Friday, July 8, 2011


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The Role of Budgeting


1. Introduce the purpose of budgeting.

. Identify the major budget types & their relationships

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. Show the benefits & limits of budgets.

4. Show how budgeting process works.

I. Introduction

Once a firm has identified customer needs & changes through forecasting, it needs to determine if it can be met profitably.

A . Knowing how to budget is certainly part of this process.

B. A budget is a master financial plan or a blueprint for action in the future & has parts Operating budget; Cash flow budget; Capital Expenditure Budget

II. The Purpose of a Budget

A. A budget is a formal estimate of future revenues & costs

1. A detailed breakdown of costs/revenues is needed for attaining profit goals Firms have to analyze operations to develop reliable estimates of revenues & costs.

. If budgeting is done right, it forces better thinking about the firms goals & purpose & how to achieve them. It forces mgmt to ask what to be done if certain target levels of sales & costs are to not being realized.

B. Making realistic budgets requires clear thinking; as a financial plan of firm’s expectations over time, it should be a an assessment of what each part of the firm can accomplish

1. Make separate budgets for each part of business For a seed firm there should be separate budget for fertilizer, sales, production & storage divisions.

. Combine these to make firms total budget The separate division budgets can then be put together into one master budget for the entire enterprise.

III. Types of Budgets

A. Should have at least types of budgets

1. An operating budget

. A cash flow budget

. A capital expenditures budget

B. The Operating Budget

Is the most common type of budget

1. Records Sales, Production costs, & other related activities It is an estimate of sales, income, fixed & variable expenses during the budget period � i.e. O.B. gives management a look at cost & revenue behavior expected in coming methods

. Starts with Sales Starting point in O.B is sales as income is lifeblood for the firm. A sales estimate come marketing plan & includes changes in future sales due to changes in competition, new products, or the economy.

. Follow with Cost/Expenses Preparation Requires forecasting operating & fixed expenses. It uses accounting in its development

4. O.B more than a Forecast Its statement of what mgmt expects to accomplish in coming period to achieve profit goals. It is a critical planning document with purpose objectives, & a well-defined marketing plan.

IV. An Application of Budgeting

A. The Operating or Enterprise Budget

OB is organizing of revenue, expenses, & profit for enterprises

Purpose Estimate costs, returns, & profit for the enterprises.

Uses Assist managers in decision-making.

Content of OB Most budgets contain parts in Table 1.

1. Enterprise name & the budgeting unit are shown first

Income or revenue from the enterprise is shown next. Qty, unit & price are all included to provide full info to the user.

. Cost section comes next & is divided into two parts

(a) Variable or operating cost & (b) fixed or ownership cost

Income or revenue above variable costs shows the revenue remaining to be applied to fixed costs.

Fixed costs include fixed costs for machinery & land use.

. The estimated profit per unit is the final value & is found by subtracting total costs from total revenue.


Item Value per acre

Revenue 15 bushels @ $.50 per bu 1.50

Variable Costs

Seed $.00

Fertilizer 8.00

Chemicals 0.00

Machinery expenses .75

Drying 1.50

Hauling 7.50

Labor 18.00

Interest @ 10% for 6 months 7.0

Total variable cost $148.84

Income above variable cost $16.66

Fixed Costs

Dep, interest, taxes, & insurance $ 48.00

Land charge 100.00

Total fixed costs $148.00

Total costs $6.84 Estimated profit (return to management) $ 15.66

Constructing Operating Budgets ( e.g. Crop Enterprise)

Table is enterprise budget for wheat & is used to discuss steps in constructing crop enterprise budget

Table Enterprise Budget For Wheat (One Acre)

Unit Quantity Price Amount


Wheat grain bu 48 $.00 144.00

Total revenue 144.00

Operating expenses

Seed lb 80 $0.10 8.00

Fertilizer N lb 60 0. 1.00

P05 lb 0 0. 6.60

K,O lb 0 0.15 4.50

Chemicals acre 1 5.5 5.50

Fuel, oil, lub. acre 1 7.6 7.60

Machinery repairs acre 1 1.4 1.40

Labor hr .1 8 16.80

Interest (operating $ 6.7 10% .67

expenses for 6 months)

Total operating expenses 77.07

Return above operating expenses 66.

