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Intermediate Managerial Accounting

1.0 Introduction

Phoenix Enterprises Group (PEG) has cashed in on the mining boom and grown in size very rapidly. However, despite the expansion of business, the accounting system has not developed and also the pricing decisions are essentially taken on the basis of intuition. The internal reports to assist in decision making and also strengthen organisational control especially in difficult times are totally non-existent. Since 2014, the company has experienced a slowdown and hence there are financial constraints being felt by the company. Further, the company also needs to consolidate the portfolio. A key requirement in this exercise is budgeting which not only is a useful tool for financial control but would also aid in forecasting and better resource allocation across the business. However, currently no such practice is being carried out by Francis. Thus, the objective of the given report is to highlight the benefits of budgeting and how the same can be applied in the case of PEG in order to improve the overall performance and maintain competitive edge in difficult financial times (Beaey, Mayers and Marcus, 2007, 205).

 

2.0 Issue 3 – Absence of budgeting

It is known that Francis has not engaged in budgeting as he has never felt any need for the same. Hence, the key issue is to highlight the various benefits that one can obtain by engaging in budgeting These have been outlined in the following section.

2.1 Benefits of Budgeting

There are various benefits of budgeting which are outlined below.

  • Orientation for Planning – The process of budget allows the underlying organisation to view decisions and resources from the long term perspective rather focusing only on short term perspective. This is essential as short term orienta ........
t in decision making and also strengthen organisational control especially in difficult times are totally non-existent. Since 2014, the company has experienced a slowdown and hence there are financial constraints being felt by the company. Further, the company also needs to consolidate the portfolio. A key requirement in this exercise is budgeting which not only is a useful tool for financial control but would also aid in forecasting and better resource allocation across the business. However, currently no such practice is being carried out by Francis. Thus, the objective of the given report is to highlight the benefits of budgeting and how the same can be applied in the case of PEG in order to improve the overall performance and maintain competitive edge in difficult financial times (Beaey, Mayers and Marcus, 2007, 205).

 

2.0 Issue 3 – Absence of budgeting

It is known that Francis has not engaged in budgeting as he has never felt any need for the same. Hence, the key issue is to highlight the various benefits that one can obtain by engaging in budgeting These have been outlined in the following section.

2.1 Benefits of Budgeting

There are various benefits of budgeting which are outlined below.

  • Orientation for Planning – The process of budget allows the underlying organisation to view decisions and resources from the long term perspective rather focusing only on short term perspective. This is essential as short term orientation may not be adequate for shareholders wealth creation. This is apparent from the given case where when the general environment was favourable the company ventured out into many unrelated businesses and now is expected to consolidate the portfolio.  Strategic decision making is facilitated through the use of budgeting (Arnold, 2005,79).
  • Review of business – The budgeting process also aids in carrying on a thorough review of the underlying businesses particularly in relation to their underlying profitability. This enables the company to prioritise the various businesses based on their underlying profitability and expected future potential growth which makes it easier to frame a business strategy. Based on the same, the estimation of future financial needs can also be made (Ehrhardt and Brigham, 2016).
  • Evaluation of Performance – This is a very critical function that is served by the budget. The budget essentially provides an estimation of the likely performance of the company in the near term usually a quarter or a year. The projections reflect the existing realities in terms of the internal and external environment. Hence, the actual performance of the business can then be compared with the budgeted financial performance. This is significantly superior as compared to absolute performance which may be influenced by the underlying economic conditions (Arnold, 2005, 79).
  • Use as a control mechanism – The budget also is used as a control mechanism since by allocation of capital to certain projects and businesses, the management is essentially reflecting the strategic priorities. This is essential so that the employees and all the stakeholders understand the strategic priorities of business and hence modify their outlook according to the same (Damodaran, 2010, 146).
  • Removal of inefficiency and other bottlenecks – Budgeting provides a predictive view of the financial performance of the company which at a later stage can be compared with the actual performance of the company through variance analysis. This technique is immensely helpful in highlighting the key issues of concern and other constraints which may be impacting the performance of the company adversely. Thus, the same can be resolved to enhance business performance.
  • Strategic decision making regarding funding – It is known that the financial resources that are limited with the company are essentially limited and hence, these not only require prudent management but also it needs to be ensured that there is no shortfall. Through the budgetary exercise and estimates of financial performance, the expected cash flows available with the company can be predicted and thus, prompt decision making about incremental financing needs can be taken particularly when the environment is not favourable (Ehrhardt and Brigham, 2016).

2.2 Implementation of Budgeting

Considering that the company has multiple businesses, it is essential that separate budgets need to be framed for each of the businesses which in turn would reflect on the capital requirements of each of these businesses coupled with their underlying profitability. Based on the available resources with the company and the expected environmental conditions in the near to medium term, divestment decision may need to be taken for non-core and non-profitable businesses. Also, going forward, incremental capital should be allocated to only the core businesses in which essentially the company exhibits competitive advantage. Further, the process of budgeting can be complicated especially at the beginning and thus services of consultant should be taken to begin with. However, gradually a dedicated team for the same must be appointed which would be given requisite training. It is imperative that necessary resources should be allocated as this exercise is expected to bring in long term gains for the company. The presence of budgeting would provide vital input to the company’s management on how to achieve financial prudence by cutting down on unnecessary expenses. Also, gradually the IT enabled tools should also be used in order to improve the budgeting process. It is expected that budgeting at PEG would be highly productive and beneficial especially at this difficult juncture (Damodaran, 2010, 146).

3.0 Conclusion

On the basis of the above discussion, a host of benefits have been indicated in relation to budgeting. These benefits need to be viewed under the current situation of the business where portfolio consolidation is required and also fiscal prudence is necessary so as to improve the overall performance. Hence, budgeting can provide immense utility for the company as it would enable the management to identify the core businesses and also the most profitable ones. This would allow the company to consolidate the portfolio and thereby cater to the needs to the remaining businesses in a better manner. Also, through limited availability of capital for different departments, the budgeting process can improve the operational efficiency and expand the operational margins. Besides, it would also enable the business to realise their long term objectives and build shareholders’ wealth (Watson, Head and Antony, 2013, 125).

4.0 Recommendations

On the basis of the above discussion, it is recommended that Francis should start the practice of budgeting at the earliest. This must be done for all the businesses which would enable long term planning for the businesses and the company as a whole. In this process, the businesses which the company does not intend to retain in the future due to various reasons can be liquidated or divested so that the business portfolio is more concentrated and does not consist of unrelated business activities. Also, for budget formulation and analysis, services of a financial consultant should be taken and gradually attempts should be made to carry the process in-house considering the best available practices. Besides, the analysis of budget through variance analysis and performance evaluation should also be implemented as it would provide incentive to the managers to improve their performance which can be linked to the proposed targets linked to the budget. Hence, using the budgeting practice, the company can refocus on the core businesses and also improve operational and financial performance in a challenging external environment.