1. Chapter 11
Using Budgets to Achieve Organizational Objectives

2. Chapter Objectives: To be able to:
1. Identify the primary role of budgets and budgeting in organizations.
2. Demonstrate the importance of each element of the budgeting proces.
3. Explain the different types of operating budgets and financial budgets and their interrelationships.
4. Describe the way that organizations effectively use and interpret budgets.
5. Use cost-volume-profit analysis to evaluate the operating and financial consequences of alternative decisions.
6. Undertake what-if and sensitivity analyses - two important budgeting tools used by budget planners.
7. Identify the role of budgets in service and not-for-profit organizations
8. Recognize the behavioral effects of budgeting on an organizations employees.

3. The budgeting process
The budgeting process: The process that determines the planned level of most flexible costs.
Budget: A quantitative expression of the money inflows and outflows that predicts the consequences of current operating decisions and reveals whether a financial plan will meet organizational objectives.
Planning and control and the role of budgets:
Exhibit 11-1

4. Purpose of the Budgeting Process
The budgeting process forces the organization to do the following:
1. Identify its long-term objectives and short-term goals and be specific in setting goals and evaluating performance relative to those goals.
2. Recognize the need to view the organization as a system of interacting components that must be coordinated.
3. Communicate the organizations goals to all organization members and involve them in the budgeting process.
4. Anticipate problems, thereby handling them proactively rather than reactively.

5. The Master Budget
Budgets are prepared for specific time periods to allow managers to compare actual results for the period with planned results. Differences between actual results and the budget plan are called variances.
Variances: The difference between planned and actual costs.
Operating budgets: The document that forecasts revenues and expenses during the next operating period including monthly forecasts of sales, production and operating expenses.
Financial budgets: Those budgets that identifiy the expected financial consequences of the activities summarized in the operating budgets.
Exhibit 11-2

6. The Operating Budget Typical content: 1. Sales plan
2. Capital spending
3. Production plan
4. Materials purchasing plan
5. Labor hiring and training plan
6. Administrative and discretionary spending plan

7. The Financial Budget Typical content:
1. Plan when excess cash will be generated so that they can undertake short- term investments.
2. Organize how to meet any cash shortages.

8. The process, page 1 of 4 Demand forecast (detail level, etc.)
The production plan (inventories, capacities etc)
Aggregate planning (The process that compares the production plan with the amount
of available productive capacity; this comparison assesses the feasibility of the propo-
sed production plan)
The spending plan (acquiring plan for requiring raw materials and supplies as
marketing, R&D, IT etc.)

9. The process, page 2 of 4 Choosing the capacity levels (exhibit 11-7)
Flexible resources that the organization can acquire in the short term.
Capacity resources that the organization must acquire for item for the intermediate term.
Capacity resources that the organization must acquire for the long term.
Determine
Activities that create the need for resources and, therefore, resource expenditures in the short
term.
Activities undertaken to acquire capacity for the intermediate term.
Activities undertaken to acquire capacity that must be acquired for the long-term.
Efficiency and effectiveness considerations, short-term:
Is this expenditure necessary to add value to the product from the customers perspective?
Can the organization improve the execution of this activity?
Would changing the way this activity is done provide more customer satisfaction?

10. The process, page 3 of 4
Efficiency and effectiveness considerations, intermediate- and long-term:
Are alternative forms of capacity available that are less expensive?
Is this the best approach to achieve our goals?
How can we improve the capacity selection decision to make capacity less expensive or more flexible?
Handling infeasible production plans (resource or capacity constrains)
Interpreting the production plan (bottlenecks, adjusting sales or capacities,
exhibit 11-8)
The financial plans
Cash-flows (exhibit 11-9)
Projected balance sheet (exhibit 11-10)
Projected income statement (exhibit 11-11)
The cash flow statement
Cash collections (exhibit 11-12)
Cash outflow calculations (exhibit 11-13)
Cash flow statement (exhibit 11-14)

11. The process, page 4 of 4 Using the financial plans
(relationships to shareholders, banks and other investors)
Using the projected results
(Identify borad resource requirements, identify potential problems, compare projected
operating and financial results)

12. Cost-Volume-Profit Analysis (CVP), page 1 of 2
Definition
The process of combining cost behavior information with revenue information to project revenues, cost and profits for different levels of volume.
Assumptions
- Costs are either pure flexible or capacity related.
- Units made equal units sold.
- Revenue per unit does not change as volume changes.
Profit calculations
Profit = Revenue - Costs
Profit = Revenue - Flexible Costs - Capacity-related Costs
Profit = (Units sold x Revenue per unit) - (Units sold x Flexible cost per unit) - Capacity
related Costs
Profit = Units sold (Revenue per unit - Flexible Cost per unit) - Capacity-related Costs
Profit = (units sold x Contribution Margin per unit) - Capacity-related Costs

13. Cost-Volume-Profit Analysis (CVP), page 2 of 2
Breakeven Calculation
Units sold to breakeven = Capacity-related costs / Contribution Margin per unit
Exhibit Unit revenue and cost information
Profit = ($62.40 x units sold)
Breakeven quantity = / 62,40 = 3288 units
Exhibit Cost-Volume-Profit Chart
Multiproduct organizations versus Single-product organizations
Exhibits 11-17, 11-18, 11-19

14. What-if Analysis
What-if A type of analysis that explores the effect of a change in a parameter on an outcome.
Example: What if I decrease prices 5% and sales then increase by %?
Sensitivity The analysis of the effect of a change in a parameter on a decision rather than on an outcome.
Example: How much many % can Euro fall compared to USD before we reach breakeven?

15. Managing the Budgeting Process, page 1 of 2
Who?
Who is involved an to what extent?
How?
How should budgets be determined and at what level of difficulty should the budget be set to have the greatest positive influence on peoples motivation and performance?
Authoritative budgeting: A budget-setting method in which a superior tells a subordinate what the budget will be.
Stretch budgeting: A budgeting method that attempts to reach much higher goals than the current performance
Participative budgeting: A method of budget setting that uses a joint decision-making process in which all parties agree about setting the budget targets.
Consultative budgeting: A method of budget setting used when managers ask subordinates to discuss their ideas about the budget, but no joint decision making occurs.

16. Managing the Budgeting Process, page 2 of 2
Manipulation
Budgeting games: A process in which managers attempt to manipulate infor- mation and targets to achieve as high a bonus as possible.
Budget slack: Involve the acts of requiring excess resource and distorting performance information.

17. Other Subjects Comparison of actual and planned results.
Periodic versus continuous budgeting.
Controlling descretionary expenditures.
Incremental budgeting. Bases a periods expenditure level for a discretionary
itemon the amount spent for that item during the previous period.
Zero-based budgeting. Requires that proponents of discretionary expenditures
continually justify every expenditure.
Activity-based budgeting. A budgeting approach based on the insights of
activity-based costing.
Project funding. A proposal for discretionary expenditures with a specific time
horizon or sunset provision.