Contributed by:
1.
Budgets & Financial Reports
Training Manual
Pro Ulwazi College
2.
TABLE OF CONTENTS
Module One: Getting Started.................................................................................................................5
Workshop Objectives..............................................................................................................................5
Module Two: Glossary............................................................................................................................7
What is Finance?.....................................................................................................................................7
Commonly Used Terms...........................................................................................................................8
Key Players..............................................................................................................................................9
Important Financial Organizations.......................................................................................................10
Understanding GAAP............................................................................................................................10
Case Study.............................................................................................................................................11
Module Two: Review Questions............................................................................................................12
Module Three: Understanding Financial Statements............................................................................14
Balance Sheets......................................................................................................................................14
Income Statements (AKA Profit & Loss Statements).............................................................................15
Statement of Retained Earnings...........................................................................................................16
Statement of Cash Flows.......................................................................................................................16
Annual Reports.....................................................................................................................................17
Case Study.............................................................................................................................................18
Module Three: Review Questions..........................................................................................................19
Module Four: Analyzing Financial Statements (I)..................................................................................21
Income Ratios.......................................................................................................................................21
Profitability Ratios................................................................................................................................22
Liquidity Ratios......................................................................................................................................23
Working Capital Ratios.........................................................................................................................24
Bankruptcy Ratios.................................................................................................................................25
3.
Case Study.............................................................................................................................................26
Module Four: Review Questions............................................................................................................27
Module Five: Analyzing Financial Statements (II).................................................................................29
Long-Term Analysis Ratios....................................................................................................................29
Coverage Ratios....................................................................................................................................30
Leverage Ratios.....................................................................................................................................30
Calculating Return on Investment (ROI)................................................................................................31
Case Study.............................................................................................................................................31
Module Five: Review Questions............................................................................................................32
Module Six: Understanding Budgets....................................................................................................34
Common Types of Budgets....................................................................................................................34
What Information do I Need?...............................................................................................................35
Who Should Be Involved?......................................................................................................................36
What Should a Budget Look Like?.........................................................................................................37
Case Study.............................................................................................................................................37
Module Six: Review Questions..............................................................................................................38
Module Seven: Budgeting Made Easy...................................................................................................40
Factoring in Historical Data..................................................................................................................40
Gathering Related Information.............................................................................................................41
Adjusting for Special Circumstances.....................................................................................................42
Putting It All Together...........................................................................................................................42
Computer Based Methods.....................................................................................................................43
Case Study.............................................................................................................................................44
Module Seven: Review Questions.........................................................................................................45
Module Eight: Advanced Forecasting Techniques.................................................................................47
Using the Average.................................................................................................................................47
4.
Regression Analysis...............................................................................................................................48
Extrapolation........................................................................................................................................48
Formal Financial Models.......................................................................................................................48
Case Study.............................................................................................................................................49
Module Eight: Review Questions...........................................................................................................50
Module Nine: Managing the Budget.....................................................................................................52
How to Tell If You’re on Track...............................................................................................................52
Should Your Budget be Updated...........................................................................................................53
Keeping a Diary of Lessons Learned......................................................................................................54
When to Panic.......................................................................................................................................54
Case Study.............................................................................................................................................55
Module Nine: Review Questions...........................................................................................................56
Module Ten: Making Smart Purchasing Decisions................................................................................58
10 Questions You Must Ask...................................................................................................................58
Determining the Payback Period...........................................................................................................59
Deciding Whether to Lease or Buy........................................................................................................59
Thinking Outside the Box......................................................................................................................60
Case Study.............................................................................................................................................61
Module Ten: Review Questions.............................................................................................................62
Module Eleven: A Glimpse into the Legal World...................................................................................64
A Brief History.......................................................................................................................................64
The Sarbanes-Oxley Act........................................................................................................................65
CEO/CFO Certification...........................................................................................................................66
8th Company Law Directive....................................................................................................................66
Case Study.............................................................................................................................................67
Module Eleven: Review Questions........................................................................................................68
5.
Module Twelve: Wrapping Up..............................................................................................................70
Words from the Wise............................................................................................................................70
6.
To succeed, you will soon learn, as I did,
the importance of a solid foundation in the
basics of education—literacy, both verbal
and numerical, and communication skills.
Alan Greenspan
Module One: Getting Started
Welcome to the Understanding Budgets and Financial Reports
workshop. Everyday businesses deal with budgets and financial
reports in some form or fashion. At minimum, business managers
review budget numbers and run financial reports for decision-
making and reporting to shareholders and Federal regulators once
a month. Many companies devote the last few months of the
calendar year to creating budgets for the next calendar year. In
addition, organizations create and disseminate year-end financial
reports to investors.
The goal of this workshop is to give the participant a basic understanding of budgets and financial
reports so they can hold relevant discussions and render decisions based on financial data. This course
will define key terms like ROI, EBIT, GAAP, and extrapolation. Furthermore, this one-day course will
discuss commonly used financial terms, financial statements, budgets, forecasting, purchasing decisions,
and laws that regulate the handling of financial information. Before we begin, let us get to know more
about each other.
Workshop Objectives
Research has consistently demonstrated that when clear goals are associated with
learning, it occurs more easily and rapidly.
In this course, participants are going to achieve the following learning objectives:
Identify financial terminology
Understand financial statements
Identify how to analyze financial statements
Understand budgets
How to make budgeting easy
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Understand advanced forecasting techniques
Understand how to manage the budget
Identify How to make smart purchasing decisions
Identify the legal aspects of finances
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There’s no business like show business, but
there are several businesses like
accounting.
David Letterman
Module Two: Glossary
In order to understand the concepts of budgets and financial reports, it is
best to get to know essential terminology. Understanding basic financial
terms and concepts will serve as the foundation for the rest of this course. In
addition, having a foundation of financial terminology will help you
understand discussions and other financial communication at both the
individual and organizational level.
In this module, you will learn key financial terminology and concepts that
will help you build your financial vocabulary and knowledge. You will learn
the following terms and concepts:
What is finance
Commonly used terms
Key players
Important finance organizations
Generally Accepted Accounting Principles (GAAP)
Let us begin by understanding what finance is.
What is Finance?
The term finance has broad meaning. According to the online Encarta® World
Dictionary, finance could mean the money required to do something, the
money at the disposal of an organization, country, or person. Finally, another
meaning for finance is the business or art of managing the monetary
resources of an organization, country, or person.
Many of us are here to today to learn how to deal with the finances of their company or organization.
This aspect of finance is the focus of this course.
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Everyday companies capture financial data and store it for later use to compare values with
predetermined budgets. In addition, organizations create monthly reports they must deliver to the
board of directors and make public to both the shareholders and the government.
Your involvement in finances may be because you have been promoted to a position that requires you
to create and manage a budget. You may also be required to create reports about the finances in your
Understanding budgets and financial reports are crucial skills in determining how well a company is
doing. Many times, the raw financial data does not give enough information on how the financial
position of the company is doing.
Analyzing budgets and financial reports help you take action to correct trends that are taking the
company off course in terms of budget and financial performance.
