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Performance Measurement Strategy


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A performance measurement system is a process developed to implement an organizations strategy effectively. This involves identification of the critical factors that impact overall success. When the strategic factors are correctly identified, measured, and rewarded regularly, employees are made aware of them and are thus motivated to achieve those goals that ultimately result in the overall success of the company. While profitability is an obvious component, there are many other factors that determine both the short and long term goals necessary for company growth and overall performance. The Balanced Scorecard ( BSC ) is one example of a performance measurement system designed to analyze goals from multiple perspectives. The resulting balance that the system fosters culminates in goal congruence and encourages employees to continually act in the best interest of the company (Anthony & Govindarajan, ch. 11, pg. 496). This paper will review the fundamentals of BSC, its historical evolution, and the results achieved from its application in several company case studies.

What is the Balanced Scorecard?

The seminal article, 'The Balanced Scorecard - Measures that Drive Performance' by R. Kaplan & D. Norton, 1992, clearly demonstrates the theory and implementation of BSC. The system is comprised of both financial and operational measures that are derived from a company's strategic objectives. Effective measurement is thus the key component for motivating breakthrough improvements in critical areas (Kaplan, Norton 1993). The "Scorecard" in BSC refers to a means of recording and communicating performance and results. "Balanced" refers to balance among measures, performance indicators, outcome and output measures, horizontal measures and vertical accountability. The framework is designed to improve results via development of high priority actions and resources that compliment the overall company strategy. It is therefore a mechanism to drive change by measurement of future orientated strategies with aggressive goals for improvement. Performance measures are utilized to track organizational performance on a daily bases. This design thereby bridges the distance between leadership strategy and employee operations ( Hall, 2000). Employees are clearly aware of their goals and managers are able to view company performance in several areas simultaneously (Kaplan, Norton, 1992). The four perspectives addressed in this measurement system are:

1)Financial (e.g., profit margins, return on assets, cash flow).

2)Customer (e.g., market share, customer satisfaction index).

3)Internal Business (e.g., employee retention, cycle time reduction).

4)Innovation and Learning (e.g., percentage of sales from new products).

Figure 1, source: Kaplan & Norton, HBR, 1992

The above diagram, Figure1, illustrates the primary components of the BSC system that contribute to its success. By defining the four perspectives and requiring managers to select a limited number of critical indicators, the BSC clarifies the company's strategy and fosters continuous measures for achievement of the established goals (Kaplan, Norton, 1993).

Financial Perspective

The financial performance measures indicate the company's profitability and growth. Historically this measure has been of great importance in determining an organization's worth. While it is a very important aspect of a company's success, relying on financial control systems alone can be detrimental to the company's long term success. If the only goal of the organization is measured by cash flow, quarterly sales growth, and increased market share, the company may resort to the sacrifice of quality and service in an attempt to cut costs and increase immediate sales. While this strategy may be effective short-term, the long-term implications are irrevocably detrimental as customer satisfaction and future sales plummet (Anthony, Govindarajan, ch. 11, p 494).

Some critics feel strongly that financial performance should not be considered a performance measure at all. Rather, concentration of effort in areas of customer satisfaction, quality, cycle time reduction, and employee motivation will ultimately culminate in long-term financial success (Kaplan & Norton, 1992). According to Kaplan and Norton, financial measures are actually beneficial and , when designed correctly, can actually improve the company's total quality management program. For example, Kaplan and Norton site a chemical company case study that implemented a total quality management program consisting of extensive measurements of "employee participation, statistical process control, and key quality indicators" (Kaplan & Norton, 1992). This plethora of data conveyed on the managers reports was so overwhelming as to be useless in terms of evaluating and improving operations. One department manager, however, created a daily income statement in relation to key components of operations so employees could monitor the effects of their production processes from the previous day. In doing so, employees were empowered to make changes to constantly improve the production process and quality which, in turn, had a direct bearing on the bottom line. In this instance, the daily financial report served as the primary communication between management and the production employees to positively or negatively reinforce their operations and decisions from the previous day. (Kaplan, case 9-190-039, Texas Eastman Company, HBR 1992). This example demonstrates a key component of any measurement system: limitations and regular monitoring of critical processes. With this strategy in place, employees are made aware of the organization's strategy and goals and realize the impact that their actions have on those goals. Furthermore, financial performance measures complete the BSC strategy by forcing managers to explore the relationship between operations and finance. Improvements in the areas of quality, response time, productivity and new innovations are only beneficial if they ultimately result in an increase in the bottom line.

Customer Perspective

Financial performance measures, however, are not the only measure of importance to a company's success and, in fact, can be detrimental to the organization's long-term success if overemphasized. For this reason, it is only one of the four perspectives to be considered in the BSC system. Another measure of the BSC system is the Customer Perspective. Many companies focus on "customer satisfaction" but the BSC forces managers to identify the critical factors related to customer satisfaction and the means to measure or monitor them on a regular basis. Concerns generally fall into the four categories of timeliness, quality, service and cost. The important and often overlooked key to this perspective is determining the wants, needs, and expectations of the customer rather than setting the goals arbitrarily. It is often beneficial to use external measures in order to establish company goals with respect to the customer perspective. External measures include customer surveys, report cards, and benchmarking current practices with leading competitors' best systems (Kaplan & Norton, 1992). This category of the BSC system is particularly important to repeat business sales and long term success from customer loyalty and retention. The cause and effect relation between the internal business perspective, customer perspective and the resulting financial perspective is shown in the class text page 499.

