Budgeting in any industry creates financial and non-financial plans for various functions for a specified future period and is usually compiled and reviewed six months or annually.
Usually, the Corporate F&A team coordinates the making of the budgets for each of the organization's functions( and is called by any name), such as below:
· Sales, distribution, and after-sale services
· Materials management/Contracting
· R&D/New product development
· Manufacturing
· Quality control
· HR management and administration
· Finance & Accounts
· Legal & secretarial
· IT/ERP
· Strategic planning/Corporate services
And so on
This article includes three top-level processes for performing budget activities in any industry.
· Process 1. Key Activities for budget-making for all functions (13 activities)
· Process 2. P&L, BS & Cash Flows budgeting at the Business unit level (3 activities)
· Process 3. Operational level Budgeting for F&A function (2 Activities)
Overall, Eighteen activities have been identified as below, assuming an organisation with multi-products/services, multi-plant/offices, and multi-locations, including overseas and managed by CEO/MD and several independent Business unit heads.
However, the same concepts can be used for small organisations, including service organisations
Process 1- Budget-making for all functions (13 activities in template 1)
Template 1
Activities for Developing Budgets | Responsibility |
1Planning of corporate objectives (such as below )based on the organization's vision/mission & Sharing with BU Heads 30-60 days before the target Budget review meeting. It could be monthly or quarterly or annually as per organisation policy. · Quantitative: Sales -Nos & Value, Market shares, Costs, Profits, · Qualitative: New Products & Services, Globalisation, New plants & offices, etc. at Group level, Business unit level(BU Level) Advising timelines (BU Wise) for submission and clearly announcing dates/schedules of Budget review meetings with the CEO/MD | CEO/MD of the company |
2. Constituting CFT for designing budgeting structure/elements where in usually CFO is the BU coordinator and obtains a copy of Corporate objectives from BU Head. | BU-HEADs |
3.a)Developing templates of budgets in consultation with BU Head b)circulating blank templates to each functional head -named as functional HOD (along with corporate objectives) c)sharing common assumptions like employee cost rates at each level, overhead rates/unit,IT hardware rates etc, for uniformity across BU d) Giving timelines for filled-up budget submission completion and budget review dates with the BU Head | CFO of each BU |
4 Deliberations on budget targets (in sync with Corporate Objectives) between BU Head and functional heads on how to achieve budget targets targets , risk perceptions, clarifications, resources, constraints , plans etc. | Each functional HOD +BU Head |
5 Functional teams Making of detailed Budget and submitting to CFO clearly listing key assumptions & BU level risks w. r. t. respective functional areas, that may affect functional & BU performance | Each functional HOD in each BU |
6). Receiving functional budgets from each function and doing following a) Aligning functional budgets as per template and filling up all gaps b) )F&A team summing up the below parameters sent by each function,so as to arrive at the total amount at the Division/BU level: · Organisation structure and manpower required at each level · Employee costs. · Capital expenditure. · IT Hardware/software. · overhead expenses. c) scheduling Budget review meetings at the BU level where all functional HODs must participate to resolve inter-functional issues and synergy | CFO in each BU |
7) Deliberations of any changes/improvements in a joint review meeting at the Division/BU level: a)functional level budgets b) Division /BU level budget | BU Head +CFO+ functional HOD |
8) Based on the above deliberations, summarising the following vis a vis each function · Revisit of assumptions considered by Each function · Review of Resources to accomplish budget (financial, organisation structure, manpower, equipment/machines, new skills, technology up-gradation etc.) · Strategies for aligning functional Budget targets to Corporate Goals/targets mentioned, along with responsibility and timelines Preparing and circulating the Minutes of meetings to each Functional head for amending the budgets in line with the review meeting | CFO |
