BUDGETARY CONTROL

A budget is a quantitative expression of a plan for a defined period of time. It may include planned sales volumes and revenues, resource quantities, costs and expenses, assets, liabilities and cash flows. It expresses strategic plans of business units, organizations, activities or events in measurable terms. A budget (derived from old French word bougette, purse) is a quantified financial plan for a forthcoming accounting period. Budget is a financial and /or quantitative statement, prepared and approved prior to a Defined period of time of the policy to be pursued during that period for the purpose of attaining a given objective. It may include income, expenditure and employment of Capital. The establishment of budgets relating the responsibilities of executives to the requirements of policy, and the continuous comparison of actual with budgeted results, either to secure by individual action the objectives of that policy or to provide a firm basis of its revision. Or in simple words, budgetary control is implementing budgets and making managers responsible for implementing it. Budget is financial or quantitative statement. This statement shows the programs of future operation and expected result. It is made before work to be done.
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Budgetary Control
1.Definition:
Budgetary control is defined as the establishment of budgets, relating the responsibilities of executives to the requirements of a policy, and the continuous comparison of actual with budgeted results either to secure by individual action the objective of that policy or to provide a base for its revision.

2. Salient features:
a) Objectives: Determining the objectives to be achieved, over the budget period, and the policy (ies) that might be adopted for the achievement of these ends. b) Activities: Determining the variety of activities that should be undertaken for achievement of the objectives. c) Plans: Drawing up a plan or scheme of operation in respect of each class of activity, in physical as monetary terms for the full budget period and its parts. d) Performance Evaluation: Laying out a system of comparison of actual performance by each person, section or department with the relevant budget and determination of causes for the discrepancies, if any.

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e) Control Action: Ensuring that when the plans are not achieved, corrective actions are taken; and when corrective actions are not possible, ensuring that the plans are revised and objective achieved.

Objectives of Budgeting/Performance Budgeting

The objectives of budgeting are:1. To encourage self-study in all aspects of a companys operations. 2. To get all members of managers of management to put their heads be run, to make them of a co-ordinated team operating in unison towards clearly defined objectives. 3. To promote the planning process and provide a sense of direction to every Member of the organization. 4. To force a definition and crystallisation of company policies and aims. 5. To increase the effectiveness with which people and capital are Employed. 6. To disclose areas of potential improvement in the companys operations. 7. To stimulate study of relationship of the Company to its external economic environment for improving the effectiveness of its direction. 8. To direct and co-ordinate business activities and units to achieve
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stated targets of performance. 9. To facilitate the control process, by comparing actual results with plan, and Provide feedback to the employees about their performance.

Objectives of Budgetary Control System

The objectives of a Budgetary Control System are1. Definition of Goals: Portying With precision, the overall aims of the business and determining targets of performance for each section or department of the business. 2. Defining Responsibilities: Laying down the responsibilities of each individual so that everyone knows what is expected of him and how he will be judged. 3. Basis for Performance Evaluation: Providing basis for the comparison of actual performance with the predetermined targets and investigation of deviation, if any of actual performance and expenses from the budgeted figures. It helps to take timely corrective measures. 4. Optimum use of Resources: Ensurying the best use of all available resources to maximize profit or production, subject to the limiting factors. 5. Co-ordination: Coordinating the various activities of the business and centralizing control, but also making a facility for the management to decentralize responsibility and delegate authority.
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6. Planned action: Engendering a spirit of careful forethought, assessment of what is possible and an attempt at in .it leads to dynamism without recklessness. It also helps to draw up long range plans with a fair measure of accuracy. 7. Basis for policy: Providing a basis for revision of current and future policies.

Advantages of Budgetary Control System

1. Efficiency: It enables the management to conduct its business activities in an efficient manner. Effective utilization of scarce resources, i.e. men, machinery, methods and money-is made possible. 2. Cost Control: It is a powerful instrument used by firms to control their expenditure. it inculcates the feeling of cost consciousness among workers. 3. Performance Evaluation: It provides a yardstick for measuring and evaluating the performance of individuals and their departments. 4. Standard Costing and Variance Analysis: It creates suitable conditions for the implementation of standard costing system in the

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firm. It reveals the deviations, from the budgeted figures after making a comparison with actual figures. 5. Policy Formulation: It helps in the review of current trends and framing of future policies.

