Benefits of planning

Every organization works toward achieving its main goals. Planning aids in organizing the duties of the many divisions to guarantee that all business operations run smoothly. Making profitable company judgments is also made easier with its help. The budget acts as the business’s blueprint and is essential to running it successfully. To maximize earnings, a company’s upper management must agree on how to allocate its resources. The company must devote all of its resources to the operations that advance the organization’s objectives (Bierman and Smidt, 2007).

There are many budgetary systems that an organization may choose to implement. Each of the systems has their advantages and disadvantages. Various factors are considered in determining the type of budgeting system used by an organization. The major types of budgetary systems include the incremental budgeting, zero based budgeting, priority based budgeting and performance based budgeting (Pandey 2015, p.237).

Benefits of a budget and the budget process in the organization

The budget helps to create the financial roadmap for ABC Ltd. The budget helps the company to have a clear revenue and expenditure plan throughout the year. The company needs to review the budgets of the previous year to determine whether they followed the guidelines of the budget and why the variances occurred. Such variances may be positive or negative to the business.A variance may symbolize the company is heading in the right direction, or the opposite. If the variances are due to negative situations in the company, strategies can be drawn to rectify the problem (Pandey 2015, p.126). For instance, if the variances on the budget are due to growth in sales, the company needs to increase the amount of budget to increase the future sales.

Budget plays a major role in the planning for the future growth and expansion of ABC Ltd. The finances that are saved on daily business expenditures can be reserved and used in responding to new opportunities. A budget for the future growth places the business in a strategic position to quick decisions for expansion when opportunities arise. The income reserved can also be used in slow economic times to cater for the expenses of the business. For ABC Ltd to grow towards the future, it must budget for the future.

A budget limits the excess expenditures in some operations of ABC Ltd. Some of the activities in the business may be using too much than what is expected. The budget accounts for the expenses and ensures that the finances are not wasted in unnecessary activities (Bierman and Smidt, 2007). It also ensures the company does not overuse the economic resources of the business. Therefore, it makes sure that the expenditures of the business do not exceed the profits gained. The owners of the business and the managements are prompted by the budget to find the new suppliers and vendors when the expenditure becomes high. By acquiring cheaper suppliers for the business inputs, the company’s money is saved, and the budget limit attained.

A budget process has several key components that ensure its effectiveness. These components are effective communication, clearly defined goals, coordination, management involvement, and the actual performance reporting. This leads to a more efficient management process in a company (Pandey 2015, p.336).

The budgeting process is a goal setting exercise. This is where the management meets to gain a consensus on the allocation of the ABC Ltd.’s resources. The company must have plans on how to achieve its set objectives. The meeting of department managers helps them to give their ideas for the better future of the business. Therefore, it is essential for the heads of the department to come to a consensus so that they have a common objective towards the business.

The process of budgeting provides an opportunity for the assessment of the ABC Ltd.’s performance. When the heads of different departments come on board to make the budget, they will be able to assess the performance. The comparison between the inputs in the previous years and the output helps in getting the variance. They can use the variance to determine whether the previous budget was favorable of adverse for the company (Srithongrung 2017, p.186). If the budget was too tight and did not profit the business, they can adjust to change the situation. If the budget led to profit, they could put more strategies to ensure more profits. The budgeting process provides a platform for the executive management to predict the future of the business. Budgeting process acts as an approval process for the plans of the business. The process is essential in ABC Company and all organizations.

Traditional budgeting approaches

Incremental budgeting is the traditional method that is applied in ABC Company. The method of budgeting is prepared by analyzing the past budget or performance of the business and adjusting the figures for the current budget. The amounts added consist of the adjustments to ensure productivity growth in the company. Things like price inflation and decisions for increasing the sales make up the incremental amount. It is a common method applied in many organizations. This method has several advantages as well as limitations.This method may lead to wastage of resources since it does not involve a critical analysis of all business activities (Donovan 2006, p.143).

The budgeting process should address tasks and responsibilities in each department. It should also incorporate the timelines for all business activities. For instance, it should address the monthly sales target for ABC Ltd. This helps to measure performance and also ensure that the company is on the right track.

An effective budgeting process must ensure that income is budgeted first before spending. This is because the revenue to be generated must be supported by the forecasted income in the budget. The spending must fall within the revenue level and cater for the expected profit.

The strategic initiatives of the business are a key consideration of the budgeting process. It is because the strategic initiative will help ABC Ltd to remain on a growth trajectory. This involves components such as long term investments.

