BUDGETARY

CONTROL
MAF 551 MANAGEMENT ACCOUNTING AND
CONTROL

LEARNING OBJECTIVE
1. Distinguish between feed forward and feedback control
systems
2. Prepare fixed and flexible budgets
3. Prepare performance report
4. Discuss motivational, behavioral and ethical issues of
budgeting
5. Explain the limitations of budgeting
6. Describe the practice of Beyond Budgeting

INTRODUCTION
The use of budgets in controlling operations is
known as budgetary control and the centrepiece
of budgetary control is the use of budget reports.
Management needs to compare actual results
and planned activities, to monitor if the business is
spending according to budget.

FEATURES OF BUDGETARY
CONTROL
Name of
Report

Frequenc
y

Purpose

Primary
Recipient(s)

Sales

Weekly

Determine whether
sales goals are being
met

Top management
and sales manager

Labor

Weekly

Control direct and

indirect labor costs

VP of production
and production
department
managers

Scrap

Daily

Determine efficient
use of materials

Production manager

Department Monthly
al overhead
costs

Control overhead
costs

Department
manager

Selling
expenses

Control selling
expenses

Sales manager

Monthly

FEEDBACK & FEED-FORWARD

CONTROL

BUDGETARY CONTROL
REPORT
Performance report or budgetary control
statement.
Compare actual results with the budget.
Differences identified as variances.
Management role investigate and correct
the variances if necessary.

FIXED BUDGET
A fixed budget or static budget is a projection of budget data at
one level of activity.
Data for different levels of activity are ignored and actual results
are compared with budget data at the activity level used in
developing the master budget.
Used for planning purpose.
Fixed budget is not appropriate to assess a managers
performance in where he or she has control over variable costs.
Disadvantages:
It ignores the possibility that there can be variations in the
expected level of activity.
The analysis of the variances may be meaningless - not
being compared on a common basis.

FIXED BUDGET CONT

Time / Costs

Budgeted

Actual

Variance

1st Quarter

RM180,000

RM179,000

RM1,000 (F)

2nd Quarter

RM210,000

RM199,500

RM10,500 (F)

Total

RM390,000

RM387,500

RM11,500 (F)

1) The comparison shows favourable variance in both the quarters with a net
effect of RM11,500 favourable variance, as a whole.
2) It can also be seen from the above that the activity levels are not defined
and the comparison between actual and budgeted performance are based
on purely monetary figures only.

FLEXIBLE BUDGET
Designed to projects budget data for various level of activity
and it is a series of static budget at different level of activity.
Assist in decision-making where it facilitates the management
to predict its performance against levels of activity through
the impact of changes in variable costs and sales value.
Used high and low method to differentiate the elements of
costs.
Will be used in performance reports to determine the
performance of the company.

FLEXIBLE BUDGET CONT

Advantages of Flexible budgets:
Do not require frequent revision.
Geared towards a range of activity rather than
towards a single level of activity.
More accurately reflect changes in direct costs
resulting from variations in production mix or rate.
Provide a firmer basis for distributing the overhead
costs at different level.
Comparison between actual results and budgets
will become more meaningful.

FLEXIBLE BUDGET CONT

Activity level
Direct labor hours

8,000

9,000

10,000

11,000

12,000

RM

RM

RM

RM

RM

Indirect materials

12,000

13,500

15,000

16,500

18,000

Indirect labor

16,000

18,000

20,000

22,000

24,000

4,000

4,500

5,000

5,500

6,000

32,000

36,000

40,000

44,000

48,000

Depreciation

15,000

15,000

15,000

15,000

15,000

Supervision

10,000

10,000

10,000

10,000

10,000

Property taxes

30,000

30,000

30,000

30,000

30,000

62,000

66,000

70,000

74,000

78,000

Variable costs

Utilities
Total variable costs
Fixed costs

Total fixed costs

FLEXIBLE BUDGET CONT

If the actual direct labor is 10,000 with the actual costs listed, then the budget should be flexed too,
as shown in table, in order to compare with actual performance at that particular level.
The difference, if any will show variance which can be expressed as either favorable if actual is less
than budget, whilst adverse if the actual is more than budget.

Flexed

Actual

Variance

10,000

10,000

Variable costs

RM

RM

RM

Indirect materials

15,000

15,500

500 (A)

Indirect labor

20,000

21,000

1,000 (A)

Utilities

5,000

4,700

300 (F)

40,000

41,200

1,200 (A)

Depreciation

15,000

13,000

2,000 (F)

Supervision

10,000

9,000

1,000 (F)

Property taxes

30,000

34,000

4,000 (A)

55,000

56,000

1,000 (A)

Direct labor hours

Total variable costs

Fixed costs

Total fixed costs

USES OF FLEXIBLE BUDGET

For planning purposes - 'contingency flexible
budgets.
To find out in advance the costs it would have to
bear if output falls short of budget
To decide whether it is possible to find alternatives
for spare capacity if output more than budgeted
To estimate costs of overtime or extra machine hire
if output is more than budgeted
For budgetary control purposes - Fairer and more
meaningful comparisons.