As you learn about budgets and financial reports, you will begin seeing this data as a useful tool for
managing the everyday business functions. Before we get deeper into the topic, let us get a basic
understanding of common financial terminology.
Commonly Used Terms
Finance has a vast vocabulary and we can spend the entire workshop just
reviewing these terms. Having a grasp of all the terminology in not essential in
order to have a working knowledge of finances at work. Here is a list of
commonly used terms in finance that will help you begin your learning journey
in this discipline:
Accounting Depreciation
Assets Equity
Balance sheet Expenses
Budget Financial ratio
Capital Income
Cash flow Income statement
Credit Liability
Debit Net income
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This list of terms is going to help you during the workshop. This list is not an all-inclusive list and as we
navigate through this course, you may encounter other terms. When you do, please write them down.
This will help build your vocabulary and knowledge in finances.
Key Players
Many people utilize the financial data of an organization. The purpose will vary,
but the fact remains that accurate budget and financial reports are necessary to
meet each of those key player’s needs.
Here is a list of those key players and their role:
Player Role
CEO They use financial data to steer the organization to the strategic vision,
mission, and goals of the organization.
CFO They ensure that the financial data is accurate and create reports. In
addition, they analyze the information and help the CEO make decisions.
Senior Leadership They use financial data to control budgets of several departments and
business units.
Accounting They collect financial data and record them daily in computer systems for
compiling at the end of the month.
Department Managers They use financial data to manage their areas or business units.
Board of Directors They use financial data to determine how well the organization is doing and
hold leaders accountable for meeting budgets and other obligations.
Government Regulators They use financial data to determine if the company is being managed
according to rules.
Stockholders They use financial data to determine if the company if profitable and being
managed well.
Investors They use financial data to determine if they want to purchase stocks in hopes
of a financial return.
Creditors They use financial data to determine if the company is capable of paying
back a new or current loan.
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Important Financial Organizations
Several financial organizations help shape the way financial data is structured and
reported. Some organizations are private institutions and others are government
run. Here is a list of the most important financial organizations.
United States Securities and Exchange Commission (SEC): The SEC works
with private organizations like the AICPA and FASB to help set standards for
accounting principles.
American Institute of Certified Public Accountants (AICPA): This organization publishes audit
and accounting guidelines, provide guidance on financial reporting topics until standards are set
by the FASB or GASB. Publish practice bulletins, which focus on reporting issues not handled by
the FASB or GASB.
South African Institute of Chartered Accountants (SAICA) :This organization deal and governs
all chartered accountants in South Africa and any auditor that signs off on financials must be
registered with SAICA with the title CA next to the individuals name.
Financial Accounting Standards Board (FASB): This organization publishes the statements of
financial accounting standards, statements of financial accounting concepts, interpretations, and
technical bulletins related to accounting standards.
This organization also has an Emerging Issues Task Force (EITF), which handles new and unusual
financial issues that may have the potential to be a larger problem in the industry.
General Recognized Accounting Practices (GRAB): This organization deals with government
financial reporting issues. It resembles the FASB, but deals exclusively with government
agencies.
Understanding GAAP
The Generally Accepted Accounting Principles were developed to give a consistent
framework for companies to use in structuring their financial statements.
Organizations are required to follow GAAP standards and most accountants and
auditors are familiar with this concept and use it every day.
If you are not an accountant or auditor, that is okay. Understanding GAAP will help you realize the
importance of keeping excellent records of your revenue and expenditures in your area.
Furthermore, understanding GAAP will increase your financial vocabulary and knowledge of why
financial reports must conform to a particular set of standards.
In general, GAAP deals with the following reporting standards:
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When is revenue recognized as actual revenue that can be counted? This prevents
overstatement of revenues by determining when revenue can be claimed or recognized.
Balance sheet item classification standardizes the items found on the balance sheet to avoid
confusion.
Outstanding share measurements
You may not have to deal with these principles on a daily basis but understanding their importance in
the area of budgets and financial reports will help your credibility because this is a very common and
basic concept in this area.
Case Study
Sara had recently been promoted, and with that promotion, she became a key player in respect to the
company’s finances. With the position came the responsibility of creating a monthly financial report.
Sara learned that these reports were much more than just numerical data. Instead, they also included an
overview of the financial situations. These helped give context to the data and a clearer image of the
company’s financial standing.
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Module Two: Review Questions
1) What is not a part of the definition of finance according to Encarta® World Dictionary?
a) The money required to do something
b) The business or art of managing the monetary resources of an organization, country, or
person
c) The money at the disposal of an organization, country, or person
d) The totality of money earned and spent by an organization, country or person
2) When the monthly financial reports are created by organizations, they are made public:
a) To both the shareholders and the government
b) Only to the board of directors
c) Only to the shareholders
d) Only to the government
3) Which of the following expression IS NOT on the list of commonly used financial terms?
a) Equity
b) Balance
c) Net income
d) Liability
4) Which of the following expression IS NOT on the list of commonly used financial terms?
a) Capital
b) Income statement
c) Gross
d) Credit
5) What is the role of CFO?
a) They use financial data to steer the organization to the strategic vision, mission, and goals of
the organization
b) They ensure that the financial data is accurate and create reports. In addition, they analyze
the information and help the CEO make decisions
c) They use financial data to control budgets of several departments and business units
d) They use financial data to manage their areas or business units
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6) What is the role of board of directors?
a) They use financial data to determine how well the organization is doing and hold leaders
accountable for meeting budgets and other obligations
b) They use financial data to determine if they want to purchase stocks in hopes of a financial
return
c) They use financial data to determine if the company is capable of paying back a new or
current loan
d) They collect financial data and record them daily in computer systems for compiling at the
end of the month
7) What is the role of American Institute of Certified Public Accountants (AICPA)?
a) This organization publishes the statements of financial accounting standards
b) This organization works with private organizations to help set standards for accounting
principles
c) This organization publishes audit and accounting guidelines
d) This organization deals with government financial reporting issues
8) Which of the following organizations also handles new and unusual financial issues that may
have the potential to be a larger problem in the industry?
a) United States Securities and Exchange Commission (SEC)
b) Governmental Accounting Standards Board (GASB)
c) American Institute of Certified Public Accountants (AICPA)
d) Financial Accounting Standards Board (FASB)
9) GAAP is abbreviation for:
a) The Generally Accepted Accounting Principles
b) The Generally Acquired Accounting Principles
c) General Adapted Accounting Principles
d) The General Acknowledged Accounting Principles
10) Which of the following IS NOT included in GAAP rules?
a) Revenue recognition
b) Balance sheet item classification
c) New accounting tendencies consideration
d) Outstanding share measurement
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Never spend your money before you have
earned it.
Thomas Jefferson
Module Three: Understanding Financial Statements
Financial statements are the communication tools for the organization.
There are many aspects of a business’s financial dealings reported in
financial statements. Revenues coming in and expenses going out are
key data that require reporting. Tangible items like equipment,
property, and cash reserves are also reported in financial statements.
