A Budget Requires Avoiding Financial Crises In An Organization Accounting Essay



A budget requires avoiding financial crises in an organization, what all the needs of a budget are there, how it is helpful to an organization. How budget is going to help Roberta Kelly in future. Calculation about the pay back period, A.R.R, N.P.V and I.R.R, these are going to help Roberta Kelly in dealing with the Sunil Patel, if yes then how? The two major giant's companies ratio analysis is there, those two are the British Airways and Easy Jet. One company provides low cost services and another is the International Player in the world. What all their Balance Sheet and Income Statement tells about their ratios that they were in profit or losses from the 2008 study to 2009, which year was the beneficial for the company.


1.1 Report on budget and plans to Roberta Kelly

Roberta Kelly is a local entrepreneur in the North East of England, whose business operations had grown rapidly over the last three years. She has three bus companies, two coach firms and six taxi businesses, she tends to "fight fire" with the upcoming problem or in the future problem to deal with those problems she require to know about the budget so that she can easily deal with the issues before emerging those issues, and without any loss to the organization, as well as she had no real budgetary or planning experience which will create problem for her to achieve the organization long term objectives.

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This report on budget and plans are going to explain and illustrate her about how she can organize the business that is going to help her in the future business decision-makings and starting up for any new businesses and their deals.

1.2 Budgeting

While moving forward we must know what is budget.

Budgets are made to meet the organizational objectives, therefore whenever there is a requirement for any management planning and control then budget is being required for it. For avoiding financial crisis the budget should be develop in the company. To run a successful business it is compulsory to keep an eye on the future, what are the future requirements and what are the opportunities for business and how you can take best out of it. Whatever business is there, a risk factor is always involved unless managers have a clear picture about the future of their business and what all sort of business opportunities would be available. Therefore to develop plans there are five key steps

- Identifying the options available.

- Setting the aims and objectives of the business.

- Setting detailed short term plans or budgets.

- Collecting information on performance and exercising control.

- Evaluating the options and making selection

A budget is an important tool of planning, controlling, motivation, and coordination. Budgets can help in identifying the problems in business and promotes forward thinking by planning. A Distinction is made between short-term planning and a long term planning, alternatively known as strategic or corporate planning. There are number of purposes of budgeting, which include:





Resource Allocation


Performance Evaluation

Stages in Budgeting Process:

Communicating details of budget policy

Initial preparation of the various budget

Negotiation of budgets with superiors

Ongoing review of budget

Preparation of the sales budget

Coordination and review of budget

Determining the factors that restricts output

Final acceptance of budget

1.3 Types Of Budgets

A budget is not a unitary concept but varies from organization to organization. The basic concept of budgeting involves estimating future performance, comparing actual results with the estimate, and analyzing the differences between them. Factors that are relevant in determining the type or style of an organization's budget and its effects include: the type of organization, the leadership style, personalities of people affected by the budget, the method of preparation, and the desired results of the budgeting process (Cherrington, Cherrington, 1973, p. 226).

In general, budgets can be classified into two primary categories (Cohen, Robbins, Young,1994, p. 171):

Operating budgets:

Operating budgets consist of plans for all those activities that make up the normal operations of the firm. The main components of the firm's operating budget include sales, production, inventory, materials, labour, overheads and R&D budgets.

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Financial budgets:

Financial budgets are used to control the financial aspects of the business. In effect, these budgets reveal the influence of the operating budgets on the firm's financial position and earnings potential. They include a cash budget, capital expenditures budget and proforma balance sheet and income statement.

All major budgets that can be used in a typical company and how they are linked and interconnected within the larger system of the master budget can be seen. This confirms what has already been said about the budgeting process - that individual budgets are dependent on one another which requires that they be prepared in a hierarchical manner.

Except for the usual division of companies' budgets into operational and financial, budgets can also be differentiated based on expenditure authority. Using this approach, two major groups of budgets can be defined (Kemp, Dunbar, 2003, p. 3):

Line-item budgets

These are budgets where the name of each line is set, as is the amount of money that can be spent on each item. If one works within a line-item budget, one can not overspend a specific line item and then compensate this with savings on other line (or vice versa). The authority to move money from one line item to another must be granted at a higher level.

