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Cash Budget: Decision Making in an Organization

Cash Budget: A Tool for Decision Making in an Organization (A Case Study of Nigeria Bottling Company, Onitsha)

 CHAPTER TWO

LITERATURE REVIEW

2.1     CONCEPTUAL DEFINITION OF BUDGET:

A budget is a comprehensive formal plan that estimates the probable expenditures and income for an organization over a specific period. Budgeting describes the over all process of preparing and using a budget since budgets are such valuable tools for planning and control of finances, budgeting affects nearly every type of organization from government and large corporation to small business as well as families and individuals.

According to Adeniyi (2002) budget is a financial statement or a quantitative course of action prepared and approved prior ot a defined priod of tiem further it is the formal qualification of management plan and prediction, it is a plan quantified in monetary terms prepared and approved prior to a defined period of time.

Abubaka (2005) in Okoye and Ani (2014) broadly defined budget as a conscious and systematic allocation of resources prepared in advance, relating to the future kperiod and on a forecast of key zawable to achieve certain policy objectives which may not set explicit performance larget for the achievement of objectives, relates anticipated revenue and from the based against which actual expenditure and revenue can be measured and controlled.

According to Oxford Advanced Learner’s dictionary (2000) budget is defined as the money that is available to a person or an organization and a plan of how it will be spent over a period of time.

According to chartered institute of management

Accountant (CIMA) (2006), budget is a plan expressed in money. It is prepared and approved prior to the budget period and may show income, expenditure and the capital to be employed. A budget is a plan expressed in financial terms. It is also defines a budget as a plan quantified in monetary terms, prepared prior to a defined period of time to attain a given objective.

Lucy (2003) explain budget as a “quantitative statement for a defined period of time which may include planned revenues, expenses, assets, liabilities and cash flows.

A budget provides a focus for organization, aids the coordination of activities and facilitates control planning is achieved by means of fixed master budget where as control is generally exercised through the comparison of actual costs with a flexible budget. it can also be defined as a pre-determined statement of a management policy during a given period which provides a standard for company.

A comprehensive budget is made up of functional or sub-budget. some of these include sides budget production budget, selling and administrative expenses budget, research and development budget, capital expenditure budget etc.

All functional budgets are summarized in one budget called the master budget, this is defined as a total budget package effectively combined in one statement. The sales, expenses, production, equipment, cash budget, budgeted profit and loss account and budgeted balance sheet.

Cash budget

According to e-economic world website defined cash budget as an estimation of the cash inputs and outputs of a person or a business over a specific period of time.

According to investopedia explains cash budget thus: it is extremely important, especially for small business because it allows a company to determine how much credit liquidity problems.

A cash budget is one of the most important budget prepared in an organization. It shows in summary form the expected cash receipts and expected cash payment during the budget period, liquidity and cash flow management are key successful operations of any organization and it is with good reason that the cash budget should receive close attention from both accountants and managers.

Cliffs Note (2012) defined cash budget as a budget that is prepared after the operating budget manufacturing expenses or merchandize purchase, selling expenses and general and administrative expenses and capital expenditure budget are prepared.

Wise Greek (2014) defined a cash budget as an accounting device that used to effectively monitor and manage the immediate cash flow of a business budget.

Business Dictionary (2009) explain cash budget as a financial plan that is summary of estimated cash inflow and cash out flow of a business or individual for a specific period of time, cash budgets are often used to assess whether the entity have sufficient cash to fulfil regular operation and / or whether too much cash is being left in unproductive capacities.

Cash budget show the effect of budget activities like selling, buying, paying wages, investigation in capital equipment and so on the cash flow of an organization.

Cash budget is prepared in order ot ensure that there will be sufficient cash in had not care adequately with budgeted activities. cash budget may show that there is likely to be a deficiency of cash in some future period in which case over draft or loans will have to be arranged or activities curtailed or alternatively-the budgeted may show that there is likely to be a cash surplus in which is appropriate investment or use for the surplus can be planned rather than merely leaving cash idle in a current account.

