Pros and Cons of budgeting in modern environment

Pros and Cons of budgeting in modern environmentBudgets be recognized as time-honored tools for homework and setting presidential terms goals, for communicating among merged constituencies, and for providing basis for operating results review as well as mathematical process evaluation. While it is difficult for firms to have perfect budgets that make use of all functions evenly well, differential emphasis on the respective uses of budgets reflects the environment variation and contracting needs. The modern economic environment is associated with a rapidly changing environment, flexible manu facturing, mulct product life cycles and highly customized products and services (Abdullah N.B. 2008). The delineates to survive is flexibleness and rapid response whereby companies are able to move quickly to exploit opportunities as they lift and does not operate according to elaborate business plans (Abdullah N.B. 2008).We were being overtaken by events. Traditional planning and budge ting strategy had to give. Senior vice-president in Fujitsu Computer Products of America, Kevin T. Parker said that, division managers budgeted at the detail level before the company had agreed on strategic objectives. (Banham, R. 2000.) Fujitsu were long on answer and short on valuable culture to run the business. Department managers would forecast product availability and customer expectations independent of one another, then negotiate with top management for few times until they were final. This circuitous routine took two months, an exceptionally long period of time in the fast-paced computer industry. (Banham, R. 2000.)Most organizations recognize budgets as a key element in their management control systems, that the expedientness of budgets has generated intense discussion and debate. Budgets have been proven by some of the researches that budgets are less useful in todays highly contend business environment. Traditional budgeting, budget planning is a top-down process which will not support the types of extreme decentralization and employee authority initiatives that are required for firms to be competitive today (Libby T., and Lindsay M., 2007).Budgets are no longer useful in the current environmentBudgets constraint responsiveness and flexibility and are often a roadblock to change. Traditional budgeting is focused on the achievement of the specific plan or budget and this resulted in organizations eyesight to unendingly focus on how to achieve and beat the budget. But indeed, the objectives of a company should not be to beat the budget but to beat the competition. (Leone, A.J and Rock, S. 2000) Whereas, in traditionalistic budgeting there is rarely an opportunity to amend, change or update the budget once it has been approved, should there be any changes in the environment or assumptions diligent (Abdullah N.B. 2008). Thus, managers only can decision within the budget, but the particular decision that he make, might not be the perfect sol ution managers are tended to forego best solution due to not exceed the budget, and thus inhibits management response to change. This focus can act as a constraint, decreasing the firms flexibility and ability to adapt and deal with unexampled opportunities, threats or changes in customers requirements (Abdullah N.B. 2008).Traditional budgets prevent empowerment and the opportunity for employees to contribute to the achievement of strategic objectives. It is blocking employee initiatives and demotivated employees, where employee initiative and pauperization are needed in todays highly challenging environment, which can make a marked improvement in proceeding and productivity, thus it is a barrier to continuous improvement and success, because, less focus is given on how to maximize the organizations potential. According to the Shastri K. and Stout D.E., many segment-level employees1 than corporate-level employees felt that budgets had negative behavioral consequences in name of employee initiatives, motivating short-term decision making, and pressure to achieve targets.Budgets encourage caper and dysfunctional behavior. (Abdullah N.B. 2008). Libby T., and Lindsay M., (2007) explicitly addressed the issue of budget fun. Majority of the respondents surveyed indicated that three gaming phenomena occur at least occasionally spending money at year-end to avoid losing it the old-age use it or lose it syndrome, deferring necessary expenditures and negotiating easy targets theSegment-level was specify variously as a subsidiary, division, department, or product level.sandbagging syndrome (Libby T., and Lindsay M., 2007).This is especially the case when meeting the budget is directly linked with rewards and incentive payments to individuals and/or team. Indeed, many organizations check budgetary performance subjectively into the overall performance evaluation of managers (Libby T., and Lindsay M., 2007). Moreover, managerial compensation plans, including ince ntive compensation formulas, incorporate achievement of specified budget objectives for monetary performance measures. (Shastri K. and Stout D.E. 2008) The dual roles of budgeting gives rise to agency problems in the budget-setting process and affect the accuracy of budgets. Majority of participants seek to maximize their personal gain during the process of setting budgets. Once, goal congruence is not achievable, there are conflicts of interest between company and employees, and this is where the agency problems are occurred. Tying budget targets to compensation contracts encourages managers to back up the budgeting system to increase the probability they will sire positive performance evaluations and, therefore, any related bonus (Libby T., and Lindsay M., 2007). Budget gaming is when managers are use to receive positive performance. For examples, when companies are using budget integrated with incentive program, managers