Understanding these financial statements opens the door to analyzing
finance data for budgeting, controlling, and making decisions.
This module will discuss the following topics:
Balance sheets
Income statements
Statement of retained earnings
Statement of cash flows
Annual reports
The two most widely known statements are the balance sheet and income statement.
Balance Sheets
The balance sheet is a report on the financial condition of an organization and is
required by GAAP. In the balance sheet, assets are expressed in terms of liabilities
and capital, which must equal each other.
Assets are the cash on hand, properties owned, and monies owed to the
organization and can be liquidated and pay the organization’s debt.
Liabilities are the debts the organization owes to their creditors, and this goes
against assets. In addition, the organization’s assets belong to the owners, this is called capital, and this
goes against the assets.
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The balance sheet can reveal a lot about a company. The level of debt the companies owes against what
it owns in cash and properties could reveal a liquidity problem.
Furthermore, if a company has no debts and huge level of assets, this may be a sign that the company is
not running efficiently and is allowing the assets to remain idle instead of using it for a return.
Balance sheets are usually set up as columns always comparing the assets versus the liabilities and
capital. Many times, balance sheets will show the previous month or year’s data for comparison.
Later in this course, you will get a chance to use the figures from the balance sheet to determine specific
financial ratios that will help you understand the organization’s financial condition.
Income Statements (AKA Profit & Loss Statements)
The income statement is a summary of the income and expenses of an
organization in each period and is required by GAAP. Usually, companies create
monthly and yearly income statements.
Income statements list all the areas where income is generated. Sometimes, the
income is categorized certain categories:
Income from sales
Income from interest
Income from investments
The income statement also contains the expenses and this can be categorized too:
Dividend expense
Operating expense
Cost of goods sold
Taxes
The net income or loss is calculated by subtracting the expenses from the income. This number
represents the income or loss after all expenses are applied. This number is usually incorporated into
the statement of retained earnings discussed later in this module.
The income statement gives you the ability to determine how well the company is bringing in income. If
the expenses are greater than the income then the net income will become the net loss, which subtracts
from the owner’s equity in the statement of retain earnings.
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The income statement is also called the Profit and Loss Statement because it indicates by the
calculations mentioned earlier.
The format of the income statement is usually in column format, and it can be presented along with the
previous month or year’s information for quick comparisons. In addition, you may see the changes
expressed in percentages.
Statement of Retained Earnings
The statement of retained earnings can appear on a balance sheet, income
statement or a separate financial report. This report is required by GAAP and it
reports the change in owner’s equity from one period to another.
The basic components of the statement of retained earnings include the
Beginning balance
Net Income/loss
Dividends paid
Ending balance
The resulting calculation is then applied to the owner’s equity under the capital heading on the balance
Statement of Cash Flows
The statement of cash flows helps to determine how cash flowed in and out of the
company. This is considered a mandatory financial report. The statement of cash
flows does not factor in cash flows from credit transactions or accounting
maneuvers like depreciation expense. The statement of cash flows can be a
complicated report to produce, but understanding it is not so difficult.
There are three main components of the statement of cash flows. They are the
Cash flow from operations
Cash flow from investing
Cash flow from financing
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When the cash flow reveals that most of the cash flowing in is from operations, this is a good sign for
regulators, stockholders, and investors.
A negative cash flow does not necessarily mean the company is doing poorly. There could have been a
large investment in equipment or inventory. Negative cash flow situations require more analyzing to
determine why it is negative.
However, a negative cash flow resulting from poor operations could be a sign of a company going
bankrupt. Understanding the cash flow will help you understand how the company is obtaining the cash
and how they are using the cash.
Annual Reports
The annual report is an annual document that provides a comprehensive report on
the financial activities of the past year of an organization. Along with the financial
reports are reports from key people in and out of the organization.
Here are the basic components of an annual report:
Chairman’s report
CEO’s report
Auditor’s report
Mission statement
Corporate governance statement
Statement of director’s responsibilities
Balance sheet
Statement of retained earnings
Income statement
Cash flow statement
Notes to the financial statements
Accounting policies
Investors and stockholders use the annual report, and the government reviews these reports for
compliance to regulations. Understanding that all company activities eventually is incorporated into the
annual report.
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As a manager, you may not see the relevance of the annual report for your daily job but realizing how
you run your department may reflect on this annual report makes it worthwhile to know what reports
go into the annual report.
Case Study
James needed to create financial statement for the previous quarter. He started with a balance sheet,
which showed the balance of liabilities and assets within the company. Next, he created an income
statement. This showed the profits and losses of the company. Finally, he created a cash flow statement,
which showed the money coming in and money going out. While the company had been seeing a
negative cash flow, James knew it was because of investments within the company, and that the cash
flow would return to normal. At the end of the year, all the data collected from the reports was
combined into the annual report that went out to the company’s key players and shareholders.
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Module Three: Review Questions
1) Balance sheet reports:
e) The summary of the financial discussion from meetings
f) The financial state of an organization
g) The plans for further financial actions
h) The costs and what is the money spent on
11) Which of the following is not a part of a balance sheet?
a) Assets
b) Taxes
c) Liabilities
d) Capital
12) The companies usually create income statements:
a) Monthly and yearly
b) Every day
c) Daily and weekly
d) Every six months
13) Which of the following is not an expense category presented in income statements?
a) Taxes
b) Costs of goods sold
c) Operating expense
d) Expenses expected in close future
14) Which of the following DOES the statement of retained earnings NOT include?
a) Beginning balance
b) Ending balance
c) Capital
d) Dividends paid
15) Where the statements of retained earnings DO NOT appear?
a) On a balance sheet
b) On informal documents
c) On an income statement
d) On a separate financial report
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16) Which of the following is not a component of the statement of cash flows?
a) Cash flow from investing
b) Cash flow from financing
c) Cash flow from operations
d) The future expected cash flows
17) Which of the following statements is true?
a) A negative cash flow is definite sign that the company is near of bankruptcy
b) A negative cash flow means that there could have been a large investment
c) A negative cash flow means that the company is doing poorly
d) A negative cash flow is not a reliable indicator of anything
18) Which of the following IS NOT a component of the annual report?
a) Auditor’s report
b) Income statement
c) Accounting policies
d) CFO’s report
19) What does the annual report provide?
a) A comprehensive report on the financial activities of the past year of an organization
b) A comprehensive report on an organization’s annual financial profit
c) A comprehensive report on an organization’s annual financial outcome
d) A comprehensive report on an organization’s overall actions
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Rule No. 1: Never lose money. Rule No. 2:
Never forget rule No. 1.
Warren Buffett
Module Four: Analyzing Financial Statements (I)
While financial statements report the financial status of the business, it
does not automatically give the condition or financial health of the
business. Ratios are calculations that help to simplify the many
numbers on the various financial statements into a number that is
easier to understand. Understanding the various ratios that can be
calculated will help you examine and analyze financial statements,
giving a clear picture of the financial health of the business.
This module discusses five basic ratios that will help you analyze the
financial statements of your organization. The following are the topics
discussed in this module:
Income ratios
Profitability ratios
Liquidity ratios
Working capital ratios
Bankruptcy ratios
Understanding the income ratio is our first topic of discussion. Let us learn how to calculate and
interpret this ratio.
