Budgeting can be seen as one of the main instruments of planning (Hand et al., 2004). Following such statement, it should be stated that planning, in turn, represents the assessment of the organization’s established goals, in terms of the resources required, and their availability, when necessary. In that regard, a budget can be seen as a document, a detailed organizational policy plan, directed toward achieving organizational goals, which contain the organization’s planned performance in the short term perspective. In that regard, the construction of the budget involves several hard decisions faced by the management, and as a consequence, reflecting on all the aspects of the organization, including marketing, sales, production, and others. The quality of the strategies implemented in budgeting and the priorities set in the process can be reflected in both positive and negative way on the organization.
In that regard, this paper analyzes the budgeting process, the way it might be revised, the influence on behaviour and motivation, the implementation of a system of standard costs and variance, and their benefits of such system, based on the case study of the budgeting problems of HK Corporation, a corporation specialized in the manufacturing a variety of plastic products.
Background of the Problem
The budgeting process for HK Corporation is comprised of establishing the total sales and net income by the managing director. Then, the sales target is used to formulate the sales budget by the Marketing Department, after which sales quotas are established for each of the corporation’s sales district. Using the aforementioned information the marketing manager, the operations manager, and the production manager determine the marketing costs, the pound amounts devoted to manufacturing, and manufacturing plan respectively. Usually, the process is terminated half way through the development of manufacturing plan, due to financial constraints.
The Contribution of the Budgeting Process in HK Corporation
One of the main aspects contributing to failure of HK Corporation can be seen through the absence of the process of budget revision during the phases of the company’s management control. The phases of the management control should flow for budgeting to operating and measurement, and reporting and analysis. From that point the report and the analysis should provide information, according to which the budget should be revised (Tayles, 1998). In the case of HK Corporation, it can be seen that the budgeting process is one directional, where the process of setting the targets in the budget lacks any means of feedback in the process. Accordingly, the failure to provide feedback leads to that the there is no budgetary control, through which the actual outcomes are compared to the established budget, through which the budget is revised (Tayles, 1998).
The only means of control, can assume to be through the adjustments that are made to cut the costs, which are initially not covered in the budget, so that the targets are met. In that regard, it can be said that on the one hand, reviewing the budget in retrospective shows that the cost-expenses budget are adequate to the product-line sales budget, as the costs and the expenses are specifically tailored to match them in the process, and on the other hand, the accumulation of unplanned cost cuts, assumingly in functional areas, made during the planning for each department lead to that the department already makes compromises related to the nature of the costs cut. In that regard, tailoring the specific department budget, without providing a feedback for correction establishes a closed circle or underachievement, which will be hard to break, as shown in the case of HK Corporation, unless changes are made to the budgeting process. Additionally, it can be seen that the enforcement of the budget on the departments to improve the performance led to breaking the corporate ethics of the corporation, a decrease in the employees’ motivation, and the raise of complaints, all of which negatively influence the organizational culture in the company, and in turn, demotivates the management.
Suggestions for Revision
The main suggestion, according to which the budgeting process should be revised in HK Corporation, can be seen through establishing balanced targets, which will not be too tight, nor too far, and which will stretch the management toward achieving better performance (Hand et al., 2004). The determination of the target can be set through establishing a system of feedback as models of control. In that regard, two options can be implemented for such control, which are the feedback control and the feedforward control. The feedback control is an error-based mechanism for correction, according to which the deviation between the actual costs and the set goals will be determined after the occurrence of the events, i.e. the actual output. In the feedforward control, the control actions are implemented during the process of implementation to minimize the differences. It can be assumed that the current budgeting process in HK Corporation implements a sort of feedforward control, where the control actions can be seen through the costs cuts applied in the process. Nevertheless, it can be seen that these cut costs are not reflected in the general budget, and thus, the set targets remain unaffected, and as stated in the case study, “total sales and profit figures proposed by the managing director are seldom changed”.
In that regard, the suggestion would be to implement the feedback control system, in which the measurement and the comparison of the results will be performed after the output of the actual sales and profits is released, based on the real output of the company (Tayles, 1998). These results should be used as input information for the budgeting process for the next fiscal years, gradually increasing the number of expected sales, so that the element of motivation for achieving higher results will remain, through which incentives might be provided to the departments reaching the set goals and targets. The provision of the feedback would result in that the budget will be constructed from the bottom up, rather than from the top to the top, as it is the case now with HK Corporation. Thus, the feedback will show the way the budget should be constructed from the management of the divisions toward the managing director, who will review the feedback and construct the budget.
Cuts in the Functional Areas
It can be implied from the case of HK Corporation that the budgeting process implemented in the organization is of repeated nature, and thus the cuts in the functional areas are of recurring pattern, at the beginning of each fiscal year. In that regard, it should be stated that cutting the costs of the functional areas is not a necessity, specifically in such manner, where the budget is set on a specific time frame, which is one year, through which the costs can be maintained. The cases in which the cuts could be cut in the functional areas, if the volume falls below the set goal, include cases when control is maintained over the costs in each functional area, the budgeted costs were balanced and reasonable, the budgeted costs correlate with the changes in sales, and the existence of costs that can be easily modified, i.e. delayed or omitted, without affecting the department for which the budget was constructed.
Standard Costing System and Motivation and Behaviour
Standard costing system can be seen as an instrument that will improve the motivation of the workers. According to the conversation that occurred between Adam and Ali, the purchasing manager and the manufacturing supervisor of HK Corporation, the company is very short on praising their employees on good performance, as Adam asked Ali, “Do you ever hear comments when your department shines?” In that regard, the standard cost system will help in delivering the expectations of the upper top management to the rest of the employees in other departments. Accordingly, when standards will be achievable or even will be exceeded, it will be expected for the employees to be rewarded for such performance (Kinney and Raiborn, 2009). The latter can be seen as a positive factor in increasing the motivation of the employees, and in turn will influence their behaviour to reach higher results.
The Benefits from Implementing Standard Cost System
The benefits that can be achieved from implementing standard cost system can be seen on several dimensions. First of all, the system will enable an effective cost control system, where the variance will indicate the weak spots in the organization, so that the corrective actions will be easier to perform. In that regard, situations in which actual costs greatly exceed the standard cost would be analyzed, so that standard costs will be revised or specific performance issue might be fixed. At the same time, such approach will help the manager to set their priorities, where in the case of HK Corporation, if costs are contained within the standards in a certain department, the managers can switch to focus on other issues.
Other benefits might include the fact that setting standard costs and measuring the variances will help the company in setting their target sales and production volumes, in accordance to those costs and variances. Accordingly, such system implies a frequent basis of reports being prepared, so that the information in the reports are still in effect, which will help make the budget flexible to include responses to changes that might occur. The latter can be seen through the case, such as the example of the strike that delayed the delivery of the materials, the adjustments for such force majeure situations.
Recommendations for Improvements
According to the way the financial reports are being delivered in the company, it can be suggested that the company implement the reporting system on a more frequent basis, and thus they should be focused not so much on precision, rather than being relevant to the time frame in which they are released. Preparing precise reports, which are month old, are less valuable than approximately correct reports, but up to date. Accordingly, to facilitate the preparation of such report, the company should provide the information of the department, the results of which are interrelated, and in such way the preparation of such reports will not be such a burden on the shoulders of the employees in each department.
It can be concluded that the budgeting process implemented in HK Corporation is in need of serious revisions, which should improve the way established goals are achieved in the company. In that regard, implementing a bottom-up budgeting process, as well as a feedback system of control can be seen as a step in the correct direction. The latter can be facilitated by implementing the system of standard cost and variance, which additionally will improve the motivation of the company’s employees.
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