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A Level Business Edexcel Revision Notes 2. Managing Business Activities

Budgets (Edexcel A Level

Business): Revision Note
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Written by: Lisa Eades

Reviewed by: Steve Vorster
Updated on 25 October 2024

The Purpose of Budgets

A budget is a financial plan that a business (or department in the business) sets
about costs and revenue
The budget is usually closely aligned with the business objective

Reasons for Using Budgets

Reason Explanation

Planning & Businesses that use budgets are actively planning ahead
monitoring Problems and their solutions may be considered and solved
in advance

Control Frequent monitoring of budgets allows managers to

precisely control their functional area
Budgets support the setting and review of company or
department objectives

Coordination & Budgeting requires di!erent parts of a business to operate

Communication as part of a coordinated whole
Budgets may be communicated throughout the
organisation to provide a framework for decision-making
and communication

Motivation & Budgets play an important role in target-setting and

E!ciency performance management, which can be used by managers
to measure success
The allocation of budgets spreads decision making across
the organisation, acting as a motivator to the managers who
control them

Types of Budgets
Budgets are usually set annually and then monitored on a monthly basis
Businesses may set budgets to monitor the financial performance of any aspect
of the business
Budgets are generally prepared using one of two methods
Historical figure budgets
Zero based budgeting

Historical figure budgets

Budgets are usually based on historical data (e.g. sales and costs data from
previous years) and allow for factors such as Inflation and other relevant economic
indicators (e.g. exchange rate variations)

Zero based budgeting

In some cases, businesses make the decision not to allocate budgets and use a
zero budgeting approach
This is particularly useful where a business needs to control costs closely (e.g.
to improve profitability)

Zero budgeting requires all spending to be justified, which means that many
unnecessary costs can be eliminated
It can be time-consuming as evidence to support spending decisions needs
to be collected and presented
Zero budgeting also requires skilled and confident employees to make a
persuasive case to convince those making purchasing decisions

Variance Analysis
A budget variance is a di!erence between a figure budgeted and the actual
figure achieved by the end of the budgetary period (e.g. twelve months)
Variance analysis seeks to determine the reasons for the di!erences in the actual
figures and budgeted figures
A favourable variance (F) is where the actual figure achieved is better than
the budgeted figure
A favourable variance in a revenue or profit budget is where the actual
figure is higher than the budgeted figure
A favourable variance in a costs budget is where the actual figure is
lower than the budgeted figure

An adverse variance (A) is where the actual figure achieved is worse than the
budgeted figure
An adverse variance in a revenue or profit budget is where the actual
figure is lower than the budgeted figure
An adverse variance in a costs budget is where the actual figure is higher
than the budgeted figure

Worked Example
Selected financial information for Bunsens PLC 2022

Budgeted sales revenue 12,460

Actual sales revenue 13,718

Budgeted total costs 8,420

Actual total costs 10,627

Using the data, calculate the total profit variance for Bunsen PLC in 2022. You are
advised to show your working (4)

Step 1 - Calculate the budgeted profit for 2022

12,460 - 8,420

= £ 4,040 (1 mark)

Step 2 - Calculate the actual profit for 2022

13,718 - 10,627

= 3,091 (1 mark)

Step 3 - Subtract the budgeted profit from the actual profit for 2022

3,091 - 4,040

= 949 (1 mark)

Step 4 - Identify the nature of the variance

In this case, the variance is adverse because the actual profit for 2022 is lower than the
budgeted profit for 2022

The correct answer is 949 A (1 mark)

Examiner Tips and Tricks

Although the Bunsen Plc example shows an adverse profit variance, it is worth noting
that the company’s actual sales revenue was higher than budgeted. There could be
some sales executives in the business that deserve some sincere congratulation!

You may recommend that the business should investigate the reasons for the adverse
profit variance. The focus of the examination must be on the higher than budgeted
costs rather than this seemingly positive sales performance. You may recommend
that Bunsen reviews its supply agreements or that it adopts a zero budgeting
approach.

Once variances have been identified, a business should carefully investigate the
reasons why they have occurred and take appropriate action, such as
Where adverse cost variances are identified, a business may seek alternative
suppliers or investigate ways to improve e$ciency
Where adverse sales variances are identified, a business may review its
marketing activities to improve their e!ectiveness
Where favourable cost variances are identified, a business may review key
quality indicators such as the volume of returns or waste levels to ensure that
output standards are being met
Where favourable sales variances occur, a business may reward client-facing
sta! with performance based incentives

Di!culties of Budgeting
Budgeting requires significant expertise to be of genuine use to a business and
there are several di$culties associated with their construction

The di!culties of budgeting

Data must be up-to-date, accurate and free of bias

Sources of data must be selected carefully and used with care to ensure the
most appropriate assumptions are made
Those constructing budgets will require skills and relevant experience to do
so e!ectively
This may involve training or the recruitment of specialist sta!

Budgets can encourage managers to focus on the short-term rather than the
long-term success of the business, as budgets are usually set year on year
Unrealistic budgets (over or under) can lead to a lack of motivation amongst
those tasked to achieve the financial plan

The conflict between budget holders may arise, reducing the e!ectiveness of
the business as a whole

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5 Topics · 24 Revision Notes

2. Managing Business Activities

5 Topics · 18 Revision Notes

2.1 Raising Finance

2.2 Financial Planning

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Sales, Revenue & Costs

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Author Reviewer

Author: Lisa Eades

Expertise: Business Content Creator

Lisa has taught A Level, GCSE, BTEC and IBDP Business for over 20 years and
is a senior Examiner for Edexcel. Lisa has been a successful Head of
Department in Kent and has o!ered private Business tuition to students
across the UK. Lisa loves to create imaginative and accessible resources
which engage learners and build their passion for the subject.

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