Internal Business Perspective

The internal business perspective is the mechanism that provides data linking internal business results to financial success and satisfied customers. Organizational objectives and customer expectations are met through the identification of critical business processes. These processes are then monitored or measured frequently to ensure satisfactory outcomes (Balance Scorecard home page). The data obtained from customer measures and financial performance is then utilized to refine internal processes to achieve goals relating to processes including cycle time, quality, employee skills and productivity. Measures must reflect localized department and workstation levels that are influenced directly by employee actions. In doing so, the employee takes direct ownership of their actions and is fully integrated into the measurement of goals thereby increasing motivation. For example, a responsive information system would allow for the tracking of a late delivery to its source. However, poorly designed measures and the resulting lack of feedback would result in an inability to track problem sources with a concomitant lack of individual responsibility for employees at lower levels. Without properly identified critical goals and measures and a clear understanding and measurement of those goals, employees are unable to contribute and optimize activities that promote the companies overall mission and contribute to financial success. (Kaplan & Norton, 1992)

Innovation and Learning Perspective

The final link that completes the BSC chain involves the company's ability to evolve to accommodate changes in demand, technological advances, and remain competitive in the marketplace. As company goals evolve and change in response to internal and external measures, the importance of this final segment is realized. Inability to measure and respond with innovative improvements in operations and new products would quickly cause a company to lose its competitive edge. While this segment might consume a percentage of the bottom line, the long-term benefits are realized in continual growth and development of the internal processes and customer satisfaction and thus leads to increased overall company value. (Kaplan & Norton, 1992).

The primary benefit of this system is its ability to bridge the distance between upper management strategy and its application to lower level operations. When properly researched and applied the system allows for ease of communication between upper management and all departmental levels. Key objectives are identified and their interrelationship is illuminated. Lower level workers are empowered to make decisions to improve processes. New and better processes are continually discovered, implemented, and reviewed and innovation and action are rewarded at all levels. (Hall, 2000)

Putting the Balanced Scorecard to Work ( Implementing BSC )

Theoretical implementation of the balanced scorecard involves four basic steps:

1)Define strategy

2)Define measures of strategy

3)Integrate measures into the management system

4)Review measures and results frequently

(Anthony & Govindarajan, ch 11, p 500)

While all aspects are important to the success of the system, the essential part is the implementation of measures. Managers must introduce new measures to monitor new goals and processes and continually reevaluate old measures to determine their relevance as the system evolves. (Kaplan & Norton, 1993)

The first step involves defining one's strategy. The BSC is not a one size fits all template, but rather varies widely from one company to the next. It is designed to fit each company's mission, strategy, technology, and culture. (Kaplan & Norton, 1993). The scorecard is defined by its ability to link various perspectives of a company. This interrelationship is the direct result of formulating a concrete company strategy with explicit goals. By defining overall strategy at the corporate level, the scorecard is then applied to the lower levels. (Anthony & Govindarajan, p. 501) In this way, all goals and measurement systems remain interrelated and directed toward the ultimate strategy and well defined goals initially established at the corporate level.

With a well defined strategy and set of critical goals, the system must follow through in applying measures to not only to operations and financial processes, but also to the management system itself. For example, compensation and rewards must also be based on measurement system successes rather then solely on financial performance. (Anthony & Govindarajan, p. 500)

Unlike many other systems, BSC balances critical factors in both financial and operational measures allowing companies to tell the results of actions already taken while simultaneously measuring current practices in customer satisfaction, internal processes, and the organization's innovation and improvement activities which are the indicators for future financial performance. (Kaplan & Norton, 1992) Therefore the review of these measures and results on a regular and frequent basis is the final step in implementation of BSC. It is the responsibility of senior management to constantly analyze the measures and implement changes in the strategy and adjust measures accordingly to be congruent with revised strategies and goals. In doing so, management is constantly aware of whether the strategy is being implemented correctly and its overall success; the importance of these measures is conveyed to all levels of the company; and strategy are constantly evolving and measurements are improving to better reflect those outcomes. (Anthony & Govindarajan, p. 501)

Practical implementation of BSC requires a company to build a unique scorecard. These steps are outlined in the article "Bridging the Distance" by Mary Jo Hall. The design will very depending on where the organization is in terms of strategic planning and implementation, but the process of developing a BSC can be divided into a series of stages that apply to all. When completed, the BSC serves as a mechanism that forces cause and effect analysis and integrates strategy with daily work. The series of six stages include: (Hall, 2000)

1)Mobilizing the leadership

2)Developing the architecture

3)Linking and aligning the parts

4)Mapping the initiatives

5)Rolling out and cascading throughout the organization

6)Continuing to focus and improve the strategy

( source, Hall, 2000, p. 26)

In the first stage senior leadership must be knowledgeable and committed to the BSC structure. A thorough understanding of the BSC system is needed to implement the cascading chain of command that it requires. This is followed by the strategic architecture (stage 2) or developing the perspectives that are appropriate for the organization. Traditionally, the four perspectives include financial, customers, internal business, and learning and growth, but these may be modified to fit the company focus. The value of this architecture is that it forces the company to view its processes and service through the eyes of its customers. Leadership must determine a "Value Proposition" defined by the equation:

Value = Product and Service Attributes + Image + Relationships

Customer satisfaction measures include time (rapid response), quality (defect free products and services), and price (not just at purchase but over the lifetime). (Kaplan & Norton, 1996). Leadership must therefore create a "value chain" that links internal processes with customer perceived value including the development of new work, production, and delivery. Objectives can then be determined for each BSC perspective. This is accomplished via brainstorming for each perspective and then identifying the most critical objectives.

In stage 3 the perspectives are lined up horizontally with financial on top, followed by customer, internal processes, and learning and growth on the bottom. (see Figure 2, Strategic


Figure 2, Strategic Map, source: Hall, 2000, p 26

An interrelationship digraph is constructed for each objective. This often times reveals a critical path that highlights the " high impact objectives" (those steps that produce the greatest return in the shortest amount of time). Measures are then assigned for each objective including defining the unit of measure, and how and when it is collected.