Disadvantages/Limitations of the Budgetary Control System

1. Estimates: Budgets may or may not be true, as they are based on estimates the assumptions about future events may or may not actually happen. 2. Rigidity: Budgets are considered as rigid document. too much emphasis on budgets may affect day to-day operations and ignores the dynamic state of organizational functioning. 3. False sense of Security: Mere budgeting cannot lead to profitability. Budgets cannot be executed automatically. It may create a false sense of security that everything has been taken care of in budgets.
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4. Lack of Co-ordination: Staff co-operation is usually not available during budgetary control exercise. 5. Time and Cost: The introduction and implementation of the system may be expensive.

Role of the Budget Officer

Successful implementation of a Budgetary Control System depends upon the working of the Budget Committee, which would be composed of all functional heads and a member from the board to preside over and guide the deliberations The Budget committee acts through the budget officer whose responsibilities include1. Functional Budget Preparation: To assist in preparation of various Budgets by co-ordinating the work of Accounts Department (which normally compiles Budgets), with the relevant functional departments like sales, production, plant Maintenance, etc. 2. Communication to Responsibility Centres: To forward the Budget to the individuals who are responsible to adhere to them, and guide them in overcoming any practical difficulties in its working.

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3. Co-ordination: To prepare the Periodical Budget Report for circulation to the individuals concerned, co-ordinating with them in the formulation of budgets for subsequent periods. 4. Follow-up: To determine the follow-up action to be taken on the Budget Reports. 5. Budget Committee Review: To prepare an overall Budget Working Report for disussion at the Budget Committee Meetings and to ensure follow-up on the lines of action suggested by the Committee. 6. Board Review: To prepare Periodical Reports for the Board Meeting, comparing the Budgeted Profit & Loss Account and Balance Sheet with the actual results.

STEPS INVOLVED IN THE PREPARATION OF BUDGETS

1. Definition of Objectives: Objectives should be defined precisely. budgets should be made in written form, with the areas of control clearly demarcated; and stating the items of revenue and expenditure to be covered by the budget. This will give a clear understanding of the plan and its scope to all those who must co-operate to make its implementation a success. 2. Identification of Key (or Budget) Factor: A Key Factor represents a resource whose availability is less than its requirement and puts a limit on the firms objective of maximum profitability. For proper budgeting, the key factor must be located and estimated properly. 3. Budget Committee and Controller: Formulation of a Budget usually requires whole time services of a senior executive; he must be assisted in this work by a budget committee, consisting of heads of all departments along with Managing Director as the Chairman.
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The controller is responsible for co-ordination and development of budget programmes and preparing the budget Manual. 4. Budget Manual: The Budget manual is a schedule, document or booklet, which shows in a written form, the budgeting organization and procedures. The manual should be well written and indexed, and a copy thereof may be given to each departmental head for guidance. 5. Budget Period: The Period covered by a Budget is known as Budget Period. Normally, a calendar year or a period co-terminus with the Financial Year is adopted as the Budget period. It is then sub-divided into shorter periods-it may be months or quarters or such periods that coincide with period of trading activity. 6. Standard of Activity or Output: Based on past statistics, known market changes and current conditions and forecasts of future situations the standards of activity Levels for future period should be laid down. in a progressive business, the achievement of a year must exceed those of earlier years.

Budget Manual
Meaning: Budget Manual is a schedule, document or booklet which shows in written form, the budgeting organization and procedures. A copy of the manual is given to each departmental head for guidance.

The Manual indicates the following matters

1. Brief explanation of the principles of Budgetary Control System; its objectives and benefits. 2. Procedure to be adopted in operating the system-in the form of instructions and steps.
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3. Definition of duties and responsibilities of (a) Operational Executives; (b) Budget committee, and (c) Budget Controller. 4. Nature, type and specimen forms of various reports; persons responsible for preparation of the Reports and the programme of these reports to the various officers. 5. Account Code and chart of Accounts used by the company. 6. Budget Calendar showing the dates of completion of each part of the budget and submission of Reports. 7. Budget Periods and Control Periods. 8. Follow-up procedures.