Income Ratios
Income ratios help to determine the level of income to various factors like
wages, assets, etc.
Here are some income ratio calculations and their uses:
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Ratio Calculation Formula Result
Net Income Increases to Pay Shows when net income is
Net Income Increases to Pay Increases = change in net income increasing faster than wages (in
Increases / change in salaries, wages, and rand terms).
benefits
Profits per Employee (Net Shows the average profit
Net Income per Employee Income per Employee) = net generated per person employed
income / number of employees in the company.
Net Income to Assets = net profit This ratio provides a way for
Net Income to Assets before taxes / total assets. evaluating the efficiently of
financial management of the
average rand invested in the
firm's assets and determines if
the rand came from investors or
creditors.
Non-operating Income to Net Increasing ratios may
Non-Operating Income to Net Income = non-operating mean that the business is
Income income / net income moving away from its core
business.
Operating Income to Wages and This ratio shows the relationship
Operating Income to Wages and Salaries = operating income / between operating income and
Salaries (salaries + wages + benefits) number of wages and salaries
paid.
Profitability Ratios
Profitability ratios help to determine how well the company is doing in terms of the profits generated by
the company. There are many ratios. Here is a list of common profitability
ratios.
Ratio Calculation Formula Result
Cash Debt Coverage = (cash flow This ratio shows the percent of
Cash Debt Coverage Ratio from operations - dividends) / debt that current cash flow can
total debt. retire.
Cash Return on Assets (excluding A higher cash return on assets
Cash Return on Assets interest) = (cash flows from ratio indicates a greater cash
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operations before interest and return.
taxes) / total assets.
Cash Return to Shareholders = The cash return to shareholders
Cash Return to Shareholders cash flow from operations / ratio indicates a return earned
shareholders’ equity by shareholders.
Contribution Margin Ratio = The contribution margin ratio
Contribution Margin Ratio (sales - variable costs)/sales indicates the percent of sales
available to cover fixed costs and
profits.
Gross Profit Margin Ratio = gross This ratio provides clues to
Gross Profit Margin profit / sales company pricing, cost structure
and production efficiency
Operating Margin = net profits This ratio determines whether
Operating Margin from operations / sales the fixed costs are too high for
the production volume.
Pretax Margin Ratio = net profit This ratio shows how much
Profit Margin Ratio before taxes / sales profit the company makes for
every rand of sales.
Liquidity Ratios
Liquidity ratios determine the ability of an organization to meet its short-term financial debt in a timely
manner. Here are some liquidity ratios you may find useful:
Ratio Calculation Formula Result
Acid Test Ratio = (cash + The acid test ratio measures the
Acid Test Ratio (Quick Ratio)
marketable securities) / current immediate amount of cash
liabilities immediately available to satisfy
short term debt
Accounts Payable Turnover Ratio The accounts payable turnover
Accounts Payable Turnover Ratio
= total supplier purchases / ratio shows the number of times
average accounts payable that accounts payable are paid
throughout the year.
Cash Debt Coverage = (cash flow The cash debt coverage ratio
Cash Debt Coverage
from operations - dividends) / shows the percent of debt that
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total debt current cash flow can retire
Debt Income Ratio = total debt / The debt income ratio shows the
Debt Income Ratio
net income amount of total debt in
proportion to net income
Quick Assets = cash + marketable Quick assets are the amount of
Quick Assets
securities + accounts receivable assets that can be quickly
converted to cash
Working Capital Ratios
Working capital is the organizations’ ability to use capital after their debt has been satisfied. Here are
the formulas for calculating working capital.
Ratio Calculation Formula Result
Working Capital = current assets This calculation shows the liquid
Working Capital
- current liabilities reserve available to satisfy
contingencies and uncertainties
Working Capital Ratio = current This ratio evaluates the liquidity,
Working Capital ratio
assets / current liabilities or ability to meet short term
debts
Working Capital from Operations This ratio measures the degree
Working Capital Provided by Net
to Total Liabilities = working internally generated working
Income capital provided from operations capital is available to satisfy
/ current liabilities obligations
Working Capital Provided by Net A high ratio indicates that a
Working Capital From
Income = net income - company's liquidity position is
Operations to Total Liabilities depreciation improved because net profits
result in liquid funds
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Bankruptcy Ratios
Bankruptcy ratios help to determine if the company is not generating enough income
to cover its debts. These calculations could help to determine a course of action to
avoid bankruptcy or to seek bankruptcy protection if the situation warrants it. Here
are some calculations that help to determine if a company is heading toward
bankruptcy.
Ratio Calculation Formula Result
Working Capital to Total Assets Net Working This ratio records net liquid
= Working Capital
Capital assets relative to total
to Total Assets
Ratio capitalization. This is the most
Total Assets
valuable indicator of a
bankruptcy.
Retained Earnings to Total Assets Retained A negative ratio indicates
Earnings = Retained Earnings potential financial problems.
to Total Assets Ratio
Total Assets
EBIT to Total Assets EBIT This ratio shows the productivity
= EBIT to Total Assets of the assets.
Total Ratio
Assets
Equity to Debt Market Value of This ratio shows you by how
Common + Preferred much assets can decline in value
Stock = Equity to before it becomes insolvent.
Debt Ratio
Total Current + Long-
Term Debt
Cash Flow to Debt Cash Flow This ratio shows potential
= Cash Flow to Debt insolvency issues.
Total Ratio
Debt
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Case Study
Henry was reviewing a financial statement that was sent to him and saw some numbers that puzzled
him. He decided to ask a colleague to explain some of the meanings behind the figures in the report.
Henry learned that the income ratios were simply representations of the income to things like wages.
Next he looked at the profitability ratios. They represented the gain or loss in profits of the company.
Liquidity ratios represented the company’s ability to pay off its short-term debt. The working capital
ratios showed the company's use of capital after paying off its debts, and the bankruptcy ratios helped
demonstrate whether the company was creating enough income to pay off its debts. After
understanding the figures, Henry could better visualize the state of the company.
