WHAT IS A BUDGET?

Budget is a financial plan of expected cash inflows and outflows that a business generates. A
sound budget guides the business managers regarding the funds at hand and effective spending
of the same. Having a tight budgetary policy is indispensable for any organization that wants to
succeed. Without one, a business might as well be shooting in the dark. It is what sets the
boundaries for any organization. It represents the maximum financial resources at their disposal
using which they must achieve all business targets.
The saying – “Failing to plan is planning to fail” is very apt here. A business with great products,
dynamic management or a dominating client base may still fail if it does not mind its margins.
Without a budget a company is directionless. With a budgetary policy in hand, the firm will always
be aware of the cash on hand and save itself from running into debt. Also, a realistic budget goes
a long way in setting out the long-term financial requirements of the firm. Enabling a firm to
prepare in advance for contingencies.

BUDGET TEMPLATE
A fundamental budget tableau consists of a list of very basic items. It gives a list of budgeted
income and expenditure and compares them with the actual. Deviations in such figures are
undesirable and must be reported to the management for corrective action. Overspending
indicates gross negligence and lack of control over expenditure. On the other hand, under-
spending may mean that the company is not utilizing its resources to the fullest extent and thus
remains unable to achieve its true potential.

TYPES OF BUDGETS
ZERO BASED BUDGETING
As the name goes, zero-based budgeting starts from zero. It does not borrow from any prior
budgets. It is a management based budget. the only factors considered are leadership vision and
priorities. For every new year, goals are set afresh and the budgets are built accordingly. It
represents are very dynamic and fast-paced form of budgeting. However, it may be a time-
consuming process to start from a scratch every year. Also due to fresh revisions every year, the
departments always remain in an uncertainty of the funds that may be allocated to them. This
may impact their productivity and consistency.
Zero Based Budgeting Example
Let us take an example of a manufacturing department of a company ABC that spent $ 10 million
last year. The problem is to budget the expenditure for the current year. There are multiple ways
of doing so:

1. The board of directors of the company decides to increase/decrease the expenditure of the
department by 10 percent. So the manufacturing department of ABC Ltd will get $ 11 million or $
9 million depending on the management’s decision.
2. The senior management of the company may decide to give the department the same amount as
it got in the previous year without hiring more people in the department, or increasing the
production etc. This way, the department ends up getting $ 10 million.
3. Another way is, as, against the traditional method, management may use zero-based budgeting
in which the previous year’s number of $ 10 million is not used for calculation. Zero-based
budgeting application involves calculating all the expenses of the department and justifying each
of these. This reflects the actual requirement of the manufacturing department of company ABC
which may be $ 10.6 million.

STATIC BUDGET
A static budget is one which remains fixed throughout the period under question irrespective of
the level of activity. The anticipated figures of expenses do not change with the change in the
level of sales. For example, if a firm sets out its commission expenses to be $300,000.
Thereafter, the budgeted commission for the year shall remain $300,00 irrespective of whether
the sales stand at $2 million, $5 million or $10 million. Obviously, actual results will vary widely
due to lack of an all accommodative approach. A static budget is ideal for firms with predictable
sales such as utility companies and PSU’s.
FLEXIBLE BUDGET
A stark opposite of static budgets, a flexible budget is designed to display the forecasted budget
at various levels of activity. Certain expenses being a direct function of sales are expressed as a
percentage of the same. Sales commission, packaging, material are examples of the same. Then
there are fixed expenses which remain constant irrespective of the level of activity. They are
hard-coded into the budget and do not change. Examples include lease rentals, license fees,
salaries among others.
Below is an example of a flexible budget at different activity levels:

Flexible budgets calculate, for example, different levels of expenditure for variable costs. These levels vary
depending on the changes in revenue. Subsequently, the budget varies, depending on activity levels that the
company experiences.

Variable costs are costs that go up and down each month, i.e., they ‘vary.’

AccountingTools.com has the following definition of the term:

“A flexible budget calculates different expenditure levels for variable costs, depending upon changes in actual
revenue.”

Level of Activity 50% 75% 100%

Sales (A) $7,50,000 $11,25,000 $15,00,000

Variable Expenses

Material 15% $1,12,500 $1,68,750 $2,25,000

Labour 10% $75,000 $1,12,500 $1,50,000

Power & Fuel 12% $90,000 $1,35,000 $1,80,000

Commision 5% $37,500 $56,250 $75,000

Total Variable Expenses (B) $3,15,000 $4,72,500 $6,30,000

Fixed Expenses

Rent $1,50,000 $1,50,000 $1,50,000

Licence Fees $37,500 $37,500 $37,500

Total Fixed Expenses (C ) $1,87,500 $1,87,500 $1,87,500

Budgeted Surplus [A-(B+C)] $2,47,500 $4,65,000 $6,82,500

ROLLING BUDGET
A rolling budget also called a continuous budget is a form of an ongoing budget drafting. It
involves extending the existing budget to keep adding newer layers. As soon as a reporting
period concludes the budget for the next period must be immediately prepared and added to the
existing one. In this way, the company always has a budget that extends over a 12-month
horizon. For example, a firm has a reporting period stretching from January to December. Now,
when the budget for January expires, the firm must prepare and attach a budget forecast for the
January month of the coming year. This way it sits over a 12-month budget stretching over
February to January.

Example of a Rolling Budget

 ABC Company has adopted a 12-month planning horizon, and its initial budget is from January to December.
After a month passes, the January period is complete, so it now added a budget for the following January, so
that it still has a 12-month planning horizon that now extends from February of the current year to January of
the next year.

The cycle keeps on moving. Hence, it is a continuing process. Accordingly, the budgeted period
shall remain 12 months only.
kai·zen

/ˈkīzən/
noun
1. a Japanese business philosophy of continuous improvement of working practices, personal efficiency, etc.

Activity based budget

As an example, a company anticipates receiving 50,000 sales orders in the upcoming

year. The cost to process a single order is $2. Therefore, the activity-based budget
(ABB) for the expenses relating to processing sales orders for the upcoming year is
$100,000 ($50,000 * $2).
This figure may be compared to a traditional approach to budgeting. If last year’s budget
called for $80,000 of sales order processing expenses and sales were expected to grow
10%, only $88,000 ($80,000 + ($80,000 * 10%)) is budgeted.