What is Budgeting?

What is Budgeting?

Budgets have been around since the beginning of human civilization. As humans, we have always needed to know the total resources required to complete a project. A budget in the simplest sense is weighing the cost. 

Imagine, that you are preparing to move. Your first step is to decide where you will live. Next, will you rent, buy, or build a home in the new city? If it cost $1,200 a month to rent, $250,000 to buy, and $205,000 to build. How do you decide? With budgeting, you ask, if your monthly income is $5,000 what are your other costs? Do you have the margin available for the house you want? If so what would the monthly cost of building or buying be? Once you answered these questions, you have enough information to make an informed decision.

The above example is a great way to use budgeting. It fits this purpose well. You weighed the cost so that you could make the best possible decision with the resources you have on hand at a particular time. Budgeting is ideal for this purpose.

Over the centuries the purpose of budgeting has changed. It has moved far past the above example. Budgets now dictate whether or not individuals or businesses are successful. This current purpose is vastly different from a budget's intended purpose. Budgets were never designed to define success or be a detailed roadmap for business. They were initially designed to give you an idea of what the total cost of a project would be so that you could decide whether or not to pursue it.

This deviation from the original purpose has created significant problems for organizations because upper management has become more obsessed with meeting a magical number than with the long term performance of the organization. Businesses waste hundreds, even thousands, of man hours creating these numbers which are then used to tell managers and investors alike that this is what the future holds. In reality, these numbers are based on assumptions which are no longer relevant by the time they have been created.

Over the next several weeks we will be breaking down budgeting. We will be looking at how organizations budget and what the pitfalls to budgeting are. We will also be looking into what organizations can do differently and how they can still use budgeting well.

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