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Module Four: Review Questions
1) Recognize the result of the following formula: Non-operating Income to Net Income = non-
operating income / net income.
a) Shows the average profit generated per person employed in the company
b) This ratio shows the relationship between operating income and amount of wages and
salaries paid
c) Increasing ratios may mean that the business is moving away from its core business
d) Shows when net income is increasing faster than wages (in rand terms)
2) Recognize the formula for the following result: This ratio provides a way for evaluating the
efficiently of financial management of the average rand invested in the firm's assets, and
determines if the rand came from investors or creditors.
a) Net Income to Assets = net profit before taxes / total assets
b) Operating Income to Wages and Salaries = operating income / (salaries + wages + benefits)
c) Net Income Increases to Pay Increases = change in net income / change in salaries, wages
and benefits
d) Profits per Employee (Net Income per Employee) = net income / number of employees
3) Recognize the result of the following formula: Cash Return to Shareholders = cash flow from
operations / shareholders equity.
a) A higher cash return on assets ratio indicates a greater cash return
b) The cash return to shareholders ratio indicates a return earned by shareholders
c) This ratio determines whether the fixed costs are too high for the production volume
d) This ratio shows how much profit the company makes for every rand of sales
4) Recognize the formula for the following result: This ratio provides clues to company pricing,
cost structure and production efficiency.
a) Pretax Margin Ratio = net profit before taxes / sales
b) Cash Debt Coverage = (cash flow from operations - dividends) / total debt
c) Contribution Margin Ratio = (sales - variable costs)/sales
d) Gross Profit Margin Ratio = gross profit / sales
5) Recognize the result of the following formula: Cash Debt Coverage = (cash flow from operations
- dividends) / total debt
a) This ratio shows the amount of total debt in proportion to net income
b) This ratio shows the percent of debt that current cash flow can retire
c) This ratio measures the amount of cash immediately available to satisfy short term debt
d) This is the amount of assets that can be quickly converted to cash
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6) Recognize the formula for the following result: This ratio shows the number of times that
accounts payable are paid throughout the year.
a) Debt Income Ratio = total debt / net income
b) Quick Assets = cash + marketable securities + accounts receivable
c) Acid Test Ratio = (cash + marketable securities) / current liabilities
d) Accounts Payable Turnover Ratio = total supplier purchases / average accounts payable
7) Recognize the formula for the following result: This ratio measures the degree internally
generated working capital is available to satisfy obligations.
a) Working Capital = current assets - current liabilities
b) Working Capital Provided by Net Income = net income - depreciation
c) Working Capital from Operations to Total Liabilities = working capital provided from
operations / current liabilities
d) Working Capital Ratio = current assets / current liabilities
8) Recognize the formula for the following result: This ratio evaluates the liquidity, or ability to
meet short-term debts.
a) Working Capital Ratio = current assets / current liabilities
b) Working Capital from Operations to Total Liabilities = working capital provided from
operations / current liabilities
c) Working Capital Provided by Net Income = net income - depreciation
d) Working Capital = current assets - current liabilities
9) Which ratio calculation do we use to get the following result: This ratio shows the productivity of
the assets?
a) Working Capital to Total Assets
b) Equity to Debt
c) EBIT to Total Assets
d) Retained Earnings to Total Assets
10) What is the result of using the Cash Flow to Debt ratio calculation?
a) This ratio shows you by how much assets can decline in value before it becomes insolvent
b) A negative ratio indicates potential financial problems
c) This ratio records net liquid assets relative to total capitalization. This is the most valuable
indicator of a bankruptcy
d) This ratio shows potential insolvency issues
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Life is a game. Money is how we keep score.
Ted Turner
Module Five: Analyzing Financial Statements (II)
In this module, we are going to learn more ratios and calculations for
analyzing financial statements. Here are the topics for this module:
Long-term analysis ratios
Coverage ratios
Leverage ratios
Calculating return on investment (ROI)
Our first topic in this module is calculating the long-term analysis ratio.
Long-Term Analysis Ratios
Long-term analysis is helpful in determining how well the company is going to
perform over time as it relates to the organization’s financial obligations. These are
the formulas in calculating long-term performance.
Ratio Calculation Formula Result
Current Assets to Total Debt Current Assets
= Current Assets This ratio determines the degree
Current + to Total Debt of protection linked to short- and
Long-Term Ratio long-term debt. More net
Debt working capital protects short-
term creditors.
Stockholders’ Equity Ratio Stockholders' This ratio determines the relative
Equity = Stockholders' financial strength and long-run
Equity Ratio liquidity.
Total Assets
Total Debt to Net Worth Current + This ratio measures the
Deferred Debt organization’s total liabilities
= Total Debt to
Net Worth Ratio against its tangible net worth.
Tangible Net
Worth
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Coverage Ratios
Coverage ratios show how many times a company’s earnings can cover the fixed-
interest payments on its long-term debt. The Times Interest Earned Ratio calculates
this and the formula is the following:
EBIT
= Times Interest Earned Ratio
I
EBIT is earnings before interest and taxes
I = the interest amount payable on the debt
Leverage Ratios
Leverage ratios calculate the proportion of the owner’s contribution and the
contribution from creditors. Three formulas help you calculate ratios:
Ratio Calculation Formula Result
Equity Ratio Common This ratio shows how much of
Shareholders' Equity the total capitalization actually
= Equity
Ratio comes from the owners.
Total Capital
Employed
Debt to Equity Ratio Debt + Preferred With this ratio, a high ratio
Long-Term means less protection for
= Debt to
Equity Ratio creditors. A low ratio means
Common
more protection for the
Stockholders' Equity
creditors.
Debt Ratio Current + Long-Term
Debt = Debt This ratio determines how much
Ratio of the assets are financed.
Total Assets
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Calculating Return on Investment (ROI)
Calculating the return on investment (ROI) is a very useful tool in determining
if an investment is worth the effort. This calculation takes the project return
the investment promises and subtracts the cost of the investment, leaving
either a gain or a loss. That figure is then divided by the cost of the investment.
If the calculation produces a large percent or whole number, then the
investment would be a good one to make. Of course, this would have to be
approved by an authorized agent within your company. If the calculation produces a small percentage,
then it would not be a good investment to make.
A zero means the investment would break-even. Here is the formula:
ROI = (Gain from investment – cost of investment) / cost of investment
Whenever you need to make a purchasing decision, it is always a good practice to determine the return
on investment. Presenting this ahead of the purchase to your manager and it would make you look very
wise. In addition, taking the time to calculate the ROI demonstrates that you care about the
There are other return calculations you can use. Here are a few:
Return on assets (ROA)
Return on capital employed (ROCE)
Return on equity (ROE)
Return on gross invested capital (ROGIC)
Return on investment capital (ROIC)
Case Study
Jenny was working on her company’s financial reports and needed include key financial ratios. The first
was the long-term analysis ratio. This ratio shows how well the company will perform over an extended
period given its financial obligations. Next, she needed to include the coverage ratios. These
demonstrate how many times the company can pay the interest on its debt with its current earnings.
Next, Jenny made sure to put in the leverage ratios. These calculated the proportion of the owner's
contribution and the contribution from creditors to the company. Together, these ratios helped describe
the financial situation of the company and the impact of its debt.
