PRINCIPAL BUDGET FACTOR

This is also known as the key budgeting factor or limiting budget factor. A limiting or key factor which at any time or over a period may limit the activity of an entity, often where there is shortage of difficulty supply Terminology?.

The first task in budgeting is to identify the factor which imposes a limitation or ceiling on the level of activity. One this factor is defined, the rest of the budget can be prepared.

The scare resource(s) might be any or all of the following:

(a)         A restricted supply of an item of raw materials or components.

(b)         A maximum capacity of machine time-hours

(c)         A limited amount of cash, and a bank overdraft limit;

(d)         A maximum amount of available labour hours for a particular grade or labour

(e)         Limited sales demand.

A resource is scare if the organization does not have enough to undertake ever available opportunity for making more contribution towards profit.

Thus, machine time would be scarce if every machine was being operated at u full capacity without being able to produce enough output to meet sales demand in full.

TYPES OF BUDGETS

Since budgets express plans and the typical enterprises have a large variety plans, there are many types of budget. These may be classified into five types with a master budget or budget summary portraying the total planning picture of all the budgets.

1.             Revenue and Expense or operating budgets:

2.             Time, space, materials, and product budgets.

3.              Cash or financial budgets

4.              Capital expenditure budgets: and

5.             Balance sheet budget.

(1)   REVENUE AND EXPENSE BUDGETS (OPERATING BUDGETS)

By far the most common business budgets spell out plans for revenues and operating expenses in monetary terms. The most basic of these in a business is the sales budget, the formal and detailed expression of the sales forecast. As the sales forecast is the cornerstone of planning, the sales budget is the foundation of budgetary control. Although, a company may budget other revenue, such as expected income from rentals, royalties, or miscellaneous sources, the revenues from sales or products or service furnishes the principal income to support operating expenses and yield profits.

Operating expenses budgets can be as numerous as the expense classifications in an enterprise chart of accounts and the units of organization in its structure. These budgets may deal with individual items of expenses, such as direct labour, materials, supervision, clerical, rent, heat, power travel, entertainment, office supplies, shop supplies and many others, sometimes the department head will budget only major items and lump together other items in one control summary.

(2)        TIME, SPACE, MATERIALS AND PRODUCT BUDGETS

Many budgets are better expressed in physical than in monetary terms-. Although such budgets are usually translated into monetary quantities, they are much more significant at a certain stage in planning and control if dealt with in physical quantities. Among the more common of these are the budgets for direct-labour-hours, machine-hours, units of materials, square feet allocated, and units produced. Most firms budget product output, and most production department's budget their share of the output of components of the final product. In addition, it is common to budget either in labour hours or labour days by types of work forced workers required.

(3)   CASH BUDGETS

The cash budget is simply a forecast of cash receipts and disbursements against which actual cash experience is measured. Whether called a budget or not, this is perhaps the most important single control of a business. The availability of cash to meet obligations as they fall due is the first requirement of business existence, and handsome profits do little good when tied up in inventory, machinery, or other non-cash assets. Cash budgeting also shows availability of excess cash, thereby making possible planning for investment of surpluses.

(4)   CAPITAL EXPENDITURE BUDGETS

The capital expenditure budget outlines specifically capital expenditure for plants, machinery, equipment, and other items. Whether for a short or a long term, these budgets requires care in giving definite form to plans for spending the funds of an enterprise. Since capital resources are generally one of the most limiting factors of any enterprises, and since investment in plants and equipment usually requires a long period for recovery, capital expenditure budgets should be diligently tied in with long range planning.

(5)   BALANCE SHEET BUDGETS

The balance sheet budget forecast the status of assets, liabilities, the capital account as of particular times in the future, in addition to the balance sheet budget, many of its items may be budgeted in various degrees of details. The more common, in addition to cash and capital budgets, are special budgets of account receivable, inventories and account payable.

