Budgets An integral part of financial management

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In recent years there has been much debate on the uses and benefits of budgets. Budgets and forecasts are an integral part of the financial management of corporations and without budgets, financial management in organisations around the world will never be the same. However in the last decade or so there have been increasing calls for an elimination of the budgeting process due to many different reasons. Therefore in this paper the author will carry out a literature review that will study published material on the above topic and draw conclusions on the necessity of budgets and if they have ceased to serve any purpose in the modern day corporate world and financial management.

This research paper will begin by providing a brief background of budgets, the budgeting process and the benefits and advantages of a process. Then the author will go on to describe the objectives of the research paper. A review of literature will then follow the objectives, as the author attempts to study the varying viewpoints of scholars on the above topic. After the literature review the author will then discuss the findings and analyse the literature that was reviewed and this analysis will then be used to draw conclusions and help the author to develop an opinion on the subject.

Background

Budgets and the budgeting process has been around for as long as financial management practices have been around and therefore the budgets have been said to be an integral part of financial management. Practices such as forecasting tie into the budgeting process and are interdependent on one another (Dayananda, Irons, Harrison, Herbohn & Rowland, 2002). For instance a company usually forecasts the sales that it will be making in a coming year, and based on those forecasts the company will then create the manufacturing or production budgets - which will include the expenses that have to be incurred by the organization in manufacturing the volume of products that the sales department, expects to sell in the coming year. Likewise marketing and promotional budgets, cash budgets etc will be prepared based on the sales forecasts as they are all integral parts of sales and are expenses that have to be incurred by the organization in their quest to sell the forecasted volume of products (Taylor & Rafai, 2003).

Based on the information that has been discussed above it is apparent that the budgeting process as well are budgets play a very important role in organizations, as it helps the management to plan, anticipate, monitor, control and allocate resources based on the forecasts for the coming period. However in recent times with the many advances that have been made in the field of information technology and the changes taking place in financial management practices, there have been many who state that budgeting is now obsolete and that the process is simply a waste of management's time that can be better spent doing something else (Danielson & Scott, 2006). Therefore it was the author's opinion to study this area and draw conclusions based on published research into this area.

Objectives of the Research Paper

As stated in the above sections the objective of this paper is to draw conclusions from the literature that has been published on the uses of budgets and the budgeting process and decide if budgets obsolete and if they are indeed a waste of the management's time. Besides the above it is also the

Besides the main objective stated above it is also the author's objective to gain an understanding of budgets, the budgeting process, the advantages of having a budgeting process within and organisation, the disadvantages of not having a robust budgeting process, as well as the dissenting views on the budgeting process, and why many today think that budgeting is obsolete and a waste of management's precious time.

It is also the author's objective to gain an understanding of the alternatives that are available to an organisation if it decides not to eliminate the budgeting process once and for all.

Therefore it is safe to say that the objectives of this paper is three fold, to understand the budgeting process, to gain a knowledge of the alternatives that are available to organizations that eliminate the budgeting process and finally to draw conclusions from published literature if budgeting is a useful process or if it is simply obsolete and a waste of management's time.

Literature Review

The idea that budgets and the entire budgeting process is obsolete has been around for over a decade (Emelo, 2004). While in the past the noises made in financial circles were minimal in the past few years these calls have become more vociferous (Miller, Hildreth & Rabin, 2001). Added to that there is many examples today of companies that have done away with the entire practice. Companies in Scandinavian countries have lead the way in this debate and have totally dispensed with the practice (Banham, 2000). One may venture to think that these companies have been having many financial troubles since it did away with the practice of budgeting, however on the contrary research states that these companies are doing very well and are expected to continue on their successful path in the future as well (Miller, Hildreth & Rabin, 2001).

Budgeting is a very important component of both the financial accounting as well as the management accounting process. In financial accounting, budgets help an organisation to look ahead into the future, forecast the revenues that can be generated and the expenses that will have to be incurred to generate those revenues and plan and allocate resources accordingly (Banham, 2000). Resources as we all know are limited and sometimes scarce and the budgeting process helps to allocate these scarce resources in a manner that would help the organisation to reap the optimum profits and benefits (Miller, Hildreth & Rabin, 2001).

While the above help the organisation to work within its means, not waste resources, make optimum use of the scarce resources, track the performance of the organisation, ensure that there is sufficient cash flow at all times (through cash budgets) and monitor and control the operations (by ensuring that the variance is not more than +/-10% at all times), the downside of budgets is that through the years they have gained a bad reputation for being bloated and wasting resources because many business units tend to "pad budgets" (Burns & Walker, 2009). Thus opponents of the budgeting process state that all the benefits of the budgeting process are outweighed by this one downside, which neutralizes or rather wastes scarce resources and causes inefficiencies (Milani & Rivera, 2004).