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Module Five: Review Questions
1) Which ratio calculation do we use to get the following result: This ratio determines the relative
financial strength and long-run liquidity?
a) Stockholders’ Equity Ratio
b) Total Debt to Net Worth
c) Current Assets to Total Debt
d) Stockholder’s Net Worth
2) Why is using the long-term analysis helpful?
a) Because it shows the real current financial situation
b) Because it can determine an organization’s future financial performance
c) Because it can solve an organization’s financial problems
d) Because it can prevent financial damages
3) What is the name of the ratio calculation that we use for calculating the coverage ratios?
a) Times Interest Ratio
b) Times Earned Ratio
c) Times Ratio
d) Times Interest Earned Ratio
4) What does the coverage ratio show?
a) It shows how many times a company’s earnings can cover the fixed-interest payments on its
short-term debt
b) It shows how many times a company’s earnings can cover the fixed-interest payments on its
long-term debt
c) It shows the earnings before interest and taxes
d) None of the above
5) Which ratio calculation do we use to get the following result: This ratio determines how much of
the assets are financed?
a) Debt to Equity Ratio
b) Debt Ratio
c) Equity ratio
d) Assets ratio
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6) What do the leverage ratios calculate?
a) The proportion of the owner’s contribution and the contribution from creditors
b) The owner’s contribution to the finance of an organization
c) The creditors’ contribution to the finance of an organization
d) None of the above
7) Why is calculating the Return on Investment helpful for the job?
a) Because it can practically make a financial decision instead of you
b) Because it can show the efficiency of an investment
c) Because it is reliable way for preventing the investment to fail
d) Because it will make you look wiser and more dedicated
8) Which of the following is not on the list of possible calculations?
a) Return on gross invested capital (ROGIC)
b) Return on capital employed (ROCE)
c) Return of Loss (ROL)
d) Return on equity (ROE)
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A budget is just a method of worrying
before you spend money, as well as
afterward.
Anonymous
Module Six: Understanding Budgets
Budgets are critical for businesses. Many stakeholders within the
organization require that budgets be submitted for review every year.
The budget sets spending limits and usually is broken down to the
individual departments or business units. Typically, budget numbers
are reviewed every month to determine how well the company is
keeping within the budget.
Understanding budgets will help you create and manage one for your
areas or departments. Furthermore, knowing how a budget is formed
will give you working knowledge that will increase your value to the
organization.
In this module, you will learn the following on budgets:
Common types of budgets
What information do I need?
Who should be involved?
What should a budget look like?
Let us begin with the common types of budget.
Common Types of Budgets
There are six commonly used budget types for businesses. Here they are:
Sales budget: This budget estimates future sales. This is usually broken down into
units and rands. This budget is used to create company sales goals.
Production budget: This budget estimates the number of units that must be
manufactured to meet sales goals. The production budget also estimates the various costs involved with
manufacturing those units, which includes labor and materials.
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Cash Flow/Cash budget: This budget predicts future cash receipts and expenditures for a particular
time. It is usually for the short-term future. The cash flow budget helps businesses determine when
income will be sufficient to cover expenses and when the company will need to get a loan to cover
expenses during this time.
Marketing budget: This budget is an estimate of the funds needed for promotion, advertising, and
public relations for the organization to market their product or service.
Project budget: This budget is a prediction of the costs associated with a particular project. These costs
include labor, materials, and other related expenses. The project budget is often broken down into
specific tasks called activities, with budgets assigned to each.
Expenditure budget: This budget estimates what expenses the organization will have for a time. This
could include supplies for sale, office supplies, and bills.
What Information do I Need?
To begin a budget, you will need the following three pieces of information:
Goal: Identifying a goal is the first step to creating a budget. Think about
what you need to accomplish. This could be a sales goal, an efficiency goal or
quality goal. No matter what the goal is, it is important to think carefully
about the feasibility of the goal. Use the SMART technique for goal setting,
which is making the goal Specific, Measurable, Attainable, Realistic, and
Time driven.
Money: How much money do you have? In the corporate environment, you may need to review
the financial reports to determine how well the company is doing. When things are financially
tight, the monies allocated to the budgets may be limited. Knowing how much is available will
help you determine what you should request in terms of the business environment.
Costs: You will need to determine how much are the costs related to your goals. This may
require you to breakdown your goals into smaller components so you can put a price on each of
them. Knowing how much things will cost will help weed out unnecessary expenses in your
budget.
These three items will point you in the right direction when you are ready to begin your budget.
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Who Should Be Involved?
Creating a budget is a challenging task especially when it is for the entire
organization. The budget process will require input from many areas and
departments. It will require strategic thinkers and people with the ability to
determine what cost-effective methods of doing things are.
In addition, people who know how to generate funds should be a part of the
process. This will help to determine how much money the organization will need
to make to meet budget goals.
When creating a budget for the organization, a team of people from various areas should be assembled.
The team should include following areas:
Accounting
Operations
Sales
Top administration officials
Furthermore, these specific people should attend from each area mentioned:
CEO
CFO
Finance manager
Department leaders or directors
Project managers
A member of the Board of Directors
Once the members of the team are established, they each should submit budgets from the areas they
manager and direct.
The refining process usually involves the input from the CEO or CFO. Once the budget is set, the team
can monitor the budget monthly to ensure each area is being held accountable to their budget for their
area or department.
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What Should a Budget Look Like?
A budget for an organization almost looks like an income statement, but
with a few extra columns. A budget may be presented many ways. Some
budgets present previous information from the past several years. Others
only focus on the most current information.
Here is a basic outline of the categories of a budget:
Categories: This column is on the left usually and it lists all the inflows, expenses, and net
income categories. This can be general or very specific.
Actual: This column is usually to the right of the categories column and contains the actual
numbers that have been reported.
Budget: This column is usually to the right of the Actual column. This column contains the
budgeted numbers.
Difference: This column is the last column on the right of the page. This column shows the
difference from the budget.
This format can be expressed as a monthly report with year-to-date totals, or it can be used as an end-
of-year report. Other variations could be differences expressed in percentages.
Case Study
Grant needed to create a budget for the department he oversaw. First, he identified the goal of the
budget, which was to increase the efficiency in the department. Next, he reviewed the amount of
money he had available to cover the costs associated with his goals. To increase efficiency, he needed to
receive value for all money spent. To help him put together meaningful numbers, he consulted people
who worked in accounting, operations, sales, and administration. He formatted the budget within preset
parameters, then sent it to management for review. Grant had successfully drafted an efficient budget,
which would help the company reach its goals.
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Module Six: Review Questions
1) Which of the following is not a common type of budget?
a) Project budget
b) Cash flow/Cash budget
c) Private budget
d) Marketing budget
2) Which type of budget estimates what expenses the organization will have for a time?
a) Production Budget
b) Sales budget
c) Expenditure budget
d) None of the above
3) The SMART technique for setting goals implies that the goal should be:
a) Specific, Measurable, Attainable, Realistic, Time driven
b) Special, Measurable, Appealing, Realistic, Time driven
c) Specific, Magnetic, Attainable, Realistic, Tactical
d) Smart, Measurable, Appealing, Representative, Tactical
4) Which of the following is not necessary information for starting a budget?
a) Money
b) Goal
c) Cost
d) Means
5) Which of the following IS NOT an area that a budget team should necessarily include?
a) Sales
b) Accounting
c) Human resources
d) Top administration officials
6) What should the team members do once they are established?
a) They should each submit budgets from their areas
b) They should all be able to do equal assignments
c) They should do anything that attracts them
d) None of the above
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7) Which of the following elements is not a part of the most common form of a budget outline?
a) Categories
b) Difference
c) Actual
d) Similarities
8) What format is the common budget outline similar with?
a) The income statements
b) The annual report
c) Balance sheet
d) Cash flow statement
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About the time we can make ends meet,
somebody moves the ends.