CLASSIFICATION
Types of Budgets:
1. BASED ON TIME PERIOD Long Term Budget

Short Term Budget

(a) Budgets Which are prepared (a)Budgets which are prepared for for periods longer than a year are periods less than a year are known called Long-Term Budgets. as Short-Term Budgets. (b)Such Budgets are helpful in (b)Such Budgets are prepared in business forecasting and forward cases where a specific action has to
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planning.

be immediately taken to bring any variation under control. (c)Example: Cash Budget.

(c)Examples: Capital Expenditure Budget and R&D Budget.

2. BASED ON TIME CONDITIONS Basic Budget Current Budget A Budget, which remains unaltered A Budget, which is established over a long period of time, is called for use over a short period of time Basic Budget. and is related to the current conditions, is called Current Budget. 3. BASED ON CAPACITY Particulars Fixed Budget Flexible Budget It is a Budget, which by recognizing the difference between fixed, semi-variable and variable costs is designed to change in relation to level of activity attained. It can be re-casted on the basis of activity level to be achieved.
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(a)Definition

It is a Budget designed to remain unchanged irrespective of the level of activity actually attained.

(b)Rigidity

It does not change with actual volume of activity achieved. Thus it is known

as a Rigid or Inflexible budget It operates on one level of (c)Level of activity and under one set Activity of conditions. It assumes that there will be no change in the prevailing conditions, which is unrealistic. Variance Analysis does not give useful information as (d)Effect of all Costs (fixed, variable variance and semi-variable) are analysis related to only one level of activity. If the budgeted and actual activity levels differ (e) Use for significantly, then aspects Decision making like cost ascertainment and price fixation do not give a correct picture. Comparison of actual performance with budgeted (f)Performance targets will be meaningless, Evaluation especially when there is a difference between two activity levels. 4. BASED ON COVERAGE

Thus its not rigid. It consists of various budgets for different levels of activity.

Variance analysis provi- des useful information as each cost is analyzed according to its behavior. It facilitates the ascertainment of cost, fixation of price and submission of quotations. It provides a meaningful basis of comparison of the actual performance with the budgeted targets

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Functional Budget Budgets, which relate to the individual functions in an organization, are known as Functional Budgets, e.g. Purchase Budget, sales Budget, Production Budget, Plant-Utilization Budget and Cash Budget.

Master Budget It is a consolidated summary of the various functional budgets. It serves as upon which budgeted Profit & Loss Account and forecasted Balance Sheet are built up.

Flexible Budget
1.

Meaning: It is a Budget, which by recognizing the difference between fixed, semi-variable and variable costs, is designed to change in relation to level of activity. Need: The need for the preparation of flexible Budgets arises in the following circumstancesa) Seasonal fluctuations in sales and/or production. b) Introduction of new products, product designs and versions on a frequent basis; c) Industries engaged in make-to-order business like shipbuilding; d) An industry which is influenced by changes in fashion; and
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2.

e) General changes in sales.

3.

Situations: Flexible Budgeting may be resorted to in the following situations(a) New business: In case of new business venture, due to its typical nature, it may be difficult to forecast the demand of a product accurately. (b) Uncertain Environment: Where the business is dependent upon the mercy of nature. (c) Factor market conditions: In the case of labour intensive industry where the production of the concern is dependent upon the availability of labour.

FUNCTIONAL BUDGETS
Types of Functional budgets Functional budgets are broadly grouped under the following heads. 1.Physical Budgets: Budgets that contain information in terms of physical units about sales, production, etc. for example, Quantity of scale, Quantity of Production ,Inventories, Manpower Budgets. 2.Cost Budgets: Budgets which provide Cost Information in respect of manufacturing, selling, administration, etc. for example, Manufacturing Costs, Selling Costs, Administration Costs, R &D Cost Budgets. 3.Profit Budgets: Budgets that enable the ascertainment of Profit, for example, Sales Budget, Profit & Loss Budget, etc.

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4.Financial Budgets: A Budgets which facilitates to ascertain the Financial Position of a concern, for example, Cash Budgets, Capital Expenditure Budget, Budgeted Balance Sheet, etc.

Commonly used Functional Budgets.

