Components of Budgeting
Business processes are highly complex and require considerable effort to coordinate. Managers frequently cite coordination as one of the greatest leadership challenges. The comprehensive or master budget is an essential part of the coordinating effort.
The base or foundation for the master budget is an assessment of anticipated sales volume via the sales budget. In a merchandising environment (wholesalers and retailers), expected sales are the starting point of budget development, and directly links to the inventory purchasing budget. Warehousing capacity will be impacted by projected inventory activities. Selling and administrative expenses for retail units will be impacted by anticipated sales. All companies have general selling and administrative costs, some of which will not be driven by sales. In a service business, anticipated services (service revenue) will directly impact skilled/professional staff requirements since these businesses are labor intensive (Weygandt, Kimmel, Kieso. Managerial Accounting Tools for Business Decision Making, 5th edition. Wiley Publishing, p. 408.) In a manufacturing environment, expected sales level drives both the production plans and the selling, general, and administrative budget. Production drives the need for materials and labor. Factory overhead is ultimately driven by overall production. The graphics below are simplified illustrations of steps in budget preparation for merchandising and manufacturing companies.
Planned business activities must be considered in terms of their cash flow and financial statement impacts. It is quite easy to plan sales or production that can outstrip the resources of a company. In addition, a business should develop plans that have a successful outcome; the budgeted financial statements are key measures of that objective.
Comprehensive budgeting entails coordination and interconnection of various components. Electronic spreadsheets are useful in compiling a budget. If care is used in constructing the embedded formulas, it becomes very easy to amend the budget to examine the impact of different assumptions about sales, sales price, expenses, and so forth.
Source: principlesofaccounting.com, Larry M. Walther, Copyright 2016.