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Nss College Rajakumari

Management Accounting- Meaning, Definition, Scope, Objectives-Management Accounting as distinct from Cost Accounting and Financial Accounting- Budgetary Control- Classification of Budgets(Emphasis on theory).

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RAJESH MG
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0% found this document useful (0 votes)
28 views

Nss College Rajakumari

Management Accounting- Meaning, Definition, Scope, Objectives-Management Accounting as distinct from Cost Accounting and Financial Accounting- Budgetary Control- Classification of Budgets(Emphasis on theory).

Uploaded by

RAJESH MG
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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SECOND SEMESTER The role of financial accounting is limited to

COST AND MANAGEMENT ACCOUNTING find out the ultimate result, i.e., profit and loss; But
Management accounting discusses the cause and
Module 4 effect relationship. The reasons for the loss are
Management Accounting- Meaning, Definition, enquired and the factors directly influencing the
Scope, Objectives-Management Accounting as profitability are also studied. Profits are compared to
distinct from Cost Accounting and Financial sales, different expenditures, current assets, interest
Accounting- Budgetary Control- Classification of payables, share capital, etc.
Budgets(Emphasis on theory).
3. Use of special techniques and concepts.
Introduction Management accounting uses special
techniques and concepts according to necessity to
Management Accounting is comprised of two make accounting data more useful. The techniques
words “Management‟ and “Accounting‟. Therefore usually used include financial planning and analyses,
Management accounting can be viewed as standard costing, budgetary control, marginal costing,
Management-oriented Accounting. It means the study project appraisal, control accounting, etc.
of managerial aspect of accounting. It is developed
mainly to help the management in the discharge of its 4. Taking important decisions.
functions and for taking various decisions. It supplies necessary information to the
management for its decisions. The past data is studied
According to Anglo-American Council of to see its possible effect on future decisions. The
Productivity "Management accounting is the effect / result of various decisions is also taken into
presentation of accounting information in such a way account.
as to assist the management in creation of policy and
the day to day operation of an undertaking". 5. Achieving of objectives.
According to the Institute of Chartered Management accounting uses the accounting
Accountants of England and Wales “Any form of information to develop plans and setting up
accounting which enables a business to be conducted objectives. Comparing actual performance with
more efficiently can be regarded as Management targeted figures will give an idea to the management
Accounting “ about the performance of various departments. When
there are deviations, corrective measures can be taken
with the help of budgetary control and standard
Nature of Management Accounting costing.

Management accounting involves providing 6. No fixed Norms.


of accounting data to the management for taking its No specific rules are followed in management
decisions. It helps in improving efficiency and accounting as that of financial accounting. Though
achieving the organizational goals. The following the tools are the same, their use differs from
shows the nature of management accounting. organization to organization. Interpreting the data
and reaching at conclusions also depends upon the
1. Provides accounting information: intelligence of the management accountant. The
presentation will be in the way which suits the
Management accounting is based on organisation most.
accounting information. Management accounting is a
service function and it provides necessary 7. Increase in efficiency.
information to different levels of management. Management Accounting helps to increase
Management accounting involves the presentation of efficiency of the organisation. For example the
information in a way it suits managerial needs. The performance appraisal will help the management to
accounting data collected by accounting department is identify efficient and inefficient areas in the business.
used for reviewing various policy decisions. If an inefficient area is found, efforts are made to take
corrective measures to improve the efficiency.
2. Cause and effect analysis.
NSS COLLEGE RAJAKUMARI
Similarly the constant review will make the staff cost (ii) Cost Accounting: Standard costing, marginal
– conscious. costing, opportunity cost analysis, differential costing
and other cost techniques play a useful role in
8. Supplies information and not decision. operation and control of the business undertaking.
Management accountant only provide
information and not take decisions. The data given by (iii) Revaluation Accounting: This is concerned
accountant is to be used by the management for with ensuring that capital is maintained intact in real
taking various decisions. “How is the data to be terms and profit is calculated with this fact in mind.
utilized‟ will depend upon the efficiency of the
management. (iv) Budgetary Control: This includes framing of
budgets, comparison of actual performance with the
9. Concerned with forecasting. budgeted performance, computation of variances,
The management accounting is concerned finding of their causes, etc.
with the future. It helps the management in planning
and forecasting. The historical information is used to (v) Inventory Control: It includes control over
plan future course of action. The information is inventory from the time it is acquired till its final
supplied with the object to guide management for disposal.
taking future decisions.
(vi) Statistical Methods: Graphs, charts, pictorial
presentation, index numbers and other statistical
Scope of Management Accounting methods make the information more impressive and
intelligible.
Management accounting is concerned with
presentation of accounting information in the most (vii) Interim Reporting: This includes preparation of
useful way for the management. Its scope is, monthly, quarterly, half- yearly income statements
therefore, quite vast and includes almost all aspects of and the related reports, cash flow and funds flow
business operations. statements etc.

