A functional budget is a budget which relates to any of the functions of an undertaking, e.g., sales, production, research and development, cash etc.
Sales budget is the most important budget and of primary importance. It forms the basis on which all the other budgets are built up. This budget is a forecast of quantities and values of sales to be achieved in a budget period. Every effort should be made to ensure that its figures are as accurate as possible because this is usually the starting budget (sales being limiting factor on which all the other budgets are built up).
The Sales Manager should be made directly responsible for the preparation and execution of the budget. The sales budget may be prepared according to products, sales territories, types of customers, salesmen etc.
Production budget is a forecast of the total output of the whole organisation broken down into estimates of output of each type of product with a scheduling of operations (by weeks and months) to be performed and a forecast of the closing finished stock. This budget may be expressed in quantitative (weight, units etc.) or financial (rupees) units or both.
This budget is prepared after taking into consideration the estimated opening stock, the estimated sales and the desired closing finished stock of each product. Suppose, if the estimated opening stock of product X is 2,000 units and the estimated sales is 15,000 units and the closing stock of the product is 2,500 units the estimated production will be 15,000 + 2,500 – 2,000 (Sales + closing stock – opening stock) = 15,500 units.
The Works Manager is responsible for the total production budget and the departmental managers are responsible for the departmental production budget.
After determining the volume of output the cost of procuring the output must be obtained by preparing a cost of production budget. This budget is an estimate of cost of output planned for a budget period and may be classified into material cost budget, labour cost budget and overhead budget because cost of production includes material, labour and overheads.
This budget gives an estimate of the requirements of direct labour essential to meet the production target. This budget may be classified into labour requirement budget and labour recruitment budget. The labour requirement budget is developed on the basis of requirement of the production budget given and detailed information regarding the different classes of labour, e.g. fitters, welders, turners, millers, grinders, drillers etc., required for each department, their scales of pay and hours to be spent.
This budget is prepared with a view to enable the personnel department to carry out programmes of training and transfer and to find out sources of labour needed so that every effort may be made to remove difficulties arising in production through lack of suitable personnel.
Labour recruitment budget is prepared on the basis of labour requirement budget after taking into consideration the available workers in each department, the expected changes in the labour force during the budget period due to the labour turnover.
This budget gives information about the personnel specifications for the jobs for which workers are to be recruited, the degree of skill and experience required and the rates of pay. In preparing the labour cost budget, the question of overtime should not be overlooked because workers are to get higher rates of wages if they work on overtime.
Regular overtime should be avoided by engagement of additional workers and extension of plant. Where standard costing system is applied, the labour cost budget is developed on the basis of standard labour cost per unit multiplied by the quantity of anticipated production determined in the production budget. If standard costing system is not being followed in the organisation, the information of labour cost may be obtained from past records or estimated cost.
This budget gives an estimate of the works overhead expenses to be incurred in a budget period to achieve the production target. The budget includes the cost of indirect materials, indirect labour and indirect works expenses. The budget may be classified into fixed cost, variable cost and semi-variable cost. It can be broken into departmental overhead budget to facilitate control.
In preparing the budget, fixed works overhead can be estimated on the basis of past information after taking into consideration the expected changes which may occur during the budget period. Variable expenses are estimated on the basis of the budgeted output because these expenses are bound to change with the change in output.
The Cost Accountant prepares this budget on the basis of figures available in the manufacturing overhead ledger or the head of the workshop may be asked to give estimates for the manufacturing expenses. A good method is to combine the estimates of the Cost Accountant and the shop executive.
This budget covers the expenses incurred in framing policies, directing the organisation and controlling the business operations. In other words, the budget provides an estimate of the
expenses of the central office and of management salaries. The budget can be prepared with the help of past experience and anticipated changes.
Budget may be prepared for each administration department so that responsibility for increasing such expenses may be fixed and related to the different executives. Much difficulty is not experienced in developing such budget as most of the administration expenses are of a fixed nature.
Although fixed expenses remain constant and are not related to sales volume in the short run, they are dependent upon sales in the long run. With a small change in output, they do not change.
However, if there is a persistent fall in output, administration expenses will have to be reduced by discharging the services of some members of the staff and taking other economy measures. On the other hand, with persistent increase in output or business activity, administration expenses will increase but they may lag behind business activity.
This budget lays down the requirements of plant capacity to carry out the production as per the production programme. This budget is expressed in terms of convenient physical units as weight or number of products or working hours.
The capital expenditure budget gives an estimate of the amount of capital that may be needed for acquiring the fixed assets required for fulfilling production requirements as specified in the production budget. The budget is prepared after taking into consideration the available productive capacities, probable reallocation of the existing assets and possible improvement in production techniques. Separate budgets may La prepared for different items of fixed assets such as plant and equipment budget, building budget etc.
While developing research and development cost budget, it should be clear in mind that work relating to research and development is different from that relating to the manufacturing function. Manufacturing function gives quicker results than research and development which may go on for several years. Therefore, these budgets are established on a long term basis say for 5 to 10 years which can be further subdivided into short-term budgets on annual basis.
As a rule research workers are less cost conscious; so they are not susceptible to strict control. A research and development budget is prepared taking into consideration the research projects in hand and the new research and development projects to be taken up. Thus this budget provides an estimate of the expenditure to be incurred on research and development during the budget period.
After fixation of the research and development cost budget, the research executive fixes priorities for the various research and development projects and submits research and development project authorization forms to the budget committee.
The projects are finally approved by the senior executive. Before giving the approval, the expenditure on research and development is matched against the benefits likely to be availed of from the new object. After the approval of the budget, a close watch is kept on the expenditure so that it may not exceed budget provisions. It is also seen that extent of progress made is commensurate with the expenditure incurred.
This budget gives an estimate of the anticipated receipts and payments of cash during the budget period. Therefore, this budget is divided into two parts, one showing the estimated cash receipts on account of cash sales, credit collections and miscellaneous receipts and the other showing the estimated disbursement on account of cash purchases, amount payable to creditors, wages payable to workers, indirect expenses payable, income tax payable, dividend payable, budgeted capital expenditure etc. In short, every factor which affects the receipts and payments of cash is taken into account in the preparation of this budget.
Cash budget makes a provision for a minimum cash balance which will be available at all times. In general, this balance should be equal to one month’s operating expenses plus some provision for contingencies. The minimum balance of cash will help in tiding over adverse conditions of a minor nature. Meanwhile management can make alternative arrangement for additional cash.
This budget is prepared by the Chief Accountant for the guidance of management so that arrangements may be made for the requirements of the organisation.