Block budgets

These are the opposites of line-item budgets. Here a block of money is given. The details of the budget are presented but, later on, if one wants to spend more money on one item and less on another, one is free to do so. As long as the block of money is not overspent before the end of the year, the budget remains under control.

1.4 Budgets as control devices

At the beginning of the period, the budget is a plan. At the end of the period, the budget is a control device to measure performance against expectations so that future performance may be improved. Control is achieved through continuous reporting of actual progress and expenditures relative to plans i.e. budgets (Shim, Siegel, 1994, p. 15). The aim of budgetary control is to provide a formal basis for monitoring the progress of the organization as a whole and of its component parts towards achievement of the objectives specified in budgets (Lucey, 1996, p. 147). Budgetary control process usually functions in a closed loop. This loop, starts with the planning phase, then records actual transactions, and finally reports against the plan and generates management response.

In accounting literature, budgeting is also known as responsibility accounting. This means that plans and the resulting information on the performance of the plans are expressed in terms of human responsibilities because it is people, not reports that control operations. We can define responsibility accounting as a system of accounting in which costs and revenues are analysed in accordance with areas of personal responsibilities so that the performance of the budget holders can be monitored in financial terms (Lucey, 1996, p. 147). So the crucial thing for profit control is the division of authority and responsibility to managers. This means that managers should accept responsibility only over those figures that they have control. However, in practice, controllability one is difficult to pinpoint for at least two reasons (Horngren, Foster, Datar, 2000, p. 195):

Few costs are clearly under the sole influence of one manager.

Over a long enough time span, all costs will come under somebody's control.

For this reason, companies, alongside traditional responsibility centres, also usually set up budget centres. These can be defined as a part of an organization for which a given manager has responsibility and authority and to which profit control data can be assigned (Harper,1995, p. 320).

For budgeting control purposes, a special type of budget is prepared called the flexible budget. In order to understand why only those budgets can be used for the accurate measurement of performance, firstly the difference between them and fixed budgets must be explained. The fixed budget is based on the level of output planned at the start of the budget period. On the other hand, the flexible budget is developed using budgeted revenues or cost amounts based on the level of output actually achieved in the budget period (Horngren, Foster, Datar, 2000, p. 220). For this reason, from a control viewpoint, the fixed budget is likely to be inappropriate (unless by pure chance the actual level of activity turns out to be the same as the planned level - which is highly unlikely) and should not be used for control purposes. It is with respect to this sort of budget that the old saying "the budget is out of date before the budget period even begins" is often a correct one (Harper, 1995, p. 336).

1.5 My suggestions and assumtions on the given case: -

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I have divided my suggestion in following four steps:

Roberta Kelly is always in a fire fighting mode and this is very negative aspect with respect to the business she is running, she has to be calm, composed and should take decisions in co-ordination with the management personnel's.

Since there is no proper maintenance of records of cash flow, profits, assests and liabilities.

I will suggest her to maintain proper balance sheet and profit and loss statement which will give her a clear cut picture of her business and the over all performance.

This will help her to know which business is making profits and which business is like a burden on her.

The other important area of concern is total analysis of the businesses she is in. She needs to take out past two year's performance of each unit.

This will let her know what modifications and improvement is necessary in each business.

For an instance if two of her business is doing exceptionally well and the

other business is in state of concern she can discontinue the latter business and look in for a new business or she can focus more on the two business

that are doing well.

She can recruit expert proffesional for two of the most profit making

businesses that will help her in smooth and systematic flow of working in

her business.

Proper detection of how the cash is flowing in all her business is must.

She has to also look in for self-assessment; this will help her in knowing her own competency and capability to run such huge businesses. Till the time she will not have the confidence in her self, she will not be able to take any critical decisions related to management.

1.6 How to prepare Budget as an example

Budget as per 1Jan, 2010






Net Sales




Cost of Goods Merchandise Goods(Jan1)








Freight Charges




Total Merchandise in Hand




Less: - Inventory (31 Dec.)