Companies that have done away with the budgeting process, have found that the efficiency in their organisation has increased and that the management's time is better spent attending to the day to day operations of the business units, rather than preparing budgets. The whole idea behind the budgeting process is to plan, co-ordinate, allocate, monitor and control - which means that when something unanticipated comes up, the budget should be adjusted to reflect it (Lynn & Madison, 2004). Unfortunately it has been found that less than 20% of companies using budgets actually adjust their budgets and this rigidity alone has succeeded in indicating obsoleteness of budgets (Neely, Bourne and Adams, 2003).

On the contrary, companies that have dismantled the budgeting process once and for all, rely to a great extent on rolling forecasts, which can be adjusted without too much hassle and give the organisation the necessary flexibility and helps the organisation to react to unexpected situations rapidly (Lynn & Madison, 2004). Further it is the opinion of these companies, that the budgeting process cannot be accurately carried out without accurate forecasts and once the forecasting is done, the budgeting process takes double the time and adjusting the budget has to go through so many levels of approval that it is simply a cumbersome process that is a waste of the management's time and does not provide the organisation with the flexibility that is vital in today's dynamic business environment (Neely, Bourne and Adams, 2003). On the contrary it is the opinion of many of these organisations that rather than helping the organisation to be flexible and react to unexpected situations rapidly, budgets and the budgeting process simply slows down the company's ability to react to changes in the business environment and causes rigidity (Milani & Rivera, 2004). Therefore the companies that have dismantled the budgeting process are of the opinion that accurate forecasting will enable the organisations plan its future strategy, co-ordinate the operations of all the different units of the company effectively, make resources allocation simple and last but not least ensure a simple monitoring process and provide the organisation with the ability to react rapidly and make the necessary changes to its strategy without much delay, which according to them could not be done when they had a formal budgeting process (Neely, Bourne and Adams, 2003).

Findings and Analysis

As stated above the budgeting process is an integral part of both the financial and management accounting practice and even though there are many opposing views, budgets still play a huge role in many organisations. While many organisations have stepped away from using budgets for many different reasons, at least 80% of companies still continue to use budgets, as the key benefits of budgets are seen to be irreplaceable by other practices (Myers, 2001). On the other hand many companies that have stepped away from the budgeting process, cite the entire process as being obsolete and a waste of time as well as a waste of scarce resources (Bordonaro, 2003). Budgeting is a seen as a waste of scarce resources because it is thought that many managers engage in the practice of budget "padding".

This is not an untrue statement and many organisations that still hold on to the budgeting process are aware of this downside. In surveys and studies that have been conducted in the past into the practice of "budget padding", it has been found that managers most often resort to such tactics for many reasons. The chief reason for "budget padding" is that they feel that top management arbitrarily cut budgets by 20% or so and therefore unless they are "padded" the business unit will not have sufficient resources with which to operate. On the other hand when top management has been questioned on this aspect, they too have often owned up to the procedure of arbitrarily cutting budgets by 10-20% because they feel they are inflated (Neely, Bourne and Adams, 2003).

When we take the above into consideration it is not hard to say that budgeting is indeed a waste of the management's time, as the entire process is based on inaccurate numbers and creates inefficiencies and wastes resources.

Conclusion

Therefore one may venture to say that eliminating budgets is the best thing that happened to financial and managerial accounting, unfortunately the solution is not that clear cut. Organisations that have advanced forecasting software and robust policies and procedures in place to work with rolling forecasts will no doubt be able to work effectively without budgets, however those who do not have access to such advanced software cannot simply do away with the budgeting process, as that would only create chaos in the organisation and be ultimately detrimental to the financial survival of the organisation.

Based on all the information that has been discussed above it is the author's opinion that budgeting is not obsolete and it is not a waste of management's time, if the process is carried out in an appropriate manner. By this it is meant, that if budgets are not "padded" and if organisations reduce the bureaucracy surrounding the process, thus enabling the company to make changes to the budget during the financial year and in a rapid manner, then budgets will be able to provide the company with all the benefits of rolling forecasts. Further the author is also of the opinion that not all companies have the necessary resources and know how to use rolling forecasts, whereas creating and using budgets is relatively easier and can be done by individuals who have no specialised knowledge in accounting and therefore budgets are more practical for small and medium sized organisations.

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