Budgeting

Budgeting
What would you do?

Mei Po runs a small artisan shop that makes decorations and gifts for the Chinese New Year. Unique hand-crafted touches and a great word-of-mouth reputation keep her products in high demand.

Recently, Mei Po learned that the space next door was available to lease. The timing was right as she was looking to expand her business. But as she reviewed the loanapplication, she noticed that in addition to a business plan, she needed to prepare a one-year budget. Mei Po was taken aback.

She planned her cash-flow month to month. How could she predict what would happen over the period of a year? It seemed impossible.

What would you do?

The first step in developing a budget is to establish a set of assumptions about the future. Questions Mei Po might askinclude: Will the demand for her gifts grow over the next year? If yes, by how much?

The next step is for Mei Po to calculate expected revenues and expenses based on past performance and future expectations. The difference between revenues and expenses is net income. If Mei Po is satisfied with the numbers, she can finalize her budget. If she wants higher net income, she needs to identify newstrategies that will support different assumptions.

In this topic, you'll learn how to identify and create a budget that will most effectively help you meet your business goals and how to use communication skills to develop realistic, accurate budgets that keep your organization on track.

Topic Objectives
This topic helps you:

← Understand what budgets are and how the budgetingprocess works
← Prepare different types of budgets
← Create "what if" scenarios
← Monitor and evaluate budget performance
About the Mentor
V.G. Narayanan

V.G. Narayanan teaches both basic and advanced courses in financial and accounting topics to M.B.A. and doctoral students at Harvard Business School, where he is a Professor of Business Administration. He believes that budgets mustaccomplish more than control purposes to serve an organization well. He consults with numerous businesses and has a special interest in managerial accounting. V.G. has contributed articles to accounting journals and has published many case notes for the school. He is a graduate of Stanford University, where he received his M.S. in Statistics, M.A. in Economics, and a Ph.D. in Business. Hisability to make difficult concepts comprehensible is evidenced in this topic on budgeting, which has a practical approach.






Budgeting Overview
What is budgeting?

A budget is the financial blueprint or action plan for an organization. It translates strategic plans into measurable expenditures and anticipated returns over a certain period of time.

Budgeting is the process of creatingand fine-tuning budgets. Budgeting activities include:

← Forecasting future business results, such as sales volume, revenues, capital investments, and expenses
← Reconciling those forecasts to organizational goals and financial constraints
← Obtaining organizational support for the proposed budget
← Managing subsequent business activities to achieve budgeted results
If youhave profit and loss responsibility, the financial results of your division or business unit versus the budget may be a key factor in evaluating your job performance, and may also be tied to your compensation.

An understanding of the basics of budgeting and the budget process is, therefore, essential to creating realistic budgets that will later serve as performance benchmarks. Moreover, if youare skilled at "selling the budget" within your organization and negotiating compromises during the budgeting process, you will be more likely to see your budget requests met.

The budgeting process
Key Idea

The budgeting process involves establishing goals, evaluating different ways of achieving these goals, and assessing the financial impacts of these strategies.

There are typically...