Cost of Goods Sold




Gross Profit




Interest Income




Total Income













Office Supplier
















Travel & Entertainment




Dues & Subscription




Interest Paid




Repair & Maintenance




Taxes & Licenses








Net Income




By preparing budget we got a fair idea, how we should conduct our proceedings of our business deal. The total profit of our budget is shown is 66350 pound but the actual was 75010 pound so the difference is of 8660 pound.

A company without budget or any business without budgeting is a thing as looked by a blind peep. So we can judge its importance itself and taking into account the growth factor for the future.

1.7 S.W.O.T Analysis

Strength: - Taking into account the business of Kelly, she has a well established business so she can take the risk of signing the deal with Mr. Patel as she can manage this with her ability to manage her business. Her managerial utility cannot be doused as in my report we can saw Mrs. Kelly business is 7-8 times business of Mr. Patel, so acquisition can be done taking into account the risk factor and her managerial ability. This is her strength and her strength can be strengthened more by wailing this opportunity.

Weakness: - Talking about the weakness, we can say we don't have an intact budgetary plan to work out the details and also seeing the long over 5 years one should think twice before entering into such agreement.

Opportunities: - "Opportunities are for those who can grab them" so seeing the expansion factor of Mrs. Kelly's business she should expand her business and grab the opportunity to the fullest and mixed with her entrepreneur ability, she can manage the risk factor, so this opportunity shouldn't be missed.

Threat: - If this opportunity is not grabbed then there is some amount of threats involved, the competitor can grab this opportunity and then the tables will be against her and her business can somehow be threatened.


At the beginning of the period, the budget is a plan. At the end of the period, the budget is a control device to measure performance against expectations so that future performance may be improved. Therefore as Roberta Kelly is going to join hands with the Sunil Patel for the new proposal of the transport maintenance business, while joining hands with him she must know about her expenditure, savings and these things she is going to know while using the budget. While using budget she came to know properly that how she is going to invest in any of the new business and in future also if she is going to increase her business then also she required budget, budget for investing, for earning, expenditure etc. Budgeting is also known as responsibility accounting.

Part 2

2.1 Investment Appraisal

"An evaluation of the costs and benefits of a proposed investment in operating assets" Dyson (1997)

Factors to consider:

Initial cost of the project

Estimated life of the investment

Amount and timing of cash flows

Effect on the rest of the business

Working capital required

2.2 Pay Back Period

As per the question the Roberta had been approached by Sunil Patel to sell his transport maintenance business and he asked Roberta if she is interested in an acquisition. As the Initial Cost is being given £1.3m and she is going to save £200000 per annum and Sunil has provided a five-year budget i.e.

Year 1 £80,000

Year 2 £90,000

Year 3 £1,00,000

Year 4 £1,10,000

Year 5 £1,20,000

Therefore as the Roberta is going to save £2,00,000 per annum

Then the cash flow for the five years is

Cash Flow Cumm. C.F

Year 0 £(13,00,000) (13,00,000)

Year 1 £2,80,000 (10,20,000)

Year 2 £2,90,000 (7,30,000)

Year 3 £3,00,000 (4,30,000)

Year 4 £3,10,000 (1,20,000)

Year 5 £3,20,000 2,00,000

Therefore the Pay Back period is in the 5th year

Cumm. Cash Flow is 2,00,000

If assume that cash=profit

Average Profit = £2,00,000/5

= £40,000

Capital Employed = £13,00,000

2.3 A.R.R = Average Profit/Capital Employed x 100

Therefore, A.R.R = 40,000/13,00,000 x 100

A.R.R = 3.07%

2.4 N.P.V

Cost (£ 13,00,000)

Year N.C.F 5% diff. P.V

Year 1 £2,80,000 0.952 2,66,560

Year 2 £2,90,000 0.907 2,63,030

Year 3 £3,00,000 0.864 2,59,200

Year 4 £3,10,000 0.823 2,55,130

Year 5 £3,20,000 0.784 2,50,880

Total 12,94,800

Less cost 13,00,000


As per the N.P.V is (5200), which is not good for the company because it is coming in the subtraction. Company is not going to repay their cash in the 5-year period.


