Important tool for effective short-term planning and control

(BUDGET)
Forces you to consider:
Whats important to you (goals)?
How do you want to achieve your goals?
What will it take to accomplish your goals?
Budgeting is the process of setting financial goals, forecasting future
financial resources and needs, monitoring and controling income
and expenditures, and evaluating progress toward achieving the
financial goals.

Estimate potential profits (revenues & expenses) (NATURE OF A

BUDGET)
Stated in monetary terms
Cover a period of one year
A management commitment
Reviewed & approved by higher authority than budgettee
Once approved, it can be changed under specified conditions
Periodically the actual performance will be compared to budget

Strategic planning & budget involve planning but different processes

(RELATION)
Budgeting focuses on one year, while strategic planning focuses on
several years
Strategic planning precedes budgeting and provides a framework for
budgeting
Strategic planning is structured by product lines or programs, while
budgeting is structured by responsibility centers

Fine-tuning the strategic planning (USE)

Coordination
Assigning responsibility
Basis for performance evaluation

Strategic Plan: (TYPES OF PLANS)

Revenue and expense for each major program
Not necessarily by responsibility centers
Not as much detail as operating budget
More expenses are variable
For several years
Total reconsiles to operating budget
Operating budget:
For organization as a whole and for each business unit
Classified by responsibility centers
Typically includes: Revenues, Production cost and cost of
sales, Marketing expenses, Logistic expenses, General and
administrative, Research and Development, Income taxes, and
Net income
Expenses may be: Flexible, Discretionary, Commited
 For one year divided into months or quarters
Total reconsiles to strategic plan (unless revised)
 Capital Budget (OTHERS)
Each major capital project listed separately
Total project expenditures by quarters
Cash Flows Budget
Budgeted Balance Sheet
Budgeted Cash Flow Statement
Management by Objectives
Specific objectives included in the budget amounts, such as
open new sales offices, introduce a new product line, retrain
employees, install new computer systems, etc.

Organization: Budget Department, The Budget Committee, and

Responsibility Centers Managers (PREPARATION PROCESS)
Issuance of Guidelines
Initial Budget Proposal (including changes in internal and external
factors)
Negotiation (slack consideration)
Review and Approval
Budget Revisions
Contingency Budgets

Publishes procedures and forms (FUNCTIONS)

Coordinates and publishes the basic corporatewide assumptions
Make sure that information is properly communicated
Provides assistance to the budgetees
Analysis proposed budgets and make recommendations to
budgetees and senior management
Administer the process of making and revising budget
Coordinates the work of budget departments in lower echelons
Analysis reported performance against budget

Participation in the Budgetary Process (BEHAVIORIAL ASPECTS)

Degree of Budget Target Difficulty: Challenging but attainable
(Realistic Budget)
Senior Management Involvement
The Budget Department

Attainable profit targets are a way of minimizing disfunctional

actions (taking short-term actions). (APPROVING ACHIEVABLE
BUDGET)
Achievable budget targets reduce the motivation for managers to
engage in data manipulation.
If BU profit budgets represent achievable targets, management can
divulge a profit target as reasonable or right target.
Overly optimistic targets lead to overcommitment of resources.
Achieving the targets provides a winning atmosphere and positive
attitude within the company
 Depends on a sound organizational structure with authority and
responsibility for all phases of operations clearly defined
(EFFECTIVE)
Based on research and analysis
with realistic goals
Accepted by all levels of
management

Participative Budgeting
May inspire higher levels of performance or discourage additional
effort
Depends on how budget developed and administered
Invite each level of management to participate
This bottom-to-top approach is called
(Participative Budgeting)
Advantages:
More accurate budget estimates because lower level managers
have more detailed knowledge of their area
Tendency to perceive process as fair due to involvement of lower
level management
Overall goal - produce a budget considered fair and achievable by
managers while still meeting corporate goals
Risk of unreliable budgets greater when they are top-down

Address critical performance issues (PROPER STRATEGIC

PLAN)
Create the right balance between what the organization is
capable of doing vs. what the organization would like to do
Cover a sufficient time period to close the performance gap
Visionary convey a desired future end state
Flexible allow and accommodate change
Guide decision making at lower levels operational, tactical,
individual
 Total Variance: Non-manufacturing costs, Manufacturing costs, and
Sales variances
Non-manufacturing costs variance: Administration, Marketing, and
R&D
Manufacturing costs: Variable costs and Fixed costs
Variable costs variance: Material, Direct Labor, and Variable
Overhead
Sales variance: Volume and Selling Price (VARIANCE ANALYSIS
BROKENDOWN)
Volume: Market share and industry volume

Balanced
A balance between different organisational perspectives in terms of:
The financial and non financial measures
Internal and external performance measures
Leading and lagging indicators
The scorecard emphasizes the idea of cause-and-effect
relationship among measures
Scorecard
A view of the current (and historic) performance of an organisation
taken from a number of viewpoints (perspectives).

Financial: ROI, Cash Flows, Project profitability, profit forecast

profitability, sales backlog (BSC MEASURES)
Internal Business: Hours w/ customers on new work, tender success
rate, rework, safety incident index, project performance index,
project closeout cycle
Innovation and Learning: % revenue from new services, rate of
improvement index, staff attitude survey, % of employee
suggestion, revenue per employee
 Customer: pricing index to customers, customers ranking survey,
customers satisfaction index, market share, business segment, key
accounts

The Balanced Scorecard (PERFORMANCE MEASUREMENT)

Activity-based Costing and Management
Economic Value Added (EVA)
Quality Management
Customer Value Analysis/Customer Relationship Management
Performance Prism

Individuals tend to be more strongly motivated by rewards than

punishment MCS should be reward oriented (RESEARCH
FINDINGS COMPENSATION)
A personal reward is relative or situational
If Top Mgr signals that MCS is important Operating Mgr will also
regard MCS is important
Individual are highly motivated when they receive reports or
feedback of their performance
Incentives become less effective as the period b/w an action and
feedback on it increases
Motivation is weakest when the person believes an incentive is
either unattainable or too easily attainable
Objectives or standards are likely to provide strong incentives only if
they perceive them as fair.

Based on performance in the current year. (SHORT TERM)

Bonus pool = total amount of bonus
Shareholders vote on formula of bonus pool
Total bonus paid in the current year
Carryovers more flexible and stable
Deferred compensation: bonus is calculated annualy, but payment is
spread out over a period of years

Based on the basic premise that growth in the value of the

companys common stock reflects the companys long-run
performance. (LONG TERM)
Example: Stock Options, Phantom Shares, Stock Appreciation Rights,
Performance Shares, Performance Units