Herbert Hoover
Module Seven: Budgeting Made Easy
Budgeting does not have to be a difficult task. Knowing what
information, you should use and how to put it all together ahead of
time will make budget making a painless process. Having a systematic
approach to making a budget will reduce the time you need to spend
on creating a budget.
In this module, you will learn the following techniques that will make
budgeting easier:
Factoring in historical data
Gathering related information
Adjusting for special circumstances
Putting it all together
Computer based methods
Let us see how factoring in historical data makes budgeting easier.
Factoring in Historical Data
When budgeting, using historical data could make the process easier. Using
previous financial information could reveal trends that could help you
determine certain budget numbers. For example, if sales have steadily
increased by 10% over the last three years, this can be used to assume that it
will happen again.
Historical data could come from other businesses. Reading up on journals and
reviewing reports could help to give you more information on what could affect your budget numbers in
When using historical data, make sure it is reliable and from a good source. You would not want to base
your budget on false information. The results could be disastrous.
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Finally, historical data could be incorporated right into your budget report. This is a good way to justify
your budget. It also helps to keep that historical information handy when doing your monthly review to
make sure you are trending in the right direction.
Gathering Related Information
Here are four areas that may be helpful for your budget.
Analyze the external environment
o Market trends
o Economic condition
o Regulatory issues
o Competition
Analyze the internal environment
o New product developments may increase expenses
o Strength and weaknesses which is determined by review the financial statements of the
organization
Analyze the staff requirements
o Can the staff handle the new strategic goals, or do you need to hire more people?
Review existing policies
o Compare the effects of existing policies on the budget. Could there be issues that could
alter the budget later.
The more information you gather from other areas the easier you can determine your budgeting needs.
Looking at these areas, you should realize that creating a budget involves time, but it does not have to
be difficult.
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Adjusting for Special Circumstances
Many times, a special circumstance may arise which may affect the budget.
Budgets are meant to be guides and should be regarded as flexible. Of course, the
budget should not be changed randomly or whenever something happens.
To address unforeseen circumstances, it is best to build in a cushion for risk. This
technique is used commonly in project management budgeting. Project managers
know that special circumstances or risks could happen any time.
Here are some steps you can take to determine if you need to budget for additional special
1. List all potential issues that could affect the budget throughout the budget period.
2. Order the issues from the least likely to occur to the most likely.
3. Assess the cost of each issue if this circumstance were to manifest as reality.
4. Determine if this cost should be factored into a contingent reserve category on your budget.
The LOAD techniques help organize potential situations and categorize them so you can make the
decision if these costs should be factored into a reserve category on your budget.
You should always seek approval before using the contingent funds. Furthermore, if the contingent
funds are not used by the end of the budget period, it should be returned to the organization.
Putting It All Together
There are many approaches to putting a budget together. Here are five
steps you can take to putting the budget together. We even gave it an
acronym so you can remember it later. It is called RADAR.
1. Research both the internal and external environments to
determine the factors that may affect your budget throughout the
budget period. Adjust your numbers according to these factors.
2. Acquire the goals of the organization and every department, determine, and work with the
leaders to determine what it will take financially to realize these goals.
3. Develop a working budget. This is used by the budget team and is used for the review process,
making revisions as necessary. At minimum, the working budget should contain the following
columns:
a. Categories
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i. Assets, liabilities and capital (balance sheet budget)
ii. Income and expenses (income statement budget)
b. Actual (current or last year’s numbers)
c. Projected (budgeted)
4. Adopt a final budget for final review, gain the approval by the Board of Directors, and
implement. The final budget can look like the working budget but with an extra column for
variances.
5. Report results and revise the budget as necessary, showing all variances in the appropriate
column.
Computer Based Methods
It is no doubt that computers make things easier. When it comes to
creating a budget, computer programs can make this an efficient process.
Computer programs offer these benefits when creating a budget:
Allow collaboration across the organization
Centralize the budget document and avoid duplication
Reduced calculation errors
Quick analysis
Reporting features
Graphs and visuals
Programs like Microsoft Excel and SharePoint make creating budgets more efficient and offer features
that make sharing information easy.
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Case Study
Zach had been tasked with creating a new budget for his department. The first thing he did was review
past budgets and compare the projected outcomes with the actual outcomes. This helped give him an
idea of the effectiveness of past budgets, and where changes would need to be made to reach current
goals. Next, he systemically developed the budget. He researched internal and external environments
such as market trends and the company's strengths and weaknesses in adapting to changes in the
market. He consulted the managers who worked under him to get an idea of what goals needed to be
met. Finally, he submitted the budget to be reviewed and approved by the board of directors.
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Module Seven: Review Questions
1) Which of the following reasons IS NOT a factor that makes using historical data so helpful?
a) The historical data show the past trends
b) Using historical data can halve the work and efforts
c) Historical data can be incorporated in budget report and justify the budget
d) Historical data can help you determine certain budget numbers
2) What is the common consequence of using the historical data from unreliable sources?
a) Bad and even disastrous results
b) It can cause some minor problems
c) There are no consequences, since the historical data do not have significant influence
d) None of the above
3) Which of the following IS NOT a subject of analyzing the external environment?
a) Market trends
b) Competition
c) Regulatory issues
d) Strength and weaknesses which is determined by review the financial statements of the
organization
4) Which of the following areas IS NOT related to the gathering of budget information?
a) Internal environment
b) Existing policies
c) Accounting
d) Staff requirements
5) What steps does the LOAD technique for determining the budget for special circumstances
imply?
a) List, Order, Assess, Determine
b) List, Obtain, Address, Determine
c) Label, Order, Assess, Determine
d) Label, Obtain, Address, Determine
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6) Which of the following statements IS NOT true?
a) The budget is a guide and should be regarded as flexible
b) The budgets are unstable, and some special circumstances always occur
c) The budget should not be changed randomly or whenever something happens
d) If the contingent funds are not used by the end of the budget period, it should be returned
to the organization
7) What steps does the RADAR technique for putting the budget together imply?
a) Rationalize, Acquire, Develop, Assess, Report
b) Research, Assess, Debate, Acquire, Report
c) Reach, Affirm, Develop, Adopt, Reaffirm
d) Research, Acquire, Develop, Adopt, Report
8) Who gives the approval of the final budget?
a) CEO
b) Board of Directors
c) CFO
d) The manager
9) When it comes to computer programs, they usually:
a) Make things more complicated
b) Mix up the data
c) Make things easier and more efficient
d) Do the half of the work automatically
10) Which of the following is not listed as a benefit of computer programs?
a) Reduced calculation errors
b) Graphs and visuals
c) Automatic creating of budget
d) Reporting features
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If you have to forecast, forecast often.
Edgar R. Fiedler
Module Eight: Advanced Forecasting Techniques
Forecasting is essential to assessing how much the budget should be.
Various techniques and tools can be used to help forecast costs. While
no technique is a guarantee, using a standard tool will help you be more
consistent in forecasting.