(i) Financial Accounting: Financial Accounting is (viii) Taxation: This includes computation of income
concerned with providing information of external in accordance with the tax laws, filing of returns and
users. It prepares final accounts which is used by making tax payments.
persons inside and outside a business enterprise, such
as shareholders, creditors, labour unions, government (ix) Office Services: This includes maintenance of
authorities etc. The end product of the financial proper data processing and other office management
accounting process are the financial statements like services, reporting on best use of mechanical and
Trading and P&L Account, which communicate electronic devices.
useful information to decision-makers.
(x) Internal Audit: Development of a suitable
Management accounting is mainly concerned with internal audit system for internal control.
the rearrangement of the information provided by
financial accounting. Hence, management accountant (xi)Management Information System [MIS]:
cannot perform its operations without financial Management Accounting serves as a centre for
accounting system. Similarly Management collection and dissemination of information.MIS is an
accounting provides financial data and advice to a essential part of Management Accounting.
company for use in the organization. Hence
Management accounting is an extension of financial Functions of Management Accounting.
accounting. It also covers internal controls and
management information system. The basic function of management accounting
is to assist the management in performing its
This shows that Management accounting is functions effectively. The functions of the
actually an extension of financial accounting. management are planning, organizing, directing and
controlling. Management accounting helps in the
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performance of each of these functions in the Advantages / Merits of Management Accounting:
following ways:
Management accounting has various
(i) Provides data: Management accounting provides advantages. Through an effective management
data for Planning Decision making etc. The accounts accounting system, it is possible to enhance the
and documents provides vast quantity of data about overall performance of the company. Let us have a
the past performance of the enterprise, which are a look at the advantages of management accounting.
must for making forecasts for the future.
1. It helps to increase the efficiency of all functions of
(ii)Modifies data: The accounting data required for management.
managerial decisions is properly compiled and 2. It helps in target fixing, decision making, price
classified. For example, purchase figures for different fixing, selection of product-mix and so on.
months may be classified to know total purchases 3. Forecasting and Budgeting of management
made during each period product-wise, supplier-wise accounting help the concern to plan the future
and territory-wise. financial activities.
4. Various tools and techniques of management
(iii) Analyses and interprets data: The accounting accounting provide reliability and authenticity to
data is analyzed meaningfully for effective planning carry out the business functions.
and decision-making. For this purpose the data is 5. Management Accounting is useful in controlling
presented in a comparative form. Ratios are wastage and defects.
calculated and likely Trends Projections are also 6. It helps in complete communication between all the
made. levels of management.
7. It helps in controlling the cost of production and
(iv) Serves as a means of communicating: thus increasing the profit percentage.
Management accounting provides a means of 8. Management Accounting is proactive – analyzes
communicating management plans upward, the governmental policies and socio-economic
downward and outward through the organization. scenario which helps to assess the external
This is usually performed for collecting / giving environmental impacts on the organization
information for development of plan. At later stages it 9. Since Management Accounting is focused on
informs all parties about the plans that have been making future decisions with the help of past
agreed upon and their roles in these plans. Similarly financial data, it is forward looking and therefore
functions like budgeting etc also involves progressive in nature.
communication to various levels. 10. Management Accounting is meant for internal
users like top management and therefore, it is not
(v) Facilitates Control: Management accounting necessary to follow strict guidelines - which is the
helps in developing objectives / goals and also helps case with financial accounting.
in the accomplishment of these goals in an efficient 11. Management Accounting is flexible in nature and
manner. All this is made possible through budgetary therefore, it can be prepared any time and they are not
control and standard costing which is an integral part required to be made yearly. They can be made
of management accounting. monthly or on weekly basis.
12. Management Accounting takes all the data and
(vi) Uses also qualitative information: Management then present it in such a way that a proper analysis
accounting not only uses quantitative financial data about the feasibility and profitability of any business
for helping the management in decision making but decision can be made.
also uses such information which may not be capable
of being measured in monetary terms. For example
for taking effective decisions in marketing, consumer Objectives of Management Accounting.
behavior, their taste preference etc are needed, which
cannot always expressed in quantity. Such
information’s are also collected and used by 1. Planning and policy formulation: Planning is one
management accountant. of the primary functions of management. It involves
forecasting on the basis of available information.
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For example Managerial accountants meet Management accounting consists of a set of
with department managers throughout the company to tools that have been proven to be useful in making
determine expenses for the following year. Purchase decisions involving revenue and cost data. Even
of fixed assets require capital expenditure analysis.. though many of the techniques appear to be simplistic
Managerial accountants analyze capital expenditures in nature, they have proven to be of considerable
using the payback method, the internal rate of return value.
method and the net present value method. The results
are shared with managers for final decision making. The management accounting can assist
Managerial accountants also join with the management in formally structuring decision
plant manager to create a production plan. Similarly problems as well as placing the alternatives and their
the fund flow statement, cash flow statement, consequences in a form that will be easier for
budgeting, standard costing, capital budgeting and management to evaluate. While developing and
marginal costing are used for planning purpose. gathering information for decision making purposes,
the management accountant should include
2. Help in the interpretation process: One of the qualitative information also in his report to help
main object of Management accounting is to present managers better in their decision-making tasks.
financial information. The financial information must
be interpreted and presented in easily understandable Therefore it can be concluded that
manner. "Management accounting is a decision making
system".
3. Helps in decision making: Decision-making is an
important and prime function of top management. 4. Controlling: Control is the process of monitoring,
Management accounting makes decision making measuring, evaluating and correcting actual results to
process more modern and scientific by providing ensure that a business enterprise’s goals and plans are
significant information relating to various achieved. Control is accomplished with the use of
alternatives. Management accounting provides feedback. Feedback is information that can be used to
accounting information in such a way as to assist evaluate or correct the steps being taken to implement
management in the creation of policy and in the day- a plan. Feedback allows the managers to take
to-day operations. remedial actions or do some re-planning.