1. Scales Budget. 2.Production Budget. 3. Plant Capacity Utilization Budget. 4. Direct Materials- Usage & Purchase Budgets. 5. Direct Labour- Requirement & Recruitment Budgets. 6. Overhead Cost Budgets- Factory OH, Administration OH, and S&D OH Budgets. 7. Cost-of-Goods-Sold Budget. 8. Specific Budgets R&D Cost Budget, Capital Expenditure Budget, Cash Budget. 9. Budget Summaries /Master Budget Budgeted Income Statement and Budgeted Balance Sheet.

Factors to be considered in preparing the Sales Budget

1. Sales Forecast and Sales Budget Sales Forecast is the initial stage of budgeting. A Sales Forecast is projection or estimate of the available customer demand. A Forecast reflects the environment or competitive situation facing the Company, whereas the Sales Budget shows how the Management intends to react to this environment and competitive situation. Thus, the Sales Budget is active rather than passive.
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2. Factors The following factors have to be considered for preparing the Sales Budgeta) Reports by Salesman who have first- hand information about the local conditions prevailing in their areas, competition, etc.
b)

Past Sales Analysis-statistical forecasting who have first-hand information about the local conditions prevailing in their areas, competition, etc. General economic and political conditions. Relative product profitability. Market Research studies which provide information like state of the market, fashion changes, consumer preferences, activities of competitors, ability of the consumer to pay etc. Pricing Policies. Advertising and Sales Promotion. Quality of Sales force. Competition, Market size and Market Share. Seasonal and cyclical variations. Production Capacity of the plant. Change in Companys policy like introduction of a new product or design.
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c) d) e)

f) g) h) i) j) k) l)

m) Special

conditions affecting the business. For example, an increase in the production of automobiles with increase in demand of tyres.

3.Classification The Sales Budget is prepared on the following bases to facilitate controla) Products or groups of products. b) Areas, towns, salesmen and agents. c) Types of customers e.g. (i) Government, (ii) Exports, (iii) local sales, (iv) Retail Depots d) Period-months, weeks, etc.

Production Budget
1.

Preparation: Production Budget shows the production for the budget period based upona) Sales Budget, b) Production Capacity of the factory. c) Planned increase or decrease in Finished Stocks, and
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d) Policy governing outside purchase.

2.

Sales and Production Capacity Comparison: a) The production facility available and the Sales Budget will be compared and co-ordinated to determine the Production Budget. b) If production facilities are not sufficient, factors like working overtime, working in shifts, sub-contracting or purchasing of additional Plant and Machinery, may be considered.

c) If production facilities are surplus, due consideration should be given to promote advertising reduction of prices to increase the sales, sub contracting of surplus capacity etc.

3.

Stock level determination: The level of stocks will depend upon the following factorsa) Seasonal industries in which stocks have to be built up during off-season. b) Steady and uniform level of production to utilize the plant fully and to avoid retrenchment of workers, and c) Production in such a way that minimum stocks are maintained at any time to avoid locking up of funds inventory.
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4.

Effect of Stock Level policy: a) Production Budget can show (a) stablised production every month, i.e. the maximum possible production or (b) stablised minimum quantity of stocks, which will reduce inventory costs. b) In case of stablised production, the production facility will be fully utilized but the inventory carrying costs will vary according to stocks held.

c) In case of stablised stocks, however, the inventory carrying cost will be lowest but there may be under-utilisation of capacity.

Purposes of Plant Utilisation Budget

Plant Utilisation Budget represents, in terms of working hours, weight or other convenient units of plant facilities required to carry out the programme laid down in the Production Budget. Its main purpose are1. To determine the loads on each process, costs or machines for the Budget Period. 2. To indicate the processes or cost centres which or overloaded so that corrective action may be taken, e.g. (i) working overtime (ii) subcontracting (iii) expansion of production facility, etc. 3. To adjust & alter the Sales Production Budgets where it is not possible to increase the capacity of any of the overloaded processes. 4. To taken steps to increase sales in order to utilize available surplus capacity.
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Reasons to Determine Plant Capacity Utililisation:

1. It is needed to select a Base Activity for overhead rate determination or Overhead Distribution. 2. It enables the Company to analyse the under or over-absorption of overheads for proper treatment thereof. 3. It helps to compare the actual capacity utilization with budgeted capacity utilization and to analyse the deviations for taking corrective action. 4. Capacity determination helps in preparation Flexible Budgeting and achieving overall Control over business operations. 5. It is required in connection with schedule VI of the companies Act for indicating the licensed and installed capacity and also the actual production. 6. It is necessary for the Cost Auditor to give his comments on capacity utilisation. 7. Capacity utilization is an important factor in Price Fixation.