Cash budget may be for almost any period of time provably monthly period are used frequently because hey take into account seasonal variation in cash flow. A cash budget indicates not only the total amount fo finance required but its timing as well. Cash budget is an indication of the company\s liquidity or ability to met its current obligation and therefore is a very useful tool for effective management.

2.2     THEORETICAL FRAME WORK

Since cash budget arose in Nigaeria, it has become a vry important issue by the researchers kand scholars in several countries (Egbuonu P.I 2015) cash budget concept is aimed at ensuring that cash is available so that the company can operate effectively at the levels provided for in the budgets and indicate critical periods when there may be a requirement to obtain outside finance or re-schefule timings of icome and expenditure. According to (Cliffs Note 2012) cash budget is budget that is prepared after the operating budget manufacturing expenses or merchandize purchase, selling expenses and general and administrative expenses and capital expenditure budget are prepared. (Wise Greek 2014) believed that cash budget is a device that is used to effectively monitor and manage the immediate cash flow of a business budget.

Business dictionary (2009) explain cash budget as a financial plan that is summary of estimated cash in flow and cash out flow for a business or individual for a specific period of time on the other hand E-economic world website (2015) defined cash budget as an estimation of the cash inputs and outputs of a person or a business over a specific period of time.

Umujiego Dorathy (2012) defined cash budget as a detailed estimate for some future period of time of cash inflows form all sources, cash disbursements for all purposes and the resultant cash balance. Where as investopedia (2015) explains cash budget thus: it is extremely important, especially for small business because it allows a company to determine how much credit liquidity problems.

Benefits of budget (Egbuonu P.I 2015)

Budgeting has tow primary functions

  • planning
  • Control

The planning process expressed all the ideas and plans in guantifiable terms careful planning in the initial stages create the framework for control which he company initiate when it includes each department in the budgeting process standardize procedures, defines lines of responsibility establish performance criteria and set up time table, the careful planning and control of the budget benefit a company in many ways including

i         Enhancing managerial performance in recent year, the pace and complexity of business have out paced the ability to manage by “the seat of ones parts” on a day today basis most managers focus their attention on routine problems. However, in preparing budget managers are compelled to consider all aspects of a company’s internal activities.

ii        Flagging potential problems: Because the budget is a blue print and roadmap, it alerts managers to variation from expectation which are a cause for concern, when flags is raised, managers to variation, managers can revise their immediate plants to change product mix, revenge an advertising campaign or borrow money to cover cash short fall.

iii       Co-ordinating activities: Preparation of a budget assumes the inclusion and co-ordination of the activities of the various segments within a business. The budgeting process demonstrates to managers the inter-connectedness of their activities.

iv       Evaluating performance: budget provides management with establish criteria for guide and easy performance evaluations, managers may increase activities in one area where results are well began exceptions.

v        Refining the historical view: The important of clear and detailed historical data cannot be overstated, yet the budgeting process cannot allow the historical perspective become crystallized managers need to distill the lessons of the most current result and filter them through their historical perspective.

Preparation of cash budget

It is usually the responsibility of the budget committee with the chief executives as the chairman to prepare the cash budget for the organization. The committee submits it reports to the chief executive officer (chairman) for onward transmission to the board of directors for approval. There are three main components necessary for creating a cash budget they are:

i         Time period: This first decision to make when preparing a cash budget to decide the period of time for which your budget will apply.

ii        Cash position: The amount of cash you wish to keep on ***** and will depend on the nature of your business the predictability of accounts renewable and probability of fast happening opportunities (or unfortunate occurrence) that may require you to have a significant reserve of cash

iii       Estimated sales and expenses:

The fundamental concept of a cash budget is estimating all future cash receipt and cash expenditures that will take place during the time period. The most important estimate you will make however, is an estimate of sales, one this is decide, the rest of the cash budget can fall into place.

Functions of budget committee (Lucey Text book 2005)

It is the responsibility of the budget committee to:

i         Establish budget procedures and time table

ii        Review revise and accept individual budget

iii       Coordinate decision

iv       Review performance reports.

v        Recommend action where necessary.

