2.2.4 - Budgets

Question 1

What is a budget?

Answer 1

A budget is a financial plan for the future concerning the revenue and costs of a business

Question 2

What are the uses of a budget?

Answer 2

• Establish priorities and set targets
• Turn objectives into practical reality
• Provide direction and coordination
• Assign responsibilities
• Allocate resources
• Communicate targets
• Delegate without loss of control
• Motivate staff
• Improve efficiency
• Forecast outcomes
• Monitor performance
• Control income and expenditure

Question 3

What is a historical budget?

Answer 3

A historical budget is a budget that uses last years figures as the basis for the budget

Question 4

What is the benefit of using historical budgets?

Answer 4

Realistic as it is based on actual results

Question 5

What are the drawbacks of historical budgeting?

Answer 5

• Circumstances may have changed (e.g. new product, lost customers)
• Does not encourage efficiency

Question 6

What is a zero-based budget?

Answer 6

Budgeted values are set to 0 and new budgets are set based on new proposals for sales or costs

Question 7

What is the benefit of zero-based budgeting?

Answer 7

More realistic, according to the present and possible future outcomes

Question 8

What are the drawbacks of zero-based budgeting?

Answer 8

• Makes budgeting more complicated (requires more market research)
• Time consuming

Question 9

What are the three main types of budget?

Answer 9

• Revenue
• Cost
• Profit

Question 10

What are the two key sources of information used to set budgets?

Answer 10

• Financial performance in the previous years
• Market research: competitor activity, customer feedback, trends in market size/growth

Question 11

What are the difficulties of budgeting?

Answer 11

• Often fixed for a year, difficult when a business is dynamic
• With expenditure budgets, managers have a tendency to spend up to the limit so that it doesn’t get reduced
• Time consuming to prepare, monitor and control
• Unrealistic budgets can be demotivating
• Can cause inter-department rivalry as some departments get more money than others
• Can make managers become more budget driven rather than consumer driven
• For some industries it is difficult to plan ahead because of large unplanned changes

Question 12

What is variance analysis?

Answer 12

Calculating and investigating the differences between actual results and the budget

Question 13

What is a favourable variance?

Answer 13

When actual figures are better than budgeted figures

Question 14

What is an adverse variance?

Answer 14

When actual figures are worse than budgeted figures

Question 15

What are the possible causes of favourable variances?

Answer 15

• Stronger market demand than expected
• Selling budget increased higher than budget
• Cautious sales and costs assumptions
• Competitor weakness leading to higher sales
• Better than expected productivity or efficiency

Question 16

What are the possible causes of adverse variances?

Answer 16

• Unexpected events lead to unbudgeted costs
• Overspends by budget holders
• Sales forecasts prove over optimistic
• Market conditions mean selling prices are lower than budgeted