We are also familiar with the word budget. It is a mechanism that assists organizations in activities such as managing, effectively organizing processes, and planning. A nearly correct description is a monetary policy accepted and prepared before a specific date normally specifying investment to be incurred and projected revenue perceived during the duration and the resources to be expended to achieve a specific goal. Plan and discretionary restraints on cost management are concepts used in budgeting. Budgeting in cost accounting is divided into operating budgets, fixed budgets, fixed and zero budgets, which are all explained in detail below. It involves control ratios as well. This paper will explain budgeting in cost accounting in detail.
Budget is a template of objectives of any firm based on the inference of forecast and allied to scheduled activities. It is neither a forecast nor estimate since an estimation is a preview of events in the future based on some scientific principles or basically on simple guesses. Alike, the forecast can be a prediction of occurrences during a stipulated time frame. It may be for a defined activity in a firm. Forecasts are in such events as production, sales, and other quantitative activities.
Budgeting is a process that involves the formation of a budget. Budgets can be controlled using Budgetary control measures. It is a tool employed by management to assign authority and responsibility to evaluate the effectiveness of functioning. A budget is a scheme of the blueprint to be followed during a certain time frame. A budget arises after analysis of activities in a firm, and so all activities are dependent on planning. A budget communicates to the management policies that need to implementation with a staff of the organization (Schall et al. 1978:282).
Budgetary control aids in the analysis of the plans, policies, financial position, economical, and actions of an organization. It also helps the management to control and ensure and the activities and plan of the firm. Budgetary control makes it a success by continuous collation of actual interpretation with that of the budgets. The act of coming up with budgets is called budgeting while budgets are discrete objectives of a particular department. Budgeting control takes into account all this and budget utilization for effective management, planning, and control (Fama et al. 1972: 67).
II. TYPES OF BUDGETS
Budgets can be categorized differently in an organization, but this is dependent on the means they choose to employ. Functional budgets specifically relate to functions in the organization such as cash, production, and sales. Several budgets fall under functional budgets including, cash budget, sales budget, research cost budget, capital expenditure budget, plant utilization budget, manufacturing budget, production budget, and material budget. Summarized budget is a type employed by organizations and is very useful for top management because it summarizes all information (Schall et al. 1978:285).
A fixed budget is the assumption that there is no anticipated change in the budget level in future. A flexible budget is one that is bound to change from time to time. It is majorly applicable to new firms where foreseeing is a problem. In instances where some factors influence change in the activity level, these factors might change in demand, fashion, and supply. Also, in firms that utilize ship-building as a business. Fixed budgets differ with flexible budgets. Flexible budgets may be organized to their level of production due to their nature regarding flexibility, while fixed budgets cannot change in regards to actual production for an organization. Fixed budgets remain unchanged regarding condition compared to flexible budgets that change with a change in condition.
Classification of goods by flexible budgets is done according to the existence of variability while for fixed budgets, it is restricted to fixed costs only. For flexible budgets, comparison of figures whether actual or revised, are made according to change in production level while in fixed budgets, a comparison cannot be made when there is a change in production level. For fixed budgets, there is no possibility of ascertaining costs when there is a change in production level while inflexible budgets, ascertaining of costs is possible at all levels of activity (Wildavsky and Aaron 1986: 301).
III. BUDGETING METHODS
Here, all moments are re-assessed each period that the budget is put into consideration. Levels of all moments/activities are calculated, and a combination is arrived upon to match the finances available. Here, figures from earlier years are not considered in the computation; it is not based on the incremental approach (Chen and Chin 1980:13).
The ratios help in calculating actual performance from budgeting performance. If the ratio goes above 100%, it represents a favorable outcome and vice-versa. The capacity ratio is worked out by dividing an actual number of hours worked by the budgeted hours. An activity ratio is found by dividing standard hours of actual production by budgeted hours then multiplied by 100 to get the ratio. Efficiency ratio is the standard hours of actual production divided by actual hours worked then multiplied by 100. Calendar ratio is the number of actual working days in a period divided by some working days in the budgeted period multiplied by 100 (Sandal et al. 2003: 57).
IV. CASH BUDGET
Cash budget falls under the category of the financial budget. It is prepared to calculate budgeted inflows and outflows within a specific time frame. The cash budget is essential in finding out the optimum level of funds to avoid imprudent cash or dearth of cash, which may emerge in future. Cash budget makes it possible to arrange money through loans in the case of shortage and investment of available money if it exists in excess. Businesses are obliged to keep safe cash level. A cash budget consists the following; cash payment, a collection of cash, and selling expenses (Fama et al. 1972: 191).
Budgeting helps in the management of funds by an institution or individual. It gives an output regarding monetary figures necessary for decision-making where the management can decide on whether to invest or take a loan depending on the outcome. Budgeting prepares firms for the future before they get there and therefore reduces effects of uncertainty. Budgeting can be done by several means and can happen within various schedules and frames under different financial figures like sales, production. Budgeting is therefore key in every institution and firm since it enhances its success through planning.
Chen, Ching-chih. Zero-base budgeting in management: a manual for librarians. Oryx Pr, 1980.
Fama, Eugene F., and Merton H. Miller. The theory of finance. Holt Rinehart & Winston, 1972.
Sandal, Gert, and Stefan Sjogren. “Capital budgeting methods among largest groups of companies. State of the art and a comparison with earlier studies.” International journal of production economics 84, no. 1 (2003): 51-69.
Schall, Lawrence D., Gary L. Sundem, and William R. Geijsbeek. “Survey and analysis of capital budgeting methods.” The journal of finance 33, no. 1 (1978): 281-287.
Wildavsky, Aaron B. Budgeting: a comparative theory of the budgeting process. Transaction Publishers, 1986.