I would like to conclude part2 with two of my assumptions: -

If Roberta's current business is 7-8 times of Mr. Patel's transport business then there is no problem in acquiring the transport business, as it looks very lucrative in the initial stages.

Here I am assuming that all the businesses of Roberta Kelly are doing exceptionally well and therefore there will be no problem in acquiring the new transport business. The acquisition will spread her horizon and the chances are that she can get new fresh personnel's in her operations.

Assuming that one of her business is bone of contention for her growth, she can quit with this business and can acquire the new transport business in place of it. This will filter the tools that are hampering her growth and she can start the new business with new beginning.

Roberta is paying back the cash to Sunil Patel in 5th year, which is not going to be a good deal because, she is going to get profit in the last year only but on the other hand she is saving from the transport maintenance business, she had to no more doing expenditure on the maintenance of the transport as she is growing to his business then this is going to give benefit in the long term basis. As looking towards A.R.R this is also less just only 3.07% and N.P.V is in negative so while dealing the contract she had keep everything in mind that if she is going to expand her business in future then it will be going to be a profitable business otherwise this will be situation like no profit no loss or it will be going to losses.

Part 3


Easy Jet and British Airways (B.A) are two huge British airline companies in the world. They are competitors in many aspects with different operational techniques. British Airways is the world biggest international airline whose worldwide route network covers 216 destinations in 94 countries (including franchises, subsidiaries and one world partners). In Jan. 2000, it unveiled £600 million worth of new customer services and products. This is the biggest investment of its kind in airline history. On the other hand Easy Jet Europe's leading low-cost airline, which targets at both leisure and business markets on a range of European routes. It is one of Europe's largest Internet retailers with ticketless travel service provider. In addition, it offers a simple, 'no frills' service. The purpose of this report is to compare and contract the financial performance by analyzing ratios.

Profitability Ratios:

Ratio Analysis

Company Name

British Airways

Easy Jet






Profitability Ratios


Net Profit Margin =

{Net Profit (before tax and interest)/Turnover} x 100






Return on Net Assets or Capital Employed =

{Net Profit (before tax and interest)/ Capital Employed (Net Assets)} x 100






Gross Profit Margin =

(Gross Profit/ Turnover) x 100






Liquidity Ratios


Current Ratio

Current Assets/Current Liabilities






Quick Ratio or Acid Test Ratio

Current Asset - Stock/Current Liabilities






Efficiency Ratios


Debtors turnover

(Debtors/Turnover) x 365






Stock turnover ratio

Cost of sales/Average Stock






Creditors turnover Ratio

(Creditors/Turnover) x 365






Gearing or Leverage Ratios


Total Debt Ratio =

Total liabilities/total assets






Debt-Equity Ratio =

Total Debt/Total Equity






Gearing Ratio =

Long Term Liabilities/Equity Shareholders Fund






Investment Performance Ratios


Earnings Per share

Net Profit (After tax and Preference Dividends) /No of Ordinary shares





3.1 Profitability Ratios

Return on capital employed (ROCE), gross profit margin and net profit margin ratios are used to tell managers, owners, employees and potential investors the profitability of two companies. According to the calculation Net profit margin for the British Airways in 2009 is (4.46%) but in 2008 it was 10.527%. Due to the current economic recession of the United Kingdom B.A is facing loss, but at the same the time Easy Jet Net profit margin doesn't affected that much because in 2008 Easy Jet N.P.M was 4.6639% and in 2009 it was 2.051%, due recession this company also faced losses but not that much as the British Airways suffers. Same cases with the R.O.I and the Gross Profit Margin, in 2009 R.O.I of B.A was (21.72) and in 2008 it was 28.26, but for Easy Jet in 2009 it was 4.18 and in 2008 it were 8.62. Therefore both companies suffer looses but B.A suffers more than Easy Jet.

