Page 412 - Business Principles and Management

Chapter 15 • Business Financial Records

Numerous factors influence sales estimates. The specific operating and man-
agement factors of each company play an important part. Although one com-
pany may enjoy a high sales volume, another—at the same time and under the
same conditions—may suffer a decline in sales. Economic conditions are often
important in planning sales. If a good harvest and favorable prices for crops are
anticipated in a certain area, a company that sells farm machinery should have
good sales prospects in that area. A retail store in that same area might not
anticipate the same increase in sales if agricultural customers make up a small
percentage of their business. A major competitor entering a market for the first
time may have a significant effect on established but smaller businesses. These
are examples of some of the influences that should guide a manager in making
sales estimates.

CHECKPOINT

Why is it important for a business to prepare a cash budget and
a capital budget?

Administering the Budget

Because a budget is an estimate of what might happen, it usually cannot be fol-
lowed exactly. Staying close to the amount budgeted is desirable. However, for
various reasons beyond the control of managers, actual income and expenses
may vary from the budgeted amounts. For that reason, managers often prepare
three budget estimates. The first estimate assumes that sales will be less than
expected. The second estimate considers what most likely will occur. And the
third estimate assumes sales will be better than expected.
The second estimate—the one most likely to occur—is followed unless antici-
pated conditions change. If sales are less than expected, the business can shift
immediately to the first (lower) set of budget figures. Should sales be better than
expected, the business can shift to the third (higher) set of budget figures. Having
more than one budget estimate allows for realistic flexibility during budget plan-
ning. It also forces managers to consider what might happen under favorable and
unfavorable conditions and to be better prepared for rapid changes.
Whether a business is large or small or uses one or more budgets, managers
must regularly use the budget to monitor ongoing operations and control expenses.
That monitoring activity determines whether the business is on, under, or over
budget. If expenditures exceed budgeted amounts, managers want to quickly
understand why so they can make necessary changes. Some adjustments may be
easy, whereas others may not even be possible. For example, labor costs might
exceed budget estimates for the planned level of production because a number
of new employees have been added who are not as productive as experienced
employees. Additional training for those employees might help improve produc-
tivity, reducing the labor costs required to meet production goals during the rest
of the budget period. However, if labor costs are higher than the budget because
of an unanticipated increase in the minimum wage paid to a number of employ-
ees, little can be done to lower those costs in the short run.
If a comparison of actual operating performance with the budget estimates
reveals that the business will not make the expected profit or will have a loss,
the manager must review the expenses to determine what can be done to reduce

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