I will be doing this assignment with the following assumption.
* That the company does not have accurate budget * That Rada plc have different departments of their business in different area of the world. For an organisation not to have an accurate budgeting is like working without any plan because budget take an important role in the day to day running of a business and also most importantly the future.
Budget is important for the following reason * Planning of annual operation Coordinating the activities of various part of organisation and ensuring that the parts are in harmony with other * Communicating plan to the various responsibility centre manager * Motivating managers to strive to achieve the organisation goals * Controlling activities * Evaluating the performance of a manager. There are different types of budget and the include 1. Rolling budget 2. Incremental budget 3. Zero Based Budget 4.
Activity Based Budget. * Rolling budget According to black hall publishing website rolling budget is a twelve month budget that is prepared many times in a year.The main reason of a rolling budget is to allow the management opportunity to forecast accurately and also to be able to revise its plan and also to plan for the next few months. The balance for using extra administrative cost and effort to produce several budget instead of one will come from making more accurate and forecasting and planning. ( Blackhallpublishing . com, October 2010). These are the advantages and disadvantages given by the black hall publishing ADVANTAGES * As a result of being assessed regularly thus make it more accurate and realistic.
Because the budget is revised regularly and as a result reduced uncertainty. * Any planning and control done will be base on updated plan because of its regular revision. * It will always extend a number of months ahead because of it is continuous. DISADVANTAGES * Because it involve producing several budget in a year it makes it time consuming and expensive. * The manager can be off-put with the volume of work needed for the each reassessment. * If the standard or stock valuation is require to be revise in each budget revision this might be time consuming. INCREMENTAL BUDGETAccording to tutor 2 u website this is the budget prepared using a previous period budget or activity performance as a basis with incremental amount added for the new budget period, the allocation of resources is based upon allocation from previous period.
It says this approach is not recommended as it fail to into account changing circumstances moreover it encourages spending up to the budget to ensure reasonable allocation in the next period and this lead to spend it or lose it mentality. According to tutor2u. com (october2010) incremental budgeting have the following advantages and disadvantages ADVANTAGES The changes to this type of budget are gradual as a result makes it stable. * There is consistency in the way the manager operates their departments. * It is easy to understand and relatively simple to operate. * It is easier to achieve coordination between budgets.* The effect of change can be seen gradually.
DISADVANTAGES * There are no rewards or incentive for new idea development. * There are no incentives for cost reduction. * Encourages spending up to the budget so that the budget is maintain next year. * Since the budgets were set originally the priority may have change. * It put assumption that the method of working and activities ill continue the same way and this might wrong. ZERO BASED BUDGETS (ZBB) According to Collin Drury (2009) it is the type of budget that include the following * Start from zero * The activities are justified and prioritized. * Each budget is being completed as if the programmes are being launched for the first time.
* Funds allocated on the basis of cost benefit. According to black hall publishing website zero based is adopted with effective means that both the base and the increment are questioned, justification is required for the whole activities that lead to the item of expenditure.Zero base budgeting looks at each departments budget as if it were undertaking the activities for the first time, it requires a detail justification and cost benefit approach to each expense item in the department budget and as a result force the managers to prioritise their activity and also related expenses on value for money concept and as a result of this overcoming the incremental budgeting limitation. (blackhallpublishing. com, October 2010) According to Collin Drury (2009) zero based budgeting have the following advantages and disadvantages ADVANTAGES By representing a move towards the allocation of resources by need or benefit it avoids the deficiency of incremental budgeting. * Rather than creating assumptions that current practice represent value for money ZBB creates a questioning attitude * It actually puts its attention on output in relation to value for money. * It also helps to reduce waste.
* It should also result in more efficient allocation of resources. DISADVANTAGES * It is time consuming and too costly * Too many decision packages to evaluate with frequently insufficient time information to enable them to be ranked.ACTIVITY BASED BUDGET (ABB) Going by Collin Drury (2009) the aim of activity based budget is to authorize the supply of only those resources that are needed to perform activities required to meet the budget production and sales volume. ABB is all about the following * Estimation of production and sales volume according to individual products and customer * All organisational activities that are needs to be performed are determined. * Estimation of each resources the quality that must be supplied to meet the demand. * It also taken action to adjust the capacity of resources to match the projected supply.According to black hall publishing web site ABB is an extension of ZBB approach and identify value and non value activities in greater detail.