With clear objectives and measures determined, stage 4 involves mapping initiatives. These action projects are used to evaluate the company strategy once the initiatives are mapped the strategic map is basically complete and can be implemented.

Stage 5 and 6 are the implementation of the strategic plan via creating links between resources and initiatives. This involves establishment of communication, implementation techniques, and feedback mechanisms. Followed by the continual improvement via feedback loops to constantly assess and report the BSC process. (Hall, 2000).

Case Studies

The remainder of this paper will review BSC applications in several organizations to show the variations and modifications of the BSC system as it applies to different company models: traditional for profit, Department of Defense, government, and health care industry. As stated earlier, creation of the balanced scorecard for each company is customized to reflect the company's strategy and objectives. BSC is utilized by more than 50% of North American companies nationwide attesting to its popularity and effectiveness as a management system. (Turner, 2000).

Rockwater Case

Rockwater, a wholly owned subsidiary of Halliburton, a global engineering and construction company, is a worldwide leader in underwater engineering and construction. Increased competition forced the CEO to consider ways to make the company more competitive. The strategy involved developing long-term relationships with large suppliers based on value and safety rather than low-price competition, while maintaining a second-tier service for customers that chose suppliers solely on the basis of price. The following diagram (Figure 3) shows how Rockwater's vision was translated to a company strategy and then broken down into the critical strategic objectives from the four BSC perspectives.

Figure 3, Rockwater's Strategic Objectives, source: Kaplan & Norton, HBR , p.135,1993

The vision was determined by the senior management team. Then the strategy was developed to implement the vision. These were, in turn developed into strategic objectives. The next step, of course, was translating those objectives into tangible goals and actions. The Balanced Scorecard's set of four performance measures was thus utilized to facilitate that link. See Rockwater's BSC , Figure 4 below.

Figure 4, Rockwater's BSC, source: Kaplan & Norton, HBR , p.135,1993

The financial measures encompassed both short-term goals of: Return on Capital Employed, Cash Flow, and Project Profitability addressed historical uncertainty caused by unexpected variations in performance.

Customer satisfaction perspective was divided into Tier I and Tier II customers. Tier I customers were asked to supply monthly service and performance ratings, providing the company with competitive market feedback. Market share by key accounts provided objective measures of their success in this area. (Kaplan & Norton, 1993).

Internal processes were determined for each project life cycle. Emphasis was placed on the aspects that the company found most important to their vision including 1) time spent with new customers. This emphasis communicated the company's belief in the importance of building long term relationships and satisfying customers 2) emphasis was also placed on safety as internal studies revealed that indirect costs from accidents could be 5 - 50 times the direct costs.

Innovation and Improvements came from product and service innovation and improved internal work processes. Measurement for these systems was tracked by percent revenue from new services and by a continuos improvement index that followed several key operational measures such as safety and rework. This perspective also included staff attitude survey and employee suggestions which the company felt empowered and motivated their employees.

In this example, the BSC assisted Rockwater in achieving a process view of operations, motivation of employees, improved safety protocols and long-term value oriented partnerships with customers which culminated in their original mission statement: to be number one in the industry. (Kaplan & Norton, 1993)

Department of Defense Case

The Department of Defense (DoD) has also adapted the BSC as a means to measure performance for electronic business and electronic commerce (EB / EC). Figure 5 shows the use of BSC that has been modified to a phase continuum model.

Figure 5, Use of the EB/EC Continuum

With this modification, organizations with DoD can evolve from Phase 1 usage of EB / EC to the more complex use of electronic technology in Phase 3. Each phase outlines the goals and performance measures established for the segment and is designed such that the department can graduate seamlessly to the next phase. (Defense Reform, Electronic Commerce Conference, April,2000)

Traditionally, federal agencies focused on internal or process performance as determined by factors including: number of programs controlled by the agency, number of full time equivalents allotted, and the size of the budget. With the BSC system, the framework allows the measurement of the organization's short-term and long-term ability to meet goals through the identification and assessment of performance drivers and outcomes. (Defense Reform, Electronic Commerce Conference, April,2000).

The following diagram (Figure 6) illustrates the balanced scorecard perspectives used by the DoD.

Figure 6, Balance Scorecard Perspectives

Again, the BSC system has been modified from the original four perspectives to include all of the relevant perspectives required to achieve the desired goal by balancing the results of internal processes with external stakeholder measures. (Defense Reform, Electronic Commerce Conference, April,2000).

Due to the immense number of processes and organizations throughout the DoD, measurement approaches using the BSC system must be applied to small segments toward individual project goals and processes. This adaptation also veers away from the original design of BSC in that top management does not dictate one singular strategy and list of goals, but rather encourages specific projects to develop measures appropriate to each projects goals and processes prior to implementation, thus utilizing the BSC framework in manageable applications.

Government use of BSC case(s)

Government agencies have also found the BSC system useful. The city of Charlotte, N.C. modified and implemented the BSC system in an attempt to promote vision and strategy for the future. City mangers have found the system useful as it provides "substantial focus, motivation, and accountability in government..." (Syfert, Elliott, 1998)

Another government variation of BSC is seen in the article by Dale Quinlivan, Rescaling the Balanced Scorecard for Local Government. This article suggest that the original framework is not adequate for 'not-for-profit' organization and that the Australian Business Excellence Framework categories would serve as more appropriate perspective categories.

