I. Introduction
HK Corporation produces verity of plastic products. The company operates on calendar year basis. They begins the annual budgeting process in late December, when managing director establishes targets for the total pound sales and net income before taxes for the next year.
In this report I have been asked to describe benefits of properly implemented budgetary control and standard costing system. The second part of this report would include the problems with the budgeting process of HK Corporation and the solutions to overcome those issues.
Planning and controlling are the core activities of management in almost all organisations. Budgets play a key role in the process of planning and control framework. A common sub division of the wider planning and control framework in organisations is strategic planning, management control and task control.
Strategic Planning is the process of deciding on the goals of the organisation and formulation of the broad strategies to be used in attaining these goals. It is creative and involves identifying a company’s strengths and opportunities to grow whilst minimising weaknesses and threats. It is long term orientation and looks outside the organisation at competitors and customers.
Management control is the process by which management assures that the organisation carries out its strategies. It is more short term and is more focused on influencing staff’s behaviour in desirable ways to achieve the organisation’s goal
Task control is the process of assuring that specific tasks are carried out effectively and efficiently. The timescale here can be very short term, possibly daily. It is often based on the use of non – financial measures and on clearly defined input/output relationships.
II. Budgetary and standard costing system
Budget is predetermined statement of a company’s objectives during a period of time. It’s like a plan which guides the managers who are responsible for achieving certain business objectives. Budgetary control is a system which uses budgets for planning and controlling business activities. The budgeted figures will be compared against the actual and the variance will be then investigated and corrective actions would be taken by the managers.
Standard costs are predetermined costs which are calculated in advance of actual production based on a specification of all relevant factors. They are also target costs which should be achieved under efficient operation conditions. Standard costing system involves using predetermined costs/standard costs to compare with the actual to find the difference or variance. These variances can be adverse (where actual is worse than standard) or favourable (actual result is better than standard).
Standard costs are not same as budgeted costs. A budget provides the cost expectation for the total activity or operation whilst a standard presents the same information on a per unit basis. Though, both uses predetermined costs.
III. Advantages of these systems when implemented properly
Budgets as they are generally form the foundation of budgetary control and the standard costing system. Budgets and standard costs have similar objectives in that they support planning and control through the isolation of variances. They may also be part of a system of performance evaluation and standard costs being derived from budget values are aids to pricing and decision-making.
Budgetary control and standard costing system involves measuring the actual performance and comparing it against the budgeted figures. Thus, budgetary control functions as an effective and a multi-purpose management tool supporting planning, control, co-ordination, communication, performance evaluation and motivation. The main benefits of the budgetary control and standard costing system systems are as follows:
Planning
The budget help managers to think ahead about how they will utilise resources to achieve company policy in their area and provide a prediction of future costs that can be used in decision making.
Control
Once a budget is formulated a regular reporting system can be established so that the extent to which plans are, or are not, being met can be established and some form of criticism by the management can be established.
Co-ordination
Budgets help ensuring that no one in the department is out of line with the action of others. This leads to effective utilisation of organisational resources such as labour, machines, and materials.
Communication
The construction of the budget can be a powerful aid to defining or clarifying the lines of communication within the enterprise.
Performance evaluation
Budgets become useful tools for evaluating how the manager or department is performing. If sales targets are met or satisfactory service provided within reasonable spending limits then bonus or promotion prospects are enhanced.
If the cost remains within the standards, managers can focus on other issues. If not, managers are alerted that there may be problems requiring attentions. This
Motivation
The value of a budget is enhanced still further if it not only states expectations but motivates managers to strive towards those expectations. Standards that are viewed as reasonable by employees can promote economy and efficiency.
Feedback and Feed Forward
Budgetary control and standard costing system provides feedbacks where actual outcomes are compared to budgeted figures. The budgetary process helps Feed Forwarding, where expected outcomes are compared with the desired outcomes so the standards can be revised in successive iterations until a desired outcome is identified.
Other advantages
Standard costs can greatly simplify bookkeeping. Instead of recording actual costs for each job, the standard costs for materials, labour and overheads can be charged to jobs. The standards establish what costs should be, who should be responsible for them and what actual costs are under control. When standard costing system is adjusted to changing conditions, it provides a basis for estimating prices, costs and the effect of prices fluctuation on costs. Budgets also provide a common language that actually encourages information sharing.
IV. HK corporation budgetary control system drawbacks
Referring to the case study “HK Corporation” is failing to achieve the managing director’s sales and profit targets. “None of the areas has achieved its budget in recent years”.. The budgeting process itself in the HK Corporation is not being implemented appropriately. The HK Corporation is trying to achieve an ideal standard which assumes no wastage or inefficiencies than working for attainable targets.
When the production manager is given the budgeted units that need to be produced, they do not take into account the amount of finance allocated to their department which result in a reduction in the budgets of marketing and other departments. “Production Department does not consider the financial resources allocated to be adequate”. The marketing manager is the one who formulates a sales budget and cost of the marketing activities that are required to achieve the target sales. Hence, reduction in marketing expense would have a direct impact on the sales and profit figures. The Managing director does not make any changes in the total sales and profit figure after reducing the marketing department’s budget. “The total sales and profit figures proposed by the managing director are seldom changed.”