9) Reviewing and resubmission of revised budget to CFO as per agreed schedule | Functional Head |
10) Consolidation of functional budgets to make a budget docket and a) Review the amended budgets with BU head b)Coordinating with functional heads for any further changes & seek BU head approval of revised figures b) submission of the budget docket (approved by BU head) to CEO/MD with cc to BU head & functional HOD | CFO |
11) Review of the amended budget by the CEO /MD with each BU head for any further directions/amendments based on overall company-wide consolidation (where the CFO could be invitee) | CEO/MD +BU Heads (called the Budget Review committee |
12) i)Making changes in the budget as per the direction of the management committee and resubmitting the changed budget to the Budget review committee ii) seeking approval from the CEO/MD of the revised budget iii) Circulating the approved budget by CEO/MD to the following: · BU Head+ Respective functional HOD for subsequent circulation by functional HOD to key operating team members | CFO |
13)Putting a system in place for periodic review of the actual performance of Each function and review of strategies and countermeasures to accomplish budget targets | BU Head +Functional heads +CFO |
Process 2. Business unit level budgeting for -P&L, BS & Cash Flows (3 activities in template 2)-
· The activities for making the Divisional/BU level budgets are the same at sr no 3 to 13, similar to making functional budgets as tabulated above and hence not being duplicated
· However, For making a BU-level financial budget, the F&A team consolidates all inputs in activities in the above table and can make a budget in three sections (using appropriate software or MS Office or ERP package) as below:
Section 1. Budget for P&L parameters
Section 2.Budget for Balance sheet parameters
Section 3.Budget for cash flow parameters.
Template 2
Responsibility: To be compiled by the F&A team
unit of measurement: Rs or USD or currency as applicable
Section | Activity -Budget Parameters for which target value to be assigned | Budget value |
1-P&L Parameters | i) sales revenue | To be populated |
ii) other income | do | |
iii) less material costs | do | |
iv) less other expenses like employee cost+ finance costs+, depreciation + other expenses | do | |
v)Gross profit (1+ii- iii-iv) | do | |
vi) tax expenses | do | |
vii) Net profit after tax (v-vi) | do | |
2-Balance- sheet-Parameters | Equity and Liabilities i) shareholder funds | do |
ii)Non-current liabilities like long-term borrowings and so on | do | |
iii)current liabilities like Vendor payables and so on | do | |
Assets i)Non-current assets like fixed assets+ Intangible assets+, Long term investments, and so on | do | |
ii) Current assets like inventories + Receivables +cash and so on | do | |
3-Budget for cash flows Parameters | i)Cash from operation | do |
ii)Cash from financial activities | do | |
iii)Cash flow from investing activities | do | |
Total cash flows = i+ii+iii | do |
Process 3-Operational level Budgeting for F&A function (2 Activities in template 3)
The proposed Budget Parameters for the “F&A” function are as below:
1. Direct responsibility area -15 Parameters identified
2. Indirect responsibility areas -15 Parameters
Template 3 Part 1- Budgeting for Direct Responsibility Area - Propose 15 parameters
Responsibility: To be compiled by the F&A team
unit of measurement: Rs or USD or other currency or % or Ratio as applicable
s no. | Budget parameter | Assumptions or inputs or guidelines for budget | Budget value or Qualitative targets |
1 | IPO/Equity | Qualitative: Pricing, roadshows, %subscription, costs, equity & preference shares issuance & inflows & so on | To be populated & separate sheets to be attached if needed |
2 | Long term borrowings | Qualitative: Borrowing rates/cost from banks/FI, covenants, Credit ratings received for Bonds & debenture, % interest rates, Inflows-disbursals, EMI repayments, utilisation | do |
3 | Investments | Qualitative: Risk analysis, % return on investments choices in Shares, Bonds, debentures, Mutual funds & so on | do |
4 | M&A or JV | Qualitative: Due diligence, Price negotiations, Terms & conditions, statutory approvals, Forex hedging, ownership control % Royalty etc | do |
5 | Board matter | Qualitative: Quarterly/annual results, Dividends, Corporate Governance /Audits & so on | do |
