Budgeting forms the baseline for a company’s future performance. Managers create the budget anticipating financial conditions and market expectations for future periods. These managers calculate revenues and expenses for the period being budgeted. When the period reflected in the budget arrives, the managers compare actual expenses to the budget numbers and evaluate the department’s performance.
Creating a company budget involves every department within the organization. The sales department anticipates market conditions and estimates future revenues to create a sales budget. The production department uses this information to create a production budget anticipating material, labor and overhead costs. Administrative and selling managers anticipate their expenses for the upcoming year. A budget manager coordinates the communication between each department and compiles each section into a master budget and creates budgeted financial reports.
Measure Actual Results
The accounting department records monthly transactions in the general ledger. The accountant creates regular financial statements to communicate the financial results for the company. The accountant also creates financial reports which communicate sales activity and department expenses for individual departments. The accountant distributes the department reports to the appropriate department managers and the complete set to the budget manager.
Calculate Budget Variance
The budget manager compares the actual sales sand expenses to the budgeted sales and expenses. The difference between the actual and budgeted amounts equals the budget variance. The budget manager combines the actual numbers, the budget numbers and the budget variance numbers on one report for each department. The budget manager distributes this report to the department managers and their superiors.
Budget variances are used to evaluate the performance of individual department managers. The larger the variance, the more questions superiors ask regarding the amounts. The department managers must explain the reason for the budget variance. If the budget manager has a reasonable explanation or the situation was out of their control, their performance is not adversely affected. If the budget variance exists due to mismanagement by the department manager, the manager’s evaluation will be negative.