Budgeting and Cost Analysis
Executive Summary
Budgeting is an essential aspect of the organization as it provides an overall spending plan to be relied upon by the organization. The critical part of developing a budget is the fact that the organization can easily keep track of its incomes and expenditures, which is a critical part of managing an organization. Moreover, a budget provides an organization with the ability to understand what part of its incomes or expenses, whether direct or indirect, can easily be controlled to enhance the organization competitiveness.
The budgetary process is a major operational task in the organization. As such, business executives take a great exception on the process. However, there are various pitfalls that organizations in the hospitality industry face during the budgetary development and monitoring process. This report aims to critically describe, analyze, and critique the budget preparation and monitoring process in the hospitality industry.
Table of Contents
Pitfalls associated with Budget process. 4
Recommendations to overcome identified pitfalls. 6
The cost structure of the organization. 8
Aligning budget with Organization Goals. 9
The budget Development Process. 10
Implications of cost structure to cost management 11
How performance against budget is measured and monitored. 12
How Data Analytics Impact on budgetary process. 14
Budgeting and cost analysis
Introduction
Budgeting is an important aspect of the organization as it provides an overall spending plan to be relied upon by the organization. The important part of developing a budget is the fact that the organization can easily keep track of its incomes and expenditures, which is a critical part of managing an organization. Moreover, a budget provides an organization with the ability to understand what part of its incomes or expenses, whether direct or indirect, can easily be controlled to enhance the organization competitiveness. Also, a budget plays a significant role in the organization by helping the management to control the spending activities and enhance organization value easily. As such, by considering the critical role of budgeting in the organization, it is clear that the budgeting process is crucial to the overall success of the organization. In the argument of Orlando (2016 p.47), a budgeting process involves the various steps used by an organization to develop its budgets. A good budgeting process should involve engaging the relevant stakeholders in the organization to have a clear understanding of the various revenues streams as well as expenditure overheads of the organization. This report aims to critically describe, analyze, and critique the budget preparation and monitoring process in the hospitality industry.
Pitfalls associated with the Budget process
The hospitality industry is characterized by intense competition, and therefore, organizations have to establish efficient budgetary measures that will ensure they are sustainable, competitive and profitable. As such, part of the organization’s growth and sustainable strategy is the development of fiscal planning that involves development and monitoring of the budgetary process. The budgetary process is a major operational task in the organization. As such, business executives take a great exception on the process. However, there are various pitfalls that organizations in the hospitality industry face during the budgetary development and monitoring process. Some of these pitfalls according to Kolb (2018 p.172-174) include;
First, communication, the development of the budgetary process involves a ton of moving parts through the entire process. As such, there are various stages involved in the development and monitoring of the budgetary process that requires the input of various stakeholders within the organization. However, in most cases, an organization does not have an effective communication system to facilitate the effective collaboration of all the stakeholders. The lack of an effective communication system in the organization has a huge impact on the budgetary development and monitoring process as it’s likely that inputs of some stakeholders may not be taken in consideration which could negatively impact on the process.
Second, complexity, the budgetary process is usually complex and therefore requires special expertise to ensure it is effective. The lack of expertise in the organization could compromise the budgetary process. Moreover, the development and monitory budgetary process are multi-layered, and organizations have to deal with deadlines as well as unpredicted changes throughout the process. Also, it is important to note that the process involves various adjustments, modifications as well as adjustments which further complicate the process. Thus, it is essential that the organization establish effective measures to handle these complexities to ensure they don’t negatively affect the budgetary process.
Third, creating unrealistic budgets, the budgetary process involves cost estimation. The cost estimation process is complex, and there is the possibility that the organization may not be able to accurately estimate its costs leading to the development of an unrealistic budget. Also, there is the possibility that the organization will develop a budget that is too tight in the hope of controlling the costs, which could be unrealistic to implement. Unrealistic budgets could be difficult to monitor because the organization will be faced with implementation challenges.
Fourth, failure to clearly outline the objectives, during the development and monitoring of budget, it is critical that the organization clearly define objectives to be achieved. Ensuring the budgetary objectives are clearly defined helps align the budget to the strategic goals of the organization. Disregarding the need to clearly define the objectives of the budgetary process is likely to contribute to the development of an unrealistic budget that may not help the organization to achieve its strategic goals thereby contributing to wastage of resources. Also, it becomes difficult for the organization to effectively monitor its budgets in the absence of clearly defined objectives.
