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Purpose of Budgeting

In the context of business management, the purpose of budgeting includes the following three aspects:

Forecast of income and expenditure

Illustration of the purpose of budgeting as a means of forecasting business performanceBudgeting is a critically important part of the business planning process. Business owners and managers need to be able to predict whether a business will make aprofit or not. The purpose of budgeting is basically to provide a model of how the business might perform, financially speaking, if certain strategies, events, plans are carried out.

In constructing a Business Plan, the manager attempts to forecast Income and Expenditure, and thereby profitability.

Tool for decision making

Illustration of the purpose of budgeting as a tool for decision makingThe purpose of budgeting is to provide a financial framework for the decision making process i.e. is the proposed course action something we have planned for or not.

In managing a business responsibly, expenditure must be tightly controlled. When the budget for advertising has been fully expended, the decision on "can we spend money on advertising" is likely to be "no".

Monitoring business performance

Illustration of the purpose of budgeting as a method for monitoring business performanceThe purpose of budgeting is to enable the actual business performance to be measured against the forecast business performance i.e. is the business living up to our expectations.

In the figure opposite, "variance" is the difference between budgeted expenditure and actual expenditure.

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