It is all about using activity approach to build up budgeted cost, all the organisation activity will be define and cost attributed to them will be established. It is the activity level that decides the resources allocation, this type of budget can be used in any organisation for example ABB in the front office of a college will involve ascertaining such activities as answering caller phone call, attending to visitors, doing some other administrative work.The cost of each activity would then be established and resources would be allocated based on the planned level of activity. Activity based budget is said to be more effective than the ZBB by blackhallpublishing. com in the following way * The slack that is included in incremental budget approach is being avoided. * Because it focuses on each activity and any activity that do not add value will be highlighted. COMMUNICATION For budget to perform its function very well it has to be communicated to every departments of the organisation in order to avoid goal conflict.
According to Collin Drury (2009) for good communication to occur the following should happen * Definite line of communication * For all the parts to be fully informed of the plan and the policies and constrain to which organisation is expected them to perform * Clear understanding of the part to play in achieving annual budget. * To forestall accountability in implementing budget. * Through budgets top management communicate to lower level management for all to understand their expectations and can coordinate their activities to meet them. Other much vital information is communicated in the actual act of preparing it, this also facilitates communication. CONTROL There are different types of control but there are majorly three types of control system and they are * Action control * Personnel, Cultural and social control * Result (output) control. 1. ACTION CONTROL- this is also called a behavioural control and it is the type of control whereby the action of individual as they go about their work are been observed and the desire outcome will occur only if the correct means are followed.
This type of control is applicable where there is good understanding of cause-and-effect relationship. Collin Drury (2009). 2. PERSONNEL CONTROL – according to Drury (2009) it involves helping employees do a good job by building on employee natural tendencies to control themselves. This is possible by getting the right people for a specific job, they can then be trained to ensure how to perform the task assign to them very well also making them aware of the action expected from them and the result. Collin Drury (2009). 2b.
SOCIAL CONTROL- this involves the selection of people who have already been socialised into adopting particular norms and pattern of behaviour to perform particular task. 2c. CULTURAL CONTROL – this is a situation whereby members of organisation shared the same set of values, beliefs and social norms and that influence their action. (Collin Drury, 2009) 3. RESULT CONTROL/OUTPUT CONTROL- According to Collin Drury (2009) this type of control involve collecting and reporting information about the outcomes of work effort. This is the type of control in which senior managers rely on output to know if desire outcome had been reached.A good example of result control is management accounting control system.
It resemble the thermostat central model. Standard of performance are determined, measurement system monitor performance, comparison are made between the actual and standard performance and feedback provide information on the difference between the standard and the actual performance of the action Result control is about the following * Establishing result (performance) measure that minimise undesirable behaviour * Establishing performance targets * Measuring performance * Provide reward or punishment ADVANTAGES It can be applied even where the knowledge of desirable activity are lacking. * Individual autonomy are not restricted because the focus is on the outcome. It give individual room to determined how best the opportunity can be achieved. 4. CYBERNETIC CONTROL- according to Collin Drury (2009) this is where monitoring output achieved against desire output and taken whatever corrective action necessary if a deviation exist. It also called a feedback control.
It consist the following * The process is continually monitored by an automatic regulator * Deviation from a predetermine level are identify by the automatic regulator. Corrective actions are started if the output is not equal to the predetermined level. 5. FEEDBACK, FEEDFORWARD CONTROL Feedback control involves monitoring output achieved against desire output and a corrective measure is taking, if any deviation occurs. Feed-forward control according to Drury (2009) instead of actual output being compare against the desire output prediction are made of what output are expected to be at a future time and if the expectation differs from what is desire control action are taken that will minimise these difference.The aim of feed-forward control system is to aim to achieve control before there is any deviation from the desire outputs occur. Comparing the two , in feed-forward the errors can be anticipated and steps are taken to avoid them while in feedback errors are allowed to occur and corrective measure is taken to implement future action to achieve desire outputs.
(Collin Drury, 2009). According to Collin Drury (2009) budgeting process is a feed-forward control system, to the extent that that outcomes fall short of what is desire, lternative are considered until a budget s produce that is expected to achieve what is desire but the comparison of actual result with budget in identify variance and takes recommended action to ensure that the future outcome will conform with budgeted outcomes is an illustration of a feedback control system. DISADVANTAGES OF FEEDBACK * Errors are allowed to occur PERFORMANCE MANAGEMENT There are different types of performance management but I will be discussing three and they are * Return on investment * Residual income Income Economic Value Added. 1. RETURN ON INVESTMENT (ROI) According to investopedia website this is a performance measure used to evaluate the efficiency of an investments or to compare the efficiency of a number of different investment. To calculate ROI the return of an investment is divided by the cost of investment. The result is expressed as a ratio or percentage.
