Types of budgets

Generally budgets are classified on following to bases:

On the basis of type of expenditure:

1. Capital expenditure budget, and
2. operating budget

On the basis of level of activity:

1. Fixed budget, and
2. Flexible budget

On the basis of type of expenditure: Budgets are the financial plans which make the allowances for different types of expenditures to be incurred for the projected business operations and the generation of revenue out of them. The expenses are broadly classified into two, capital expenditure and operating expenditures. The budgets are classified on the basis of these two types of expenditure as under:

Capital expenditure budget: capital expenditures are those expenditures the benefits from which are deferred over a longer period of time, e.g. purchase of plant and machinery. The expenditures on such items are relatively higher and the benefits from them are derived till the economic life of such assets. Such expenses result in creation of assets and are shown in the balance sheet of a company. Capital expenditure budgets are prepared for the purchase of new assets or for the replacement of existing assets. The budgets period is generally longer as compared to operating budget, usually 3 to 5 year or even more.

Operating budgets: Operating budgets are the most common types of business operations. They relate to sales revenues and various operating costs. The results of the revenues and costs are reflected in the yearly profits and losses and are recorded in profit and loss accounts. Unlike capital expenditures, operating expenses are recurring expenditures the benefits from which are derived for a relatively shorter period, e.g. salary to the administrative staff, consumption of raw materials etc. Operating budget are usually prepared on the annual basis and they are broken into still shorter time spans say, half yearly, quarterly, monthly etc.

The principal operating budgets are as under:

1. Sales budget
2. Manufacturing budget consisting of :
i) Direct material cost budget
ii) Direct expenses budget

3. Administrative expenses budget
4. Sales and distribution expenses budget
5. Profit plans
6. Cash budgets etc

On the basis of the Level of activity: On the basis of the level of activity, the budgets are classified into two: (1) Fixed budget and (2) Flexible budget

A fixed budget is prepared on the basis of certain fixed pre-determined level of activity. In the fixed budget, certain fixed monetary allowances are made which do not vary along with the changes in the conditions. Fixed budgets are suitable only for such enterprises whose quantity and quality of production as well as sales during the budget period can be pre-determined with reasonable accuracy. The government budgets are mostly fixed budgets. In case of government budgets fixed appropriations for specific projects or programs which have not been completed during the fiscal period are generally required to be expanded during the particular year. In business where fixed budgets are used, and where some significant variations occur, the fixed budget loses its importance as a control technique. Some companies solve such situation by re-budgeting. They revise the budgeted figures for the remaining period. The other alternative method is to establish a series of fixed budgets set at incremental level of activity. This is nothing but a variant of flexible budget and it is more cumbersome than the flexible budget.

The flexible budget reflects the actual behavior characteristics of the costs. Fixed budget assumes that the cost incurrence is a function of time. They vary with the passage of time irrespective of the volume of production. While flexible budget segregates the cost into two parts: (1) those costs which vary with the passage of time and (2) those costs which vary with the volume of production. The former are fixed costs (e.g. salary of executive) and the latter are variable costs (e.g. consumption of direct materials). Thus, unlike fixed budget, the flexible budget assumes that the cost will vary with the volume of activity. The flexible budget makes varying allowances for the different levels of operating conditions say budget at 50%, 60%, 75%, 90% and 100% level of operating conditions.

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