Guidelines for cash budget preparation (Lucy Text book. 2003)

  1. a) Establish the cash receipt form debtors.

i         Forecast the expected credit sales period, taking account of seasoned factors, motion, sales trend and so on.

ii        Forecast the typical payment pattern of debtor this would usually be based on detailed analysis of experience with the existing sales ledgers adjusted for any expected changes in pattern.

iii       Base on and calculated when the budgeted sales revenues will be received for cash taking care to deduct any discount allowed for payment and making any allowance for bad debts.

  1. b) Establishing cash payment to supplier:

1        Based on the production quantity budget, calculate the production quantity and material usage quantity, period by period. To be successful, cash budget should be prepared in accordance with the following principles

i         Realistic and Quantifiable: In a world of limited resources a company must ratio. Its own resources by setting goals and objectives which are reasonably attainable realism engenders loyalty and commitment among employees motivating them to their highest performance. a company evaluate cash potential activity to determine those that will result in the most appropriate resources allocation. They accomplish thus through the quantification of the cost and benefits of the activities.

ii        Historical: The budget affects a clear understanding of past result and a keen sense of expected future charges while past result cannot be a perfect predictor they flag important events and bench marks.

iii       Period specific: The budget period must be of reasonable length, the shorter the period, the greater the need for detail and control mechanisms the length of the budget period dictates the time limitations for introducing effective modification. Although plans and projects differ in length and scope a company formulates each of its budgets on a 12 months basis.

iv       Standardized: To facilitate the budget process managers should use standardize forms, formula, and research techniques, this increase the efficiency and consistency of the input and the quality of the planning, computer aided accounting, analyzing and reporting not only furnish managers with comprehensive current, real time results but also afford them he flexibility to test new models and to include relevant and high – powdered chart and tables with relatively little effort.

v        Inclusive: Efficient companies decentralize the budget process down to the smallest logical level of the responsibility. Those responsible for the result take part in the development of their budgets and learn how their activities are inter calculated with other segment of the company, each has hand in creating and setting the goals.

vi       Successively reviewed: Decentralized does not exclude the thorough review of budget proposals at successive management levels. Management review a proper fit within the overall master budget.

vii      Formally adopted and disseminates: Top management formally adopt the budget and communicate their decision to the responsible personnel, when top management has assembled the master budget and formally accepted it as the operating plan for the company it distributes it in a timely manner.

viii     Frequently evaluate: Responsible parties use the master budget and their own department budgets for information and guidance, on a regular basis, according to a schedule and in a standardized manner, hey compare actual result with their budgets for an annual budget, manager usually report monthly, quarterly and semi-annually, since considerable details is needed, the accountant plays a vital role in he reporting function.

 

 

 

Format for cash budget (Egbuonu P.I. 2015)

RECEIPTS MONTH A MONTH B MONTH C MONTH D
N N N N
Receipt for sales xx xx xx xx
Receipt from sales xx xx xx xx
Sales of capital item received xx xx xx xx
(A) total xxx xxx xxx xxx
Payments:
Payment to creditors xx xx xx xx
Cash purchases xx xx xx xx
Wages and salaries xx xx xx xx
(B) Total xx xx xx xx
Summary (i): balance b/d xx x1 x2 x3
       Add Receipt (A) xxx Xxx Xxx Xxx
Xxx Xxx Xxx Xxx
Less payment (B) (xx) (xx) (xx) (xx)
Balance C/f x1 x2 x3 x4
Or summary (2)
Total receipt xx Xx Xx Xx
Less total payment xx xx xx xx
xx xx xx xx
Add opening bal xx xx xx xx
Closing balance xx Xx Xx xx

 

How to analyze a cash budget

The preparation of a cash budget is only the first step toward good financial management, the next step is to analyze to see how close the company is performing to expectations. Have any unexpected cash outflows occurred? If so is the company’s financial position seriously affected

Small business cash budget for he three months ending March 31, 2015. Edward Lowe Foundation (2015)