Steps Involved in preparing the Direct Material Usage Budget

1. Quality: The quality standards for each item of material have to be specified. In this connection, standardization of size, quality, colour, etc. may be considered.

2. Quantity: Standard requirement of each item of materials required should also be set. While setting the standard quantity, consideration should be given to normal loss in process. The standard allowance
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for normal loss may be given on the basis of past performance, test runs, technical estimates, etc.

3. Prices: Standard Prices for each item of materials should be set after giving consideration to available stocks and contracts entered into. After setting standards for quantity, quality and prices, the Direct Material Budget is prepared using the formula = Each item of material required for production x Standard Price.

Purchase Budget
1. Meaning: Purchase Budget represents the purchases that must be made during the budget period to meet the needs of the business. 2. Purposes: (a) To plan the purchase and place long-term contracts where necessary, Taking into consideration the (b) To plan the finances required for purchase.
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3. Components: It includes cost of direct Materials, Indirect Materials, purchase of Services, Finished Goods required for resale as set out in Sales, Production Costs, Capital Expenditure, R&D Budgets, etc. 4. Considerations: Purchase Budget is prepared after taking into account the following factorsa) Material Consumption Quantities for the Budget production, b) Planned increase or decrease of inventories, c) Purchase Orders already placed, d) Material components or parts to be manufactured within the factory, e) Economy Order Quantity, f) Re-Order Point with safety stocks to cover fluctuations in demand.

Direct Labour Budgets

The following budgets are prepared in relation to Direct Labour Costs1. Labour Hour Requirement Budget: This is based on the following factorsa) Budgeted Production and Plant Utilisation, b) Planned increase or decrease of inventories, c) Purchase Orders already placed, d) Material components or parts to

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2. Labour Cost Budget: Standard rates of wages for each grade of labour can be introduced and then the direct and indirect labour cost budget can be prepared. 3. Manpower Recruitment Budget: This is based on the following factorsa) Direct Labour Hour required during the period. b) Effective Hours per worker, for different grades. c) Existing manpower, their skills, need for training, etc. d) Labour Turnover rates, e) Labour market conditions and availability of skilled labour. 4. Advantages: The advantages of labour Budget area) It defines the direct and indirect labour force required. b) It enables the Personnel Department to plan ahead in recruitment and training of workers so that Labour Turnover can be reduced to the minimum. c) It reveals the Labour Cost to be incurred in the manufacture, and facilitates preparation of Manufacturing Cost Budgets and Cash Budgets for financing the wage bill.

Production Overhead Budgets

1. Items of Cost: Production Overhead consists of all items of Indirect Materials, Indirect Labour and Indirect Expenses. Thus, the estimated Factory Overhead Costs necessary for production should be included in the Factory Overhead Costs Budget. The Production Overhead Budget is useful for working out the Pre-determined Factory Overhead Recovery Rates.
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2. Manner of Preparation: (a) This budget usually includes the total estimated costs for each item of Factory Overhead. So, a careful study and determination the behaviour of different types of costs will be essential in preparation of Factory Overhead Budget. (b) Supporting Schedules for Factory OH may be prepared for each department , classifying the OH into those costs for which Departmental Managers are responsible and those costs which are not within their sphere of influence (i.e. apportioned costs), in order to evaluate performance.

3. Considerations: The following factors are relevant in the preparation of Factory OH Budget(a) Fixed Expenses are policy Costs and hence they are based on policy matters. (b) For estimating Indirect Labour, work study may be adopted, and a flexible estimated of number of indirect workers require

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for each level of direct workers employed is made, e.g. one supervisor for every twenty direct workers. (d) For estimating the consumption of Indirect Materials, the age and condition of the plant and machinery should be taken into consideration. 4. Production Cost Budget: Production Cost Budget covers Direct Material Cost, Direct Labour Cost and Manufacturing Expenses. After preparing Direct Labour and Production Overhead Cost Budgets, the summary Budget, i.e. Production Cost Budget, can be prepared.

Administrative Expense Budget

1.