In management accounting, decision making Management accounting also helps in the


may be simply defined as choosing a course of action control function by producing performance reports
from among alternatives. If there are no alternatives, and control reports which highlight variances
then no decision is required. A basis assumption is between expected and actual performances. Such
that the best decision is the one that involves the most reports are used for taking necessary corrective action
revenue or the least amount of cost. The task of to control operations. For example Management
management with the help of the management accountants prepare monthly budget reports by
accountant is to find the best alternative. The process showing actual expenses and budgeted expenses then
of making decisions is generally considered to calculating the difference. Reasons for Large
involve the following steps: differences if any are enquired into or investigated.
The management accountant helps in
1 Identify the various alternatives for a given type of controlling the performance of the organisation by
decision. using standard costing, budgetary control, accounting
2. Obtain the necessary data necessary to evaluate the ratios, cash and funds flow statements, cost reduction
various alternatives. programmes and evaluating the capital expenditure
3. Analyze and determine the consequences of each proposals and return on investment.
alternative.
4. Select the alternative that appears to best achieve 5. Reporting: This facilitates management to take
the desired goals or objectives. proper and timely decisions. It presents the different
5. Implement the chosen alternative. alternative plans before the management in a
6. At an appropriate time, evaluate the results of the comparative manner.
decisions against standards or other desired results.
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6. Motivating: Delegation increases the job consideration before arriving at a management
satisfaction of employees and encourages them to decision.
look forward. so it serves as a motivational devise.
It is to be understood here that the accounting
7. Helps in organizing: “return on capital employed” information has no end in itself; it is a means to an
is one of the tools if management accounting. All end. As its basic idea is to serve the management, its
these aspects are helpful in setting up effective and form and frequency are all decided by managerial
efficient organization. needs. Therefore, accounting aids the management by
providing quantitative information on the economic
8. Coordinating operations: It provides tools which well being of the enterprise.
are helpful in coordinating the activities of different
sections. Therefore it can be said that management
accounting aims to provide useful accounting
Management accounting has been evolved to meet information to management for better decision
the needs of management. making and executing of its policies. In other words,
we can say that management accounting has been
According to CIMA, London “Management evolved to meet the needs of management.
accounting is an integral part of management
concerned with identifying, presenting and
interpreting information used for: Distinction between Financial Accounting and
(a) Formulating strategy; Management Accounting.
(b) Planning and controlling activities;
(c) Decision taking; Financial Management
(d) Optimizing the use of resources; Accounting Accounting
(e) Disclosure to shareholders and others external to Objective It gives the Its assist the
the entity; periodical reports internal
(f) Disclosure to employees; to owners, management.
(g) Safeguarding assets. creditors and
government.
An analysis of the above shows that Nature It concerned with It concerned
management needs information for better decision- historical records. with future plans
making and effectiveness. The collection and and policies.
presentation of such information come within the area Subject It deals the It deals only a
of management accounting. Thus, accounting matter business as a limited
information should be recorded and presented in the whole. coverage.
form of reports at such frequent intervals, as the Flexibility Here standards Standards are
management may want. These reports present a are fixed by fixed by
systematic review of past events as well as an external parties. management
analytical survey of current economic trends. itself.
Legal Statutory for Adopted on
Such reports are mainly suggestive in compulsion every business. voluntary basis.
approach and the data contained in them are quite up Periodicity The period is Its prepared
to date. The accounting data so supplied thus provide of longer when its
the informational basis of action. reporting required.
Precision Transactions are Sometimes
The quality of information so supplied very accurate approximate
depends upon its usefulness to management in figures are used.
decision-making. The usual approach is that, first of Unit of Recognizes Results of the
all, a thorough analysis of the whole managerial account whole business divisions.
process is made, then the information required for Coverage Covers entire Non monetary
each area is explored, and finally, all the information, range of business items are
after analysis in terms of alternatives, is taken into
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in monetary considered. of cost accounting. received from
items. financial accounting
Publication Its very essential It. is for and cost accounting.
and audit for the use of management 6 Provides future cost- Provides historical
public only. related decisions based and predictive
Accounting It has principles No such on the historical cost information for
principles and conventions principles. information. future decision-
making.
Difference between Cost Accounting and 7 Cost accounting Management
