Unit 2 Managing A Successful Business

1.1 Purpose and process of preparing a budget

There are three aspects for preparing a budget i.e. forecasting of income and expenditure, a tool for decision making and monitoring the business performance. Budgeting is an important part planning of a business process. Managers and owners of the business should be able to predict whether it will make a profit or not. The main purpose is to create a model that how business should be performed or to decide strategies, plans and events which are being carried out. It is a tool for decision-making as it gives a financial framework for the action whether is planned or not. Expenditure should be tightly controlled for managing business. It helps in enabling t business performance that should be measured against the performance of the business which is forecasted. The steps to be followed while preparing the budget are as follows:

• All the assumptions about the company's business environment should be reviewed and on the basis of the last budget, it should be updated as soon as possible.
• The capacity level of the business should be determined and the constraints of the company while generating sales should be classified and their impact on the company's revenue growth.  They should be able to determine available funds during the budget period and step costs which can occur in business activity is also be determined.
• A budget package should be created from the preceding year and it should be issued personally wherever it is possible(Zeller and Metzger, 2013).
• A revenue forecast should be obtained from the sales manager for validation with the help of the CEO. A budget from all departments should be obtained and tries to rectify the error.
• All capital budgets should be obtained for validation with the help of the senior management team for suggestions and recommendations. The budget model should be updated in a master budget model. The budget should be reviewed along with senior management and all the last alterations should be done.
• Finally, the budget will be issued to all authorized recipients and it will be loaded in financial software.

If the budget is developed properly then it allows businesses to track the financial position of their own. It gives long-term planning for everything from operating costs to expansion. It benefits the business by identifying the potential for attracting new investors, goal-setting ability, line of credit, decision-making about salaries, bonuses and easy tax preparation(Hansen, 2011).

1.2 Cost drivers of business and traditional budgeting approach

Cost drivers can be classified into two categories i.e. internal and external forces. It causes a change in the cost of any activity. Overhead cost should be assigned properly to the number of units which are produced. External, it includes government regulations, weather, access to resources, location and most importantly the workforce. In internal, it includes indirect costs, overheads, personnel and capital. If the business is registered l with specific regulations that govern day-to-day operations. Workforce leads to whether the business operation is being performed by the workers properly or not. The cost driver in the manufacturing sector may be number of steps or processing time for producing a product. The cost driver of the service sector can be the compensation package of cost for labour.

Traditional budgeting is used for projecting business expenses and revenues for the coming year on the basis of the previous year's budget. It also helps in predicting profits. The previous year's budget can be used for adjusting changes which are caused due to inflation. Past budget revenue can be used for the traditional budgeting process(Myers, 2018). It also helps in decision making and budget always makes it easy to sort out issues and according to that issues can be resolved as soon as possible. If the budgeted expenses are exceeding then business expenses can be reduced or alternative vendors can be checked out for different prices. The traditional budget provides a plan that how a business can be operated. If there is a requirement for finance, then too, traditional budgeting can be used. All investors and lenders always give priority before investing or giving a loan to keep track of the financial plans of that particular company. So, traditional budgeting helps in forecasting the projections related to revenue, expenses and all as well as proper reasoning with the specific preference to the previous year's budget. Traditional budgeting is a part of organizational culture for most of the companies. Practising a fundamental method of operating can be a risky decision.

1.3 Whether The Traditional Budgetary System is Appropriate or Not There are Basically Three Major Problems with Traditional Budgeting Which are as Follows:

Time-consuming and expensive: Traditional budgeting consumes too much time and many management resources. Only some people have the mentality that this is worthwhile. Many companies take six to eight months, Mostly, budgets require input and very detailed and even negotiation of many people throughout the company, which only sums up the number of resources which are used by traditional budgeting.

The main reason for consuming too much time is the use of spreadsheets which contain inherent shortcomings like issues related to version control, data entry errors and difficulty in accurate formulations.