6 | Cash flows from business operations-In Rs or USD etc | Basis: Inflow from =customers, interest received, dividends, rentals etc , Outflows to = vendors, employees, taxes etc | do |
7 | Cash flows from investing activities | Basis: Inflow from =customers, interest received, dividends, rentals etc , Outflows to = vendors, employees, taxes etc | do |
8 | Cash flows from financing activities | Inflow from sale of =Equities/stocks, preferred shares, bonds, etc Outflows for =Dividends, buy of treasury stocks, bonds, short term debt payments | do |
9 | Free cash flows | Cash flow from business operations- Net capital expenditure | do |
10 | Cash burn ratio | Free cash flow during a specific period Divided by No of days during the period Notes: It indicates daily cash during the period.(-) Negative indicates the company can go into financial distress | do |
11 | Operating cash flow to current liabilities -in % or ratio | Cash flow from operations OCFCL= Divided by Average current liabilities Notes: It represents the net amount of cash derived from operating activities during the year and ability of the company to generate cash from operations to pay its debts | do |
12 | Solvency-Debt equity ratio-in % or ratio | Total liabilities Divided by Total stockholder's equity | do |
13 | Liquidity-working capital -in Rs or USD | Working capital =Current Assets-Current liabilities | do |
14 | Liquidity—current ratio | Current asset Divided by Current liabilities | do |
15 | Operating cash flow to capital expenditure -Iin % or ratio | Operating cash flow Divided by Annual capital expenditure | do |
Template 3 Part 2- Budgeting for Indirect Responsibility Area -Propose 15 parameters
Responsibility: To be compiled by the F&A team with inputs from concerned HOD of function
sno | Budget parameter & Unit of measurement | Assumptions or inputs or guidelines for budget | Budget value or Qualitative targets |
1 | Liquidity-Quick ratio UOM=Times | Cash + Short-term securities + Accounts receivable Divided by Current liabilities | To be populated & separate sheets to be attached if needed |
2 | Profit margins UOM=% | Earnings without interest expense Divided by Net sales revenue | do |
3 | Gross profit margins UOM=% | Net Sales revenue - Cost of goods sold Divided by Net sales revenue | do |
4 | Profit before tax UOM=% | Profit before tax. Divided by Net sales | do |
5 | Earnings before interest, depreciation, and tax UOM=% | Earnings before interest, depreciation and tax Divided by Net Sales value | do |
6 | The expense-to-sales ratio UOM=% | Direct Expenses Divided by . Net sales revenue | do |
7 | Return on equity UOM=% | Net income Divided by Average stockholder’s equity | do |
8 | Earnings/share UOM= Rs or USD etc | The net profit or loss for the period Divided by weighted average number of equity shares outstanding during the period | do |
9 | Dividend yield UOM=% | Dividend per share Divided by Market value per share | do |
10 | Return on assets UOM=% | Net income+ Interest expense net of tax saving Divided by (Beginning total assets +Ending assets)/2 | do |
11 | Financial leverage UOM=% | ROFL= ROE-ROA | do |
12 | Accounts receivable turnover UOM=Turns | Net Sales Revenue Divided by Average accounts receivable | do |
13 | Days sales outstanding UOM=Days | 365 Divided by Accounts receivable Turnover | do |
14 | Average vendor credit UOM=Days | Value of Accounts payable Divided by x 365 Cost of goods sold | do |
15 | Inventory turnover UOM=Number of times | Cost of goods sold Divided by Average inventory | do |
Potential activities (including unethical) that can adversely impact business.
Providing incorrect inputs to senior management -BU Head/CEO/MD with malice intent of assigning easy Budget targets.
The target setting of the following is not objective at different levels.
Quantitative: No of KRA parameters and their appropriateness
Qualitative: Biased selection of applicable competencies and their target score
Budget parameters are neither -comprehensive nor aligned with Organisation objectives and may contain transaction-related daily routine activities:
Targets set are biased (too stretched or loose) to reprimand or favour specific team levels /employees, leading to demotivation/dissatisfaction.
Not ensuring restricted access rights to Budget docket, thus enabling persons to make unauthorised changes in budget targets vis a vis approved budgets.
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