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The Reasons for Business Budgets

Planning, Control and Performance Evaluation

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Budgets are a business owner’s plan of action for the business firm. Without a budget, the business owner is literally shooting in the dark when it comes to trying to plan expenditures for the business and match them to sales revenue. Not only are budgets a plan of action for the business owner, they are also a tool for performance evaluation at the end of a specific time period for a business manager or owner.

Planning

First and foremost, a business budget is a planning tool. It allows businesses to attain their goals through planning how to use revenue and expenses. Businesses should use budgeting to look back at previous time periods and to look forward at future time periods. A business’s master budget is a plan of financial activities involving assets, liabilities, equity, revenue, expenses, and costs for a given time period.

Owners first develop a master or static budget with the numbers based on the planned inputs (sales revenue) and outputs (expenses) for the firm. Think of this in very simple terms. The owner is looking at what the firm will take in from sales revenue and what the firm will pay out in expenses. The budget is done for a specific period of time, perhaps a month, a quarter, or a year.

Control

Businesses also use budgets for the purpose of control. If owners have a master budget to follow, then they can carefully control expenditures during the time period of the budget by comparing them to the master budget. Budgets help prevent overspending. The budget also gives the company a benchmark to use by which to evaluate the firm. Not only can expenditures be monitored, but so can revenue inputs.

Budgets cannot always stay static or the same. There are times when expenditures must change from the budgeted amount and revenues will change from that which is forecasted. Budgets are not designed to stay the same. Business owners know when they are developed that there will be changes in just about every line item by the end of the time period. Budgets, however, give some guidelines to the firm and prescribe some sort of limits.

Evaluation of Performance

Budgets are a valuable tool for owners to use to evaluate the performance of their firm at the end of the time period that the budget covers. Owners should look at actual expenses, for example, as compared to budgeted, or planned, expenditures. By doing this, the owner can see how much actual expenses varied from planned expenses in order to improve the budgeting process in the next time period.

The same is true for the revenue side of the equation. Owners want to see if planned revenue equaled actual revenue as this will help them plan revenue inputs for the future.

Instead of seeing budgeting as a grueling task, try to see it as a plan to bring the pieces of the puzzle that is your firm together. If you try to follow your budget, making allowances for changes, your time management will be much easier and your business life will be much more stress-free.

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