Question

How does an organization prepare a budget? fully explained

Answer 1

A budget outlines your organization's financial and operational goals, so it may be thought of as an action plan that helps you allocate resources, evaluate performances, and formulate plans.

A budget is an essential part of your business plan when starting a new business. Once your business is established, budgeting becomes a regular task that normally occurs on a quarterly and/or annual basis, where past budgets are reviewed and budget projections are made for the next three or even five quarters or years.

The basic process of planning a budget involves listing your business's fixed and variable costson a monthly basis and then deciding on the allocation of funds to reflect goals.

Businesses often use special types of budgets to assess specific areas of operation. A cash flow budget, for example, projects your business's cash inflows and outflows over a certain period of time. Its main use is to predict your business's ability to take in more cash than it pays out.

Many organizations prepare budgets that they use as a method of comparison when evaluating their actual results over the next year. The process of preparing a budget should be highly regimented and follow a set schedule, so that the completed budget is ready for use by the beginning of the next fiscal year. Here are the basic steps to follow when preparing a budget:

1. Update budget assumptions. Review the assumptions about the company's business environment that were used as the basis for the last budget, and update as necessary.

2. Review bottlenecks. Determine the capacity level of the primary bottleneck that is constraining the company from generating further sales, and define how this will impact any additional company revenue growth.

3. Available funding. Determine the most likely amount of funding that will be available during the budget period, which may limit growth plans.

4. Step costing points. Determine whether any step costs will be incurred during the likely range of business activity in the upcoming budget period, and define the amount of these costs and at what activity levels they will be incurred.

5. Create budget package. Copy forward the basic budgeting instructions from the instruction packet used in the preceding year. Update it by including the year-to-date actual expenses incurred in the current year, and also annualize this information for the full current year. Add a commentary to the packet, stating step costing information, bottlenecks, and expected funding limitations for the upcoming budget year.

6. Issue budget package. Issue the budget package personally, where possible, and answer any questions from recipients. Also state the due date for the first draft of the budget package.

7. Obtain revenue forecast. Obtain the revenue forecast from the sales manager, validate it with the CEO, and then distribute it to the other department managers. They use the revenue information as the basis for developing their own budgets.

8. Obtain department budgets. Obtain the budgets from all departments, check for errors, and compare to the bottleneck, funding, and step costing constraints. Adjust the budgets as necessary.

9. Obtain capital budget requests. Validate all capital budget requests and forward them to the senior management team with comments and recommendations.

10. Update the budget model. Input all budget information into the master budget model.

11. Review the budget. Meet with the senior management team to review the budget. Highlight possible constraint issues, and any limitations caused by funding problems. Note all comments made by the management team, and forward this information back to the budget originators, with requests to modify their budgets.

12. Process budget iterations. Track outstanding budget change requests, and update the budget model with new iterations as they arrive.

13. Issue the budget. Create a bound version of the budget and distribute it to all authorized recipients.

14. Load the budget. Load the budget information into the financial software, so that you can generate budget versus actual reports.

The number of steps noted here may be excessive for a smaller business, where perhaps just one person is involved in the process. If so, the number of steps can be greatly compressed, to the point where a preliminary budget can possibly be prepared in a day or two.

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