The Effects of Budgets On People

The effects of budgets on people

Research suggests that there is a great deal of mistrust of the entire budgetary process at the supervisory level (Argyris, 2018). There is a tendency for traditional budgets to provide the following responses.

Reactions to pressure

The evaluation of a manager's performance in terms of his departmental budget is one of the few elements in performance appraisal which is based on concrete standards. There is little room for manipulation or escape if results are not going to turn out as expected in the budget. If budget pressure becomes too great, it may lead to mistrust, hostility and eventually to poorer performance levels as reaction sets in against budgetary control.

The problem of distinguishing between controllable and non-controllable costs is an important cause of tension among managers. The task of the manager of a department or expense centre, for example, is to attain his goals with the minimum cost. One of the initial difficulties which arises in evaluating his performance applies to all levels of management, namely, the treatment of factors beyond his control. This problem is aggravated when the responsibility for an activity is shared by two or more individuals or functions. Labour inefficiency, for example, may be due to excessive machine breakdowns (maintenance function), inferior materials (purchasing function), defective materials (inspection function) or poor calibre personnel (personnel function). Establishing standards of performance in itself is not an easy task. It demands the clear definition of goals and responsibilities, the delegation of authority, the use of satisfactory surrogates for the activities concerned, effective communication of information and an understanding of the psychology of human motivation.

Over-emphasis on the short run

One of the dangers facing organizations which evaluate the effectiveness of managers in profit terms is that too much emphasis is given to achieving short-term profitability, and measures taken to improve short-term profitability may be detrimental to the organization's long-term prospects. Short-term increases in profits gained at the expense of reductions in research and development and the failure to maintain adequate standards of maintenance are two examples of short-term cost savings which are detrimental to the firm in the long term.

Poor quality decision making by top management

Excessive reliance on the profit performance of divisions may also affect the quality of decisions made by top management. If the managerial competence of divisional managers is assessed solely on the basis of the profit performance of their respective divisions, serious errors of judgement may result. Moreover, if profit results are used as part of an early warning system, action may be taken by top management which may not be warranted. Therefore, although profit budgets are indispensable for planning purposes, great care should be taken in utilizing them for control purposes. The attainment of profit targets is dependent on many factors, some of which are entirely outside the control of a divisional manager. The uncertainty attached to profit forecasts, in particular, limits the usefulness of profit targets for the evaluation of the performance of a divisional manager. The process of formulating the divisional profit forecast also introduces bias in the evaluation of performance. Divisional profit targets are usually based on the divisional manager's forecast of future events. Therefore, it is his ability to forecast the future successfully rather than his ability to manage successfully, which form the basis on which his performance is evaluated. This consideration also affects the validity of comparisons between the performance of different divisions. For example, it is easier to determine an attainable profit goal for a division whose major constraint is productive capacity, where sales are limited only by output, than for a division which sells in a highly competitive market.

Another problem arising from the use of profit budgets in evaluating divisonal performance stems from the fact that an annual budget covers too short a period in which to obtain a realistic picture of managerial performance. The effects of decisions in some instances may take several years before being reflected in profit performance. Thus, the decision to introduce a new product is one of several decisions whose impacts on divisional profits take some years before they are fully realized. The more complex and innovative the division the longer will be the time period necessary for the evaluation of performance. In the light of these considerations, the use of an annual profit result may give a completely inaccurate view of divisional performance.

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Read on: Leadership Styles and the Problem of Control

Leadership styles and the problem of control

There is a tendency for firms to expect desired results merely from the use of appropriate techniques, thereby failing to recognize that success in organizational control depends upon the actions of responsible individuals and their appreciation of the importance of sound interpersonal relationships. The manner in which the budgeting process is viewed depends on the leadership style adopted by management. McGregor has characterized the two extremes of management styles as 'Theory X' and 'Theory Y' (McGregor, 2000). According to McGregor, these extreme... see: Leadership Styles and the Problem of Control