THE BENEFITS OF BUDGETING

Benefits do no automatically arise from the budgetary process, they have to be worked for. Narrowly conceived budgetary systems or those which are insensitivity applied may produce dysfunctional effects, i.e. behaviour and actions from management and staff which oppose or do no contribute to the fulfillment of organizational objectives. Well organized and though out schemes can bring positive and significant benefits. These are dealt with below under the following headings:- co-ordination, classification of authority and responsibility, communication, control, motivation and goal congruence, and performance evaluation.

(a) COORDINATION 

Coordination is a major function of budgeting. Coordination   implies   striking   a   proper   balance   between   labour, materials and other resources so that the goals are attained at a minimum cost. The activities of various departments must remain in harmony with each other. For example there should be a coordination between   the   activities  of production.   Department   and   the   sales department. It is   undesirable to produce a product which cannot be profitably sold by the sales department. Likewise, the sales department should not create demands for the products which cannot be produced by the production department. Coordination between the purchase department and  the  production  department  is  also  required.  The production   department   should  not   undertake   to  manufacture   the production   for   which   the   purchase   department   cannot   procure materials, and the purchase department should not accumulate that material which will not be needed for production. The point to be emphasized is that the activities of all department must mesh. It is through  budgeting  that  the  activities  of various  departments  are coordinated,  and  unnecessary wastage of resources and efforts is stopped. Budgeting requires each manager to establish a proper rapport between the activities of his department and that of other departments. Any imbalance in the relationship between the departmental activities should be identified and corrected.

(b)         CLARIFICATION OF AUTHORITY AND RESPONSIBILITY

Budgeting (with standard costing) is known as responsibility accounting. This means that plans and the resulting information on the performance of the plans are expressed in terms of human responsibilities because it is people that control operations.

The process of budgeting: particularly for the control aspect, makes it necessary for the organization to be organized into responsibility or budget centres with clear statements of the responsibilities of each manager who has a budget. The adoption of a budget authorize the plans contained within it. This process enables management by exception to be practiced. This is were a subordinate is given a clearly ~ defined role with the requisite authority and resources to carry out that part of the overall plan assigned to him and, if activities do not proceed according to plan, the variations are reported to a higher authority. Thus the full budgeting process forces the organizations to clarify roles and responsibilities of its managers and is an excellent example of management by exception in practice.

(c)         COMMUNICATION. 

A more explicit statement of goals and the means to achieve them does not imply that goals will be accomplished. The people of an enterprise should know what the goals are; they should   understand and   support them.   It is the   function   of top management to inform people at lower levels of management about the performance expected to them. Top management uses budgeting as a vehicle to communicate goals or expectations to employees. A clear written communication of goals through budgets will help employees to   understand,   support   and   accomplish   goal   through   a   proper coordination of goals and means.

(d)         CONTROL. 

Once a comprehensive and coordinated plan of action has   been   developed   with   the   cooperation   and   participation   of employees and has been communicated to them, each employee is required to implement the plans and accomplish goals of the enterprise. As observed earlier, the budget indicates the performance expected of employees. A budget may, therefore, be used to serve as an index for measuring employee's performance. It, thus, acts as a control device. The actual performance of employees is compared with the budget performance to provide a feedback whether or not employees achieved the level of performance expected of them.

(e)         MOTIVATION AND GOAL CONGRUENCE. 

A well-organized budgeting system which encourages the genuine participation and involvement of operating management in the preparation of budgets and the establishment of agreed performance levels has been found to have a motivating effect.

The success of a budgeting system should be judged by the extent to which it encourages goal congruence by the budget holders. This is recognition of the fact that it is the behavioral aspects of budgeting, rather than the technical ones, which are of primary importance. If the budgetary system is not acceptable to the people who are involved with it, it is likely to be manipulated or opposed to such an extent that it will become unworkable.

(f)        PERFORMANCE EVALUATION

A manager's performance is often judged partly by his ability to meet budgets. When considering a manager for promotion or for a salary increases or for some other form of recognition, a manager's budget record and his ability to meet the targets incorporated in budgets is often an important factor. Budgets used as a target can also assist a manager in monitoring his own performance. The knowledge that a budget will be used for performance evaluation cause changes in the manager's attitude to the whole budgeting process.