According to, The Balanced Scorecard Institute in its world wide web page, "in government settings, outcomes are based on mission success rather than profit", and Kaplan and Norton go further to say: "Success for government and not-for-profit organizations should be measured by how they meet the needs of their constituencies. Tangible objectives must be defined for customers and constituencies. Financial considerations can play an enabling or constraining role, but will rarely be the primary objective." (Kaplan and Norton, 1996)

This was also seen in the BSC application in Charlotte, N.C. where the financial perspective was replaced with the customer perspective. The Kaplan model assumes a link between customer service and financial objectives, but this link does not necessarily exist when the services are provided by public funds. For this reason, Quinlivan suggests the perspectives be altered or customized to meet the not-for-profit criteria. Health care organizations for example have adapted the four perspectives of:

1)Patient - value added - patient perspective

2)Employee - value added - internal perspective

3)Business - value added - learning perspective

4)Business - value added - financial perspective

For each perspective, the vision of what was to be achieved was translated into changes in behavior, performance and perception. This established, the BSC for the vision and a list of actions and measures to achieve them could be devised. (Quinlivan, 2000)

Similarly, the Australian Business Excellence framework categories might better serve a government model. This model shows categories that have been proven to be important dimensions of an organizations ability to deliver effective service. ( Quinlivan, 2000, p39). The Business Results category provides the framework to link cause and effect to business outcomes. Because government organizations deliver an unusually large number of services, the perspectives chosen for the BSC must focus on major strategies required to maximize service success. For example, Charlotte, N.C. identified 5 key areas in their strategic plan: community safety, city-within-a-city, transportation, economic development, and restructuring government. Each area utilized its own BSC towards a common set of 19 objectives established by the City. With these minor modifications, the BSC has proven to be an effective management system for government applications in Charlotte, N.C., and the health care industry. (Quinlivan, 2000, p. 40)

Health Care Industry (case)

As briefly mentioned, public health care service industry is yet another organization that requires some modification of the BSC system.

Performance management within a multi-agency healthcare setting would be potentially beneficial for two reasons:

1)Public services would benefit from improvement in areas including economy, efficiency, and service delivery.

2)To reinforce accountability and account for the resources used and outcomes that are achieved.

(source: International Journal of Medical Marketing, p 175, 2003)

The BSC system was implemented within the Bradford Health Action Zone at a primary care trust facility. This organization implemented the BSC system using the four steps indicated in the following diagram (Figure 7) to achieve its primary goal and vision.

Figure 7, How the BSC seeks to deliver strategic benefits, source: International Journal of Medical Marketing, p 181, vol. 3, 3)

The following diagram (Figure 8) below, demonstrates the Balanced Scorecard designed for the healthcare facility and how the components relate to the mission statement which states, " is that via partnership working, it will provide and commission services and improvement programs that will reduce health inequalities and increase standards of health for its local population..." (International Journal of Medical Marketing, p 184, 2003)

Figure 8, Balanced Scorecard

This system utilizes four perspectives as outlines by Kaplan and Norton, however, the financial perspective is replaced by a cost perspective which is designed to maximize the allocated budget by attaining goals set forth in the remaining three areas. Application of the BSC system proved to be attainable and promising in the analysis of its application to the public health care system.


The BSC is a comprehensive view of an entire organizational system that allows management to look at the past, present, and future financial measures. The cause and effect of relationships and the enhanced communication that are fostered creates a goal congruent atmosphere that includes participation from lower level employees. The measures allow for constant reevaluation and improvement by upper management with a cascading chain of command that filters back to the operations on a daily basis. These measures and processes address the inadequacies of traditional financial based systems and when implemented correctly, provide and dynamic framework for long-term organizational success.

Furthermore, the BSC system is dynamic enough to be adapted to not-for-profit organizations and government systems with similar results.


Budgetary planning is the process of preparing detailed, short-term plans for all the functions, departments and activities of the organisation. It is important that the short-term plans and objectives that make up the budget are related to the long-term plan and objectives of the organisation. The budget may be drawn up by preparing an overall budget for the organisation which is then broken down into more detailed budgets for the different parts of the organisation [the top-down approach] or by devising budgets for the various parts of the organisation and then bringing them together to build up the overall budget [the bottom up approach].

Extrapolations, Forecasts and Plans

In discussing budgetary planning it is important to distinguish between extrapolations, forecasts and plans.

An extrapolation is the continued projection of an existing trend.

A forecast will be based on an extrapolation, but is adjusted to take account of any known factors which will affect the trend.

A plan involves some intervention by the organisation in order to modify events in such a way as to make it more likely that the organisation's objectives will be achieved.


It is vital that the plans of each department are related to each other and are integrated together to make a coherent whole e.g. it is no use planning for sales of 150,000 units if productive capacity is restricted to 120,000 units. Note the significance in this context of limiting factors and the principal budget factor.

The principal budget factor is the factor which acts as an over-riding limitation on the activities of the organisation. It might be sales, productive capacity, finance, shortages of materials, labour or energy. The principal budget factor can change over time. Identifying limiting factors is a key element in the co-ordination aspect of budgetary control.

The Master Budget

This is the overall plan for the business's financial activities, to which, therefore, its

sectional plans must be related. For commercial organisations it will be normally in the form of a planned Income Statement, Balance Sheet and Cash Flow Statement.

The master budget is the key element in budget co-ordination as it summarises all the other plans and reveals any inconsistencies amongst them.


As far as possible, actual Activity should be in line with the original plan and steps should be taken to restore Activity to the plan when there are deviations from it [although on occasions it will be necessary to adjust the plan to meet changing circumstances].

Control is exercised in organisations by the continual feedback of information to facilitate such corrective action.

Variations from plan are revealed by measuring actual performances and comparing it to planned performance. These variations [known as variances] are analysed in more detail and reported to managers for action. NB taking action on variances is the key part of the control mechanism. It is important therefore, that information [in the form of budgetary reports] is timely, relevant and comprehensible.