Ownership expenses

Mach. Depreciation acre 1 14. 14.0

Mach. interest acre 1 10.6 10.60

Mach. taxes & insur. acre 1 .00

Land charge acre 1 50 50.00

Misc. overhead acre 1 5 5.00

Total ownership expenses 81.80

Total expenses 158.87

Profit (return to management) (14.87)

a. Revenue Include cash & non-cash revenue from crop e.g. wheat grain & winter grazing of growing wheat. The accuracy of projected profit depends more on yield & price estimates made in this section than in any other. Projected yield should be based on historical yields, yield trends, type & amount of inputs to be used.

b. Operating or Variable Costs Includes costs incurred only if this crop is produced & can be reduced to $0 by not producing this crop.

i. Seed, Fertilizer, and Chemicals Costs Prices can be found by contacting input suppliers, and total per acre cost is found by multiplying qty by price.

ii. Fuel, Oil, and Lubrication Expenses This is related to type and size, and number of machinery used & is calculated by dividing total farm expense for fuel, oil, & lubrication by number of crop acres or compute fuel consumption per hour of machinery use and determine how many hours will be needed to perform machine operations

iii. Machinery Repairs A method must be devised that allocates repair expense relative to the type of machinery used and the amount of use.

iv. Labor Costs Total labor hours needed for crop production are heavily influenced by number of machinery, type of production and harvest. The opportunity cost of farm operator labor is generally used to value labor plus any fringe benefits.

v. Interest is on capital tied up in operating expenses Depends on the average length of time from when the operating costs are incurred until, harvest. Interest is charged on operating expenses without regard to how much is borrowed or even if any is borrowed.

c. Return above Operating Expenses It shows how much revenue from an acre will contribute to payment of fixed or ownership expenses.

d. Fixed cost/Expenses Includes all fixed cost or expenses that will be incurred that is not dependent on operations or production.

i. Machinery Depreciation Amount of machinery depreciation to charge to a crop enterprise will depend on the size and type of machinery used. 1st step is to find average annual depreciation on each machine using straight line depreciation method and this can then be converted to a per acre or per hr value based on acres or hours used per year.

ii. Machinery Interest Based on average investment in machine over its life and is computed the same way regardless of how much, if any, money was borrowed to purchase it.

iii. Machinery Taxes and Insurance Machinery is subject to property taxes in some states, and most farmers carry some type of insurance on their machinery. The annual expense for these items should be computed.

iv. Land Charges There are several ways to calculate a land charge

(1) What it would cost to cash rent similar land,

() the net cost of a share rent lease for this crop on similar land

() for owned land, the opportunity cost of the capital invested,

Most enterprise budgets use one of the rental charges even if the land is owned.

v. Miscellaneous Overhead Used to cover many expenses such as a share of pickup expenses, farm liability insurance, farm shop expenses, etc. that cannot be directly associated with a single enterprise but are important farm expenses.

e. Profit/Return to Management Subtract total expenses from total revenue

Analyzing Operating Budgets

Data from OB is used for many types of analyses- e.g. calculating production cost and break �even price

a. Cost of Production Term used for average production cost for one unit of the product (average total cost)

Cost of production = total cost $158.87

yield. 48

Its useful when marketing the product � profit can only be realized if selling price is more than production cost

b. Break-even Analysis The break-even price is the output price needed to just cover all costs at a given output level & is found from the equation

Break-even Price = total cost $158.87

Expected yield 48

Break-even price is same as cost of production as they are two different ways of looking at the same value.

The break-even price can also be calculated for a range of possible yield to help managers determine the yield that will cover total cost

V. The Cash Flow Budget


1 To identify cash flow budgeting as a tool for financial decision making & business analysis

To understand structure & component of cash flow budget

Illustrate the procedure for completing a cash flow budget

4 To describe both the similarities and differences between a cash flow budget and an income statement

5 Discuss advantages & potential uses of a cash flow budget

6 To show how to use a cash flow budget when analyzing a new investment

Characteristics of a Cash Flow Budget

1. Records sales, production and expenses according to when they are received or paid CFB shows amount & timing of cash expected to flow in & out of the firm during budget period. � i.e. its a summary of projected cash inflows & outflow for a business over a given period of time.

a. Cash Inflows Come from sales, services, borrowing, sale of capital items, & from payments on accounts receivable.

b. Cash Outflows Include payments for goods and services purchased, debt, taxes, salaries, and capital assets.