Lastly, cost classification, the budgetary process involves the classification of various costs. The costs can be classified as either direct or indirect costs as well as variable or fixed costs among other classifications. The classification of costs has a significant impact on the budget. As such, it is important that the organization ensures its costs are appropriately classified. However, in most cases, it is not always the case, and the organization could wrongly classify its costs which could negatively impact on the development and monitoring process.
Recommendations to overcome identified pitfalls
The success of the budgetary development and monitoring process largely depends on the ability of the organization to establish appropriate measures to help it overcome the pitfalls of the process. Thus, it is crucial that the organization identifies these pitfalls and establish proper mechanisms to address these pitfalls. The following recommendations would help the organization to overcome the identified pitfalls;
First, develop an effective communication system, as earlier identified one of the pitfalls the organization faces in its budgetary process is lack of effective communication to ensure all budgetary process stakeholders contribute to the process. As such, establishing an effective communication system to ensure all stakeholders are involved in the process is important. The organization can achieve this through the use of an effective information system that various stakeholders could use to make their contribution.
Second, adoption of a budgetary tool; in recent years, different budgetary tools have been developed with the aim of overcoming the complexity of the budgetary development and monitoring process. As such, the organization can take advantage of technological innovation and growth to improve its budgetary development and monitoring process through the use of an appropriate budgetary tool. However, it is important that the organization chooses a budgetary tool that will better help achieve its strategic objectives. As such, the decision of the organization on what budgetary tool to use should be carefully and critically considered.
Third, outsourcing to experts, the organization should consider outsourcing the service if it considers it lacks competent human resource to handle the process. Outsourcing the budgetary development and monitoring process to a competent organization with the required skill and resource capacity to effectively hand the process is likely to improve the organization budgetary process. However, the organization should consider the skill capacity of the organization before it can outsource the service. Outsourcing could help the organization overcome the pitfall of creating unrealistic budgets. Moreover, it could help the organization to better align its budgeting goals with its strategic objectives.
The cost structure of the organization
In the argument of Anderson (2015 p.487), an organization cost structure refers to the high-level costs model of the organization. As such, the organization cost structure details the different categories of the organization’s cost included in its budget. These costs comprise both fixed and variable costs. An analysis of the organization cost structure would detail the major organization commitments and also, its investments.
The analysis of the organization cost structure indicates that the budget comprises of variable and fixed costs. The major fixed costs from the analysis include rent, salaries and wages, equipment amortization, and mortgage interests. According to Lee (2016. P33), fixed costs are the organization’s costs that do not vary depending on the production units. Thus, fixed costs are normally time-bound time-bound, and the organization will continue to incur these costs even if it ceased production or it discontinued its operations. Also, the organization budget comprises of variable costs. According to Lee (2016 p. 33), variable costs are the costs that vary depending on production. As such, these costs will decrease if the production is low and increase when the level of production is high. The analysis of the budget indicates the organization variable costs include the cost of raw materials, piece-rate labor, production supplies costs, and commission.
The profitability of the organization is largely influenced by its ability to manage both the fixed and variable costs effectively. As such, it is critical that the organization develop and implement different strategies that will help it to improve its cost management better. One of the most effective strategies that the organization can adopt is to continuously monitor and review its various costs against the budget to identify any variance. In the event of undesirable variance, the organization should ascertain the cause of the variance and implement a strategy that will ensure the organization will better manage its cost in future to avoid undesirable variances. Other strategies that can be adopted by the organization to improve its cost structure would include renegotiation with suppliers to get a better offer, cut down on unreasonable costs, and try to ensure most of the costs are variable costs.
Aligning budget with the Organization Goals
The budgetary process can act as a source of the organization competitiveness if the budget is appropriately aligned to the organization’s goals and objectives, planning, and strategies. As such, it is essential that the organization strives to align its budget to its strategic goals and objectives, planning as well as strategies. The analysis of the organization budget indicates that the company has strived to align its budget to its strategies, planning, and goals and objectives. The organization budget aligns with the organization objectives and goals in the following ways;
First, long term budget, the budget includes an extended range plan that provides a complete picture of the organization. Ensuring the budget is a long term budget that provides the organization with an opportunity to ensure the tactical elements align with the organization strategy. In the argument of Hope and Fraser (2013), ensuring a budget is for a long term ensures the organization has the ability to align it with its strategy and goals.
