CAF-7 · Chapter 11
Budgeting MCQs with Answers
15 multiple-choice questions on Budgeting for CAF-7 Business Insights and Analysis. Try each one before revealing the answer and explanation.
Practise this chapter interactivelyQuestion 1
A newly appointed CEO insists that all department heads must justify every single rupee of their proposed budget for the next year from scratch, rather than simply adding a percentage increase to last year's spending. Which budgeting approach is the CEO implementing?
- A) Incremental budgeting
- B) Zero-based budgeting
- C) Rolling budgets
- D) Flexible budgeting
Show answer & explanation
Answer: B) Zero-based budgeting
Zero-based budgeting (ZBB) requires managers to build their budgets from zero and justify every proposed expense, rather than using the previous year's budget as a starting base. It aims to eliminate historical inefficiencies.
Question 2
Which of the following is a classic behavioral consequence of 'top-down' (imposed) budgeting rather than 'bottom-up' (participative) budgeting?
- A) Lower level managers may deliberately build 'budgetary slack' into their estimates
- B) Lower level managers may feel demotivated and lack commitment to targets they had no part in setting
- C) The budgeting process becomes excessively time-consuming and drawn out
- D) The budget becomes too easily achievable because targets are set too low
Show answer & explanation
Answer: B) Lower level managers may feel demotivated and lack commitment to targets they had no part in setting
In a top-down budgeting approach, targets are imposed by senior management. A major drawback is that operational managers often feel demotivated and lack ownership of the budget because they were excluded from the target-setting process.
Question 3
A manufacturing firm is preparing its cash budget for the next quarter. Which of the following items must be explicitly EXCLUDED from the cash budget?
- A) Repayment of the principal amount of a bank loan
- B) Payment of quarterly dividends to shareholders
- C) The annual depreciation charge on factory machinery
- D) Advance payments made to raw material suppliers
Show answer & explanation
Answer: C) The annual depreciation charge on factory machinery
A cash budget only records actual cash inflows and outflows. Depreciation is an accounting allocation of cost and represents a non-cash expense; therefore, it must never be included in a cash budget.
Question 4
A company decides to update its annual budget continuously by adding a new budget month at the end of each month that passes, ensuring management always has a full 12-month forecast ahead of them. This technique is known as:
- A) Zero-based budgeting
- B) Rolling budgeting
- C) Incremental budgeting
- D) Master budgeting
Show answer & explanation
Answer: B) Rolling budgeting
A rolling budget is continuously updated by adding a new accounting period (e.g., a month or quarter) as the earliest period expires. This ensures the business always plans for a full year ahead, adapting to current trends.
Question 5
A department manager intentionally overestimates the expected costs of a new project and underestimates the expected sales revenues to ensure the final targets are easy to achieve. In managerial accounting, this practice is referred to as:
- A) Goal congruence
- B) Budgetary slack
- C) Responsibility accounting
- D) Zero-based budgeting
Show answer & explanation
Answer: B) Budgetary slack
Budgetary slack (or padding) occurs when managers intentionally understate expected revenues or overstate expected expenses to create a 'cushion,' making their budget targets easier to achieve and maximizing their chances of earning bonuses.
Question 6
When preparing a master budget, which functional budget must usually be prepared first because all other budgets are derived from it?
- A) The production budget
- B) The cash budget
- C) The raw materials purchase budget
- D) The sales budget
Show answer & explanation
Answer: D) The sales budget
Assuming there are no resource constraints, the sales budget is the foundation of the entire master budget. Production levels, raw material purchases, and cash flows are all ultimately dependent on the expected volume of sales.
Question 7
Which of the following is a primary difficulty faced by Non-Profit Organizations (NPOs), such as charities, when attempting to prepare their annual budgets?
- A) They are legally prohibited from holding cash reserves
- B) They have unpredictable revenue streams because donations and grants fluctuate
- C) They are not allowed to use incremental budgeting techniques
- D) They do not incur any fixed administrative costs
Show answer & explanation
Answer: B) They have unpredictable revenue streams because donations and grants fluctuate
NPOs generally rely on donations, grants, and fundraising, which are highly volatile and unpredictable. This unpredictability in revenue makes accurate budgeting and financial forecasting extremely difficult compared to commercial businesses.
Question 8
In the context of zero-based budgeting (ZBB), what is a 'decision package'?
