Discuss how budgeting may be harmful to the achievement of business objectives By involving managers in budget preparation we can create a communication channel, and managers at all levels are more likely to understand the justification for any changes in operations. In such case, instead of complaining, they might well become more constructive, and even innovative in their responses.
However, there are advantages and disadvantages of budgeting in the dynamic business environment.P Atrill & E McLaney (2002:132) suggested that budgets are seen as having five main benefits to the business – promote forward thinking and the possible identification of short-term problems, motivate managers to better performance, provide a basis for a system of control, help co-ordinate the various sections of the business and provide a system of authorisation. The advantages of budgeting are to help to control income and expenditure, helping to draw attention to waste, losses and inefficiency.It is also argued that budgeting could lead to better managerial planning and control because resources could be allocated more precisely to specific activities, and actual achievements could be monitored more effectively.
Other advantage is that performance can be analysed in figures to measure financial success/loss, and by hitting the targets can also be a way of motivating staff. Bear in mind these only apply to a well structured budget where the target is realistic, but there is no measurement or definition of a well structured budget.This can only be justified by an experience member of senior managers. T Hines (1990) cited that the managers who are responsible for particular budget areas should be aware of these responsibilities. As we have discussed this on the pervious page, there are behavioural implications arise out of implementing a budgetary control system, therefore it is almost impossible to judge whether or not the targets are set at a realistic figure. Even though the budget targets are being set realistically and well structured, it is simply impossible for anyone to predict the future.
For example, the New York 9-11 case happened out of the blue, no one would ever think of this type of terrorist attack would happen, and in result of this incident, the US markets fall dramatically. From this example we can see that this comply with the argument from P Atrill & E McLaney (2002:147) – “Budgets cannot deal with a fast-changing environment and that budgets are often out of date before the commencement of the budget periods. ” Budgeting can also put management on high pressure on archiving the short-term goals rather than the long-term goals.
For example, the manager turns down requests for overtime work because the budgeted overtime has already been exceeded. In result the job is not completed on time and the company may have to pay a large sum under a penalty clause in the contract. In this case, although the manager may have met the budget target (short-term goal), but due to the incomplete production, it results in losses for the company or the customer will simply go else where (long-term goal).This does not only affect the company’s profit, but also its reputation.
As we can see from the example, individual managers’ goals are being more important than overall company aims, it can focus too much management attention on the achievement of short-term targets rather than aiming for the long-term success. Preparing budget is a time consuming task, management needs to have many meetings and discussion before they can draw up a well structured budget.Again we can see this is mainly focus on the individual managers’ goals (by setting up the budget on time) rather than focusing on the more important tasks, such as how the company can increase their sales level, how can they improve their existing production to attract more customers etc. By the time the budget is drawn up, it may be out of date and need new amendments, which again, the manager needs to spend more time of adjusting the budget.P Atrill ; E McLaney (2002:148) also argue that “Budgeting encourage incremental thinking by employing a ‘last year plus x per cent’ approach to planning.
This can inhibit the development of ‘break out’ strategies that may be necessary in a fast-changing environment. ” Although budgeting can identify and eliminate the unnecessary costs, but cost cutting do not fit with overall strategy. As we mentioned before, things can still go wrong no matter how methodical or well intentioned everybody may be.Incremental approach to budgeting is fairly widespread, it is a logical approach to planning for the next year in that it starts with the current or latest year. The approach bases the next year’s budget on the previous year’s actual figures, plus an allowance for inflation, and a percentage deduction to encourage cost reduction. The incremental approach has the advantage of being relatively simple and therefore cheap to implement.
This is useful in companies where activity and resource levels do not change much.Of course, where inefficiencies and imperfections have existed in previous years they are then compounded on a continuing basis into the budgets of future years. Faced with the need to anticipate sending requirements in an uncertain future, it is unsurprising that most people want to ‘play safe’.
Research has shown that building some ‘slack’ into budget is widespread. But what makes good sense for the individual budget manager may be damaging for the company as a whole. Managers are only human and can be tempted to do all sorts of things they should not.Top management are also faced with the problem of not always having the necessary information to challenge effectively the estimate produced by lower management. For example, just think of the consequences of this: a manager may add 10% to the proposed budget expenditure in anticipation of being cut down later, senior management cuts it down by only 5%.
It takes only a few budget managers to do this and the company will soon be suffering. If four managers require 100 000 each but bid for 110 000 each and receive 105 000 each, the company will be wasting 20 000.In conclusion, the intention of budgeting is to provide budget managers with a powerful incentive to make company priorities their own, to seek out and deliver economies, driving down costs while maintaining or boosting performance.
By rewarding relatively objective budgetary performance, organisational performance can be improved. This may work to some extent, but it can also produce a further twist in the spiral of distrust, self-protection, deception and cynicism.When pressure to achieve budgetary targets frequently requires managers to make false economies, to withhold co-operation from other department, and to avoid expenditures by imposing even greater costs on other people’s budgets, then clearly something has gone wrong. Furthermore, there is the issue of information and uncertainty. Senior managers do not know what sorts of saving are possible, or what levels of service would be associated with different levels of expenditure. They may have hunches and rough ideas, but they cannot be certain, perhaps by spending considerable time or resources finding out themselves.