Items of Cost: Administrative Expenses are mostly Policy Costs and are, hence, fixed in nature. Some examples are Audit Fees, Depreciation of office Equipment, Insurance, Subscriptions, Postage, Stationery, Telephone, Telegrams, Office Supplies, etc.
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2.

Manner of Estimation: Administrative Expenses are estimated based on past experience; with due regard to anticipated changes either in general policy or the volume of business. To control AOH, it is necessary to review them frequently and to determine at regular intervals whether or not these expenses continue to be adjusted.

Cash Budget
Many small businesses find it helpful to prepare monthly cash budgets and to analyze any variances between the budgeted and actual amounts on a monthly basis. This enables small business owners and managers to stay on top of any unexpected cash uses.

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There are three main components necessary for creating a cash budget. They are: Time period Desired cash position Estimated sales and expenses Time Period :- The first decision to make when preparing a cash budget is to decide the period of time for which your budget will apply. That is, are you preparing a budget for the next three months, six months, twelve months or some other period? In this Business Builder, we will be preparing a 3-month budget. However, the instructions given are applicable to any time period you might select. Cash Position:- The amount of cash you wish to keep on hand will depend on the nature of your business, the predictability of accounts receivable and the probability of fast-happening opportunities (or unfortunate occurrences) that may require you to have a significant reserve of cash. You may want to consider your cash reserve in terms of a certain number of days sales. Your budgeting process will help you to determine if, at the end of the period, you have an adequate cash reserve.

Estimated Sales and Expenses:- The fundamental concept of a cash budget is estimating all future cash receipts and cash expenditures that will take place during the time period. The most important estimate you will make, however, is an estimate of sales. Once this is decided, the rest of the cash budget can fall into place.If an increase in sales of, for example, 10 percent, is desired and expected, various other accounts must
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be adjusted in your budget. Raw materials, inventory and the costs of goods sold must be revised to reflect the increase in sales. In addition, you must ask yourself if any additions need to be made to selling or general and administrative expenses, or can the increased sales be handled by current excess capacity? Also, how will the increase in sales affect payroll and overtime expenditures? At a minimum, the following categories of expected cash receipts and expected cash payments should be considered: Cash balance Expected cash receipts Cash Sales Collections of accounts receivable Other income Expected cash expenses: Raw material (inventory) Payroll Other direct expenses: Advertising Selling expenses Administrative expense Plant and equipment expenditures Other payments

Conclusion
From the findings of the study, it was concluded that the appropriate system of budgeting and budgetary control has been adopted.
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This system has also provided guidelines for managers and supervisors to ensure that they think well ahead of time to foster effective utilization of limited resources of the organization. Because budget preparation plans are made ahead of time, the targets which management of the pharmacy hopes to achieve are most often easily recognized. The preparation of budget helps in designing or clarifying the lines of horizontal or vertical communication within the organization. The respondent also gave his general impressions on budgetary control at Ernest Chemist; he said the budgetary control system which is currently in use is more appropriate for the company since the system involves comparison of actual levels of performance against budgets and reports all variances with proper analysis to provide a basis for future courses of action. Based on this he thinks the current budgetary control has intensively improved as compared to the past years and he hopes that it will be better for the years to come. On the other hand, though the appropriate system is adopted and is in use, there are still problems with its effectiveness. These problems are associated with the ethical issues mentioned earlier, for example the lack of true integrity in the budgets. This stands to back the statement made by Maher and Deakin (1994), which suggests that companies should provide incentives for people to report truthfully, meaning the company must reward both for honest estimate and good performance.

BIBLIOGRAPHY

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Abdul Rahman, I.K., Abdul Rahman, A.Z., Tew, Y.H. and Omar, N. (1998), A Survey On Management Accounting Practices In Malaysian Manufacturing Companies, Management Accounting Practices Paper 3, Concurrent session IC, International Management Accounting Conference, National University of Malaysia Agrawal, S. P. 1986. Inflation, maintenance of capital and IRR models of capital budgeting. Decision Sciences (Winter): 1-15. Ailman, H. B. 1950. Basic organizational planning to tie in with responsibility accounting. N.A.C.A. Bulletin (May): 1107-1117.

http://en.wikipedia.org/wiki/Budget http://wiki.answers.com/Q/What_is_budgetary_control http://www.fao.org/docrep/w4343e/w4343e05.htm http://www.thefreedictionary.com/budgetary+control

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