( www. investopedia. com, October 2010) 2. RESIDUAL INCOME This is amount of income that an individual has after all personal debt, including the mortgage had been paid.The calculation usually made on a monthly basis after the monthly bills had been paid. 3. INCOME ECONOMIC VALUE This is an estimate of a firm economic profit being the value created in excess of the required return of the company shareholders.
It is calculated by less the cost of financing the firm capital from the profit earned. ROI is better than the RI because of the following * It can be used for inter divisional and inter firm comparison. * ROI used more externally by the outside investors Managers prefer percentage measure as they are used to it. TRANSFER PRICING. According to Dennis Caplan transfer pricing with the prices that an organisation uses to transfer products between divisions in different countries. Transfer pricing serves the following purposes * Transfer pricing are necessary to calculate divisional profit when a product is transfer between profit centres or investment centres within a decentralised firm which the affect divisional performance evaluation. The transfer pricing helps to determine whether manager incentives align with the incentives of the over- all company when the managers have the authority to decide whether to sell internally or to the external market * It helps in the calculation of tax.
For example when there is international borders product transfer. There are three types of establishing transfer prices says Dennis Caplan website 1. Market-based transfer price: in the presence of competitive and stable external markets for the transferred product, many used the external markets price as the transfer price.According to Dennis Caplan microeconomic theory shows that when divisional managers try to maximize divisional profit, a market base transfer price aligns their incentives with the owner incentives of maximising overall corporate profits. The transfer will occur when it is in the best interest of shareholders and the transfer will be refused by at least one divisional manager when shareholders would prefer for the transfer not to occur. Disadvantage of market based transfer price mentioned by Dennis is that the prices for some commodities can fluctuate widely and quickly. .
Cost-based transfer price: according to Dennis Caplan the transfer price is based on the production cost of the upstream division. A cost-based transfer requires that the following criteria be specified a) Actual cost b) Full cost or variable cost c) The amount of mark-up, if any, to allow the upstream division to earn a profit on the transferred product. 3. Negotiated transfer price: senior management does not specify the transfer price. Rather, divisional managers negotiated a mutually agreeable price. 4.Dual transfer price- this is a situation where by purchased price paid by the downstream division is different from the selling price received by the upstream division.
According to Collin Drury (2009) transfer prices perform the following purposes * To ensure that divisional autonomy is not undermine * To intentionally move profit between division or location. * To provide information that is useful for evaluating the managerial and economic performance of the division * To provide information and motivate the divisional manager to make good economic decision.This occur when the decision taken by the regional manager to improve the regional profit also improve the profit of the whole company. RECOMMENDATION My recommendations for Rada plc are the following * That activity based budgeting will be more appropriate for their company because it will allow the organisation to plan for the current and future of the company very well. It will reduce waste because all the activity of the organisation will be allocated resources according to how important the activities are.So also I will be recommending the ABB because it encompasses all other type of budgets and also solve the disadvantages of other type of budgeting. Again other budgeting system might not be good for Rada plc as a result of their size.
For example rolling budget is for small business, Rada plc is bigger than the incremental budgeting while zero-based budgeting is mainly for non-profit making organisation. * I will also be recommending cybernetic system of control which is more or less an automatic system of supply that will be able to control the whole organisation from single process.Because of the different departments that is involved and because of the nature of the organisation that is multi- national organisation it will be better to have a system that will control the processes of the organisation as a whole and that when the variance occur within the process there is a system that will automatically correct the process. Just like the thermostat central heating system. * In recommending a good performance management, I will be recommending Return On Investment because it will be very easy to apply than the other performance management like Residual Income and Income Economic Value Added.ROI can be used both internally and externally and it is even liked by the managers. * Transfer price in recommending transfer pricing, I will be recommending cost – based transfer pricing domestically because there is no one producing what the company produce within its locality, so cost based transfer pricing will be right choice while in international market market-based transfer pricing should be adopted.
Again during international transfer pricing, transfer pricing must be used as a tax planning tool. Organisation must make sure that they shift most of their income to where there is lower tax ratio.For example lets say there is going to be a transfer between a company located in the UK and Singapore. In the UK corporation tax is between 28-34% while in Singapore it is just 17% so it will be advisable to shift most of their income to Singapore so organisation can make profit at the end of business year.BIBLIOGRAPHY * Collin Drury (2009) Management Accounting For Business * www. denniscaplan. factcow.
com, October 2010 * www. blackhallpublishing. com , October 2010 12: 30 * www. tutor2u. com, October 2010. 11:10