We shall discuss the control aspects of budgeting in more detail in the next session.

We can sum up the purposes of budgeting as follows:

It has been claimed that the operation of a budgetary control system within an organisation can be valuable in a number of different respects. These include:-


The budget is a useful way of setting out in detail the planned activities of the organisation for the coming period and relating them to the objectives of the organisation.

Resource Allocation

The budget can be an instrument by which a fair and efficient allocation of resources may be achieved. Without a coherent budget; resources may be allocated indiscriminately with consequent detrimental effects on the organisation as a whole.


A carefully prepared budget should help to co-ordinate the organisation's activities and resources. For example, production must be co-ordinated with sales; purchases of materials and labour with production; and stocks of materials with production requirements, storage facilities and the cash available.


The budget is vital in comparing actual performance to planned performance and enabling corrective action to be taken when deviations occur.


Budgets have an important part to play in the communication of objectives, targets and responsibilities throughout the organisation. Carried out properly, this can have considerable benefits in promoting co-operation at all levels.


By setting challenging but realistic targets well designed budgets can play a significant part in motivating managers. The targets must be clear and achievable, and the manager should participate in setting his or her own budget.

Performance Evaluation

The budget gives senior management a means of judging the performance of their teams. It must be remembered, however, that adherence to the budget alone cannot measure all aspects of a manager's performance.

Budget Planning

In order to carry out budgetary control, it is necessary to formulate a fully co-ordinated detailed plan in both financial and quantitative terms for a forthcoming period. The duration of the period is usually one year. The plan needs to be in line with the long term development strategy of the organisation, although in the shorter term of a budget year, conditions may prevail which could dilute this aim. For example a depressed economy could lead to a temporary departure from the long term plans. Therefore, before formulating the budgets, the policy to be pursued during the forthcoming trading period needs to be established.

Once budgets are operating throughout an organisation, it is important that feedback is made available to the managers responsible for its operation. This is often done by means of monthly budget reports. These reports contain comparisons between the budget and the actual position and throw up differences which are known technically as variances.

There are two major aspects to budgetary control; planning and control. [We will focus on Control in the next session].

Planning - The budget is a corporate plan that sets out in detail the financial and/or quantitative objectives of every department and Activity within the organisation, and reconciles them in an overall plan. The plan needs to be internally consistent.

In drawing up the plan one of the first actions needed is to identify the Limiting Factor. As the name implies this is the factor which will limit the size and scope of the company's operations. In order to produce an internally consistent plan, the budget will need to be built around and reconciled to the limiting factor.

Before proceeding further into the area of planning, a distinction needs to be drawn between a budget and a forecast. One of the prime reasons for formulating budgets is to try to attain future objectives by means of a co-ordinated detailed plan. In other words budgets are drawn up with a view to influencing the course of future events. On the other hand, a forecast is simply a prediction of future events assuming that present trends will continue, or that they will be modified by foreseeable factors.

There are several benefits that can accrue from careful detailed planning.

i.         The environment in which the organisation operates is monitored, and plans prepared accordingly.

ii.         Long term objectives are kept firmly in view, and steps taken to ensure that the present budget [as far as possible] is kept in line with them.

iii.         Under the heavy pressure of day to day operations, management doesn't lose sight of future requirements.

iv.         Management makes a conscious effort to look for, and/or to create new opportunities, and to exploit them.

v.         A wealth of information is made available to management, on which financial decisions can be made, and the effects of alternative courses of action can be addressed

vi.         A short term profit plan is prepared in detail which is acceptable to management.

vii.         Management can ascertain that adequate resources are available to carry out the plan, and that as far as possible optimum use is made of them.

Budget Preparation

The Budget Period - This is the period of time for which a Budget is employed. The period varies depending on the type of Budget.

Examples: (a) Trading Budget [say] 1 year.

a.         Capital Expenditure Budget [say] 5 years.

a.         Research and Development Budget [say] 5 years minimum.

It should be borne in mind, that if a Budget is for more than one year, that the chances of it being modified are extremely high.

Although the overall Budget may be for a year or more, it is always broken down into shorter periods. Budget periods in excess of one year would be broken down into annual amounts, and the annual amounts would be further sub-divided into monthly accounting periods. Budgets which are compiled for the duration of one year, would similarly be broken down into accounting periods.

Having arrived at the amounts for each period, the actual expenditure incurred during a period can be compared with the appropriate Budget and Variances extracted.

Introduction of budgeting (definition, process, varying roles)

Budgeting is the key to good management. This is true for individuals, small family-owned companies, new high-technology companies, large corporations, government agencies, and nonprofit organisations. Managers and others in positions of responsibility must plan on a daily, weekly, monthly or annual basis if they are to operate efficiently. Because of the importance of money to businesses, and because of the fact that it is the common denominator in all departments, the vast majority of enterprises produce budgets as an aid to planning.


Budgeting is a vast and very important managerial accounting area. It is a coordinated financial plan reflecting the agreed policy and detailed intentions of an enterprise for a future period. A good definition of budget is given by CIMA (Chartered Institute of Management Accountants).

A budget is a plan expressed in money. It is prepared and approved prior to the budget period and may show income, expenditure and the capital to be employed. May be drawn up showing incremental effects on former budgeted or actual figures, or may be compiled by zero-based budgeting. (Leslie Chadwick. Management Accounting. 1998. Page 103)

A budget is a detailed plan which sets out, in money terms, the plans for income and expenditure in respect of a future period of time. It is prepared in advance of that time period and is based on the agreed objectives for that period of time, together with the strategy planned to achieve those objectives.