3.2 Liquidity Ratios

Liquidity is a very important ratio for moneylenders, suppliers and potential investors to access. It is defined as business has enough liquidity to pay any immediate bills that arise (Business Studies, 2004). It can be analyzed by looking at the current ratio and the acid test ratio. The current ratio of 2009 for B.A and Easy Jet is 0.566 and 1.39. If we had a look in 2008 also B.A were 0.89 and Easy Jet were 1.54, therefore the ratio for Easy Jet is a higher, which means that too much money is tied up inefficiently, while that of B.A is not wealthy. This suggests that B.A doesn't have enough working capital. The acid test ratio for B.A in 2009 is 0.535 and in 2008 is 0.858, which indicates that the current assets are less than the current liabilities where as Easy Jet acid test ratio in 2009 was 1.326 and in 2008 it were 1.332.

3.3 Efficiency Ratio

Some common ratios are accounts receivable turnover, fixed asset turnover, sales to inventory, sales to net working capital, accounts payable to sales and stock turnover ratio. These ratios are meaningful when compared to peers in the same industry and can identify business that are better managed relative to the others, also, efficiency ratios are important because an improvement in the ratios usually translate to improved profitability. (http://www.investopedia.com/terms/e/efficiencyratio.asp)

As per the British Airways debtor's turnover in 2009 were 21.51 but in 2008 it was 24.42, as compared to the creditors to whom the company had to pay in 2009 it was 113.49 which is more than the debtors, which is not good for the company. As comparison to the Easy jet in 2009 they're debtors turnover 33.09 and their creditors 102.74 which is much better than the British Airways.

3.4 Gearing Ratios

A general term describing a financial ratio that compares some form of owner's equity (or capital) to borrowed funds, Gearing is a measure of financial leverage, demonstrating the degree to which a firm's activities are funded by owner's funds versus creditor's funds, also known as the net gearing ratio. (http://www.investopedia.com/terms/g/gearingratio.asp)

Gearing ratio for British Airways in 2009 was 2.73 and in 2008 it was 1.482 and for Easy jet in 2009 it was 0.997 and in 2008 it was 0.709. It shows that the British Airways is highly geared than the Easy Jet; it will be hard to borrow money, because the creditor may have a financial risk. On the other hand Easy Jet is a bit low geared. It includes that it is cautions for the company to invest by borrowing money, or it has enough capital, therefore there is no need to borrow a lot of money. This suggests that problem of debt payments may be caused by the low ratio for B.A, where as, the ratio for Easy Jet is good, and the debt paying ability in the long run is strong. Both ratios imply that Easy Jet has a better debt paying ability than British Airways.

3.5 Investment Performance Ratio

Investors to assess the potential returns offered by investing in a particular business mainly use investment Ratios. (Hand Notes)

In Earning per share 2009 British Airways shares was 32.6p per share as compared to Easy Jet their share are at 16.9p per share it is less than B.A but for B.A it is more loss than the Easy Jet had to suffer because in 2008 Easy Jet share was 19.8p per share, in there share there is not that difference as compared to the B.A 2008 shares they were at the rate of 61.9p per share approx 50% less than the last year for the B.A and for the Jet Airways it is not more than the 15% also.


While analyzing the profitability, Easy Jet has a better performance than the British Airways. As Easy Jet focuses on the low price tickets in the European routes, but British Airways is an International Enterprise, which has a large Organizational structure. As Easy Jet to earn more profit, they can increase their marketing and British Airways should reduce cost of sales, like overheads. Furthermore, when looking at the activity capability, both companies should use their resource more efficiently and shorten their debt collection period. Additionally, as for the liquidity capability, BA is lack of working capital and may meet debt problems in the short run, while Easy Jet is in a good operating condition, whose liquid assets can be quickly switched into cash. Moreover, with regard to the gearing, Easy Jet has a safer capital structure than BA. To both creditor and shareholders, it has a strong debt paying ability and low debt risk in the long run. BA can improve its ratio by reducing its long term borrowing relatively to its capital. According to the shareholder ratios, it is hard to compare and contract because of lack of some data from Easy Jet. However, we should also be aware of the limitations of the ratio, such as price changing, Window dressing, lack of qualitative information, etc. and make adjustments as necessary.