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Types of budget models: advantages and disadvantages

The current state of development of budgeting as an instrument of financial management confirms that its attractiveness is growing steadily. But practice shows that most companies are not ready to immediately switch to a comprehensive budgeting model for a number of reasons, so you need to choose models that will allow you to focus on the main areas of activity.

Specificity of the company’s activities assumes an individual approach to the development of functional budgets. Traditional budgetary structures, as a rule, are made on the basis of typical industrial or commercial enterprises, but for social organizations, construction or housing and communal enterprises they are not suitable.

 

Based on the practice of developing and implementing budget management systems, the following budget models can be distinguished:

  • individual model of integrated budgeting;
  • universal budget model;
  • budgeting of certain areas of activity;
  • budgeting of financial flows;
  • budgeting of commodity-material flows.

A distinctive feature of integrated budgeting is the preliminary construction of a process model of the company’s activities, with subsequent binding of the functional budgets to the results. This model will be individual, taking into account all the distinctive features of the financial performance of each company. This approach is applicable to companies of any profile, even for non-profit organizations.

Advantages of integrated budgeting:

  • focusing on the features of the company;
  • obtaining the necessary detail of planned and actual indicators;
  • coverage of all areas of activity.

The main drawback of this model is the long term of development, and as a result, the risks in achieving the result.

The universal budget model ,as well as complex, covers the whole enterprise, but it is more simple in terms of development and functioning. The first step in the development of the budget structure is to determine the list of items in the budget for revenues and expenditures and the budget, as well as the formation of a financial structure based on the volume of financial authority of the business units. Then, operational budgets for revenues and expenditures are created for each responsibility center. In the event that financial liability centers can manage payments within the framework of their activities, budgets of cash flows are also formed. The sum of financial results and net cash flows by elements of the financial structure gives, respectively, the financial result and net cash flow in general for the organization.

Advantages of the universal model:

  • high speed of development and implementation, especially for multi-industry enterprises;
  • the possibility of relatively simple accounting for internal turnover;
  • speed of planning and consolidation of actual data.

The disadvantage is the lack of functional plans, which sometimes hinders a balanced assessment of plans for the main functional areas.

Models of budgeting of certain areas of economic activity are the simplest, their purpose is to provide information on the areas of activity of the company that are relevant for control. Such models can contain from one to several natural or natural-value budgets. For commercial and industrial enterprises, such budgets are traditionally the sales and production budgets.

 

Fig. 1 Budgeting of commercial activities

 

Fig.2 Budgeting of production activities

The advantages of such budget models are:

  • rapid and inexpensive implementation, which allows in a short time to gain control over the most relevant areas of activity; 
  • efficient functioning of the model due to the small number of budgets and the simplicity of the links between them.

The disadvantages of these models is that due to their limitations, it is not possible to take into account all the influencing factors (for example, inadequate financing may lead to a non-fulfillment of the production plan, etc.), as a result – low reliability and effectiveness of budgets.

Budgeting of financial flows is the most common model.

This is due to its following advantages:

 

  • high speed of implementation due to a small number of budgets and the links between them;
  • as a consequence of the relatively low cost of implementation.

The resulting budget of this model is the cash flow budget (CDM). The purpose of its composition is the management of the solvency (liquidity) of the enterprise.

BDDS reflects the movement of funds by type and direction of traffic.

The structure of the CDM allows you to plan, consider and analyze cash flows in the sections: the direction of cash flows; structure of payments and receipts in the directions of their movement; volumes of payments and receipts (cumulative, by group of articles and by individual articles); intermediate and final results; cash balances.

The budgeting model of commodity-material flows is more complicated than previous budget models. However, it is this model that allows you to manage the most important indicator for the company – the profitability / profitability of the main activity. The advantages of this model are:

  • relatively low cost and terms of implementation (compared to the integrated model);
  • the ability to manage the most important indicator of the company’s activities – profit from the core business, which is especially important in the medium and long term;
  • the ability to effectively manage the main areas of economic activity – sales, production, and procurement;
  • the ability to control and manage direct and indirect costs.

The disadvantages of the model include the lack of complexity, and as a consequence, the dependence of results on unaccounted factors (financial flows, investment and other costs).

The resulting budget of this model is the core business budget (AML). The structure of the AML discloses: the structure of the company’s income by main activity; structure of expenses for core business; volumes of income and expenses; the difference between income and expenses from operating activities for the period (ie gross profit or loss).

Summarizing the presented characteristics of types of budget models, it should be noted that although not all models are formally consistent with the generally accepted concept of budget management, they all have the features that distinguish budgeting in a separate management technology:

  • availability of financial responsibility centers (CFDs);
  • the existence of interrelated budgets that allow planning activities and take into account the fact in the same sections;
  • possibility of refinement and optimization of the system.

It is the choice of the optimal budget model at the stage of developing financial and budgetary structures that will allow enterprises to obtain the maximum result, which is manifested in increasing business transparency and improving financial performance in the shortest possible time, and also provide an opportunity for further growth and development of the system.

Source: https://www.mcser.org/journal/index.php/mjss/article/viewFile/5667/5463

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