3.9 Budgets

Question 1

What is a budget?

Answer 1

Detailed financial plan for the future
Outline of expected costs & revenues or cash flow for a specific time period
Help business allocate resources and achieve objectives

Question 2

What is the purpose of budgets?

Answer 2

Plan financial operations
Forecast costs, revenues, risks, and returns
Compare & evaluate financial decisions

Question 3

What is importance of budgets?

Answer 3

P-CAFÉ

Planning – aligns business activities with available finances.
Contingency planning – reserves for emergencies.
Accountability – sets spending limits and responsibility.
Financial control – tracks and prevents overspending.
Efficiencies – forces prioritisation and reduces waste.

Question 4

Who is a budget holder?

Answer 4

person responsible for formulating, implementing, and achieving a budget, ensuring allocations are met.

Question 5

What is a cost centre?

Answer 5

section of a business responsible only for its own costs, not revenue, used for budgetary control and cost efficiency.

Examples: HR, R&D, Customer Service.

Question 6

What is a profit centre?

Answer 6

division responsible for both costs and revenues, and is held accountable for the profit it generates

Examples: Sales divisions, regional outlets, product-based units.

Question 7

How can cost and profit centres be organised?

Answer 7

By function (e.g. HR, Marketing), by product (e.g. Nike sports lines), or by geography (e.g. McDonald’s regional branches).

Question 8

role of cost & profit centres

Answer 8

Monitoring & control – track departmental performance.
Autonomy: Department managers make local decisions faster and more effectively
Motivation – Empowers budget holders to make better financial decisions.
Accountability – managers responsible for cost/profit results.

Question 9

What are the problems of cost & profit centres?

Answer 9

Unhealthy competition: Can cause rivalry between departments.
Loss of control: Senior executives may lack insight into individual departments.
Subjectivity: Some costs (e.g. rent) are hard to allocate fairly between departments.
Short-termism: May prioritise short-term profit at the expense of long-term investment (e.g. training, R&D)

Question 10

What is variance analysis?

Answer 10

difference between a budgeted figure and the actual result for revenue or costs
Used to guide decision-making

Question 11

Formula for variance?

Answer 11

Variance = Actual – Budgeted.

Question 12

What is a favourable variance?

Answer 12

Occurs when actual profit is higher than expected (costs lower or revenues higher)

Question 13

What is an adverse variance?

Answer 13

Occurs when actual profit is lower than expected (costs higher or revenues lower).

Question 14

Benefits of variance analysis in decision-making?

Answer 14

• Planning – sets targets and anticipates problems.
• Motivation – empowers budget holders and boosts morale.
• Coordination – aligns departments toward shared goals.
• Control – regulates spending and prevents waste.
• SMART goals – ensures budgets are measurable and realistic.
• Comparison – benchmarks performance.
• Deviation detection – identifies overspending or inefficiencies.
• Objective appraisal – evaluates managers fairly.

Question 15

Limitations of budgets in decision-making?

Answer 15

• Budgets may be inflexible to external changes.
• Large differences reduce reliability.
• Focus on short-term at expense of long-term opportunities.
• Underspending can cause wasteful “end-of-year” spending.
• Excluding staff may reduce motivation.

Question 16

Why are budgets important for financial planning?

Answer 16

They support transparency, accountability, financial control, and coordinated decision-making across departments.

Question 17

How can variances motivate staff?

Answer 17

Positive variances may lead to rewards, while responsibility for adverse variances can increase accountability.

Question 18

What is a limitation of allocating costs in centres?

Answer 18

Indirect costs are hard to distribute fairly, leading to distorted performance evaluation.