Second, identified performance indicators, the budget have identified performance indicators that can be used to evaluate the organization budget and strategy success. The performance indicators play a critical role in aligning the organization budget with its strategy as well as goals. The performance measurement metrics are well defined and are measurable, thus enhancing the ability of the organization to assess if the budget will help the organization achieve the set objectives. However, to ensure the organization better aligns the budget to its strategy, planning and goals, the performance of the budget must be regularly analyzed.
The budget Development Process
The budget development process is critical to ensuring effective budget implementation. The organization budget development process normally involves the following steps. First, discussing the budget estimates with various stakeholders. During this stage, the stakeholders are requested to submit their estimates to the finance department. The reasonableness of the estimates is discussed with the different stakeholders before arriving at the final conclusion. Second, developing revenues estimates. This stage involves considering the resources of the organization and how effectively they can cover the estimated costs. This stage is essential as it ensures the organization does not spend more than its available resources. Third, develop the base expenditures which are used by the organization as a control mechanism when monitoring the budgetary process. Fourth, estimation of the preliminary deficit or surplus; at this stage, the organization consider if it is likely to have a surplus or deficit. Lastly, align the budget with the organization strategic goals and objectives. The budget development process usually takes four months to complete. As such, the organization key stakeholders in the budget process include its various departments, some of which include the production department, human resource department, sales and marketing department, and the accounting and finance department. To finalize on the budget development process, the organization relies on a custom made accounting system.
The key cost elements
The key cost elements of the organization budget comprise of both the fixed and variable costs. However, the revenues of the organization comprise of variable revenues. Various factors influence the organization key costs and revenues. These factors include the following; first, the volume of purchases. The organization purchases different items and therefore, the cost items is influenced by the volume of purchases. The more items the organization purchases, the less it would cost the organization as the company is able to negotiate for a discount. Also, the volume has a direct impact on variable costs. Acquisition of high volume increases the variable costs. Second, inflation, the organization key costs are also influenced by the inflation rate, which can result in either an increase or reduction of costs. In recent times the global inflation rate has been on the rise, thereby pushing up the prices of various commodities. As such, inflation is a significant cost driver in the budget. Moreover, inflation does impact on the organization revenue as it affects the ability of customers to purchase the products of the organization. Third, the organization negotiation power, the key costs are also impacted by the ability of the organization to negotiate with its suppliers effectively. Effective negotiation reduces the costs while ineffective negotiation would likely contribute to an increase in costs.
Indirect costs
Indirect costs refer to the costs that cannot be directly attributed to the products of the organization (Osadchy and Akhmetshin 2015). The budget comprises of various indirect costs. Some of these indirect costs included in the budget include security costs, office expenses, rent, administrative salaries, and legal and accounting costs. Indirect costs have an impact on the entire organization. These costs are critical to ensure the organization runs effectively. As such, though not directly attributed to the production process, they play an essential role in ensuring the organization keeps operating effectively.
Implications of cost structure to cost management
The organization cost structure, as earlier highlighted, provides both the fixed and variable costs. Understanding the cost structure is crucial to the management of the organization costs. In the argument of Ayboga, Altug and Karadag (2018), the main objective of the organization is to maximize profits. As such, an organization needs to clearly understand its cost structure to enable it effectively implement cost management strategies that will help it achieve this objective. The failure by the organization to understand its cost structure could contribute to mismanagement of costs, thus contributing to the failure of the organization in the long-run. An analysis of the organization cost structure could review some of the expenses incurred by the organization and which contribute less to its success. Such costs should be reduced or eliminated as a cost management strategy. Moreover, cost allocation is a critical part of cost management because misallocation of costs could contribute to the organization making wrong decisions. Thus, an analysis of the organization cost structure will reveal whether the organization costs are appropriately allocated to facilitate effective decision making. Lastly, the analysis of the organization cost structure will enable the organization to calculate cost per units for different departments which would significantly contribute towards cost management. The ability to calculate cost per unit for different departments would help ascertain the cost centers in the organization and help the organization put in place appropriate cost reduction strategies.