Budgetary Process

The budgetary process has to be administered effectively in terms of initial planning, final approval and subsequent monitoring of implementation. The principal stages of budgetary process are:

1. communicate the details of objectives and strategy to those responsible for preparation of budgets;

2. communicate the details of budget preparation procedures to those responsible for preparation of budgets;

3. determine the limiting factor which restricts overall budget flexibility and forms the focus of the budget cascade;

4. prepare an initial set of budgets;

5. negotiate budgets with line managers;

6. co-ordinate and review budgets;

7. accept budgets in final form;

8. carry out ongoing review of budgets as they are implemented.

(Pauline Weetman. Financial & Management Accounting. 1999)

The manager can go through these basic steps to prepare the budget. Budgeting is a continuous process, which requires adaptation of existing budgets where a need for change is indicated, and the consideration of performance against past budgets when the next round of budget preparation begins.

Budget's variety of Roles

Budgeting is used in organisations of all types to help in the development and co-ordination of plans, to communicate those plans to the people who are responsible for carrying them out, to secure co-operation of managers at all levels and as a standard against which actual results can be compared. There are budget's varieties of roles: (forecasting, planning, communication, co-ordination, motivation, performance measurement and authorisation).


The purpose of budgeting is to serve the needs of management in respect of the judgements and decisions. Making forecasting about future needs and developments is very important to companies. Many future events almost defy accurate prediction. An accurate forecasting can help organisations define good budget objectives. Because of intentional and unintentional bias, sometimes it is difficult to predict.


Budgeting is planning for a future period and, as applied to the accounting aspects of an organisation, requires management to systematically examine what is anticipated in its financial environment. This look into the future invariably compels management to establish goals and objectives for the future and, it helps management identify major problems that may develop later if corrective action is not taken.


Budgeting encompasses the entire organisation; hence, it requires the participation of all levels of management. The process of compiling, reviewing, and revising budget data requires managers to communicate with each other and with subordinates and superiors. It is an important, formal avenue of communication between top and lower levels of management regarding the organisation's long-term objectives and the practical problems of implementing those objectives.


Budgeting is the plan of action for entire organisation and must therefore reflect the coordinated efforts of all components of the organisation. Co-ordination can be seen as a balancing activity, which seeks to allocate priorities by predetermined agreement and also to unite a number of individual activities into a whole. Co-ordination is necessary to avoid sub-optimality.


Involving personnel in the budget process, together with good clear communications and budget education, should improve employee motivation. The setting or imposing of unrealistic targets, which results from a lack of consultation, can have dramatic demotivating effects. Targets need to be negotiated, realistic and attainable. An achievable budgets lead to good performance, but it depends on personality, feedback and acceptance of budget.

Performance measurement

Effective control requires a basis for evaluating performance. The traditional bases for measuring performance are historical, industry and budgeted data. Budgeted data is a more realistic basis than the first two bases, because the benchmarks are relevant and current. Comparing actual and budgeted data produces variances that are meaningful measures of performance.


A sound budgeting system requires clear lines of authorisation. From an audit point of view, authorisation is also a very important key word. It needs to be delegated for budget preparation, cash flow management, materials management, the taking of action, e.g. to remedy an adverse situation revealed in a budget and actual comparative statement.

Strengths and Weaknesses of budgeting in modern times

All managers do some kind of planning or budgeting. Because planning and budgeting are especially important in uncertain environments. The budgetary process contributes to effective management in some areas, such as control, communication and co-ordination, and performance evaluation. In the modern times, budgeting is also beneficial to organisations in many aspects.


There are three major benefits of budgeting:

1. budgeting compels managers to think ahead by formalizing their responsibilities for planning.

2. budgeting provides definite expectations that are the best framework for judging subsequent performance.

3. budgeting aids managers in coordinating their efforts, so that the objectives of the organisation as a whole match the objectives of its parts.

(Charles T. Horngren, Gary L. Sundem & William O. Stratton. Management Accounting. 1996)

Formalization of Planning

Budgeting forces managers to think ahead-to anticipate and prepare for changing conditions. The budgeting process makes planning an explicit management responsibility. To prepare a budget, a manager should set goals and objectives, and establish policies to aid their achievement. The objectives are the destination points, and budgets are the road maps guiding us to those destinations. Without goals and objectives, company operations lack direction; problems are not foreseen; and results are difficult to interpret afterward.

Expectations (framework for judging performance)

Budgeted goals and performance are generally a better basis for judging actual results than is past performance. The major drawback of using historical results for judging current performance is that inefficiencies may be concealed in the past performance. Intervening changes in economic conditions, technology, maneuvers by competitors, personnel, and so forth also limit the usefulness of comparisons with the past.

Communication and Coordination

Another benefit of budgeting is that personnel are informed of what is expected of them. A good budget process communicates both from the top down and from the bottom up. Top management makes clear the goals in its budgetary to lower-level managers and to all employees. Employees and lower-level managers inform higher-level managers how they achieve the goals.

Budgets also help manager coordinate objectives. For example, a budget forces purchasing personnel to integrate their plans, while production managers can anticipate and plan for the employees and physical facilities they will require. Similarly, financial officers purchase requirements, and anticipate the company's need for cash. Thus the budgetary process forces managers to visualise the relationship of their department's activities to other departments and to the company as a whole.


Like many other tools available to managers, budgeting offers the potential for vast benefits but also has potential pitfalls and problem. Now, more and more organisations recognise that the budgeting system is perhaps the greatest barrier to change. Many companies have abandoned budgeting in some way, like Ikea, SKF, Boots, and so on.

Preparation Time

Preparing a budget for a company can be a massive task, requiring hundreds or thousands of hours of valuable management time. Careful coordination and planning are required to keep budget preparation from becoming too onerous for managers or from interfering with their other responsibilities. Each manager requires minimizing time. The budget calendar should be carefully planned and easy-to-use forms should be provided.


