What is the Business Plan?

The business plan sets out how the owners/managers of a business intend to reali
se its objectives. Without such a plan a business is likely to drift.
The business plan serves several purposes:it
(1)enables management to think through the business in a logical and structured
way and to set out the stages in the achievement of the business objectives.
(2)enables management to plot progress against the plan (through the management
accounts)
(3)ensures that both the resources needed to carry out the strategy and the time
when they are required are identified.
(4)is a means for making all employees aware of the business's direction (assumi
ng the key features of the business plan are communicated to employees)
(5)is an important document for for discussion with prospective investors and le
nders of finance (e.g. banks and venture capitalists).
(6)links into the detailed, short-term, one-year budget.
The Link Between the Business Plan and the Budget
A budget can be defined as "a financial or quantitative statement", prepared for
a specific accounting period (typically a year), containing the plans and polic
ies to be pursued during that period.
The main purposes of a budget are:
(1)to monitor business unit and managerial performance (the latter possibly link
ing into bonus arrangements)
(2)to forecast the out-turn of the period's trading (through the use of flexed b
udgets and based on variance analyses)
(3)to assist with cost control.
Generally, a functional budget is prepared for each functional area within a bus
iness (e.g. call-centre, marketing, production, research and development, financ
e and administration). In addition, it is also normal to produce a "capital budg
et" detailing the capital investment required for the period, a "cash flow budge
t", a "stock budget" and a "master budget", which includes the budgeted profit a
nd loss account and balance sheet.
Preparing a Business Plan
A business plan has to be particular to the organisation in question, its situat
ion and time. However, a business plan is not just a document, to be produced an
d filed. Business planning is a continuous process. The business plan has to be
a living document, constantly in use to monitor, control and guide the progress
of a business. That means it should be under regular review and will need to be
amended in line with changing circumstances.
Before preparing the plan management should:
- review previous business plans (if any) and their outcome. This review will he
lp highlight which areas of the business have proved difficult to forecast histo
rically. For example, are sales difficult to estimate? If so why?
- be very clear as to their objectives - a business plan must have a purpose
- set out the key business assumptions on which their plans will be based (e.g.
inflation, exchange rates, market growth, competitive pressures, etc.)
- take a critical look at their business. The classical way is by means of the s
trengths-weaknesses-opportunities-threats (SWOT) analysis, which identifies the
business's situation from four key angles. The strategies adopted by a business
will be largely based on the outcome of this analysis.
Preparing the Budget
A typical business plan looks up to three years forward and it is normal for the
first year of the plan to be set out in considerable detail. This one-year plan
, or budget, will be prepared in such a way that progress can be regularly monit
ored (usually monthly) by checking the variance between the actual performance a
nd the budget, which will be phased to take account of seasonal variations.
The budget will show financial figures (cash, profit/loss working capital, etc)
and also non-financial items such as personnel numbers, output, order book, etc.
Budgets can be produced for units, departments and products as well as for the
total organisation. Budgets for the forthcoming period are usually produced befo
re the end of the current period. While it is not usual for budgets to be change
d during the period to which they relate (apart from the most extraordinary circ
umstances) it is common practice for revised forecasts to be produced during the
year as circumstances change.
A further refinement is to flex the budgets, i.e. to show performance at differe
nt levels of business. This makes comparisons with actual outcomes more meaningf
ul in cases where activity levels differ from those included in the budget.
What Providers of Finance Want from a Business Plan
Almost invariably bank managers and other providers of finance will want to see
a business plan before agreeing to provide finance. Not to have a business plan
will be regarded as a bad sign. They will be looking not only at the plan, but a
t the persons behind it. They will want details of the owner/managers of the bus
iness, their background and experience, other activities, etc. They will be look
ing for management commitment, with enthusiasm tempered by realism. The plan mus
t be thought through and not be a skimpy piece of work. A few figures on a sprea
dsheet are not enough.
The plan must be used to run the business and there must be a means for checking
progress against the plan. An information system must be in place to provide re
gular details of progress against plan. Bank managers are particularly wary of b
usinesses that are slow in producing internal performance figures. Lenders will
want to guard against risk. In particular they will be looking for two assurance
s:
(1)that the business has the means of making regular payment of interest on the
amount loaned, and
(2)that if everything goes wrong the bank can still get its money back (i.e. by
having a debenture over the business's assets). Forward-looking financial statem
ents, particularly the cash flow forecast, are therefore of critical importance.
The bank wants openness and no surprises. If something is going wrong it does n
ot want this covered up, it wants to be informed - quickly.
Introduction to Budgets
Budgets and budgeting
Budget is a future plan which sets out a business s financial targets.
Budgeting refers to the preparation of budgets - the drawing up of financial pla
ns and monitoring the performance of a business in attaining them
Formal definition of a budget
A budget is a quantitative statement, for a defined period of time, which may inc
lude planned revenues, expenses, assets, liabilities and cash flows. A budget pr
ovides a focus for the organisation and aids the co-ordination of activities and
facilitates control . (CIMA)
Budgets are prepared in advance of a defined period of time. They are based on t
he objectives of the business and are intended to show how policies are to be pu
rsued in order to achieve objectives.
What is a budget?
A budget
is a financial plan.
sets out a businesses financial targets.
is a plan expressed in money.
an agreed plan of action over a given period.
an agreed plan establishing, in numerical or financial terms, the policy to be p
ursued and the anticipated outcomes of that policy.
Forecasts, plans and budgets
A forecast is a prediction of future events and their quantification for the pur
pose of planning.
A forecast relates to events in the environment over which the business has eith
er no control or only very limited control.
Hence we have a weather forecast - not a weather plan.
A forecast is not a budget but a prediction of the future.
However, a forecast of future sales is the starting point in the budgeting proce
ss.
Planning is the establishment of objectives and the formulation, evaluation and
selection of the policies, strategies, tactics and action required to achieve th
e objectives.
A plan is the end product of planning.
Whereas a forecast is simply a prediction, a plan is what we are going to do abo
ut it.
A budget is a plan because it concerns actions to be taken rather than a passive
acceptance of future trends.
Time horizons for a budget
Budget time horizon - this refers to the immediate future where on the basis of
past business decisions and commitments the consequences are action can be predi
cted with a reasonable degree of certainty e.g. the next 12 months.
Business planning horizon - the period over which future forecasts can be made w
ith a reasonable degree of confidence e.g. 3-5 years.
Strategic planning horizon - far into the future- it is concerned with the long
term aspirations of senior managers e.g. 5+ years.
Purpose and Role of Budgets
Six Key Purposes of Budgets
A method of planning the use of resources
A vehicle for forecasting
A means of controlling the activities of various groups within the firm
A means of motivating individuals to achieve performance levels agreed and set.
A means of communicating the wishes and aspirations of senior management
A means of resolving conflicts of interest between groups with the organisation
Role of Budgets