. CFB shows Cash Receipt & Disbursements Shows when cash should be available and when cash payments must be made � i.e. assist mgmt plan when cash will be in surplus/ deficit

. CFB is a forward which cash planning tool for investing excess cash and borrowing needed cash CFB allows mgmt to invest surplus cash to earn extra income or help to decide when & how much to borrow in deficit periods & ability to repay loans

4. Differences between CFB and OB

a. CFB contains only cash items but not non-cash items CFB leaves out items that do not generate cash inflow (e.g. credit sales) or non-cash expense (e.g. depreciation, credit purchases) but OB does.

b. CFB tells mgmt little about profitability of the firm but OB does. CFB’s purpose is to help mgmt determine whether there will be adequate funds to meet obligations.

c. CFB concerns with timing of revenue & expenses CFB includes when cash will be received & paid out as well as for what and how much. � thus CFB is preparing on a quarterly/monthly basis.

Structure Of A Cash Flow Budget

Table 1 A Condensed Form of Structure & Format of a CFB Flow Budget Time Production 1 Time Production

1. Beginning cash balance $1,000 $ 500

Cash inflow (Sources) . Farm product sales $,000 $1,000

. Capital sales 0 5,000

4. Miscellaneous cash income 0 500

5. Total cash inflow $,000 $18,000

Cash outflow (Uses)

6. Farm operating expenses $ ,500 $ 1,800

7. Capital purchases 10,000 0

8. Miscellaneous expenses 500 00

. Total cash outflow $14,000 $ ,000

10. Cash balance (line 5 - line ) -11,000 16,000

11. Borrowed funds needed $11,500 0

1. Loan repayments (principal and interest) 0 11,700

1. Ending cash balance (line 10 + line 11 - line 1) 500 4,00

14. Debt outstanding $11,500 $ 0

Potential Sources of Cash

1. Beginning cash balance or cash on hand

. Product sales/cash revenue from operation

. Capital sales - cash received sale assets like land, machinery, breeding livestock,

4. Non-business cash receipts � e.g. non-farm cash income, cash gifts, etc.

5. New borrowed capital or loans received

Last source is not included in cash inflow section because borrowing requirements are not known until the cash outflows are matched against the cash inflows.

In production 1, total cash inflow of $,000 includes beginning cash balance. The total cash outflow = $14,000. Projected cash balance = -$11,000. This deficit will require borrowing $11,500 to provide a $500 minimum ending cash balance.

Uses of Cash

1. Farm operating expenses cash expenses incurred in producing farm revenue

. Capital purchases � i.e. full purchase price of new capital assets e.g. land, machinery, and dairy/breeding livestock

. Non-business and other expenses � i.e. cash used for living expenses, income & social security taxes, etc.

4. Principal payments on debt Includes interest payments unless already included in the operating expenses.

Ending Cash Balance

Difference between total cash inflows and total cash outflows for any time period.

Constructing a Cash Flow Budget

The following steps summarize the process and info needs.

1. Develop a business plan. It’s impossible to estimate cash revenues & expenses without knowing what to be produced.

4. Estimate crop production and livestock feed requirements. Most, if not all, of this info should be found in the whole farm plan.

5. Estimate cash receipts from livestock enterprises. Include sales of livestock as well as livestock products such as milk and wool.

6. Estimate cash crop sales.

7. Estimate other cash income. Include interest and dividends on investments and non-farm sources of cash revenue.

8. Estimate cash operating expenses.

. Estimate personal and non-farm cash expenses. e.g. cash needed for living expenses, income and social security taxes.

10. Estimate purchases and sales of capital assets e.g. purchase price of buildings, breeding livestock, land to be purchased and total cash to be received from capital assets sale.