Management Accounting reports are useful to the accounting prepares
No Cost Accounting Management management as well as reports exclusively
Accounting the shareholders and meant for the
1 The main objective of The primary creditors of a concern. management.
cost accounting is to objective of 8 Only cost accounting Principals of cost
assist the management management principles are used in accounting and
in cost control and accounting is to it. financial accounting
decision-making. provide necessary are used in
information to the management
management in the accounting.
process of its 9 Statutory audit of cost No statutory
planning, accounting reports are requirement of audit
controlling, and necessary in some for reports.
performance cases, especially big
evaluation, and business houses.
decision-making. 10 Cost accounting is Management
2 Cost accounting Management restricted to cost- accounting uses
system uses accounting uses related data. financial accounting
quantitative cost data both quantitative data as well as cost
that can be measured in and qualitative data. accounting data.
monitory terms. It also uses those 11 It is more concerned It is concerned with
data that cannot be with short range both short range and
measured in terms planning. long range
of money. planning.
3 Determination of cost Efficient and 12 The scope of cost Management
and cost control are the effective accounting is limited accounting has a
primary roles of cost performance of a wider scope.
accounting. concern is the
primary role of 13 Both internal and Only internal parties
management external parties are are using the reports
accounting. using the reports of the of the management
4 Success of cost Success of cost accounting. accounting.
accounting does not management
depend upon accounting depends
management on sound financial Limitations / Demerits of Management Accounting
accounting system. accounting system
and cost accounting Management accounting, being comparatively
systems of a a new discipline, suffers from certain limitations,
concern. which limit its effectiveness. These limitations are as
5 Cost-related data as Management follows:
obtained from financial accounting is based
accounting is the base on the data as 1. Limitations of basic records: Management
accounting derives its information from financial
NSS COLLEGE RAJAKUMARI
accounting, cost accounting and other records. The
strength and weakness of the management To achieve the organizational objectives, an
accounting, therefore, depends upon the strength and enterprise should be managed effectively and
weakness of these basic records. In other words, their efficiently. It is facilitated by chalking out the course
limitations are also the limitations of management of action in advance. Planning, the primary function
accounting. of management helps to chalk out the course of
actions in advance. But planning is to be followed by
2. Persistent efforts. The conclusions draws by the continuous comparison of the actual performance
management accountant are not executed with the planned performance, i. e., controlling. One
automatically. He has to convince people at all levels. systematic approach in effective follow up process is
In other words, he must be an efficient salesman in budgeting. Different budgets are prepared by the
selling his ideas. enterprise for different purposes. Thus, budgeting is
an integral part of management.
3. Management accounting is only a tool:
Management accounting cannot replace the A budget is a plan of action for a future
management. Management accountant is only an period. It simply means a financial plan expressed in
adviser to the management. The decision regarding terms of money. The budget pertaining to any of the
implementing his advice is to be taken by the activities of business is always forward looking. The
management. There is always a temptation to take an term ‘budget’ has been derived from the French word,
easy course of arriving at decision by intuition rather ”bougette”, which means a leather bag into which
than going by the advice of the management funds are appropriated to meet the anticipated
accountant. expenses.

4. Wide scope: Management accounting has a very The CIMA Official Terminology defines a
wide scope incorporating many disciplines. It budget as “ A quantitative statement, for a defined
considers both monetary as well as non-monetary period of time, which may include planned revenues,
factors. This all brings inexactness and subjectivity in expenses, assets, liabilities and cash flows.”
the conclusions obtained through it.
Budgeting:
5. Top-heavy structure: The installation of
management accounting system requires heavy costs Budgeting is the process of preparing and
on account of an elaborate organization and numerous using budgets to achieve management objectives. It is
rules and regulations. It can, therefore, be adopted the systematic approach for accomplishing the
only by big concerns. planning, coordination, and control responsibilities of
management by optimally utilizing the given
6. Opposition to change: Management accounting resources. (J. Batty)
demands a break away from traditional accounting
practices. It calls for a rearrangement of the personnel Budgetary Control:
and their activities, which is generally not like by the
people involved. Budgetary Control is a method of managing
costs through preparation of budgets. It is the
7. Evolutionary stage: Management accounting is process of establishment of budgets relating to
still in its initial stage. It has, therefore, the same various activities and comparing the budgeted figures
impediments as a new discipline will have, e.g., with the actual performance for arriving at deviations.
fluidity of concepts, raw techniques and imperfect Budgetary control is a system which uses budgets as a
analytical tools. This all creates doubt about the very means of planning and controlling.
utility of management accounting.