Unrealistic objectives: Usually, the senior executives set goals which have specific guidelines in the context of expenditure and specific revenue growth targets. Specific goals like increasing revenues by 20% and cutting costs by 10%. The department managers who have the responsibility for getting these results are not asking or trying to do this then it is next to impossible. The objectives cannot be achieved by the lower level if the top level is not giving the top solicit input.

Fixed, flexible and easily irrelevant - Traditional management quickly becomes irrelevant i.e. once the budget has been made then it is fixed so that no changes can happen. In the initial stage, it is top but afterwards, it becomes bottom-up to meet fixed goals which are set by management(Oseifuah, 2018). If market conditions, economy or industry changes, new entrants may emerge. Innovations, partnerships or any other internal factor with repercussions may occur. But the budget cannot be changed in the traditional approach.

Executive and Employee compensation against budget: Many companies negotiate over the achieved benchmark of budget so that they can easily accomplish their goal. Most companies try to execute employee compensation which is directly related to performance against the budget. Traditional budgeting process usually focuses on reduction of cost more than creating value. So, there is a disconnection from the strategic plan or the strategic initiatives are given with low priority (stergren and Stensaker, 2011).

Fails to motivate: The desirable behaviour of people has not been encouraged in the traditional budgeting system. It always gives an unprofessional attitude in budget centre managers, bureaucracy and vertical control have been strengthened in this approach and it undervalues the employees. Reinforcement of departmental barriers instead of sharing knowledge.

PART 2

2.1 Alternative Budget Methods

Rolling Budget methods - It is a plan which is updated in which the time frame remains the same and it is not static. It renews the budget for the next period and information is incorporated from the experience which is to be built (No and Park, 2018). Rolling budgets are up to date than static budgets. They do not require a huge investment of money and time for planning. All the alterations are incorporated from the previous period. This is more responsive to all unexpected changes. Performance can be assessed against rationalized and realistic targets. On the other side, it is similar to forming a new budget again. It regularly requires facts and to gather them from previous periods or a robust information system is required for extracting specific information for subcategories. Constant revision distracts or disturbs the employees. Rolling budget is not recommended when conditions are not changing constantly. For an unvarying environment, it is a waste of time.

Zero-based Budgeting - It is a reverse approach to traditional budgeting. Managers review the budget of the previous year in traditional budgeting but in zero base budgeting managers justify all expenses which are budgeted, not only of the previous year. The baseline of ZBB is zero, not last year's budget. There is a proper allocation of resources and it helps managers to improve activities in cost-effective ways.  Criteria are not always easily identified so this is an advantage for service departments. It is time-consuming as sometimes the expenditures are very difficult to define for managers. Every expenditure needs to be defined in zero-based budgeting so this requires huge manpower and even knowledge is required so proper training has to be given to managers. Risk has been faced by managers in zero-based budgeting because the volume of data is very large and no one has that much ability to know every detail of everything. The consistency of the manager must be uniform and reliable.

Activity-Based Budgets: This method is designed to give transparency in the budget process. It records, analyses and researches activities which increase the cost to the business. The major disadvantage is the consumption of resources by the organization. If there is too much spending then activity-based budgeting becomes counterproductive. It does not substitute any of the processes but sums up the administrative activities of the company. It focuses on the immediate and short term and avoids the long term.

2.2 Application of Alternative budget methods with example

Rolling Budget methods: Rolling budgets reduce uncertainty in budgeting as they give proper concentration on the short term especially when the degree of uncertainty is less. The budget can always be extended into the future normally for twelve months. An accurate budget leads to specific planning and control. Reassessment of the budget is always forced on the management in Rolling budgets.  It saves cost and time as compared to traditional budget which helps for timely adjustments of income and expenses.