11. Record scheduled principal/interest payments on existing debt.

Uses For A Cash Flow Budget

Primary use of CFB is to project timing and amount of new borrowing & loan repayment a business will need during the year. Other uses and advantages are

1. CFB can prevent excessive borrowing and shows how repaying debts ASAP will save interest.

. CFB may suggest ways to rearrange purchases and scheduled debt repayments to minimize borrowing.

. CFB combines both business and personal financial affairs into one complete plan.

4. A lending agency can offer financial advice and spot weaknesses/strengths in a business based on completed CFB

5. Can assist managers to obtain discounts on input purchases by making prompt cash payment.

6. CFB can help spot imbalance between short, intermediate and long-term credit and suggest ways to improve the situation.

VI. The Capital Expenditures Budget

1. Records amount and timing of purchases of capital equipment Shows how money projected for capital investments is to be allocated among various divisions or activities within the firm during the upcoming time period.

. CEB covers

a. maintenance of existing equipment & plant

b. purchase of new equipment (expansion of new plant/equipment)

c. cost saving projects & renovations

It’s common to arrange items in the capital budget by priority in ensuring that financial resources are used for the most crucial items first.

VII. Relating Operating, Cash Flow & CE Budgets

To be effective, we need to relate all budgets

1. Begin with the operating budget Sales part of the OB provides basic info for the cash flow budget

. Develop CF & Capital Expenditure Budgets from OB

CFB Only the part of sales that is actually expected to generate cash inflows during the budget year is included in the cash flow budget � i.e. credit sales are not included in the CFB.

Cost of goods sold provides cash outflow estimates (after accounts payable decisions) and must be included.

Capital Expenditures Budget provides cash outflow info. Major capital improvement, and debt servicing are large cash disbursement. Cash budget helps mgmt ensure that funds are available to meet larger lumpy outflows for debt payments and capital purchases when they come due.

VIII. Budget Benefits

A. It helps managers better understand their business

B. It provides a yardstick by which business performance can be measured by others.

1. Should be checked frequently to see progress.

. If negative deviations are found, it permits quick corrective action before things get worse.

IX. Summary

A. Budgeting is a critical step in business planning

B. It puts ideas into numbers for profit or loss measurement

C. Budgets are valuable tools in good management

Budgeting and Cash flow

Having worked up a reasonable business plan covering the programming and marketing aspects, you will need to work out how much money you need to make it happen. Firstly you need to establish how much your festival will cost in an ideal world. You can then start looking at the revenue side of the equation.


Sources of revenue fall into three main categories box office, public sector income and private income. Once you have set your ticket price and calculated how much revenue you will earn from sales there will inevitably be a funding gap which you can close by raising funds from these different sources. If you look at the budget of any successful film festival you will find it is made up of a large number of different sponsors and supporters and managing these relationships and sometimes competing interests can be time consuming and expensive. Having worked out what the funding gap is, you may decide to scale down your festival to set more realistic targets. While you may be able to balance your budget actually managing the financing of the operation can still prove to be problematic. A cash flow forecast is therefore a key next step after the budgeting exercise, especially if your organisation does not have access to funds to bank roll festival activity.

Demand forecasting

In the case of a new festival, it will be difficult to gauge how many people are going to turn up. On the one hand you want to set your sights high and on the other you cannot afford to be overly optimistic. The following factors will all have a bearing

· The extent of your marketing effort and size of your budget

· The visibility of the venue i.e. its ability to attract passing trade or cross over audiences

· The appeal of your programme locally, regionally and nationally and competition from other leisure alternatives

· Press coverage

· The size of your venue(s)

· Your ability to attract a star (i.e. someone of high profile who will attract people to your event who would not otherwise come)

· Weather

· Ticket price and availability of special offers

Your market research will have indicated how big the market is and it may be worth talking to organisers of other similar festivals, particularly if they have operated from the same venue. Assuming that your chosen venue(s) has staged film festivals in the past, it may be possible to get some idea of attendance levels for other similar events. You might also use the occupancy rate (calculated as the number of seats sold as a percentage of the seats available). Clearly this is going to be different for each film or event, depending on its popularity, day of the week and time of screening. For many cinemas, average occupancy rates are as low as 15 or 0% which gives you some indication of the effort you need to invest in marketing. Box office income is then calculated as the number of tickets sold multiplied by the average ticket price.