To aid the planning of the organisation in a systematic and logical manner that
adheres to the long term strategy
To determine direction
 To forecast outcomes
To allocate resources
To promote forward thinking
To turn strategic objectives into practical reality
To establish priorities.
To set targets in numerical terms
To provide direction and co-ordination
To communicate objectives, opportunities and plans various managers.
To assign responsibilities.
To allocate resources.
To delegate without loss of control.
To provide motivation for managers to achieve goals
To motivate staff.
To improve efficiency.
To establish targets and standards which employees are motivated to achieve
To evaluate performance against the budget
To provide a framework for evaluating the performance of managers in meeting ind
ividual and department targets
To control activities by measuring progress against the original plan, making ad
justments where necessary
To control income and expenditure
To facilitates management by exception
To take remedial action when there is deviation from the plan
Incremental Budgeting
Incremental budget
This is a budget prepared using a previous period s budget or actual performance a
s a basis with incremental amounts added for the new budget period
The allocation of resources is based upon allocations from the previous period.
This approach is not recommended as it fails to take into account changing circu
mstances
Moreover it encourages spending up to the budget to ensure a reasonable allocation
in the next period. It leads to a spend it or lose mentality.
Advantages of incremental budgeting
The budget is stable and change is gradual.
Managers can operate their departments on a consistent basis.
The system is relatively simple to operate and easy to understand.
Conflicts should be avoided if departments can be seen to be treated similarly.
Co-ordination between budgets is easier to achieve.
The impact of change can be seen quickly.
Disadvantages of incremental budgeting
Assumes activities and methods of working will continue in the same way.
No incentive for developing new ideas.
No incentives to reduce costs.
 Encourages spending up to the budget so that the budget is maintained next year.
The budget may become out of date and no longer relate to the level of activity
or type of work being carried out.
The priority for resources may have changed since the budgets were set originall
y.
There may be budgetary slack built into the budget, which is never reviewed-mana
gers might have overestimated their requirements in the past in order to obtain
a budget which is easier to work to, and which will allow them to achieve favour
able results.

Zero Based Budgeting (ZBB)

Zero based budget
Start each budget period afresh-not based on historical data
Budgets are zero unless managers make the case for resources-the relevant manage
r must justify the whole of the budget allocation
It means that each activity is questioned as if it were new before any resources
are allocated to it.
Each plan of action has to be justified in terms of total cost involved and tota
l benefit to accrue, with no reference to past activities.
Zero based budgets are designed to prevent budgets creeping up each year with in
flation
Advantages of ZBB
Forces budget setters to examine every item.
Allocation of resources linked to results and needs.
Develops a questioning attitude.
Wastage and budget slack should be eliminated.
Prevents creeping budgets based on previous year s figures with an added on percen
tage.
Encourages managers to look for alternatives.
Disadvantages of ZBB
It a complex time consuming process
Short term benefits may be emphasised to the detriment of long term planning
Affected by internal politics - can result in annual conflicts over budget alloc
ation