In this module, the following forecasting techniques will be discussed:
Using the average
Regression analysis
Extrapolation
Forma financial models
Using averages helps in forecasting. That is our next topic.
Using the Average
Taking the average of actual yearly numbers can help to forecast what the next
budget could be. Of course, you may need to factor in economic data like
inflation or increases in taxes. Averaging the numbers is an easy process when
using a spreadsheet program.
You can use information from the past five years and average them. You can also
average the percent change between the years to determine how much to
increase the new budget for the new term.
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Regression Analysis
Regression analysis is a statistical tool used to find the relationships between
variables. This tool is used to predict future values. Using this tool as a method of
forecasting requires knowledge in statistics. You may not use this tool yourself but
understanding that this is a forecasting tool could help you find resources and
experts when need to make forecasts.
Extrapolation is a mathematical tool using historical data to determine what
will happen in the future. Using this tool as a method of forecasting requires
knowledge in advance mathematics. You may not use this tool yourself but
understanding that this is a forecasting tool could help you find resources and
experts when need to make forecasts.
Formal Financial Models
When determining capital budgets, there are formal financial models used by
accounting to determine certain numbers. Having a basic understanding of what is
calculated and how they are determined, will give you the ability to hold meaningful
discussions with employees and managers that deal with this on a regular basis.
The following are some formal models:
Accounting rate of return
Net present value
Profitability index
Internal rate of return
Modified internal rate of return
Equivalent annuity
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Case Study
Karen had gathered the data and information needed to create a budget, but when it came to
forecasting how much the budget should be, she needed some assistance. She asked a colleague to
explain what methods could be used to create a budget. The first method was to use an average. This
was simply taking past budgets and averaging out the figures to create the new budget. Karen knew that
wouldn't work very well, as the old budgets were ineffective. The next method was regression analysis.
Again, this method relied on previous values, so Karen decided not to use it. The same problem applied
to extrapolation. In the end, Karen decided that the best method for her needs would be to gather the
budget team and create Formal Financial models. This process would create a dialogue that could be
used to determine relevant values based on actual needs. Karen used this method and created an
effective budget.
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Module Eight: Review Questions
1) Which of the following statements is true?
a) Any kind of forecasting technique is a guarantee for success
b) Some of the forecasting techniques are a guarantee for success
c) No technique is a guarantee, but using a standard tool is helpful
d) None of the above
2) When you do the averaging of historical data, it is suggested to use the data from:
a) Past five years
b) Past year
c) Past ten years
d) Past seven years
3) Why do we use the regression analysis tool?
a) We use it for predicting the future values
b) We use it for sorting the past values
c) For ascertainment of current values
d) None of the above
4) What kind of a tool is the regression analysis tool?
a) Practical
b) Theoretical
c) Statistical
d) Combined
5) What kind of tool is the extrapolation tool?
a) Statistical
b) Mathematical
c) Logical
d) Theoretical
6) What kind of data does the extrapolation tool use?
a) Historical data
b) Current data
c) Assumed future data
d) Combined data
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7) Who uses the formal financial models?
a) Anyone
b) Investors
c) Managers
d) The accounting
8) Which of the following is not a formal financial model?
a) Profitability index
b) Equivalent annuity
c) External rate of return
d) Internal rate of return
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Business, that’s easily defined—it’s other
people’s money.
Peter Drucker
Module Nine: Managing the Budget
Once the budget is determined, it is essential to manage it to
ensure that the organization or department is adhering to the
allotted costs. Sometimes things may happen that could cause
necessary changes to the budget. In any case, knowing how to
monitor the budget and make approved changes is essential in
managing the budget.
This module will discuss the following:
How to tell if you’re on track
Should your budget be updated?
Keeping a diary of lessons learned
When to panic
Let see how to tell if you’re on track.
How to Tell If You’re on Track
There are specific steps you should take to determine if your budget is on track.
Here are a couple of tips to making sure your budget is set up for success:
Give other individuals responsibility over certain areas of the budget (ex. By
department, business unit, project, etc)
Schedule regular budget review meetings
Next, here are a few quick steps to help you tell if your budget is on track:
Collect figures as they become available
Compare actual number with budgeted amounts
Cite reasons for positive or negative variances
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Classify reason as a trend or unique incident
Here are some signs you are on track:
Your variances are minor
The reasons for any variances are already known and predicted
Reason for a negative variance is due to a unique incident and not a trend.
Should Your Budget be Updated?
Updating the budget requires a collaborative effort. You should seek the right
people and discuss options and solutions if the budget is beginning to get off
track. The TAKE process helps you approach changes to the budget systematically.
Here are the steps for TAKE:
Tell the right people about the budget problems. Go to the right people
for information on how to handle the situation. They may be able to give
you some advice on how to handle the situation or provide a solution.
Nonetheless, telling others about your budget problem will begin dialogue that will provide
more opportunities for ideas that you can act on. Here are some people you can contact for
help:
o Your direct supervisor or manager
o Your accounting department
o Your budgeting teams
Act and decide. Depending on the circumstances, you can take the following actions:
o Do nothing when you determine that the variance will correct itself because there is not
strong trend or persistent situation.
o Create a forecast or update your current one and analyze it against the budget.
o Create a proposal for a change in the budget
Keep monitoring the budget during this time of decision-making. An approval for a revised
budget may take some time. Keep monitoring the budget. This way if any positive changes
occur, you can hold off on any change request or corrective actions.
Exchange information with all budget stakeholders. This is very important if you are proposing a
change or revision to the budget.
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When managing a budget, you will encounter issues and problems that may be useful for future budget
Keeping a Diary of Lessons Learned
Lessons learned are situation that caused changes or challenges to your budget,
forcing a change to take place. Keeping track of lessons, you learned from your
experiences provides a valuable resource when encountering a problem. A lessons
learned diary or journal helps to keeping pertinent information for future use in an
existing or new budget, avoiding repeat mistakes.
Here are four Rs to taking steps when addressing an issue:
Review your lessons learned diary or journal. Try to locate similar situations in the past to
determine what was done to resolve the issue and the outcome from that solution.
React to the issue, using a past solution if the problem is like one in your lessons learned diary or
journal.
Record problems you have never experienced before or are unique. Create a new entry into
your diary or journal. Log the date the problem was realized. If the problem is unique, then seek
out solutions by talking with your budget team, peer, manager, or expert on the subject if
available. Once the problem is resolved, log the solutions used and the outcome along with the
date it was implemented.
Repository: It is a good practice to store your lessons learned electronically in a document’s
repository. This way other managers can access them and use them when they encounter
problems. This practice could save your organization money.
When to Panic
You can avoid a panic situation by always keeping on top of your budget and
communicating often with the budget stakeholders. However, situations can
arise that can affect your budget drastically. These situations are cause for strong
corrective action.
Knowing when to take strong corrective action is the trick. Here are some
situations that should cause you to take strong corrective action immediately.
Serious situation arises within the organization. Sometimes unforeseen situations could happen
that can affect the company’s income or ability to operate. Here are some situations to monitor:
o Natural disaster
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