How performance against budget is measured and monitored
Performance measurement against a budget is crucial as it helps monitor the effectiveness of the budgeting process. Performance measurement involves measurement and monitoring of a budget against the actual results to establish how the organization performed with respect to whether there was a positive or negative variance. A negative variance is an indication that the actual costs were more than the budgeted cost. Thus, a negative variance is not desirable as the organization aims to ensure all costs were within the budget. A positive variance, on the other hand, is when the actual costs are less than the budget costs, which is an indication that the organization managed to maintain its costs within the budget. Performance against budget could be measured and monitored using different analysis tool depending on the level of measurement and monitoring in the organization.
In an organization, there are mainly three levels of planning which usually measure performance against budgets. These levels include; first, strategic level, the level involves measuring the performance of the organization as a whole over a long duration of time. As such, at the strategic level, the performance of the budget is considered over a more extended period to ascertain how the organization is performing. As such, the estimated costs are compared with the actual costs over a long period to help make strategic decisions. The cost management decisions made at this level have a significant impact on the organization cost structure. It is so because it is at this level that the top management often makes strategic decisions which influence cost allocation in the organization.
Second, tactical level, at this level, the middle management measures the performance of the budget at departmental levels. At this stage, each organizational department is able to summarize its performance against the budget. The objective of measuring the performance of the budget at this level is to help ascertain if the costs of the specific department are within the budget. Also, it helps ascertain the measures that can be taken by the department to ensure its costs are within the budget. Usually, the performance measurement of the budget at this level is carried out within a short duration of time.
Third, the operational level, the performance of the budget at this level is normally carried out on a regular basis. As such, the measurement and monitoring of the budget are done either daily or weekly. This level is critical to the measurement and monitoring of budget because it provides critical information regularly on the performance of the budget. As such, the organization management is able to measure the actual performance against the estimated on a day to day basis, which helps improve cost management decision-making process.
The objective of measuring and monitoring the performance of the budget is to ensure that the costs of the organization do not exceed the estimated costs. Ensuring the actual costs are within the estimated costs play a crucial role by ensuring the organization does not overspend and waste its resources. One of the critical aspects of the organization competitiveness is having a strong financial position. Thus, effective budget measurement and monitoring help establish a strong organization financial position. The process of measuring and monitoring an organization budget to ascertain its performance involves two critical steps. First, a comparison of the budget costs with the actual costs. During this step, the performance of the budget is evaluated at different organization levels to ascertain if there is a significant negative variance between the actual costs incurred by the organization and the estimated expenditure. Second, investigation of significant negative variances, investigating significant negative variances will help the organization to understand the causes of the variance and how these could be mitigated in future. Also, the organization should consider investigating significant positive variances as they could indicate a problem with the budgeting process in the organization.
How Data Analytics Impact on the budgetary process
Data analytics plays a crucial role in budget development and monitoring process by helping relieve pressure in the process. Data analytics help streamline the budget development and monitoring process with greater efficiency. Data analytics involves analyzing an organization’s raw data to arrive at a conclusion about the data. In most cases, organizations have automated their data analytics processes hence the reason for enhanced efficiency in the budget development and monitoring process.
List of References
Anderson, S.W., 2015. Managing costs and cost structure throughout the value chain: research on strategic cost management. Handbooks of Management Accounting Research, 2, pp.481-506.
Ayboga, M.H., Altug, A.M. and Karadag, E., 2018, June. Firm’s Competitiveness in Global Economy and Cost (Structure) Management. In Global Conference on Business and Economics (GLOBE 2018) (Vol. 6).
Hope, J. and Fraser, R., 2013. Beyond budgeting. Harvard Business School Press, Boston.
Kolb, B.A., 2018. Problems and pitfalls in capital budgeting. Financial Analysts Journal, 24(6), pp.170-174.
Lee, R.T., 2016. Fixed and Variable Costs: When Accounting Is the Opposite of Cash Flow Reality. Journal of Corporate Accounting & Finance, 27(4), pp.31-35.
Orlando, J., 2016. Turning budgeting pain into budgeting gain. Strategic finance, 90(9), p.47.
Osadchy, E.A. and Akhmetshin, E.M., 2015. Accounting and control of indirect costs of organization as a condition of optimizing its financial and economic activities. International Business Management, 9(7), pp.1705-1709.