Module Five: Understanding Budgets

Budgets are critical for businesses. Many organizational stakeholders require that budgets be submitted for review every year. The budget sets spending limits and usually is broken down into individual departments or business units. Budget numbers are typically reviewed monthly to determine how well the company is keeping within the budget. Understanding budgets will help you create and manage one for your areas or departments. Furthermore, knowing how a budget is formed will give you working knowledge to increase your value to the organization.

In this module, you will learn the following about budgets:

• Common types of budgets
• What information do I need?
• Who should be involved?
• What should a budget look like?

Let us begin with the common types of budgets.

Common Types of Budgets

There are six commonly used budget types for businesses. Here they are:

Sales budget: This budget estimates future sales. This budget is usually broken down into units and dollars. This budget is used to create company sales goals.

Production budget: This budget estimates the number of units that must be manufactured to meet sales goals. The production budget also estimates the various costs of manufacturing those units, including labor and materials.

Cash Flow/Cash budget: This budget predicts future cash receipts and expenditures for a particular time. It is usually for the short-term future. The cash flow budget helps businesses determine when income will be sufficient to cover expenses and when the company will need to get a loan to cover expenses during this Time.

Marketing budget: This budget estimates the funds needed for promotion, advertising, and public relations for the organization to market its product or service.

Project budget: This budget predicts the costs associated with a particular project. These costs include labor, materials, and other related expenses. The project budget is often broken down into specific tasks called activities, with budgets assigned to each.

Expenditure budget: This budget estimates the organization's expenses for a time. This budget could include supplies for sale, office supplies, and bills.

What Information do I Need?

To begin a budget, you will need the following three pieces of information:

• Goal: Identifying a goal is the first step to creating a budget. Think about what you need to accomplish. This task could be a sales goal, an efficiency goal, or a quality goal. Regardless of the goal, it is essential to think carefully about the feasibility of the goal. Use the SMART technique for goal setting, making the goal Specific, Measurable, Attainable, Realistic, and Time driven.
• Money: How much money do you have? In the corporate environment, you may need to review the financial reports to determine how well the company is doing. When financially tight, the monies allocated to the budgets may be limited. Knowing how much is available will help you determine what you should request regarding the business environment.  
• Costs: You will need to determine how much the costs are related to your goals. This cost may require you to break down your goals into smaller components so you can put a price on each of them. Knowing how much things will cost will help weed out unnecessary expenses in your budget. 

These three items will point you in the right direction when you are ready to begin your budget.

Who Should Be Involved?

Creating a budget is a challenging task, especially when it is for the entire organization. The budget process will require input from many areas and departments. In addition, it will require strategic thinkers and people with the ability to determine what cost-effective methods of doing things are.

In addition, people who know how to generate funds should be a part of the process. This process will help to determine how much money the organization will need to make to meet budget goals. 

When creating a budget for the organization, a team of people from various areas should be assembled. The team should include the following areas:

• Accounting
• Operations
• Sales
• Top administration officials

Furthermore, these specific people should attend from each area mentioned:

• CEO
• CFO
• Finance manager
• Department leaders or directors
• Project managers
• A member of the Board of Directors

Once the team members are established, each should submit budgets from the areas they manage and direct. 

The refining process usually involves input from the CEO or CFO. Once the budget is set, the team can monitor it every month to ensure each area is held accountable to their budget for their area or department.  

What Should a Budget Look Like?

A budget for an organization almost looks like an income statement but with a few extra columns. A budget may be presented in many ways. Some budgets present previous information from the past several years. Others only focus on the most current information. 

Here is a basic outline of the categories of a budget:

• Categories: This column is usually on the left and lists all the inflows, expenses, and net income categories, which can be general or very specific.
• Actual: This column is usually to the right of the categories column and contains the actual numbers that have been reported.
• Budget: This column is usually to the right of the Actual column. This column contains the budgeted numbers.
• Difference: This is the last column on the right of the page. This column shows the difference in the budget. 

This format can be expressed as a monthly report with year-to-date totals, or it can be used as an end-of-year report. Other variations could be differences expressed in percentages.  

Lesson Summary

Understanding budgets is critical for businesses of all sizes and any organization that plans to grow. This module will teach you the topics needed to create and manage one for your areas or departments and increase your value to the organization. Here are the key points this module covers: - Common Types of Budgets: Sales, production, cash flow/cash, marketing, project, expenditure - What information do I need: Goal, money, costs - Who should be involved: CEO, CFO, finance manager, department leaders, project managers, Board of Directors - What should a budget look like: Categories, actual, budget, difference (expressed as monthly report with year-to-date totals or as an end-of-year report with differences expressed in percentages).