TOPIC THREE: BUDGET AND BUDGETARY
Budget: Meaning, Features and Its Types
Meaning and Need for Budget:
A budget is a blueprint of plan of action to be followed during a specified period of time for the
purpose of attaining a given objective
a plan quantified in monetary terms prepared and approved prior to a defined period of
time, usually showing planned income to be generated and/or expenditure to be incurred
during that period and the capital to be employed to attain a given objective”.
Features:
An analysis of the above definition reveals the following essential features of a budget:
(i) It is prepared beforehand based on a future plan of actions;
(ii) It is related to a definite future period and is based on the objectives to be attained
(iii) It is expressed in financial terms;
(iv) It shows planned income to be generated;
(v) It shows probable expenditure to be incurred;
(vi) It indicates the capital to be employed during the period;
Thus, a budget sets the firm‘s goals in clear formal terms to avoid confusion and provides a
detailed plan of action for achieving the goals. It is a means of communication by which the top
management uses the budget as a vehicle to communicate their ideas to the subordinates who are
to give them the practical shape.
Types:
I. Functional Budgets:
A functional budget is a budget which relates to the individual functions of the organisation like
sales, production, purchase, capital expenditure etc. For each function there is usually a separate
budget which is controlled by the functional manager.
Normally, the various functional budgets which are drawn up in an organisation are:
Page 1 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
,1. Sales Budget:
This budget is a forecast of quantities and values of sales to be achieved in a budget period.
Generally, sales budget is the starting point for the preparation of the functional budgets. This
budget can be prepared on the basis of products, sales areas or territories, salesmen or agent
wise, types of customers etc.
A sales budget may be prepared with the help of any one or more of the following methods:
(i) Analysis of Past Sales:
The past sales are analysed to find out as to what changes are likely to happen in future.
However, in addition to past sales, the sales manager must consider other factors affecting future
sales e.g., seasonal fluctuations, growth of market, trade cycle etc. Statistical method may be
used for projecting sales.
(ii) Market Analysis:
The purpose of market analysis is to ascertain the potential market demand for a product, product
design required by customers, fashion, trends, purchasing power of people, activities of
competitors and the prices that consumers are likely to pay.
(iii) Reports of Salesmen:
Salesmen—who are men in close touch with the market—may be asked to submit a report to the
sales manager as to expected sales, customers‘ tastes and preferences, possible competition etc.
(iv) General Trade Prospects:
The probability of the sales going up or down depends on the general trade prospects. A change
in political or economic conditions is bound to influence the volume of sales. In this connection
valuable information may be known from financial papers and magazines, national and
international economic statistics, international relations, political influences, government policies
etc.
(v) Business Conditions:
Changes in the policies and methods of business should also be considered. For example,
introduction of new product or new design, additional spending on advertising, improved
deliveries, after-sales services etc. have some market effect on a sales forecast which should be
considered with reasonable degree of accuracy.
(vi) Special Conditions:
Page 2 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
,Sometimes, certain special conditions outside the business may influence its sales. For example,
development of particular area may lead to demand for cars, scooters, cycles or electrification of
a village may have an effect on sale of radio, television etc.
2. Selling and Distribution Cost Budget:
This budget is a forecast of the expenses connected with the selling and distributing the product
of a concern during the budget period. This budget is closely connected with the sales budget.
While preparing this budget, a classification is made according to the variability of cost. This
budget is prepared by the sales managers.
3. Production Budget:
After preparing the sales budget, the production budget is prepared. This budget is prepared in
physical units. It shows the number of units of each product that must be produced to satisfy the
sales forecasts and to achieve the desired level of inventory.
Thus, production budget is the sales budget adjusted for inventory changes as:
Units to be produced = Budgeted Sales + Desired closing inventory – Opening inventory.
While preparing a production budget, the factors like sales forecast, budgeted stock
requirements, plant capacity, policy of management regarding purchase of components etc. are
taken into account. It is very necessary to coordinate production with sales budget to avoid
imbalance in production.
4. Production Cost Budget:
Production cost budget shows in detail the estimated cost of carrying out the production plan and
programmes set out in the production budget. This budget summarizes material cost, labour cost
and factory overhead for production. Factory overheads are usually further subdivided into fixed,
variable and semi-variable. Cost are analysed by departments and/or products.
5. Material Budget:
A Material Budget shows the estimated quantity as well as the cost of each type of direct
material and component required for producing goods as per production budget. There are two
stages of preparing material budget. At the first stage, the quantifies of different types of direct
material are estimated.
Afterwards the price of each kind of direct material and component is used to obtain the cost of
different types of materials and components consumed. It is necessary to know unit material
utilization rate for preparing material budget. The unit material utilisation rate is multiplied by
the number of units to be produced in order to determine the total units of material required for
estimated production.
Page 3 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
, 6. Purchase Budget:
Purchase Budget gives the details of the purchases which must be made during the budget
period. It includes all items of purchase, such as, raw materials, indirect material and other
equipment.
The purchase budget for raw materials is the most important and the following factors are
required to be considered in preparing this budget:
(i) Production or delivery target,
(ii) Quantity and quality of each material needed,
(iii) Present stock position,
(iv) The dates on which different quantities of materials are required,
(v) Safety stock,
(vi) Orders already placed,
(vii) Sources of supply,
(viii) Storage space available,
(ix) Economic order quantity,
(x) Price to be paid,
(xi) Finance available,
(xii) Seasonal discounts,
(xiii) Transport and receiving arrangement,
(xiv) Management policy etc.