- A) A document identifying all possible services and their specific costs, which management ranks in order of importance
- B) The final authorization given by the Board of Directors to approve the budget
- C) A continuous update of cash flow forecasts for the next twelve months
- D) The software used to consolidate functional budgets into the master budget
Show answer & explanation
Answer: A) A document identifying all possible services and their specific costs, which management ranks in order of importance
In ZBB, a decision package is a comprehensive document that identifies a specific activity or level of service, calculates its cost, and evaluates its benefits. Management then ranks these packages to allocate limited funds.
Question 9
A business sets a budget based on the assumption it will produce 10,000 units. However, it actually produces 12,000 units. To fairly evaluate the production manager's cost control performance, the original budget should be adjusted to reflect the costs expected for 12,000 units. This adjusted budget is known as a:
- A) Fixed budget
- B) Rolling budget
- C) Flexed (Flexible) budget
- D) Master budget
Show answer & explanation
Answer: C) Flexed (Flexible) budget
A flexed budget adjusts the original budgeted revenues and variable costs to reflect the actual volume of activity achieved. This provides a fair benchmark for performance evaluation and variance analysis.
Question 10
The concept of 'Goal Congruence' in budgeting refers to:
- A) Ensuring that the total budgeted expenses exactly match the total budgeted revenues
- B) Aligning the personal and departmental goals of managers with the overall strategic goals of the organization
- C) Using the exact same budgeting methodology across all departments
- D) Eliminating all budgetary slack before the master budget is finalized
Show answer & explanation
Answer: B) Aligning the personal and departmental goals of managers with the overall strategic goals of the organization
Goal congruence is achieved when the budgeting and performance measurement systems encourage individual managers to act in ways that simultaneously achieve their own personal/departmental objectives and the overall goals of the company.
Question 11
A firm adopts a budgeting approach where next year's budget is prepared simply by taking this year's actual results and adding a 5% allowance for inflation. What is the major flaw of this approach?
- A) It is excessively time-consuming to prepare
- B) It carries forward past inefficiencies and wasteful spending into the new budget
- C) It forces managers to justify every expense from scratch
- D) It requires complex mathematical models to implement
Show answer & explanation
Answer: B) It carries forward past inefficiencies and wasteful spending into the new budget
This describes incremental budgeting. Its biggest flaw is that it assumes historical spending was necessary and efficient. Therefore, any past waste or inefficiencies are automatically funded again and carried forward into future periods.
Question 12
Which of the following is typically the LAST schedule to be prepared in the master budgeting process?
- A) The sales budget
- B) The raw materials purchase budget
- C) The budgeted statement of financial position (balance sheet)
- D) The production budget
Show answer & explanation
Answer: C) The budgeted statement of financial position (balance sheet)
The budgeted statement of financial position is the final step in the master budget process. It requires the closing balances from the cash budget, the budgeted income statement, and all functional budgets to be completed first.
Question 13
A business discovers that its ability to sell goods is practically unlimited, but it is severely restricted by a global shortage of a specific raw material. In budgeting terminology, this restricted raw material is known as the:
- A) Sunk cost
- B) Principal budget factor (or limiting factor)
- C) Flexible variance
- D) Base decision package
Show answer & explanation
Answer: B) Principal budget factor (or limiting factor)
The principal budget factor (or limiting factor) is the specific constraint that restricts the organization's expansion or operations. When a limiting factor exists (like a material shortage), it must dictate the starting point of the entire budgeting process.
Question 14
A company is preparing its cash budget. Sales are Rs. 1,000,000 per month. 20% of sales are for cash. For the credit sales, 50% are collected in the month following the sale, and 50% are collected two months after the sale. What will be the total cash collected in Month 3 from sales?
- A) Rs. 1,000,000
- B) Rs. 800,000
- C) Rs. 600,000
- D) Rs. 200,000
Show answer & explanation
Answer: A) Rs. 1,000,000
In Month 3: Cash sales = 200,000. Month 2 credit sales collected (800,000 x 50%) = 400,000. Month 1 credit sales collected (800,000 x 50%) = 400,000. Total = 200,000 + 400,000 + 400,000 = Rs. 1,000,000.
Question 15
Which of the following describes 'Responsibility Accounting'?
- A) An accounting system where all costs are centralized and controlled exclusively by the CEO
- B) A system where costs, revenues, and investments are traced to the specific individual manager who has control over them
- C) A method of calculating the exact environmental footprint of an organization
- D) A regulatory requirement to report budget variances to the government
Show answer & explanation
Answer: B) A system where costs, revenues, and investments are traced to the specific individual manager who has control over them
Responsibility accounting is a system that identifies specific responsibility centers (cost centers, profit centers, investment centers) and holds the individual manager accountable only for the variances and items they can actually control.