BUDGETARY CONTROL Objectives of Budget and Budgetary control.


Meaning and definition of budget:
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Budgeting is a forward planning. It serves basically as The advantages of budgetary control may be
a tool for management control. The objectives of summarized as follows:
budgeting may be summarized as follows:
1. It facilitates reduction of cost.
1. Planning: Planning means 2. Budgetary control guides the management in
deciding in advance the future course of action. planning and formulation of policies.
Budgetary control helps to prepare detailed plans 3. Budgetary control facilitates effective co-
relating to production, sales, raw‐material ordination of activities of the various departments and
requirements etc. By planning many problems functions by setting their limits and goals.
estimated long before they arise. So solution can be 4. It ensures maximization of profits through cost
prepared in advance. In short, budgeting helps the control and optimum utilization of resources.
management to think ahead, to forecast and prepare 5. It evaluates for the continuous review of
for the anticipated conditions. performance of different budget centres.
6. It helps to the management efficient and economic
2. Co‐ordination: Budgeting plays a significant production control.
role in coordination. Budgeting assists managers in 7. It facilitates corrective actions, whenever there are
coordinating their efforts so that problems of the inefficiencies and weaknesses comparing actual
business are solved effectively. It helps to co ordinate performance with budget.
the activities of the various parts of the organization 8. It guides management in research and
by forcing each party to think as a group. development.
9. With its help, tasks such as like planning,
3. Measurement of Success: Budgets helps coordination and control happen effectively and
managers to assess how well a person or department efficiently.
is working by checking the assigned target and 10. It shows to the management where action is
achievement. Accomplishment of target can be used needed to remedy a position.
as basis for promotion or giving reward. 11. Budgeting also helps in obtaining bank credit.
12. It ensures team work and thus encourages the
4. Motivation: In modern business organizations, spirit of support and mutual understanding among the
budgets are prepared in consultation with the staff.
employees. If individuals have participated in the 13. It increases production efficiency, eliminates
preparation of budgets, it acts as a strong motivating waste and controls the costs.
force to achieve the goals.
Disadvantages / Limitations of Budgetary control:
5. Communication: A budget helps to
communicates information within a firm. Budget From the above it is clear that the budgetary
copies are usually distributed to all managers . It control is an effective tool for management control.
provides knowledge of the programmes and However, it has certain important limitations which
guidelines to be followed and also restrictions to be are identified below:
considered. 1. The budget plan is based on estimates and
forecasting. Forecasting cannot be considered to be
6. Control: Control is essential to make sure that an exact science. If the budget plans are made on the
plans given in the budget are being achieved. basis of inaccurate forecasts then the budget
Therefore actual performance are always compared programme may not be accurate and ineffective.
with budgeted and variations if any are corrected.
2. For reason of uncertainty about future, and
7. Budgetary control also helps to eliminate the changing circumstances which may develop later on,
wastes of all kinds. budget may prove short or excess of actual
requirements.

