Activity Based Budgeting

Business, Legal & Accounting Glossary

Definition: Activity Based Budgeting


Activity Based Budgeting

Quick Summary of Activity Based Budgeting


Activity-based budgeting is a budgeting method that evaluates business processes in terms of the results they achieve. In activity-based budgeting, companies analyze the full range of activities they perform, assess the impact of those activities on cost and revenue, and adjust their spending decisions to favour those that are the most beneficial. Activity-based budgeting differs from cost-based budgeting in that the latter only tries to adjust a prior period’s budget for revenue growth and inflation. Many companies now prefer activity-based budgeting because it streamlines operations, aligns spending with strategic goals, and thereby improves efficiency. For instance, managers using activity-based budgeting can determine whether or not different areas of their company are duplicating another activity, and consolidate or reassign that function if required. Activity-based budgeting might also help a company identify which of its products or services are delivering value and which are not.




Full Definition of Activity Based Budgeting


Activity-based budgeting (ABB) is a system for recording, researching, and analysing activities that result in costs for a business. Every activity in an organisation that has a cost is examined for potential efficiencies. Budgets are then created based on the findings.

Traditional budgeting processes, which merely adjust previous budgets to account for inflation or business development, are less rigorous than activity-based budgeting (ABB).

  • Activity-based budgeting (ABB) is a budgeting method in which cost-incurring activities are recorded, analysed, and researched.
  • It is more rigorous than traditional budgeting processes, which merely adjust previous budgets to account for inflation or business growth.
  • Using activity-based budgeting (ABB) can assist businesses in reducing costs and, as a result, extracting more profits from sales.
  • This method is especially useful for newer companies and firms that are undergoing significant changes.

Cost-cutting is an important aspect of business management. Companies should be able to maintain and grow their revenues while squeezing out higher profits if done effectively and not excessively.

Using activity-based budgeting (ABB) can assist businesses in reducing the amount of activity required to generate sales. Unnecessary costs should be cut to increase profitability.

The process of activity-based budgeting (ABB) is divided into three steps.

  • Determine relevant activities. These cost drivers are the items that cause the company to incur revenue or expenses.
  • Calculate the number of units required for each activity. This figure serves as the starting point for all calculations.
  • Calculate the cost per unit of activity and multiply the result by the level of activity.

Activity-Based Budgeting (ABB) Vs. Traditional Budgeting

Activity-based budgeting (ABB) is a budgeting method that differs from traditional budgeting. Traditional approaches are more straightforward, adjusting prior period budgets to account for inflation or revenue growth. Rather than relying on previous budgets to predict how much a company will spend in the coming year, activity-based budgeting (ABB) delves deeper.

Activity-based budgeting (ABB) is not required for all businesses. For example, established firms that see little change may find that applying a flat rate to data from the previous year to reflect business growth and inflation is adequate.

Newer companies, on the other hand, without access to historical budgeting data, cannot consider this an option. Firms undergoing significant changes, such as those with new subsidiaries, significant customers, business locations, or products, are also likely to implement activity-based budgeting (ABB). In such cases, historical data may no longer be a useful basis for future budgeting.

Activity-Based Budgeting Example

In the coming year, Company A expects to receive 50,000 sales orders, with each order costing $2 to process. As a result, the activity-based budget (ABB) for sales order processing expenses for the coming year is $100,000 ($50,000 * $2).

This figure can be compared to a traditional budgeting method. If the previous year’s budget called for $80,000 in sales order processing expenses and sales were expected to increase 10%, only $88,000 ($80,000 + ($80,000 * 10%)) is budgeted this year.

Advantages and Disadvantages of Activity-Based Budgeting

Activity-based budgeting (ABB) systems provide greater control over the budgeting process. Revenue and expense planning takes place at a precise level, providing useful details about projections. ABB gives management greater control over the budgeting process and allows the budget to be aligned with overall company goals.

Unfortunately, these advantages come at a price. Activity-based budgeting (ABB) is more expensive and time-consuming to implement and maintain than traditional budgeting techniques. Furthermore, ABB systems require additional assumptions and insight from management, which can result in potential budgeting inaccuracies on occasion.


Synonyms For Activity Based Budgeting


ABB


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Definition Sources


Definitions for Activity Based Budgeting are sourced/syndicated and enhanced from:

  • A Dictionary of Economics (Oxford Quick Reference)
  • Oxford Dictionary Of Accounting
  • Oxford Dictionary Of Business & Management

This glossary post was last updated: 25th January, 2022 | 0 Views.