Zero-based Budgeting: Staff involvement has been increased at all the levels in zero-based budgeting because in this method lots of information, facts and work is required for completing the budget. Allocation of resources should be more economical and efficient. The organization's knowledge and understanding of cost behaviour patterns will be enhanced. It is more responsive to the business environment. The operations which are not efficient and obsolete can be discontinued. It also helps in identifying the opportunities for outsourcing. It increases the coordination and communication about some important decisions about the company.

Activity-Based Budgets: It focuses on the cost of overheads which is a huge proportion of the aggregate of operating costs. It identifies the activities which increase the cost and if cost is been controlled then it should be properly managed and understood. The most essential one is that it gives information in a total quality environment, by relating the level of service provided and the cost of an activity.

2.3 Which method is more efficient

Companies of some industries always incorporate different variety of inputs for the creation of services and goods which are sold by them. There is the presence of a wide range of expenses. As these companies can directly allocate costs to one of the most appropriate activities, cost management and budgeting of these firms to improve their financial position. The assignment of cost is on the basis of activity-based costing. It allocates fixed administrative and overhead costs to the activities which also incur costs. Factors which are related to cost for activity-based costing have a direct relationship with the particular cost of overhead. Activity-based costing provides cost to all those products that actually are in need of activities. This approach has originated from the manufacturing sector because it is the best method of allocating overhead costs as compared to the traditional method which uses direct labour. When labour-intensive was transformed to automation and capital-intensive facilities and processes, these firms were in need of that method which suited the new operating environment. Whenever the product lines are produced by manufacturers in various quantities there is a huge requirement for different service support levels.

It is most important for this company because it gives customized products and services and a customized production environment is always in need of allocation of indirect costs to a product which gives identification of true cost. It helps in improving the processes of business such as the allocation of indirect costs which are based on the cost driver of the product and many more factors which increase the cost. The activity-based method is also used to identify all the non-value-added activities and to efficiently allocate resources and activities which are profitable. These methods lead to add value to the continuous improvement of any organization's processes. The activity-based method also identifies the wasteful products which are increasing the cost of the company. This method helps in fixing the price of the products and services that are in large quantity or incorrect. It gives transparency in budget process and it records the activities which are increasing the cost of the company. It does not substitute any of the processes but sums up the administrative activities of the company. It focuses on immediate and short term and avoids the long term. Hence, activity-based costing improves productivity, and efficiency and it resolves the issues which are giving impact the cost of the organization.

CONCLUSION

From the above report, it has been concluded that the traditional method of budgeting is not appropriate because it is time-consuming and has many more limitations which are been discussed in this case. It can be seen in the report that Alternative budgeting methods are more flexible and easy to interpret the financial position and for comparison. Along with this, it has been articulated that choosing an Activity-based budgeting method for manufacturing companies is very essential. It can be summarized that budgeting improves efficiency, productivity and more margin to the company if it is well managed. Thus, the company should go with the alternative budget method in which activity-based is most appropriate.

REFERENCES

• No, W. and Park, C.H., 2018. Social Media Use from the Citizen Engagement Perspective: The Case of Twitter in New York and Chicago Participatory Budgeting. In Sub-National Democracy and Politics Through Social Media (pp. 129-146). Springer, Cham.
• Oseifuah, E. K., 2018. Activity-based costing (ABC) in the public sector: benefits and challenges. Management. 12. pp.4-2.
• Myers, G. M., 2018. Responsibility Center Budgeting as a Mechanism to Deal with Academic Moral Hazard (No. dp18-01).
• Hansen, S. C., 2011. A theoretical analysis of the impact of adopting rolling budgets, activity-based budgeting and beyond budgeting. European Accounting Review. 20(2). pp.289-319.
• Zeller, T. L. and Metzger, L. M., 2013. Goodbye Traditional Budgeting, Hello Rolling Forecast: Has The Time Come? American Journal of Business Education (Online). 6(3). p.299.
• Østergren, K. and Stensaker, I., 2011. Management control without budgets: a field study of ‘beyond budgeting in practice. European Accounting Review. 20(1).  pp.149-181.

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