Items January February March
Beginning cash balance 15000 -13,500 20,000
Expected cash receipt
Cahs sales 20,000 25,000 30,000
Collection of account receivable 45,000 55,000 70,000
Other income 0 0 5000
Total cash collected 80,000 66,000 125,000
Expected cash payment
Raw materials (or inventory) 50,000 11000 5000
Payroll 10,400 10400 10400
Other direct expenses 2000 2000 2000
Advertising 1000 0 0
Selling expenses 6000 4500 4500
Plant & equipment expenditure 10,000 10,000 10,000
Other payments 600 600 600
Total cash expenses 93500 46400 38500
Cash surplus (or deficit) 13,500 20,000 86,500

 

Source: Edward Lowe Foundation (2015).

2.3     OBJECTIVES OF CASH BUDGET

i         Planning: Every organization needs planning and no planning is done without doing budgeting management is forced to look ahead, look over the bills anticipate problems and make plan to achieve objective and target, thus giving the organization purpose and direction.

ii        Co-ordination: This is the synchronization of individual actions with the result that cash sub-division of an entity effectively work the common objectives. Budget spans the various function areas of the organization, sales production, purchase etc, if the budget should be meaningful, then production and sales will be forced to consult and co-ordinate with efforts so that production sales requirement, likewise purchasing must consult and co-ordinate with production so that production target can be achieved.

iii       Motivation: A manager is motivated if the is evaluated on the bases of his success of achieving he targets

iv       Control: Control is an action necessary to assure that objectives, plans, policies and standards are being developed and communicated to those managers who have performance responsibility to their accomplishment. It is also based on the concept of feed backs which requires performance measurement and triggers collective action designed to assure attainment of objective.

These budget fulfill two based requirement in the over all control process of feed, forward to provide a basis for control at the point of action (Decision point) and feedback to provide basis for measurement of the effectiveness of control after the point of action.

v        Communication: Complete budgetary process require full interaction between levels of functional managers and between different levels of management and even the staff during which the expected role of each if they are fully explained and how each should assist the other in achieving its set targets are specified. Thus a good budgetary system improves the communication network within the organization.

vi       Performance evaluation: This is where a manager’s performance is linked to his ability to meet budgets, this is reflected in his compensation packages. This assists the manager in monitoring his performance and enables him to adopt a positive attitude to the entire budgeting

CURRENT LITERATURE REVIEW

The work of some experts shows currently the definition of budget in this ways:

According to Emma I. Okoye and Wilson U. Ani (2013)

Budget is a financial plan of operation for a specified period of time, which provides information about types and amounts of proposed expenditure, the purposes for which they are to be made, and the proposed means of financing them. It shows that budget helps in future planning and also make works effectively and efficiently in order to achieve he particular goal.

According to Egbuonu P.I. (2015) budget is a plan quantified in monetary terms, prepared and approved prior to a defined period of time, usually showing planned income generated and / or expenditure to be incurred during that period, and the capital to be employed to attain a given objective.

2.4     SUMMARY OF LITERATURE REVIEW

From the review of the work of many experts budgets has been defined in various ways:

According to Adeniyi (2008) budget has been defined as a financial statement or a quantitative course of action prepared and approved prior to defined period of time. Further it was also defined as a formal quantification of management plan and predictions.

This means that budget is a detailed plan showing how resource will be acquired and used over some specific period.

According to Banham Russ (2009) a budget described the expected month-to-month route a company will take in achieving it goal, it summarizes the expected outcomes of production and marketing efforts and provides management benchmarks against which to compare actual out comes.

According to Abubaka (2005) in Emma and Wilson (2014) budget was broadly defines as a conscious and systematic allocation of resources prepared in advance, rebating to a future period and based on a forecast of key variable adopted to achieve certain policy objective which may not set explicit performance targets for the achievement of objectives related anticipated expenditure to anticipated revenue expenditure and revenue can be measured and controlled.

According to Fearon, Craig: budget is the process of planning and controlling the utilization of assets in business activities. It is a formal comprehensive process which covers every detail of sales, operation, and finance, thereby providing management with performance guidelines.

All these definitions are pointing out the same view which means that budget is an essential tool for decision making in an organization.

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