A budget is a detailed financial plan for the future, usually involving the expected costs and

revenues or a cash flow forecast, for a pre-determined period of time. A budget is produced in order
to help a business to achieve its organizational objectives and to plan for the finances needed to
implement business strategy.

A cost centre is a division of a business that has responsibility for its own operational costs. The
cost centre is held accountable for its departmental expenditure. They can help managers to collect
and use cost data effectively, thereby having better budgetary control. For example, they may be
held accountable for their own expenditure on advertising, wages, and material costs.

Examples of cost centres in the corporate world include:


 Administration

 Customer service

 Finance and accounts

 Human resources

 Legal

 Marketing

 Production

 Purchasing

 Research and development (R&D)

 Technical support

A profit centre is a division of a business that has responsibility for both costs and revenues
generated within the department. Hence, each profit centre is held accountable for the amount of
profit made. Large organizations tend to use profit centre to account for the different amounts of
profit made by different divisions the organization.

For example, chain stores (with multiple outlets) hold each branch (store) accountable its own profits
or losses. Profit centres are common in organizations that are decentralised. Operating profit centres
enables senior management to focus on strategic issues for the organization, leaving the tactical
issues to be tackled by operational managers.
In the same way as cost centres, profit centres can be organized by function, product or geography,
depending on the needs of the organization. An example of profit centres for Apple is shown in the
image below. Steve Jobs had previously organized the company by function in a relatively simplistic
way, but Tim Cook having taken over as CEO of the company which included a much larger product
portfolio has since added new functions as profit centres:
Budgets are important for a number of reasons, which can be remember using the acronym P-
CAFÉ:

 Planning – Budgeting is essentially about financial planning. Business strategy and

operations cannot happen without the necessary finances. Budgeting helps managers to
plan their operations and strategies based on the available finances in the budget.

 Contingency planning – Budgeting allows a business to plan to put aside money for
emergency use. This helps a business to be better prepared for any unexpected costs or
unplanned expenditure. In the worst case scenario, effective budgeting can help a business
during a crisis situation.

 Accountability – Budgets limit how much money can be spent on certain business
operations, thereby making people accountable for their decisions and expenditure.
Budgeting helps to ensure that money is not wasted on non-essential items.

 Financial control – Budgeting enables managers to better understand possible financial

problems in order to take corrective measures. This is particularly important in large
organizations that consist of many people and different departments, preventing costs from
spiralling out of control.

 Efficiencies – Budgeting forces businesses to prioritise their items of expenditure in order to

achieve the organization’s goals. Decision makers are more careful with their budgets, thus
make efficiency gains for the business. For example, there is an incentive for the firm to find
new suppliers, which helps to save money and operate within budget constraints.

Budgets and variance analysis have an important role in decision-making. There are several
reasons 9 and transparent way, across all different departments within the organization. Budgets
(and variance analysis) help to define organizational objectives, thereby forcing managers to plan
ahead.

 Financial control – Budgets and variance analysis help a business to have better control
over its spending, by comparing actual and budgeted expenditure. Comparisons can also be
made between the different costs and/or revenues of different departments. Historical
comparisons can also be made. Such comparisons make managers more accountable for
their actions.
 Flexibility – However, budgets do not have to be rigid. A persistent variance is can be proof
that strategic planning needs to change, i.e., budgets need to be revised in order to achieve
the firm’s strategic plan. Positive variances can also signify a chance in strategy, such as
allocating more financial resources to advertising and promotion for products that outperform
initial forecasts.
 Financial prudence – Budgets and variance analysis help to ensure that the financial costs
of any business decision are accurately considered. For example, variance analysis can
highlight any repeated inaccuracies in the budget, which can cause cash shortages for the
business. It can then respond by introducing strategies to boost revenues and/or cut back
expenditure.
  Accountability – Budgets and variance analysis can be powerful tools to measure the
effectiveness of different managers. Their strategic decision making can be questioned if
budgets are not well managed. Alternatively, if they operate within their allocated budgets
and meet or exceed organizational goals, they can be suitably rewarded.

Use the information below to construct a budget for Ed Jaen Toys Inc. for the trading period ended
(b)
31st December 2022.
 Budgete
Actual
d

Advertising 20 25

Electricity 10 15

Interest
15 12
earned

Materials
(operation’ 100 110
s fault)

Rent
(finance’s 100 100
credit)

Salaries
and wages 250 260
(HR’s fault)

520
Sales
500 favourabl
revenue
e

Budgeted Actual
All figures in $'000 Variance
figures figures

Revenue:

20
Sales revenue 500 520
favourable

Interest earned 15 12 (3) adverse

Total revenues 515 532 17

Costs:

Salaries and wages 250 260 (10)

Materials 100 110 (10)

 Rent 100 100 0

Advertising 20 25 (5)

Electricity 10 15 (5)

Total costs 480 510 (30)

Excess of revenues over (under)

35 22 (13)
costs

A variance refers to a discrepancy between the planned (budgeted)

item of expenditure or revenue and the actual amount. For example, if
Warner Bros. Studios planned to spend $150 million on producing a
Hollywood movie, but ended up spending $180 million, then there
would be an unfavourable variance of $30 million. Similarly, if
Foxconn, Taiwan’s largest manufacturer, planned to produce
50 million smartphones but higher than expected sales meant it
needed to produce 60 million units, there would be a favourable
variance of 10 million smartphones.

Variance analysis (comparing planned and actual costs and

revenues) gives a benchmark for businesses to measure and
compare the degree of budgetary success. By measuring variances,
on a regular basis, budget holders can monitor and control their costs
and/or revenues in order to meet organizational goals. It also enables
managers to improve accountability and performance in the
workplace.
(a) Complete the missing figures in the table below for Burgers R Us. [6 marks]

Variance
Variable Budgeted ($) Actual Outcome ($) Variance ($)
(F/A)

Wages 3,000 3,200 Adverse

Salaries 4,500 4,500 -

Stock (inventory) 1,500 1,850

Revenues 12,350 300 Adverse

Cost of sales (COS) 9,700 50 Favourable

(b) Suggest two examples of stock (inventory) that are likely to be held by Burgers R Us. [2
marks]
(c) Suggest two examples of costs of sales likely to be incurred by Burgers R Us. [2 marks]