3. Effective implementation of budgetary control


Advantages of Budgetary control: depends upon willingness, cooperation and
understanding among people reasonable for
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execution. Lack of cooperation leads to inefficient 8. Adequate accounting system: There should be an
performance. adequate accounting system for the successful
budgetary control system, because those who are
4. The system does not substitute for management. It involved in the preparation of estimates depend
is like a management tool. heavily on the accounting department.
9. Periodic reporting: - There should be a prompt and
5. Budgeting may be cumbersome and time timely communication and reporting system for the
consuming process. effective implementation of a budgetary control
system.
6. It tends to bring about rigidity in operation, which
is harmful. As budget estimates are quantitative Steps involved in budgetary control
expression of all relevant data, there is a tendency to
attach some sort of rigidity or finality to them.
The following steps may be considered necessary for
7. It being expensive is beyond the capacity of small a comprehensive budgetary control programme:-
undertakings. The mechanism of budgeting system is
a detailed process involving too much time and costs. 1. Laying down organizational goals or objectives
2. Formulating the necessary plans to ensure that the
desired objectives are achieved.
Essentials of a Budgetary Control system: 3. Translating plans into budget
4. Relating the responsibilities of executives to the
Successful implementation of a budgetary control requirements of a policy.
system depends up on the following essentials. 5. Recording and reporting actual performance
6. Continuous comparison of actual with budgeted
1. Support by top management: The wholehearted results
support of all managerial persons is very necessary 7. Ascertainment of deviations, if any
for the success of a budgetary control system. 8. Focusing attention on significant deviations
2. Formal organization: The existence of a formal and 9. Investigation into deviations to establish causes
sound organizational structure is of an absolute 10. Presentation of information to management,
necessity for an effective system of budgetary relating the variations to individual responsibility.
control. 11. Taking corrective action to prevent recurrence of
3. Budget centers: For budgetary control purposes, variations.
the entire organization will be split into a number of 12. Provide a basis for revision of budgets.
departments, area or functions, known as ‘centres’,
and budgets will be prepared for each such centers.
4. Clear cut objectives and reasonably attainable
goals:- If goals are too high to be attained, the Installation of Budgetary Control:
purpose of budgeting is defeated. On the other hand,
if the goals are so low that they can be attained very There are certain steps necessary to install a good
easily, there will be no incentive to special effort. budgetary control system in an organization. They
5. Participative budgeting: Every executive are as follows:
responsible for the implementation of budgets should
be given an opportunity to take part in the preparation 1. Determination of the Objectives
of budgets. 2. Organization for Budgeting
6. Budget committee: The work of preparing a budget 3. Budget Centre
manual should be entrusted to a Budget committee. 4. Budget Officer
The work of scrutinizing the budgets as well as 5. Budget Manual
approving of the same should be the work of this 6. Budget Committee
committee. 7. Budget Period
7. Comprehensive budgeting: Budgeting should not 8. Determination of Key Factor
be partial, it should cover all the functions.
1. Determination of Objectives:
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a. The type of budget,
It is very clear that the installation of a budgetary b. The nature of demand for the products,
control system presupposes the determination of c. The availability of finance,
objectives sought to be achieved by the organization d. The economic situation of the cycle etc
in clear terms.
8. Determination of Key Factor:
2. Organization for Budgeting:
Generally, the budgets are prepared for all functional
Having determined the objectives clearly, proper areas of the business. They are inter related and inter
organization is essential for the successful dependent. Therefore, a proper coordination is
preparation, maintenance and administration of necessary. There may be many factors that influence
budgets. The responsibility of each executive must the preparation of a budget. For example, plant
be clearly defined. There should be no uncertainty capacity, demand position, availability of raw
regarding the jurisdiction of executives. materials, etc. Some factors may have an impact on
other budgets also. A factor which influences all
3. Budget Centre: other budgets is known as Key factor. The key
factor may not remain the same. Therefore, the
It is that part of the organization for which the budget organization must pay due attention on the key factor
is prepared. It may be a department or any other part in the preparation and execution of budgets.
of the department. It is essential for the appraisal of
performance of different departments so as to make
them responsible for their budgets. Types of Budget

4. Budget Officer: The extent of budgeting activity varies from firm to


firm. In a smaller firm there may be a sales forecast, a
A Budget Officer is a convener of the budget production budget, or a cash budget. Larger firms
committee. He coordinates the budgets of various generally prepare a master budget. Budgets can be
departments. The managers of different departments classified into different ways from different points of
are made responsible for their department‟s view. The following are the important basis for
performance. classification:
(A) Classification on the basis of Time:
5. Budget Manual: (B) Classification according to functions:
It is a document which defines the objectives of (C) Classification on the basis of capacity / flexibility
budgetary control system. It spells out the duties and
responsibilities of budget officers regarding the On the basis of time, the budget can be classified
preparation and execution of budgets. It also specifies as follows:
the relations among various functionaries. 1. Long term budget
2. Short term budget
6. Budget Committee: 3. Current budget
The heads of all important departments are made 4. Rolling budget.
members of this committee. It is responsible for
preparation and execution of budgets. The members 1. Long‐term Budget: These budgets are prepared on
of this committee may sometimes take collective the basis of long‐term projection and used for long‐
decisions, if necessary. In small concerns, the range planning. A budget prepared for considerably
accountant is made responsible for the same work. long period of time, viz., 5 to 10 years is called Long-
term Budget. It is concerned with the planning of
7. Budget Period: operations of the firm. It is generally prepared in
It is the period for which a budget is prepared. It terms of physical quantities and not in monetary
depends upon a number of factors. It may be different values.
for different concerns/functions. The following are
the factors that may be taken into consideration while 2. Short‐term Budget: In this budget forecasts and
determining budget period: plans are given in respect of its operations for a
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period of about one to five years. They are generally quantitative terms. It is normally forms the
prepared in monetary units and are more specific than fundamental basis on which all other budgets are
long‐term budgets. constructed. In practice, quantitative budget is
3. Current Budgets: These budgets cover a very prepared first then it is translated into economic
short period, may be a month or a quarter or terms.
maximum one year. The preparation of these budgets
requires adjustments in short‐term budgets to current The sales budget is the forecast of sales to be
conditions. As per ICMA London, “Current budget is achieved in a budget period. The sales manager is
a budget which is established for use over a short directly responsible for the preparation of this budget.
period of time and related to current conditions.” The following factors taken into consideration:

4. Rolling Budgets: It is also known as Progressive 1. Past sales figures and trend
Budget. In this case companies prepare the budget for 2. Salesmen’s estimates
a year in advance. A new budget is prepared after the 3. Plant capacity
end of each month or quarter for a full year in 4. General trade position
advance. The figures for the month or quarter which 5. Orders in hand
has rolled down are dropped and the statistics for the 6. Proposed expansion
next month or quarter are added. 7. Seasonal fluctuations
8. Market demand
(b) Classification on the basis of function 9. Availability of raw materials and other
supplies
10. Financial position
According to functions, budgets can be classified in 11. Nature of competition
to Functional budgets and Master budgets. 12. Cost of distribution
13. Government controls and regulations
Functional budget: The functional budget is one 14. Political situation.
which relates to any of the functions of an
organization. Functional budget may be Operating 2. Production budget:
budgets or financial budget.
The production budget is prepared on the
Operating budgets are those budgets which relate to basis of estimated production for budget period.
the different activities or operations of a firm. These Usually, the production budget is based on the sales
are the primary budgets. Financial budgets are those budget. At the time of preparing the budget, the
which incorporate financial decisions of an outflow of production manager will consider the physical
cash and the overall financial position. facilities like plant, power, factory space, materials
and labour, available for the period. Production
The number of functional budgets depends upon the budget envisages the production program for
size and nature of business. The following are the achieving the sales target.
commonly used:
The budget may be expressed in terms of quantities or
1. Sales budget money or both. Production may be computed as
2. Production budget follows:
3. Cash budget:
4. Raw‐material budget: Units to be produced = Desired closing stock of
5. Capital‐ expenditure budget: finished goods + Budgeted sales – Beginning stock of
6. Administration cost budget: finished goods.
7. Purchase budget:
8. Selling and distribution cost budget: It is facilitates the purchasing department to
plan its operations in time in respect of purchases so
that long term forward contract may be organized.
1. Sales budget: The sales budget is an estimate of 3. Cash budget:
total sales which may be expressed in financial or
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The cash budget is a sketch of the business This budget includes the administrative costs
estimated cash inflows and outflows over a specific for non‐manufacturing business activities like
period of time. Cash budget is one of the most directors fees, managing directors’ salaries, office
important and one of the last to be prepared. It is a lightings, heating and air condition etc. Most of these
detailed projection of cash receipts from all sources expenses are fixed so they should not be too difficult
and cash payments for all purposes and the resultants to forecast. There are semi‐variable expenses which
cash balance during the budget. get affected by the expected rise or fall in cost which
Cash budget assists the management in should be taken into account. Generally, this budget
determining the future liquidity requirements of the is prepared in the form of fixed budget.
firm, forecasting for business of those needs,
exercising control over cash. So, cash budget thus 8. Selling and distribution cost budget:
plays a vital role in the financial management of a
business enterprise. The Selling and Distribution Cost budget is
estimating of the cost of selling, advertising, delivery
4. Raw‐material budget: of goods to customers etc. throughout the budget
period. This budget is closely associated to sales
Direct Materials budget is prepared with an budget in the logic that sales forecasts significantly
intention to determine standard material cost per unit influence the forecasts of these expenses.
and consequently it involves quantities to be used and Nevertheless, all other linked information should also
the rate per unit. This budget shows the estimated be taken into consideration in the preparation of
quantity of all the raw materials and components selling and distribution budget. The sales manager is
needed for production demanded by the production responsible for selling and distribution cost budget.
budget. It should be noted that raw material budget Naturally, he prepares this budget with the help of
generally deals with only the direct materials whereas managers of sub‐divisions of the sales department.
indirect materials and supplies are included in the The preparation of this budget would be based on the
overhead cost budget. analysis of the market condition by the management,
advertising policies, research programs and many
5. Purchase Budget: other factors.

This budget forecasts the quantity and value Master budget:


of purchase required for production. It gives quantity
wise, money wise and period wise particulars about Master budget is the summary of all
the materials to be purchased. The main purposes of functional budgets. It summarizes sales, production,
this budget are: purchase, labour, finance budgets etc. It is considered
It designates cash requirement in respect of as the overall budget of the organization. A master
purchase to be made during budget period; and budget becomes a principal document for the
operations of the industry during the period it covers.
6. Capital Expenditure budget: The ICMA England defines a Master Budget as the
summary budget incorporating its functional budgets,
This budget stands for the expenditure on all which is finally approved, adopted and employed.
fixed assets for the duration of the budget period.
This budget is normally prepared for a longer period It comprises of budgeted profit and loss account,
than the other functional budgets. It includes such budgeted balance sheet, budgeted production, sales
items as new buildings, land, machinery and and costs. The master budget represents the activities
intangible items like patents, etc. This budget is of a business during a profit plan. This budget is also
designed under the observation of the accountant helpful in coordinating activities of various functional
which is supported by the plant engineer and other departments. A master budget is an annual profit
functional managers. plan, which may be broken into months or quarters.

