A budget is an ongoing financial plan, often one year in duration. It can also consist of planned capital expenditures, revenues and volumes, costs and expenses, asset and liability balances, and cash flows. In the United States, budgets are most often prepared by means of a personal financial statement preparation software. The purpose of such preparation is to provide an easy-to-read financial comparison between what the business is earning and spending, so as to determine whether any management changes are necessary. The purpose of this type of financial information is to give owners and managers a realistic depiction of the current value of their business assets and liabilities. This form of analysis will also assist in determining where additional funding might be needed in order to improve profitability.
A budget describes both the current and future period in which the business will operate. The budget usually gives a graphic representation of the current situation of cash and assets, as well as current and forecasted revenues. It will also tell the manager how much money is available to operate the business for the upcoming period. A budget will give the manager an indication of the current spending patterns and how this spending can be improved.
A company must set aside funds each month in order to operate normally. Most businesses have expenses that are part of their normal operating expenses. They could include utilities, rent, wages and salaries, insurance, and maintenance. To ensure that a company operates within a definite budget, they need to create long-term plans for their budgeting activities. Short-term budgets are designed to cover the most typical expenses of the current or future period.
The major function of budgets is to provide a plan for how to handle money efficiently over the long term or future period. Budgets should include all of the most typical expenses that will be incurred during the upcoming period. These include: expenses required for inventory, supplies, buildings, machinery, labor, advertising and promotion. Short-term budgets can be used to meet some of these needs.
Cash flow budgeting is based on the concept that there is a relationship between future period expenses and cash flow. Cash flows, which include income and sales, are needed for both immediate and long-term financing requirements. In the long-term period, cash-flow needs are met primarily by dividends from stock ownership. The main advantage of this type of budgeting is that there is no need to make significant long-term investments in equipment or supplies. The primary disadvantage is that the degree of accuracy in the financial statements can be questionable in some cases.
The difference between budgeting and cash flow budgeting is the level of detail involved. Cash flow budgeting is more detailed, including the time period for which the information is gathered and the nature of the transactions to be included. In addition, budgeting uses a standardized form that can be used by anyone who works at the budget level. While it may not be necessary to use every item in the standardized list, most businesses will want to. For most companies, the standard list provides a manageable way to collect the necessary data.
One of the advantages of having a budget is that it gives employees a sense of direction and purpose. It can also provide a venue for them to communicate long-term financial goals with one another. If a company has established specific savings goals, it is easy to measure those savings over time. A budget can be used to set company goals and to establish benchmarks for success.
A budget can be used for forecasting future period expenses. This makes it possible to project how much money is going to be available in the future period. As prices rise, for example, it is possible to identify areas where increases in expenses would lead to savings. Budgeting is useful for setting future period goals and for determining the appropriate sources of funding. It is also helpful in providing a guideline against which expenses can be measured. Once an organization establishes its budgeting practices, it becomes easier to monitor and to control spending.