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Introduction to Partial Budgeting
Many business alternatives have positive effects -- increased revenue and decreased costs -- and negative effects -- decreased revenue or increased costs. There is more than just added costs and added revenue.
As long as positive effects exceed negative effects, adopting the alternative will increase the business' profit. This method of analysis is referred to as partial budgeting. Like other short-hand methods, the budget being developed only addresses those parts of the business that will be impacted by the change. The aspects of the business that will not be affected by the alternative are not considered because they will remain the same whether or not the change is made. The following table suggests a format for preparing a partial budget.
The bottom line or result of a partial budget projects how much the profit of the business will change if the alternative is adopted. Restated, a partial budget analysis calculates the change in profit that will result from adopting an alternative.
Sample Format of Partial Budget Analysis
Example of Partial Budget Analysis
Like other short-hand methods, opportunity costs, risk exposure, and other intangible considerations should not be overlooked when using a partial budget.
This simple table can be incorporated into a computerized spreadsheet to expedite the calculations.
This simple example does not illustrate the opportunity to include additional detail, such as the quantity of output or input, or the price per unit for the output or input. Managers may want to add columns to the table illustrated above to provide space for these additional details.
A manager may want to develop a brief list of of inputs or outputs that will not be changed whether or not the alternative is adopted. Preparing this brief list of "unaffected" may help minimize the error of overlooking some aspect of the business that might be impacted by a decision about the alternative being considered.
For some alternatives, there will no change in output; instead, the analysis becomes "what would be the change in cost." For example, "would it be less expensive to hire a custom harvester or to buy equipment and conduct the harvesting ourselves." In such a situation if the manager thinks the same quantity will be harvested regardless of who is doing the work, there would be no change in revenue -- only change in cost. Accordingly when there is no change in revenue, the "bottom line" of a partial budget analysis will be "change in cost", rather than "change in profit".
Partial budget analysis determine the change in profit resulting from adopting an alternative within the business. It does not determine impact on cash flow, nor does it generally determine the change in profit resulting from a long-term investment. If these factors are critical to the management decision, a partial budget analysis must be supplemented with appropriate techniques that reveal information about impact on cash flow and the present value of future revenue and expenses.
Partial budget analysis determines the "change in profit" if an alternative is adopted. It will NOT reveal whether the original enterprise was profitable, whether the alternative enterprise is profitable, or whether the overall business is profitable.
Last Updated December 11, 2009
This material is intended for educational purposes only. It is not a substitute for competent professional advice. Seek appropriate advice for answers to your specific questions.
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