Sales Budgetary Procedure

Company budgetary procedure normally begins in the sales department. After all, the sales department in nearly all companies is the main depart­ment generating inward flows of revenues. The nature and amount of the predicted flows of sales revenues impact directly upon the activities of other departments. Therefore, once top management receives and gives tentative approval to the sales budget, other departments prepare budgets outlining their plans. For instance, the production department takes its cue from the sales budget in preparing budgets for manufacturing expense and inventory, as well as in planning production schedules. Similarly, the finan­cial department uses the sales budget as the starting point in preparing budgets for capital expenditures, earnings and cash position, and admin­istrative expenses. It should be noted that the production department is mainly interested in the budgeted unit sales, whereas the financial depart­ment is concerned chiefly with planned dollar sales.

1. Planning Styles and Budgetary Procedures

There are two basic planning styles—top-down and bottom-up. In top-down planning, top management sets the objectives and drafts the plans for all orga­nizational units. Top-down planning goes along with the Theory X philos­ophy of management whose key assumptions are that people dislike work and responsibility and prefer to be told what to do and when.¹ By contrast, in bottom-up planning, different organizational units (generally departments) prepare their own tentative objectives and plans and forward them to top man­agement for consideration. Bottom-up planning goes along with the Theory Y philosophy of management, whose key assumptions are that people like work and responsibility and commit themselves more strongly to objectives and plans that they have participated in formulating.^{[1] [2]}

Sales budgetary procedures differ from company to company, with most differences tracing to difference in basic planning styles. If the pre­dominant planning style is top-down, the head of each organizational unit in the sales department (for example, a regional sales manager) receives his or her sales and profit objectives from the next level above and makes plans to fit those objectives. Adjustments in objectives are made if sub­ordinates raise questions regarding their fairness or soundness, but the tendency in a top-down organization is for subordinates to accept the objectives passed down by their superiors.

If the predominant planning style is bottom-up, the heads of even minor organizational units, such as branch sales managers, sometimes even indi­vidual sales personnel, assist in determining sales and profit objectives and in making plans to accomplish them. Most budgeting experts recommend planning at least partially in the bottom-up style, arguing that participation in planning at all levels helps to maximize benefits from sales budgeting.

Democratic administration (management based on Theory Y assump­tions) requires the widest participation in planning. Participation, from the organizational standpoint, is as much a vertical as a horizontal concept. It is as important to have participation from each organizational level, from the lowest to the highest as it is to have the overall company budget repre­sent the best thinking from all divisions. The following discussion assumes that the head of even the most minor organizational unit not only partici­pates in setting sales and profit objectives, but has a voice in drafting plans to accomplish these objectives.

2. Actual Budgetary Procedure

The preparation of the sales budget normally starts at the lowest level in the sales organization and works upward. The lowest level in this budget­ary process is a profit center. Thus, each district sales manager estimates district sales volume and expenses for the coming period and the district’s contribution to overhead. This budget includes rent, heat, light, secretarial costs, and all other expenses of operating the district office. It includes the salaries of the sales personnel and the district manager, and all selling expenses incurred by the district. These district budgets are submitted to the divisional or regional office, where they are added together and are included with the divisional budget. In turn, divisional budgets are submit­ted to the sales manager for the particular product or market group. At the end of this chain of subordinate budgets, the top-sales executive compiles a companywide sales budget.

While the top sales executive and the subordinates have been pre­paring budgets, the staff departments in the marketing department have been doing the same, showing credits for work they expect to perform for the sales department during the year. The office of the top marketing executive prepares its own budget, and this is then combined with the budgets of the sales department and the marketing departments, to give a total of sales revenues and of selling and other marketing expense for the company.

Each management level within the sales department approves the budgets for which it is responsible, incorporates them into its own budget, and submits this consolidated budget to the next higher level for approval.

In each instance, a detailed description of the units’ plan for the coming period are submitted as support and justification. Without this information, there is little basis for evaluating the budget submitted. When changes are made in the sales budget, corresponding changes are made in the plans. For example, a cutback in funds requested for sales personnel might neces­sitate a reduction in the planned number of new “hires.”

Other departments use the same preparation period to compile their budgets, with the sales and profit objectives as their points of departure. The production department goes through a similar process of building up an expense budget from each operating subdivision and combining these until a total department budget is prepared. The R&D, personnel, and all other departments are simultaneously going through the process of budget preparation. These departmental budgets are all submitted to the president, who in turn submits a final total budget to the board of direc­tors. Just as in the preparation of the sales budget, the process of pre­paring a total company budget may require modifications and changes in plans.

At each step in the budget-making process, an effort is made to reduce the detail to be passed upward to the next step, so that the final company budget is relatively simple and undetailed. The approved budget is then distributed downward in the organization in a process exactly the reverse of that used in its preparation. Each subordinate budget is revised to reflect changes in the company budget. At each step downward, details previously deleted are added back. The lowest operating unit receives a final budget that is as detailed as the one originally submitted, even though it may be considerably changed.

3. Handling Competition for Available Funds within the Marketing Division

The top sales executive must argue effectively for an equitable share of funds from the marketing division. The sales executive, like the advertising manager, marketing research manager, customer service manager, product managers, and other staff executives in the marketing department, submits a budget proposal to the chief marketing executive. From these proposals, the chief marketing executive selects those that are of the greatest poten­tial benefit and that the company can afford to implement. In discharging this function, the chief marketing executive checks to assure that the plans presented are the result of careful study, that the proposed expenditures will enable the subordinate to carry out the plans, and that the forecasted sales are attainable.

