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Budget Forecasting and Its Importance in Planning Report

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Updated: Dec 18th, 2019

Budget forecasting is very essential in planning. In most cases, budgets are prepared for upcoming periods, which could be in terms of weeks, months, years or decades. Budget forecasting is fundamental in setting future targets. Therefore, the budget compels a firm to aim higher in order to achieve predetermined targets.

However, a number of businesses seem to set targets without evaluating both internal and external environmental forces. A pragmatic budget forecasting should consider internal and external factors for the budget to be more realistic.

Most firms are encouraged to come up with extensive budget forecasting programs. This would ensure that every aspect affecting the actual budget is adequately incorporated in the projected budget.

Although traditional budgets considered product prices and costs, as the main determinants of variances depicted on budgets, economic analysts and accountants acknowledge that technological changes, especially for firms relying on technology, affect planned budgets.

For the last few decades, it has been proved that only three methods of budget forecasting are more practical. The techniques used in budget forecasting include the following.

Incremental budgeting

Incremental budgeting is a typically technique applied by several organizations. This is because it gives a true position of the actual budget. This method assumes that the management affects budgeting process. In many cases, the management would always increase or decrease budgets.

Factors that affect budgeting in this technique include inflation rates, increase in employee’s salaries and expected growth rate of a firm. Based on the past and current data, one can easily compute future inflation rate and business growth rate. However, this technique tends to underestimate costs in its preparation.

Zero-based budgeting

A zero-based budgeting assumes that all costs can be given a baseline. From this, adjustments are done in accordance to the manager’s assumptions. Such assumptions are made through critical analysis. The management considers necessary costs and thereafter makes adjustments. Although this approach is more effective, it considerably consumes much time in preparing it.

Flexed budgeting

Because it covers many factors that could affect the actual budget, the technique is often applied in many companies. Flexed budgeting method is done in a similar manner as incremental budgeting. However, flexed budgeting is prepared based on a case-to-case approach. Amongst the above-mentioned methods, flexed is more accurate since it is more detailed.

The budgeting process is much appealing since the management might choose to bring three scenarios at the same time. These may include three outlooks that is, positive, neutral and negative. Conversely, flexed budgeting process appears to cover several budgeting aspects. Due to this, it requires much time to design.

Best budget forecasting approach for Compnet Corporation

Compnet Corporation engages in designing diverse web sites ,as well as hosting web sites for various organizations. Compnet has an objective of designing the best web sites in the market, which would particularly send an appealing message to customers. It also aims at advertising its products with an intention of increasing its sales.

For this reason, Compnet Corporation would prefer choosing a vigorous and extensive budgeting process. Such a budget would provide a projected plan that would probably have slight variance relative to the actual end year budget. With this regard, Flexed budgeting would be appropriate and suitable as it provides the company with several outlooks including negative, positive and neutral perspectives.

Break even point analysis for Prime Component

Profit = (Sales – Variable Expenses) – Fixed Costs

Sales = Variable Expenses + Fixed Costs + Profits

To attain break-even point, profits must be equal to zero. Therefore, for one to get break-even point, the formula changes.

Sales = Variable Expenses + Fixed Costs

Fixed Costs

Management team costs = $5,000,000

Interest expense = 3,000,000

Amortization Costs = $200,000,000/10yrs = $20,000,000

Total fixed costs per year = $28,000,000

Variable Costs per Unit

Direct material = $ 6.00

Direct labor = 2.50

Marketing and sales = $0.50

Total variable costs per unit = $9.00

Sales Price per Unit = $35.00

Volume in units for break-even point

$35.00Q = $9.00Q + $28,000,000

Q = 1076924

Prime Component must produce 1076924units and above to avoid losses.

Sales Budget Variance Report

Budget Sales Actual Sales Variance $ Variance %
Sales price per unit $35.00 $35.00 $35.50 $0.50 1.43%
Sales Volume (in units) 1,500,000 1,350,000 -150,000 -10.00%
Total sales (in $) 52,500,000 $47,925,000.00 -4,575,000 – 8.71%

The sales projected are less than the actual sales. The results indicate a decrease of 8.71% from the projected sales.

Manufacturing Budget Report

Description Cost per Unit Number of units Total costs
Labor $2.50 1,500,000 $3,750,000
Materials $6.00 1,500,000 $9,000,000
Total manufacturing costs $8.50 1,500,000 $11,750,00

Sales and Profit Projections

Budgeted Amounts Totals in $ Totals in $
Sales price per unit $35.00
Project Sales Volume (in units) 1,500,000
Total sales (in $) 52,500,000 52,500,000
Variable Cost per unit
direct Labor $2.50
Direct Materials $6.00
Direct sales expense $0.50
Total Variable costs (in $) -13,500,000
Fixed Cost
Product management team $5,000,000.00
Amortization of sales price $20,000,000.00
Interest expense $3,000,000.00
Total Fixed Costs -28,000,000
Total Costs -41,500,000
Net Profit 11,000,000

The projected budget indicates a net profit of $11,000,000 at the end of the year, which is more appealing. Compnet Corporation should execute its activities within the limits of the projected budget.

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IvyPanda. (2019) 'Budget Forecasting and Its Importance in Planning'. 18 December.

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