Analysis of whether a traditional budgetary system is appropriate

The traditional budgetary system has several drawbacks in an organization. Therefore, it can hinder the faster development of the business such as ABC. Too much time and resources are consumed in the budgeting process (Donovan 2006, p.107). Very few individuals who participate in the budget process find it worthwhile. The process takes a long time because it uses spreadsheets. Spreadsheets are accompanied with shortcomings that make the process ineffective. For instance, the spreadsheets might have the version issues, data entry errors, and outdated formulations.

A company that uses the traditional budgetary system has higher chances of disconnecting from the strategic plan. This is because the traditional budgetary system only focuses on reducing cost and does not focus on value creation. This implies that the strategic initiatives are given lower priorities. It hinders the faster development of the organization as less is given to the opportunities on the way. A company like ABC may have this problem because it uses the incremental budgeting which is traditional.

The traditional budgetary system fails to motivate the desirable behaviors in an organization. The workers of the organization are not encouraged to work in their company’s interest. The approach encourages unprofessional attitudes in the budget cost by managers. It creates bureaucracy and makes the other employees feel less valuable to an organization (Khan and Jain, 2007). It does not encourage knowledge sharing but instead builds departmental barriers between people working in an organization. It builds a rift between the employees and the management hence limiting the development of the business.

Another limitation of the traditional budgetary system is that it gives no room for changes (Khan and Jain, 2007). This is because the cycle of the budget is annual. The budget is not reviewed to take the changes into account. This makes it obsolete some times after it has been prepared. Changes in any business are inevitable, and the budgetary process should, therefore, be flexible. The traditional budgetary system is not an appropriate method to be used. Another budgetary system should be adopted to curb the drawbacks and make the business meet its objectives.

Alternative budget systems

The incremental budget system is one of the oldest and most commonly used systems. ABC Ltd has been using this system over time. An alternative to the incremental budgeting system is the zero based budgeting system. The primary distinction between these two methods is the base used in the budget making process. The incremental budget involves the use of the previous budget or actual financial results in the previous period. On the other hand, the base used in the zero based approach is usually zero (Pandey 2015, p.427).

Unlike the incremental budgeting system, zero based approach does not involve carrying forward budget items from one period to another. The incremental budget involves making adjustments on budget items in the previous budget or financial results. However, in Zero based budgeting, every item must be critically analyzed and justified for it to be included in the budget. The budget is therefore made from scratch as if the business just started(Khan and Jain, 2007).

The adoption of the zero based budgeting approach by ABC Ltd will require more input from managers of various departments. The objectives of the company will be the central focus in the drafting process. In this method, departmental managers will have to justify all the budget items they present. This will require them to do a cost benefit analysis of all alternative courses of action. After a thorough assessment of all courses of action in the current period, only the most suitable alternatives will be picked and used in the budget. The focus will, therefore, be to find the best ways in which to achieve the company’s objectives.

Zero based budgeting system aims at providing justification for all business activities. This will help in promoting the efficient allocation of resources in ABC Ltd(Khan and Jain, 2007). Resources will only be allocated to departments based on their current needs. Thus, providing resources for unnecessary and important things will cease. This means that ABC Ltd will have to retrench some of the staff in departments that are overstaffed, as a measure of promoting efficient resource allocation.

Priority based budgeting is another alternative budgeting approach that can be adopted by ABC Ltd. It is similar to zero based approach in that it does not use a base in the budget making process. This method focuses on the corporate priorities and therefore focuses the resources to that direction. This approach provides the flexibility needed in a dynamic business environment. Different activities are ranked in their order of importance. Resources are first allocated to activities that are of greatest importance as per the company’s goals and objectives. In this system, the departments will rank the elements of spending from the most to the least essential. The allocation will, therefore, cater to the most pressing needs of each department first (Pandey 2015, p.275).

Performance based budgeting approach combines the performance of a company with the allocation of resources. The approach uses the company’s objectives as the measure of performance. The performance of the various business activities is used as the basis of the budget making process. In this system, the sections that have a high performance will get more allocation and top priority. This system helps to create cost efficiency in business by focusing resources on the business that create the best outcome.

Advantages of alternative budgeting approaches

Zero based budgeting system will have several advantages for ABC Ltd. It will help in the cutting of wasteful spending by the company. This is because the system provides a platform for reevaluation of objectives and only the appropriate way of attaining the objectives is adopted. Unnecessary activities will not be included in the budget. This will be quite beneficial to the company and will help it to improve on profitability (Pandey 2015, p.437).