The amount of money finally allocated to the sales department depends upon the value of the individual budgetary proposals to the company as a

whole. The sales executive keeps this in mind in dividing the sales depart­ment’s budget among subordinate departmental units. If a bottom-up plan­ning procedure is in place, each subordinate has already prepared his or her own sales objectives and an estimate of expenses, thus simplifying the tasks of dividing up sales objectives and budgeted selling expenses.

4. “Selling” the Sales Budget to Top Management

The chief sales and marketing executives recognize that every budget pro­posal they place in front of the top management competes with proposals submitted by other divisions. Top management receives more propos­als than it is financially able to carry out simultaneously. In appraising proposals, top management looks not only at intrinsic merits but at the probable value to the whole organization. Consequently, it is necessary to sell the sales budget to top management. The budget is presented to top management just as a salesperson makes a presentation to a prospect. It is safe to assume that top executives are at least partially ignorant of the problems faced by the sales department, and of the many problems faced in putting together a sales program.

As in any other selling task, the starting point is a careful assessment of the wants and needs of the prospect. For the top executive, the major want is benefit to the company. How does the company, and incidentally the top executive, stand to gain from the proposed sales budget? To top management, the budget is a proposal to spend money to bring in profit. Top management divides the available funds among the departments, and the share each receives depends on the ability of the department head to sell his or her boss on the benefits to accrue from the plan.

5. Using the Budget for Control Purposes

Once approved budgets are redistributed to all organizational units, bud­getary control features go into operation. Individual items in each budget serve as “quotas” or “standards” against which management measures per­formance. From here on, each level of management compares performance against standards.

For control purposes, each sales manager receives budget progress reports. This report may be prepared monthly, but control is more effective if progress reports are weekly. In this way, corrective action is initiated before actual performance strays too far from budgeted performance. The report shows actual sales and expenses for the week, the month to date, and the year to date; budgeted sales and expenses; and the difference between the two. Sales performance figures are broken down further in ways useful to the executives using them, for example, by product, by package size, by sales territory, or by customer.

When performance shows a variance from budgeted performance, two courses of action are available. The first is to determine whether the variance is a result of poor performance by the sales group. It might be that a salesperson’s travel expenses are out of line because of inefficient territorial coverage. In this case, steps would be taken to ensure that the salesperson organizes the traveling schedules more carefully, so that expenses remain within the budget. However, if it turns out that travel expenses increased because of calls on new customers not previously covered, the second course of action would be the choice—revise the budget to reflect changed conditions.

The budget is not an end in itself; it is merely a tool. Every effort is made to bring performance into line with budget estimates, but if unantici­pated conditions occur, there is no hesitation about revising the budget. At the same time, the budget is not changed too readily. If it is changed too much, it becomes a mere record of sales and expense.

6. Effect of Errors in Budgetary Estimates

Operating conditions sometimes differ from those assumed at the time of budget preparation. Sales volume, expense, and net profit objectives prove too high or too low, either because of changes in the demand or because of changes in price levels. Particularly when estimates of the num­ber of units to be sold differ from the number of units actually sold, signif­icant variations occur in some expense items. Overhead and certain other expenses do not vary with volume, but some expenses, such as sales force commissions, vary directly with volume. Still other expenses, such as sales supervisory expenses, are semivariable, fluctuating with changes in vol­ume, but not directly. If estimated unit sales volume is incorrect by much, the usefulness of budgeted selling expense figures as standards of perfor­mance is impaired. The budget may still be useful as a point of departure in appraising performance, but there remains the puzzling matter of deter­mining how to allow for changed conditions.

7. Flexibility in Budgeting

If sales budget estimates are consistently, or even frequently, error-prone, it may be that more time needs to be invested in budgetary planning. Perhaps sales forecasting methods are misapplied or are inappropriate for the budgeting situation. Experience shows that in most fields sales can be forecasted for a sufficiently long period, and within limits of accuracy that are sufficiently close to serve the purpose of stabilizing production. If it is possible to forecast sales within the limits needed to stabilize production, it is possible to forecast sales within the limits of accuracy required for purposes of budgeting selling expenses.

Some companies, either intentionally or because of difficulties in securing accurate sales forecasts, use budgetary procedures without defi­nite forecasts. One way is to prepare alternative budgets, based on different assumptions about the level of sales volume. Thus, efficiency can be eval­uated, even though wide variation exists between expected volume and actual volume. “Low-volume” and “high-volume” forecasts are prepared on break-even style charts and interpolated to adjust for the difference between the two alternative budgeted sales figures and the actual operating level.

However, “flexible budgeting” is the subject of considerable criti­cism, because whenever it is used, plans must be made on the basis of a wide range of probabilities. Some experts refer to flexible budgeting as a crutch for weak executives who have not absorbed the art of forecasting. Most writers on sales management argue that some flexibility is desir­able. Companies cannot authorize a year ahead expense appropriations so inflexible that there is no need later to review or revise them. Full advan­tage of new market opportunities must be taken as they appear. If com­petitors initiate actions not foreseen at budget-making time, funds must be allocated to counteract them. A realistic attitude towards the dynamic character of the market is part of effective sales budgeting.

When the budget is in error because of faulty sales forecasting and badly set sales and profit objectives, the accepted procedure is to alter esti­mates by applying standard ratios of costs to the adjusted volume figure. This system, known as “variable” budgeting, is used by most businesses.

Source: Richard R. Still, Edward W. Cundliff, Normal A. P Govoni, Sandeep Puri (2017), Sales and Distribution Management: Decisions, Strategies, and Cases, Pearson; Sixth edition.