In some cases the prediction ability of management is very weak. The more limited management's ability to make the accurate forecasts and predictions that are necessary for the budget, the more limited the usefulness of a single budget becomes. Rapidly changing economic conditions also make budgeting difficult. However, managers who study the budgetary impact of possible changes can learn what factors to monitor most closely and to develop contingency plans that can be implemented if needed.

Budgetary Slack

Budgetary slack occurs when managers intentionally request more funds in the budget for their departments than they need to support the anticipated level of operations. If a department consistently produces large favourable variances, this may be a symptom of slack built into the budget. The desire by managers to pad their budgets may indicate poor relations between upper and lower management, or poor administration of the budget.

(Wayne J. Morse, James R. Davis & Al L. Hartgraves. Management Accounting. 1991)

In modern times, the thinking of budgeting is becoming. "Bane of Corporate America", "Tool of repression", "An unnecessary evil", senior executives express these descriptions on the system of budgeting in their corporations. Many tools of budgeting are increasingly unsuited to modern business. Budgets reinforce command-and-control management and undermine attempts at organisational change. The annual cycle is unsuitable for companies facing rapidly changing markets. It is a true that managers of organisation need to develop the budgeting system and make it suitable for modern business.

Explanation and Evaluation of the alternatives

Whilst there are undoubted advantages in properly planned traditional budgeting systems, too often budgeting tends to reinforce the status quo and budgets are often merely extrapolations of the past. Traditional budgets usually start with last year's figures as base and focus money. Alternatives of traditional budgets to current ways are not considered systematically and activities have single level. In an attempt to overcome these real problems, alternative approaches to budgeting have been developed, two of which Zero-base Budgeting and Programme Planning and Budgeting System, are described below.

Zero-based Budgeting (ZBB)

ZBB is a cost-benefit approach whereby it is assumed that cost allowance for an item is zero, and will remain so until the manager responsible justifies the existence of the cost item and the benefits the expenditure brings. It is formally defined by the CIMA thus:

A method of budgeting whereby all activities are re-evaluated each time a budget is set. Discrete levels of each activity are valued and a combination chosen to match the funds available. (T Lucey. Management Accounting. 1996. Page122)

Compared with traditional budgets, ZBB starts with zero or minimal baseline and focuses goals and objectives. It is considered as a systematic examination of alternative ways to achieve goals and objectives. There are alternative levels of funding expressed. ZBB was devised as a reaction to the traditional incremental approach to budgeting. It is concerned with the evaluation of the costs and benefits of alternatives and, implicit in the technique, is the concept of opportunity cost.

ZBB is a method of combating budgetary slack and can encourage managers to examine alternative ways of achieving objectives. It is hard to fault in its explicit linking of allocations of scarce budgetary resources to achievement of objectives. In addition, ZBB's rationale is that which is applied to proposed expenditure in new areas, which should support or encourage systematic use of appraisal techniques like net present value. ZBB may therefore be valuable where organisations are faced with particularly volatile environments.

The basis steps in ZBB are:

1. development of decision packages consisting of departmental or agency activities;

2. evaluation of each decision package;

3. ranking of decision packages;

4. compilation of acceptable decision packages into the budget up to the limit of available resources;

5. monitoring, control, and follow-up.

(Wayne J. Morse, James R. Davis & Al L. Hartgraves. Management Accounting. 1991)

The approach is particularly useful for the output-driven approach to budgeting because it forces questions to be asked about the programmes planned and the cost-benefit aspects of the plans. On the negative side, it is a time-consuming activity and is perhaps most usefully applied on a selective basis where the questioning approach is most useful. Some activities of an organisation carry an element of discretion and it is worthwhile reappraising them on occasions. Others form an essential core, so that it might be less appropriate to take a ZBB approach.

Programme Planning and Budgeting Systems (PPBS)

PPBS is an approach that seeks to separate the policy planning aspects of budgeting from the short-term financial planning process. From the overall objectives, the organisation moves on to identify the programmes which will achieve those objectives. The costs and benefits of each programme are then identified so that the programmes may be given relative priorities. Subjective judgement is required to select the most suitable programmes for implementation and the resources required are then allocated to those programmes.

PPBS is different from traditional budgeting. First, it plans further than just one year ahead. Second, it transcends departments. It is about how resources are going to be allocated to achieve the various objectives of the organisation. Once the objectives have been established, programmes are identified to meet those objectives and the costs/benefits of alternative programmes are assessed.

PPBS is based on three control ideas: (1) It is a formal planning system, (2) it uses a program budget, and (3) it emphasises cost-benefit analysis. The basic steps in PPBS are:

1. a careful specification and analysis of program objectives for each area or agency;

2. the process analysis, insofar as possible, the output of a program in terms of its objectives;

3. measure the total costs of the program for several periods into the future;

4. analyse alternatives and seek those that have the greatest benefits as related to the stated objectives.

(Wayne J. Morse, James R. Davis & Al L. Hartgraves. Management Accounting. 1991)

PPBS emphasises control through responsibility accounting. The key to successful PPBS is forcing agencies to back away from their current operations and to evaluate their overall objectives. Through such evaluations each agency head accepts the responsibility of current and planned activities and must account for the results. Unfortunately, PPBS has not been well received in recent years because of implementation difficulties. All managers involved in the process must be familiar with it, and its implementation is very time consuming.

Beyond Budgeting

"Many companies are devising alternatives to traditional command-and-control budgeting systems," say Jeremy Hope and Robin Fraser. In the end of the 20th century, they argued that one of the main barriers to firms competing more effectively in the information age is the budgeting system. The tools of budgeting are unsuited to modern business. Budgeting is also unsuitable for companies facing rapidly changing markets. Handelsbanken abandoned budgeting over 20 years ago and has since maintained its position as Scandinavia's most profitable bank. Now, more and more companies abandon budgeting, such as Volvo, IKEA, SKF, Borealis, KF, Schlumberger and Boots. All these firms are now managing successfully without budgets.