The managing director is more concerned about reaching the budgets and treating the budgets their as their main goal. Though, many psychological studies indicate that a better performance is achieved when targets exist. HK Corporation’s manager has set an unattainable target which tends to offset productive. Manager has proposed changes in the budgets that are not appreciated by others. “Although the participants are seldom pleased with the compromise” As a consequence, the staff may be de-motivated because participants had no part in agreeing and setting new budgets which are imposed upon them, would make them feel that they do not own it.
When the sales targets are not achieved the manager cuts down other departments budgets so that their profit target can be met. “Each area is expected to cut costs so that the managing director’s profit target can still be met.” The manager emphases on meeting the profit targets and eliminates other important objectives such as maintaining and improving quality, on time delivery and customer satisfaction.
Furthermore, downsides can be established of HK corporations budgeting control system from the conversation between the manufacturing supervisor, Ali, and HK’ purchasing manager, Adam of the company’s poor budgeting process.
In HK Corporation the performance variance report is prepared on a monthly basis and released weeks after the end of the month, as a consequence the information in the reports may be stale that is it almost useless to be used in controlling production and purchasing operations as mentioned by Ali “The information is almost a month old, and we have to spend all this time on history.”
The management tends to focus more on negative aspects of their performance. Employees are not getting any appreciation of the good work they commit. Instead, each time they get the performance report it only contains the things that they have not done precisely. As mentioned by the purchasing manager Adam “All I ever hear about are the things I haven’t done right”. The company is failing to create appropriate responsibility centre, they should only hold precise employees accountable for the performance areas that the company wants them to pay attention to. Referring to the case study Adam mentions “It’s really frustrating to see charges for things I have no control over.”
HK Corporation has standards that were set long ago considering the environment that was imagined when the sales and profit targets were set, ignoring the actual results. As said by Ali “We’re given an annual budget that’s written in stone.” Their system does not account for uncontrollable factors (i.e. rush orders, lack of contingency plan). For an example the production department was shut for three days as a result of postal strikes that delayed the ingredient that is used in the formulation of plastic. This resulted in buying the material from alternative source and incurring higher costs. As Ali revealed “When we got what we needed on a rush basis, we had to pay more than we normally do.”
One more issue is that the HK Corporation’s departments are not synchronised with others and there is lack of communication within the company, strong evidence can be found from the ALI and ADAM’s conversation where ALI quotes “I don’t get copies of the reports you get.” They production manager have no access over to the reports of purchasing department, though the production is directly affected by the purchasing department’s actions. Even though the HK Corporation’s president emphasizes that everyone should work together as a team. “We all need to work together as a team”
Lastly, HK Corporation’s performance reports are made up of financial information as said by ALI “the reports are in pounds and pence”. The performance evaluation should be a mishmash of financial and non- financial measures so that a feedback can be provided on the key variables and uncontrollable factors.
V. Ways for improving Current budgetary control system in HK Corporation
HK Corporation should revise their budgets control system as the budgets were written long ago, to overcome the problems they are facing. They should set standards that are attainable and account for uncontrollable factors, wastage, inefficiencies. In the process of setting these budgets they should actively involve all the staff so that they are motivated and feel that they are given more autonomy, which would result in performance enhancement.
Each department should be aware of the budgets that are set to them at the start of each production period or month to overcome the problem of going over the budgeted figures. The production department should communicate and be synchronised with the marketing department so they exactly know the sales budget both in units and volume to avoid shortfalls and wastage. All the departments should be aware of the amount of finance allocated to them. Again this would be achieved by being more in contact within the organisation (i.e. through emails, memos, internal telecommunication). Each department should have excess to the reports of other department in order to provide an explanation on these variances.
The performance reports in HK are made on monthly basis and often released weeks after the end of the month. As a consequence, the information in the report may not be stale and not be helpful to in daily control of operations. HK Corporation can start reporting these variance data on daily or even more frequently because the timely, frequent reports that are approximately correct are better than infrequent reports that are very precise but out of date by the time they are released.
The company should reward its staff when they attain budget to overcome the negative attitude of its employees towards the budgets. They should encourage their staff for continual improvement and receive positive reinforcement for work well done. The monthly performance evaluation report should also consist of non financial information and should not only focus on the negative aspects of employee’s or department’s performance.
HK Corporation the budgets are being viewed by managers as fixed standards for performance against which they will be judged. The manager should adjust budgets for uncontrollable and unforeseeable environmental influences in a way which best suits organisation. These should not be applied too rigorously to avoid deterioration in relation with managers.
VI. Conclusion:
In the conclusion, I would say that everyone in the HK Corporation should be educated about the procedures of budgetary control system so everyone understand the total process and recognise the benefit to be gained. The management should not only treat budgets as their main targets and using them in performance evaluation other uncontrollable factors should be considered respectively. The management should not cut budgets of other functional areas in order to achieve management targeted profit.
However, once the annual budgets have being revised considering the current environment and the sales volume has been establish, then the company can revise the budgets for each functional areas and allocate the appropriate finance to them. They have to create appropriate responsibility centres so that the cost can be charged to relative responsibility centres. Taking into consideration the points of views of consultant that the “sales budgets were reasonable and expense were adequate for the budgeted sales and production levels”, the management is not emphasising on other important aspects of their jobs such as maintaining quality or staff morale, as a consequence HK is not achieving their financial budgets.