understand that a budget is developed to insure that management is working toward the same goal, with a knowledge base of the organizations resources and constraints. Although strategic planning, budget forecasting, performance analysis are inclusive operations of the budgeting process; it is ultimately up to the financial analyst to determine whether the budget is guiding the company toward the achievement of its goals.
Sometimes inefficiencies result due to poor integration of the finance and strategy. “Budgeting and performance are typically overseen by the finance department, whereas planning s coordinated by strategy department. Often, the two processes arent well integrated, resulting in strategies that are often dictated by the budget process instead of vice versa” (Gary 2003). The reason for this could be that everyone involved may be attempting to accomplish the same goals, but also trying to make sure that the outcome will be beneficial to them, such as a substantial bonus or a reward. Although many companies implement this reward theory in an effort to increase organization effectiveness, this theory does not always work. According to Aranya, “participation may create intrinsic valences due to a tendency for individuals to become “ego” involved in decisions which they have contributed, and this affects their subsequent performance” (Aranya 2001).
There are many forms of budgeting, but as our text states “the first step in the budgeting process is to develop and communicate a set of broad assumptions about the economy, the industry, and the organizations strategy for the budget period” (Marshall, 2004). The budgeting process consists of identifying, gathering, summarizing, and analyzing financial and non-financial information about an organization. Budgeting plays a compounded role in financial operations because it is a concept used for planning and controlling the organization actions to achieve its objectives. The control aspect of budgeting may be corrective or preventative. When using budgeting as a corrective control, there is much emphasis on the deviations from budget. These deviations may reveal that changes or corrections should be made to the budget. Comparing the performance with the plans, a manager can make necessary adjustments to minimize discrepancies from the projected goal. In this way, the firm not only controls operations, but also can delegate authority without the loss of control. On the other hand, the preventive aspect of budgeting encourages management to stay within the allotted financial boundaries that have been set my management. Many times this can cause animosity and hostility among managers and employees because there is a consensus that these budgets are used as control mechanisms, which sometimes invoke fear. “Theres terrific pressure on everyone to make those targets; hence the distortion, misrepresentation, and gaming that can happen in even the most ethical companies” (Gary 2003).
By establishing an operating and financial budget for a future period, management can identify problems in advance. This can be maintained by forecasting for future predictions. A forecast is a reflection of the future. When forecasting is taken into account, two key aspects to consider are cash budgets and sales forecast. The cash budget, usually 1 to 2 year increments, is a statement of the companys inflows and outflows of cash. It allows the company to estimate the short-term cash limitations, with attention to potential planning for excess cash or shortages. On the other hand, sales forecast estimates the monthly cash flows that will result from projected sales receipts, production and inventory. Management can also determine the level of fixed assets required to support the forecast level of sales and production. However, it is important to obtain reliable data. As a result, this data should be acquired by internal, as well as external means. The internal sales forecast is based on unison of sales forecast through the companys internal network. External forecast, on the other hand, is based on the relationship between the company sales and key external economic indicators. This means being able to identify how future economic events will affect the business as a whole. This includes looking at consumer outlook, inflation, and political events. Many companies are now implementing a new concept of rolling forecasts in an effort to reflect the most recent market trends. “Rolling forecasts have considerable merit. A forecast produced on a quarterly basis will obviously reflect the most recent market trends and economic variables” (Burriesci 2005).
Capital budgeting is another noted area