Zero based budgeting system will encourage a more inclusive budget making process. The system will encourage more input from the departmental managers. This is because all departmental managers will henceforth be involved in the budget making process. This will be a welcome change rather than having the budget made by the finance department, with limited contribution from other departments (Srithongrung 2017, p.171). More so, this will help to increase the motivation of the department managers to perform better.

Furthermore, the system also challenges the status quo. It involves a thorough evaluation of the current situation, in respect to the company’s objectives. This is important for ABC Ltd in handling its present management problems. For instance, the problem of overstaffed head office can be solved once this method has been adopted. Other unimportant activities that have are currently practiced will also be challenged in this budgeting system.

Application of alternative budgeting approaches by ABC Ltd

If ABC Ltd adapts the Zero based budgeting technique, it will involve many changes of how the budgeting function is currently conducted. First, the departmental managers will identify all the activities relevant to their respective departments. This stage involves a series of issues that the departmental managers must address. They should also come up with alternative ways of carrying out each of the activities. The cost associated should be tied with each of the alternative established. The best way of carrying out each business activity must be drawn up and adopted.

Different models such as cost benefit analysis and optimization should be applied to measure the significance of each activity. The purpose of each activity must be stated and justified to make sure that each activity is in line with the company’s policies, goals, and objectives. Any activity that is not in line with this is not considered in the budget. Performance measures should be set for the business activities. Department’s heads should then evaluate the outcome of failing to perform each activity or even reducing the level of each activity (Schick 2007, p.432).

After the identification and evaluation of the various business activities, department managers should then rank the activities in the order of how they benefit ABC Ltd. This ranking is used as the basis of resource allocation. Priority is given to the high ranking activities. Unnecessary business activities are left out of the ranking completely (Srithongrung 2017, p.79).

Finally, the resources are allocated using the ranking provided by departmental managers up to the allowable level of spending. These activities become the budget heads for the current period and the costs established are used to estimate the budget figures.

Zero based budgeting method will also present a new set of challenges to the company. First, all departmental managers need the professional skills to be able to analyze the business activities. The skills currently may be lacking or inadequate. This will lead to an additional cost incurred on training them (Srithongrung 2017, p.212).

It may be difficult to rank the business activities since not all benefits are quantitative. This may lead to additional problems since some business activities may have qualitative benefits and eliminating them may not lead to an optimal result.

The entire zero based budgets making process is complex and may consume a lot of time and cost. For instance, some decision-making models may be computerized which may require the purchase of additional software. The process of ranking all business activities will consume a lot of time delaying the budget process.

Adoption of alternative budgeting approaches by ABC Ltd

After the analysis of the current situation of ABC Ltd, the zero based budgeting approach is the most appropriate. It will help eliminate some of the problems that are currently experienced in the budget making process. There are major problems that exist is the persistent errors between the original drafts and final budget.

In the zero based budgeting system, there will be no base that the current budget is tied to. If the department managers analyze the business activities from scratch, this will help to reduce the estimation errors in the final budget. Making estimates based on the previous budget only brings laxity in the budget making process. Evaluating the business activities from scratch makes the managers take more initiative and leads to more accurate estimates (Hammonds 2006, p.167).

Zero based budgeting will also help to boost efficiency in ABC Ltd. The situation is currently undesirable. Some business areas such as the head office have some staff who do not seem to do much. This shows that the head office is over staffed. In zero based budgeting, only the necessary expenses will be approved. This means that the excessive staff will have to be retrenched and this will lead to the cutting of expenses.

The adoption of zero based budgeting system will help to increase the motivation and sharpen the skills of the departmental managers (Srithongrung 2017, p.156). This is because they will feel more involved in the financial matters of ABC Ltd. All these factors justify that ABC Ltd need to shift from the traditional incremental budgeting system to the zero based budgeting approach.

Conclusion

The budgeting process is essential for all organizations. A business must have a plan on how the resources will be allocated to ensure no resources are wasted. A good budgeting process will enable the company to achieve its objectives faster. The budget controls the finances in business. All expenses incurred and the profits gained should be analyzed and compared with the budget. The department managersshould take the responsibility of all the resources in their respective business units (Srithongrung 2017, p.187). This will help to ensure there is value creation in ABC Ltd.

References

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