will try they best to show a good performance but gaming the budgets. Managers might defer necessary expenditures (such as, maintenance of machine, advertising cost, research and development) to meet current period budget targets, which will affect effectiveness and efficiency of company. as well that, managers will take big bath when budget targets could not be attained, which mean the effort of producing the budget is not appreciated. Using budget as the tools of evaluating performance will lead to negative behavioral consequences.Budgets can still be useful in the current environmentBudget should use as the canonic for performance evaluation but not the only means to evaluate performance. As mentioned above, solely focus on budget as the only bearing to evaluate performance and compensate managers will result in agency problems. Agency problems will lead to company underperformance. Budget can be useful once, the incentive program is not mostly depending on it. In order to measure performance, budget is not the only option companie s should design an effective performance measurement system by integrated financial2 and non-financial3 indicators as tools of measuring efficiency or performance. Moreover, companies should design an effective system which can link to strategy and goals of the organization to encourage goal congruence, recognize controllability and emphasize on employees empowerment. By designing a system besides budget to measure performance can realize agency problem. Measure performance of managers based on controllability and responsibility, which mean top management should back out non-controllable variances before comparing actual to budget. For instance, companies such as Allstate, Fujitsu, Nationwide Financial Services, Owens Corning, Sprint and Texaco, are compensating the managers for achieving measurable results (Banham, R. 2000). For example, when evaluate performance of production managers should back out the machine breakdown hours, because it was not under his controllability but is engineers responsibility. Besides that, provide incentive to managers who manage to generate an accurate budget, managers will tend to provide secret information to the budget, thus, it make the budget more accurate. In addition, Hope and Fraser propose a new management object lesson to take the place of budgeting for control purposes. This new model is based on employee empowerment and alternative methods of performance management, which to suit the requirement of todays highly challenging environment (Libby T., and Lindsay M., 2007).Financial indicator such as, return on investment (ROI), residual income (RI) and economic respect added (EVA).Non-financial indicator such as, benchmarking, balance-score card, customer satisfaction measures, defect measures, product quality measures, accident measures, machine downtime measures, delivery time measures and etc.Moreover, there is a new model which known as beyond Budgeting was developed by two consultants, Jeremy Hope and Robin Fra ser, in order to find and develop alternative tools to the planning and budgeting process (Abdullah N.B. 2008).This new model is based on employee empowerment and alternative methods of performance management (Libby T., and Lindsay M., 2007).Most of the organizations which are high profile companies, have addicted the major annual budget preparation, the beyond Budgeting Round Table (BBRT4) members realized that attempts to make incremental changes to improve the budgeting system by introducing zero-based, activity-based or faster budgeting are not solving the problems caused by the fast-changing business world (Abdullah N.B. 2008), but to change the underlying culture of contract, compliance and control embedded in the traditional budgeting. Beyond Budgeting model, BBRT have developed a generic model that is based on 12 principles to create a flexible a responsive management model with an underlying culture of responsibility, enterprise and learning. Companies that operate in a bu siness environment that is market led, highly competitive and unpredictable, and in which intellectual capital is the key strategic resource and which have already successfully implemented various management tools like the Balanced Scorecard, Activity-Based Management and Rolling Forecast, should be the ideal view for the Beyond Budgeting model.The BBRT is the combination of a new concept (beyond budgeting) and a community (round table). The BBRT community is an independent research collaborative that shares its knowledge crosswise its global interlock through conferences and workshops.Source Abdullah N.B. 2008. Chapter 3 Scenario of Corporate Planning and Budgeting in a rapidly changing environment.These 6 principles (Table 1.a) concern creating a flexible organizational organise in which authority is devolved to employees. The following 6 principles (Table 1.b) deal with designing an adaptive management process for a flexible organizational structure.Table 1.b The 12 Beyond Bud geting Principles and PracticesSource Abdullah N.B. 2008. Chapter 3 Scenario of Corporate Planning and Budgeting in a rapidly changing environment.ConclusionBudgeting, despite being proven to effectively act as one of the building blocks of management control system, was commonly viewed as a restriction of companies flexibility and competitive ability. Yet, despite various criticisms, budgets are in fact alive and well, rather than becoming obsolete, most organizations use a traditional budget because they are easy to put together and simplify coordination of budget assumptions across different departments. This is the simplest method of budgeting. But, indeed, with a traditional budgeting, company might be underperformance. In order to be more competitive in today challenging world, adopting advanced budgeting approaches is needed as it is focus on empowerment employees as well as responsibility.