BEHAVIOURAL CONSEQUENCES
OF BUDGETING
A budget affects everyone in an organisation.
Preparer and users
Performance evaluation
The arguments against involving managers in the preparation of
their budgets include:
1)Most managers will recognize that a budget will be used as a
target against which their performance will be measures. This
may tempt them to set an easier target by including some
budgetary slack.
2)The managers may have little knowledge of budgeting and be
unprepared for such a task.

BEHAVIOURAL CONSEQUENCES
OF BUDGETING- CONT
The arguments for involving managers in the preparation
of their budgets:
1)Most managers seek involvement in the planning of
their organizations so that they can enhance their sense
of belonging to the organization, and this motivate them.
2)If managers set their own targets, they can consider the
circumstances of their own division and make the target
attainable.

BEHAVIOURAL CONSEQUENCES
OF BUDGETING- CONT
2 issues:
Participative budgeting
Budgetary slack

Budgets can be used as a performance

measure to decide on bonus and promotions conflicts arise due differences in opinion
because of the budgets set.
This will have consequences on management
and employee behavior.
A sound budgetary system will promote
desirable behavior and the right attitude

1) PARTICIPATIVE BUDGETING
A process where managers who are held
accountable for budget performance help to
develop their own budget estimates.
The process of gaining acceptance of the budget
involved a lot of negotiation and subsequent
revisions of budget estimates.
Lengthy and time consuming.

TOP DOWN (IMPOSED

APPROACH)
Systems where senior managers impose budget
targets on more junior manager with little or not
consultation.
Set at corporate level and cascaded down
throughout the organisation.
Advantages:
Timely and cost effective

Disadvantages:
Senior managers may have less knowledge of the local
business environment unrealistic
Limited involvement in setting budget targets can result
in a lack of commitment of middle and junior managers.

BOTTOM UP
(PARTICIPATIVE APPROACH)
The participative process in which people at the lower managerial and
operational levels play an active role in setting their own budget.
Budgets:
collected at the lowest managerial levels and
consolidated and fed up to senior management
enhanced accuracy of estimates
Advantages:
Encourage coordination and communication between managers
Greater understanding and appreciation of the objectives and
strategy of the wider organisation.
Disadvantages:
Expensive
Time consuming
Opportunities of padding the budget

2) BUDGETARY SLACK
Padding the Budget - The practice of
underestimating revenues or overestimating costs
so that budget targets are easier to achieve
Budgetary Slack the difference between the
revenue or cost projections that a person provides
and a realistic estimates of that revenue and cost
E.g. Annual utilities cost of RM18 000 but
estimated RM20 000 has built RM2 000 slack.

2) BUDGETARY SLACK- CONT..

Reasons for creating budgetary slack:
People believe that their performance will look better if they
can beat the budget
Budget is used to cope with uncertainty
If nothing goes wrong, supervisor can beat the budget
If unfortunate event occur, budgetary slack will absorb
Managers are competing for limited resources common for
their initial budget requests to be cut by their manager or the
budget review committee
Budgetary projections are padded because they are likely to
be cut, and they are cut because they are likely to be padded.

2) BUDGETARY SLACK- CONT..

How to solve?
Avoid relying on the budget as a negative
evaluation tool.
Allow some discretion to exceed the budgeted
costs when necessary
Managers can give incentives not only to
achieve budgetary projections but also to
provide accurate budget estimates.

MOTIVATION & ETHICAL ISSUES

OF BUDGETING
Motivation is the drive in the employees attitude needed to
expedite operations based on budget.
Ethical issues involve honesty and trust of the employees
when exercising their responsibilities to execute those
operations based on budgets.
Any action which goes against this will cause dysfunctional
behaviour and upsets plans and implementation.
Dysfuntional behaviour employees who does not carry
out duties morally as expected

LIMITATION OF BUDGETING

BEYOND BUDGETING (BB)

A set of guiding principles that, if followed, will enable an organization to manage its
performance and decentralize its decision making process without the need for
traditional budgets. Its purpose is to enable the organization to meet the success
factors of the information economy (e.g. being adaptive in unpredictable
conditions).
Beyond budgeting, p.212
Not only a new approach to budgeting, resource allocation and operational planning,
but also a more holistic approach in strategy and corporate performance
management to overcome criticisms to traditional budgeting
Prevent rapid response
Detailed and expensive
Out-of-date within a few months
Enforce control and command
Encourage unethical behaviour
Empowered and adaptive organisation

IMPORTANCE OF BB
Response rapidly to threats and
opportunities
Attracts and keeps the best people
Enable and encourages continuous
innovation
Leads to loyal and profitable customers
Support good governance and ethical
behaviur

BEYOND BUDGETING (BB)CONT

12 PRINCIPLES OF BB
Values
Governance
Transparency
Teams
Trust
Accountability
Goals
Rewards
Planning
Coordination
Resources
Control