Other sales revenues

There may be opportunities to generate additional trading revenues, for example from bar/catering facilities, souvenir programmes, merchandising (videos, T-shirts etc.). However, it would be unwise to invest too much into this area for a new festival as you may end up with unsold stock.

Costs/Expenditure Costs will vary wildly between festivals and depend on the length andambition of the project. Below is a check list of possible costs and these have been classified into programme/education/marketing/administration and other costs. You will find many funders require this kind of presentation. It is impossible to provide a definitive financial model for a festival as each one is so different. Instead, we have included sample budgets in the appendices from three different festivals (a larger festival, a medium one and a very small one).These will give you some idea of the kind of items you need to include and what information you need to find out e.g. what a specialist programmer would charge or film rental fees.

Core costs vs project costs

If a festival is attached to an organisation which does other things, inevitably the time of other staff and central resources will be consumed (for example the Festival Co-ordinator will occupy a desk and use the telephone for a period of time). It is certainly worth trying to apportion some of these costs to the festival budget. Most arts organisations now try to recover some contribution to their overhead costs from project work. You should work out what these costs are even if you are not successful in raising funds to cover them. Again, these can be included as in kind support from the sponsoring organisation.

Cash flow

As with any business, budgeting is a critical element of the planning process and will serve to highlight some of the operational constraints facing your organisation. One of the key considerations here is cash flow.The two potential sources of revenue (ticket sales and funds raised through sponsorship) flow into the organisation either at the point of sale or retrospectively i.e. during or after the festival. Most of the costs associated with running a festival are incurred in the months running up to the festival, costs such as programme printing, advertising, research, development and running a festival office. If the festival is being run by a larger organisation, it may be possible to bank roll the event through the organisations main finances. For a small organisation set up solely for thepurposes of running a film festival the cash position is much more difficult to manage, particularly if the festival is new and has no track record.

In practice, most smaller festivals manage their cash flow by deferring payments to staff and others working on the festival, extending credit terms to the maximum and requesting early draw down of any funds raised from external sources. Inevitably this highly unsatisfactory compromise which relies heavily on the good will and enthusiasm of staff and volunteers, cannot be maintained in the longer term. However, it is often a choice between doing this or not having a festival at all. There is also an element of risk, in that box office targets may not be met and funders may take some considerable time to pay over funds or may not pay over the full amount if audience targets have not been met. Where income targets cannot be met, the tendency is often to cut the advertising and promotion budget. This may have the knock on effect of reducing audiences which in turn will reduce your box office revenues.

A cash flow statement looks at when funds will be received and when expenditure occurs for your project in order to identify any potential cash shortages and develop strategies for dealing with this. A cash flow forecast is different from an income and expenditure budget because it takes into account these timing differences and deals with actual flows of cash and not just costs and revenues, so it should include things like VAT.

What Is Cash Flow?

Your cash flow is simply the money going into your pocket and out again. It is matching up your income with your expenses. Sounds simple doesnt it? It really is, but very few people take the time to keep track of what actually comes in and goes out each month.

The second worksheet with this lesson is called Income and Expenses. For the most accurate look at your budget, expenses and income for an entire year should be done. Thats really a lot of work! But, just to get you started learning what records you will need, this worksheet provides space for two months. When you see how important it is to keep these records, you may want to contact the Extension office and purchase a Home Account Book for continuous recordkeeping.

The first thing you will need to do is take the time to collect all of your bills, receipts and check ledger which will help you monitor your spending for the month. (It could be last months, this months, or both.) Include both fixed and flexible expenses. Do you know the difference ?

FIXED expenses are items such as rent, mortgage, car payment and other regular installment payments that basically stay the same each month and for which you are committed for a period of time.

FLEXIBLE expenses are the expenses that change from month to month such as food, clothing, utilities. You have a bit more control over some of these items.

If you have recently become self-supporting, or are starting a household for the first time, it may be difficult finding complete records. Do the best you can for now and start keeping track of as many expenses as you can. The more accurate and complete the worksheet, the easier and more effective your financial planning will be.

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