c) Classification on the basis of capacity /


7. Administration cost budget: flexibility.

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On the basis of flexibility, budgets can be divided To conclude, a flexible budget is more useful, elastic
into two categories. They are: and practical.
1. Fixed Budget
2. Flexible Budget. Distinction between fixed budget and flexible
budget
1. Fixed Budget:

Fixed Budget is one which is prepared on the basis of Fixed budget Flexible budget
a standard or a fixed level of activity. It does not 1. It does not change 1. It can be changed
change with the change in the level of activity. This is with the actual volume of on the basis of activity
a budget in which targets are tightly fixed. It is known activity achieved. level achieved.
as a static budget. According to CIMA, “A budget
which is designed to remain unchanged irrespective 2. It is flexible
of the level of the activity attained is fixed budget.” 2. It is rigid
Fixed Budget is firm and prepared with the 3. It consists of
assumption that there will be no change in the various budgets for
budgeted level of motion. Thus, it does not provide 3. It operates on one level different levels of
room for any modification in expenditure due to the of activity and under one activity
change in the projected conditions and activity. set of conditions..

2. Flexible Budget:
A budget prepared to give the budgeted cost 4.. It has limited use for 4. It is very useful
of any level of activity is termed as a flexible budget. cost control. for cost control
According to CIMA, London, a Flexible Budget is, „a
budget designed to change in accordance with level of
activity attained‟. It is prepared by taking into 5.. Costs are not 5. Costs are
account the fixed and variable elements of cost. The classified according to classified according to
flexible budget is also called as Variable Budget or their variability, i.e., the nature of their
Sliding Scale Budget, as it takes both fixed, and fixed, variable etc variability.
variable manufacturing costs into account.

Importance of flexible budget.


The main importance of flexible budget is that it
reflects the expenditure appropriate to various levels Steps Involved in the preparation of Budget
of output. Following points show the utility or
importance of flexible budget: Common steps involved in the preparation of a
budget can be listed as follows:
1. Flexible budget provides a logical comparison of
budgeted allowances with the actual cost. 1. Obtaining Estimates:
2. A flexible budget enables the management to First step in preparation of budget is obtaining
analyze the deviation of actual output from estimates of sales, production levels, expected costs,
expected output. and availability of resources from each
3. With flexible budget, it is possible to establish sub-unit/division/department: The departmental heads
budgeted cost for any range of activity. or managers are required to provide necessary
4. A flexible budget is very useful for purposes of estimates for budget preparation.
budgetary control because it corresponds with
changes in the level of activity.
5. It is helpful in price fixation and for sending
quotations. 2. Coordinating estimates:

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Budget Committee is responsible for for a function, process, or project is not justified for
preparation and execution of budgets. Therefore, the single penny. The assumption is that without such
budget committee evaluates the different plans justification, no expenditure will be allowed.
submitted by various departments and estimates what
resources are available and can be allocated among Features:
the various departments.
a. It starts from zero
3. Communicating Budget: b. All activities are identified in appropriate decision
packages
After individual budget plans have been c. All programmes are considered totally afresh
approved by the Budget Committee, the budgets d. A detailed cost benefit analysis of each programme
should be communicated to departments and is undertaken
responsible managers. Changes and modifications if e. There is an officer responsible for each decision
any , incorporated in the final budget should also be packages
made known to managers. Budgeting requires f. Priorities are established and decision packages are
effective communication to convince the ranked
departmental manager about changes in the budget.

4. Implementing the Budget Plan:

The final budget is presented to the managers


and will be used as the plan of operation for the
coming budget period. The various service units in a
business enterprise are required to provide the
necessary materials, labour, facilities and other
resources to carry out the budget.

5. Reporting Interim Progress:


As a feedback in the budgeting process,
performance reports are prepared to inform
departmental managers and top management about
the actual performance. . This will help to revise the
budget, if needed, during the year. For example, it is
advisable to reduce production when sales are low.

Zero Base Budgeting (ZBB)

Zero base budgeting is a new technique of budgeting.


It is designed to meet the needs of the management in
order to ensure the operational efficiency and
effective utilization of the allocated resources of a
concern. This technique was originally developed by
Peter A. Phyhrr, Manager of Taxas Instrument during
1969. This concept is widely used in USA for
controlling their state expenditure when Mr. Jimmy
Carter was the president of the USA.

The ‘Zero‐Base’ refers to a ‘nil‐budget’ as the


starting point. It starts with a presumption that the
budget for the next period is ‘zero’ until the demand
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