7. Labour Budget:
Page 4 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
Budget: Meaning, Features and Its Types
Meaning and Need for Budget:
A budget is a blueprint of plan of action to be followed during a specified period of time for the
purpose of attaining a given objective
a plan quantified in monetary terms prepared and approved prior to a defined period of
time, usually showing planned income to be generated and/or expenditure to be incurred
during that period and the capital to be employed to attain a given objective”.
Features:
An analysis of the above definition reveals the following essential features of a budget:
(i) It is prepared beforehand based on a future plan of actions;
(ii) It is related to a definite future period and is based on the objectives to be attained
(iii) It is expressed in financial terms;
(iv) It shows planned income to be generated;
(v) It shows probable expenditure to be incurred;
(vi) It indicates the capital to be employed during the period;
Thus, a budget sets the firm‘s goals in clear formal terms to avoid confusion and provides a
detailed plan of action for achieving the goals. It is a means of communication by which the top
management uses the budget as a vehicle to communicate their ideas to the subordinates who are
to give them the practical shape.
Types:
I. Functional Budgets:
A functional budget is a budget which relates to the individual functions of the organisation like
sales, production, purchase, capital expenditure etc. For each function there is usually a separate
budget which is controlled by the functional manager.
Normally, the various functional budgets which are drawn up in an organisation are:
Page 1 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
,1. Sales Budget:
This budget is a forecast of quantities and values of sales to be achieved in a budget period.
Generally, sales budget is the starting point for the preparation of the functional budgets. This
budget can be prepared on the basis of products, sales areas or territories, salesmen or agent
wise, types of customers etc.
A sales budget may be prepared with the help of any one or more of the following methods:
(i) Analysis of Past Sales:
The past sales are analysed to find out as to what changes are likely to happen in future.
However, in addition to past sales, the sales manager must consider other factors affecting future
sales e.g., seasonal fluctuations, growth of market, trade cycle etc. Statistical method may be
used for projecting sales.
(ii) Market Analysis:
The purpose of market analysis is to ascertain the potential market demand for a product, product
design required by customers, fashion, trends, purchasing power of people, activities of
competitors and the prices that consumers are likely to pay.
(iii) Reports of Salesmen:
Salesmen—who are men in close touch with the market—may be asked to submit a report to the
sales manager as to expected sales, customers‘ tastes and preferences, possible competition etc.
(iv) General Trade Prospects:
The probability of the sales going up or down depends on the general trade prospects. A change
in political or economic conditions is bound to influence the volume of sales. In this connection
valuable information may be known from financial papers and magazines, national and
international economic statistics, international relations, political influences, government policies
etc.
(v) Business Conditions:
Changes in the policies and methods of business should also be considered. For example,
introduction of new product or new design, additional spending on advertising, improved
deliveries, after-sales services etc. have some market effect on a sales forecast which should be
considered with reasonable degree of accuracy.
(vi) Special Conditions:
Page 2 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
,Sometimes, certain special conditions outside the business may influence its sales. For example,
development of particular area may lead to demand for cars, scooters, cycles or electrification of
a village may have an effect on sale of radio, television etc.
2. Selling and Distribution Cost Budget:
This budget is a forecast of the expenses connected with the selling and distributing the product
of a concern during the budget period. This budget is closely connected with the sales budget.
While preparing this budget, a classification is made according to the variability of cost. This
budget is prepared by the sales managers.
3. Production Budget:
After preparing the sales budget, the production budget is prepared. This budget is prepared in
physical units. It shows the number of units of each product that must be produced to satisfy the
sales forecasts and to achieve the desired level of inventory.
Thus, production budget is the sales budget adjusted for inventory changes as:
Units to be produced = Budgeted Sales + Desired closing inventory – Opening inventory.
While preparing a production budget, the factors like sales forecast, budgeted stock
requirements, plant capacity, policy of management regarding purchase of components etc. are
taken into account. It is very necessary to coordinate production with sales budget to avoid
imbalance in production.
4. Production Cost Budget:
Production cost budget shows in detail the estimated cost of carrying out the production plan and
programmes set out in the production budget. This budget summarizes material cost, labour cost
and factory overhead for production. Factory overheads are usually further subdivided into fixed,
variable and semi-variable. Cost are analysed by departments and/or products.
5. Material Budget:
A Material Budget shows the estimated quantity as well as the cost of each type of direct
material and component required for producing goods as per production budget. There are two
stages of preparing material budget. At the first stage, the quantifies of different types of direct
material are estimated.
Afterwards the price of each kind of direct material and component is used to obtain the cost of
different types of materials and components consumed. It is necessary to know unit material
utilization rate for preparing material budget. The unit material utilisation rate is multiplied by
the number of units to be produced in order to determine the total units of material required for
estimated production.
Page 3 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
, 6. Purchase Budget:
Purchase Budget gives the details of the purchases which must be made during the budget
period. It includes all items of purchase, such as, raw materials, indirect material and other
equipment.
The purchase budget for raw materials is the most important and the following factors are
required to be considered in preparing this budget:
(i) Production or delivery target,
(ii) Quantity and quality of each material needed,
(iii) Present stock position,
(iv) The dates on which different quantities of materials are required,
(v) Safety stock,
(vi) Orders already placed,
(vii) Sources of supply,
(viii) Storage space available,
(ix) Economic order quantity,
(x) Price to be paid,
(xi) Finance available,
(xii) Seasonal discounts,
(xiii) Transport and receiving arrangement,
(xiv) Management policy etc.
7. Labour Budget:
Page 4 of 62 SHUM 122 LECTURE NOTES BY DR CHELOGOI
