1. Budgetary planning
Great job so far. In this video, we will focus on budgetary planning and its role in a company's financial well-being.
2. Financial statements recap
Before we go into budgetary planning, let's quickly recap the two financial statements. The balance sheet adheres to the accounting equation and is a snapshot of what the company owns and owes. The income statement covers revenues and expenses for a specific period of time.
Budgetary planning relies on information from the balance sheet and income statement and allows you to predict the company performance.
3. The importance of budgeting
A budget is a formalized way to communicate corporate goals annually and plan for the future.
It helps a business reduce any financial surprises, like the lack of cash to cover the repayment of loans. It also helps them coordinate activities to maximize profit. In addition, budgeting allows employees to focus on creating tactics to reach future goals.
This can be useful when we want to expand our lemonade business. Let's go through this in more detail.
4. Budgeted balance sheet
Companies create budgeted balance sheets to account for anticipated expenditures and debt obligations.
Budgeted balance sheets are based on the previous and current year's budgets and help account for any changes the company might experience in the future. If we plan to take out a loan 1000 dollar to invest in a new lemonade stand, we can take that into account while budgeting. The budgeted balance sheet will incorporate the new stand, and accompanying equipment such as juicers.
5. Actual vs. Budget analysis
The budget version of our balance sheet is the estimated assets and liabilities the company will own next year, but they might differ from the actual assets and liabilities next year.
Actuals are the exact amount spent over a certain period of time. Let's fast-forward a year to see how our lemonade stand is doing. We underestimated the cost for the lemonade stand, which was $1100 instead of the anticipated $1000.
By conducting an Actual versus Budget analysis, firms can assess their ability to efficiently allocate funds needed for change within the firm by looking back on previous data to determine how to allocate future funds based on trends.
6. Financial forecasting
A big component of budget planning is forecasting. Forecasting is an estimation of a company's future financial goals. Based on historical data, forecasting is used to create budgets that are updated monthly or quarterly. Financial Forecasting helps management take immediate action.
For example, if the weather forecast predicts a great summer, you can expect an increase in lemonade sales. You want to reflect this in our balance sheet and income statement. You might need to buy more lemons and juicers to satisfy the increased demand.
7. Budgeting vs. Forecasting
Budgets and forecasting work together. Budgets are created to meet a goal, while Financial forecasting tells a firm whether the goal will be met.
For example, we budgeted $200 in juicers for both of our lemonade stands, but because of the good weather we will have to acquire more juicers to keep up with increased demand. The owner aims to invest $100 of his own money in two new juicers, increasing assets and owner's equity by $100.
8. Budget variance
Variance in financial budgeting compares actuals and budgeted figures, a key focus of actuals versus budget analysis. It indicates how well a company predicted income and expenses.
A company might have over or underestimated it's expenses. In this case the owner had to take out $100 out of his own pocket, but the owner didn't plan for any other unplanned expenses. This means there was a budget variance of a $100.
9. Let's practice!
Time to test your knowledge.