Question

You have been appointed as the new CFO at Griffith Manufacturing. You were brought in because the company has had problems with their use of budgeting, and you are an expert. They have been using static budgets, which have not been useful in comparing actual production and sales.

• Write a memo to the CEO, Shane Ortiz, laying out your new plan for budget use. Make sure to include the following:
  • How budgets are useful for planning, managing and controlling, from a departmental and company-wide perspective.
  • What type of budget you plan to implement, and why. For example, static, flexible, rolling, zero-based, etc.
  • How the budget can be used to evaluate the different responsibility centers within the organization.

What ways the budget could be used for evaluation, including things like bonuses, promotion, compensation, etc.

Answer 1

Memorandum to CEO

A Budget is a formal plan of action which helps the organization in achieving its strategic objectives. Budgets give competitive edge to the firm in today’s competitive world and help winning in market place. A Budget usually relates to future period and should be continuously monitored. A budget is a method for translating the goals and strategies of an organization into operational terms.

Budgets are useful for planning, managing and controlling in an organization due to the following benefits

• Helps in achieving efficiency and economy in various activities and operations of the company
• It helps in bringing divisional and departmental accountability and responsibility among the employees
• It helps in business planning and achieving strategic objectives and long term goals
• It helps in Cost management through cost control and cost reduction
• It helps in performance evaluation of employees and is a source of motivation to achieve targets
• It helps management in understanding most profitable combination of different factors of production
• It helps in allocation of scarce resources based on best outcomes.
• It helps management in taking timely and reliable decisions
• It helps in smooth conduct of business operations by taking into account all business conditions

Flexible budget is the recommended budgeting system. Flexible budget is a variation of static budget for the actual level of activity. It helps in meaningful comparison of budgets with actual results. The variable costs are flexed as per Static budget and fixed costs are constant in a flexible budget. A Flexible Budgeting Performance Report can be prepared for a department or division to monitor its performance on a periodic basis.

Zero based budgeting helps in ensuring all costs are re-evaluated and no previous base is taken. It helps in taking a fresh look at the costs and getting a new perspective to control costs.

Budgets help in fixing accountability and responsibility. It is commonly used for evaluation of responsibility centers like Cost center and Revenue centre. For example: Cost centre are monitored against the budgeted costs and actual costs incurred to get budget variance. The favorable and unfavorable variances are investigated as part of controlling the deviations. Similarly revenue centers are monitored against the budgeted revenue and actual revenue to get the variances for controlling purpose.

Budgets are targets given at the beginning of the year to each department and its employees. At the end of the year the actual performance are compared with budget and performance discussion is done with employees based on which variable payouts like bonuses, promotions and increments are given to employees. Budgets are a benchmark and yardstick against which performance will be compared. Budgets are source of motivation to employees since they clearly know how their targets and how their performance will be measured at the end of the year

Thanking You,