Importance Of Budgeting

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According to Ostergren and Stensaker (2007), budgets and budgetary control have long been the dominating instruments for management control, and a significant tool for the company to retain its’ competitive advantage in this demanding economy. The aim of this essay is to study how budgetary control is concerned primarily with the control of performance and how it has taken on a greater importance especially as a more integrative control mechanism for the organisation.

Budgets are defined as a quantitative expression of a plan prepared for sales and production, or for financial resources such as cash, capital expenditure and others (Lucey, 2003). There are three methods to approach budgeting: Traditional Incremental Budgeting, Zero-based Budgeting and Activity-based Budgeting (Upchurch, 2002).

Table 1: Differences between Incremental, Zero-based and Activity-based budgeting

(Wetherbe, 1976)

As stated by Brewer (2002), for a company to attain high levels of performance, the managers should always know “What is Happening” and “What Should Be Happening” which are both deduced through the budget plan - which is defined as a financial plan prepared in advance for a business, and are the central to the process of planning and control respectively.

“What is Happening” refers to planning in an organisation. Goals of an organisation may be stated in terms of profit, return on investment, market share or product diversification which is established from the organisation’s annual planning process. A plan specifies the direction which the management team is heading towards, including making forecasts and assumptions about the external environment. The external environment includes factors such as consumer spending, interest rates, actio...

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...sonality and power are used to impose control over the budget rather than a formal participative budgeting system, where negotiation is the norm. Such unwillingness to allow participation in the budgeting process seems to have negative connotations. The employees will not have the motivation or initiative to perform in a way to be of value to the company . It might prove difficult also to retain staff on its payroll . This could lead to higher costs in hiring and re-training new staff. High turnovers could further demoralise existing employees when they see too many staff leaving, as they would be the ones who have to pick up the slack and devote time and energy to train new entrants (Pilkington & Crowther, 2007).

Setting a budget is a delicate process. Too high or too low a budget can have serious ramifications. Budgetary slack occurs if targets are set too low.

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