The pioneering companies developed system. Their experience can tell us a great deal about how to replace budgeting. ('Tool of repression and a barrier to change'. Financial Times. 18th May 1999.)

1.         Set targets to maximise long-term value and beat the competition, not the budget;

2.         Devolve strategy to the front line and make it a continuous process, not a top-down annual event;

3.         Co-ordinate by managing cause-and-effect relationships across business units and responsibility centres, not by using departmental budgets;

4.         Use a few key leading and lagging indicators to measure performance, not detailed historical reports

5.         Give managers the freedom to act.

Early in 1998 CAM-I Europe initiated a new research project known as the Beyond Budgeting Round Table (BBRT). It has developed into an exciting and leading-edge review of how to manage large businesses in the information age. The BBRT programme will be examining in much more depth the components of the steering mechanisms to be used in place of budgeting, and developing guidelines for implementing them.

The response of companies should be - according to the CAM-I BBRT - to develop a new leadership vision and governance model in order to establish a new performance management climate. The BBRT calls this a devolutionary framework: (http://www.juergendaum.com)

1.         Create a performance climate based on competitive success;

2.         Motivate people by offering them challenge, responsibility, clear values as guidelines and shared rewards;

3.         Devolve performance responsibility to operating managers; give them the freedom to decide;

4.         Empower operational managers by giving them the capability to act;

5.         Organize around customer oriented teams that are accountable for profitable customer outcomes;

6.         Support transparent and open information systems that provide "one truth" throughout the organization.

While the CAM-I research programme is only completing its first phase it is already apparent that companies can gain substantial benefits from managing without budgets. But this means not only abandoning budgets but also reinforcing these changes by adopting the most appropriate management structure and style and this is determined by business needs and organisational complexity.


(1)         Alan Upchurch. (1998). Management Accounting. Pitman Publishing.

(2)         Charles T. Horngren Gary L. Sundem & William O. Stratton. (1996: 10th Ed.). Introduction to Management Accounting. Prentice-Hall.

(3)         Graham Mott. (1999: 5th Ed.). Accounting for Non-Accountants. London: Kogan Page.

(4)         Iain Fleming & Sam Mckinstry. (1998: 2nd Ed.). Accounting for Business Management. London: International Thomson Business Press.

(5)         Jeremy Hope & Robin Fraser. 'Beyond Budgeting - building a new management model for the information age'. Management Accounting. 77(1): 16-21.

(6)         John Fanning. 'Budgeting in the 21st Century'. Management Accounting. 77(10): 24-25.

(7)         Larry N. Killough & Wayne E. Leininger. (1987: 2nd Ed.). Cost Accounting. WEST.

(8)         Leslie Chadwick. (1998: 2nd Ed.). Management Accounting. London: International Thomson Business Press.

(9)         Pauline Weetman. (1999: 2nd Ed.). Financial & Management Accounting. Prentice Hall.

(10)         Roger W. Mills & John Robertson. (2000: 4th Ed.). Fundamentals of Managerial Accounting and Finance. Mars Business Associates Ltd.

(11)         T Lucey. (1996: 4th Ed.). Management Accounting. London: DP Publications

(12)         Wayne J. Morse, James R. Davis & Al L. Hartgraves. (1991: 3rd Ed.). Management Accounting. Addison-Wesley.

(13)        http://jan.ucc.nau.edu/~ha355-c/ha355/class/statement/budget/

(14)        http://www.fao.org/docrep/W4343E/w4343e05.htm#TopOfPage


The main responsibility of manager is planning for the future by deciding what should be done and how it will be achieved. Budget is such a formalized system of planning, forecasting, monitoring and controlling the use of resources which help the managers to achieve organization's objectives both in public sector and private sector. Budgets fulfill a number of roles in the management of organizations and different roles may cause some conflicts. Here, we will identify the principal roles of budgets and have a briefly comment on the compatibility of these differing roles.

Principal Roles

According to Emmanuel et al. (1990), there are five main roles for budgets: a system of authorization; a means of forecasting and planning; a channel of communication and coordination; a motivational device; a means of performance evaluation and control, as well as of providing a basis for decision making.

The first main role of budgets is authorization which means within the final approved budget management could use the resources on specific activities and without keep asking for permission to spend. However, the degree of authorization is a big issue to the top management. Inappropriate authorization may harm to the organization. Overspending may cause the closure of the business unit.

The second role is forecasting and planning. Forecasting predicts the event which the organization has little or no control on it while planning is associated with forecasting and other information of the organization try to shape the future by alerting those factors that controllable in the light of available forecast. For example, a business will forecast sales and production, then use cost card data to estimate labor. Planning will focus on important resources of the organization which include money, management, manpower, material, markets and so on. Because there are too much uncertain factors of forecasting, you should aware that forecasting sometime deliberately distorted. For instance, the sales department may overstate the sales volume when forecasting for the coming period. The reason they perform in that way is not only because this may make the department looks good but also help them to get more resources. They may say,' we are going to sale more volumes, we need more staffs.' Such action may seriously influence the accuracy of the planning.

The third role is a channel of communication and coordination. Since budgets need a lot of information from different departments, no one could prepare all the budgets singly. It's a good channel for people to communicate. In the process of preparation, the representatives from each department are comprised to prepare the budget. The information which collected from each department will be discussed and clarified. Coordination within the different departments will not only help the business ensure that the supply of each of its resource is appropriated and balanced but also help to ensure that all the d

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