Before anyone budgets or asks others to budget, it is most important that the reasons for, and objectives of, the budgeting exercise are known and set down in writing.
Reasons often given for budgeting are:
- to control;
- to plan resources;
- to plan cash;
- to achieve a goal;
- to manage the business;
- to achieve the business objectives;
- to fulfil the business's strategic plan.
All of the above are valid reasons for budgeting, and those which individuals consider to be most important will relate to their perceived purpose of budgeting and the level within the organization at which the budget is to be used. An operating budget is compiled for, and used for, many purposes, but unless its prime use is based on clearly stated objectives, the budgeting exercise will not deliver the strategic results.
Where do budget objectives come from?
Clearly, budget objectives should come from the chief executive and board - is that not what they are paid for? There will be occasions when, due to a lack of ability among the executives, company staff are requested or driven to come up with the objectives of their business. Certainly it is a great waste not to draw on the combined ability of the staff in identifying opportunities and developing business objectives, strategies and tactics, but ultimately the chief executive and the board should set the objectives. Can they answer the question: 'Why be in business?'
The use of the word 'driven' above indicates another problem that can beset the budget process - the management structure.
1 The board - or rather a single powerful chief executive - determines the company objectives, overall and in great detail, and commands that managers run their areas with these budget figures - a dictatorial approach. This may well work for some businesses, but a serious weakness of the dictatorial approach is that there is the need for a continuing succession of wise, all-knowing chief executives. One misdirecting or poor chief executive and the business falters or fails.
2 The board, led by the chief executive, sets overall (and possibly vague) objectives, leaving managers free to interpret and action them. This may well work for some businesses. Competent managers of similar standing know what has to be delivered and will arrange their activities to achieve their sub-objectives. The problem with this approach is that different managers may interpret the company's overall objectives in different ways and, more seriously, while managers may be of similar standing, one or more particular managers may have the ability to ensure that their particular objectives are achieved by taking priority over any others - the business revolves around them.
The budget process must be understood by top management and be directed, if not driven, from the top, where responsibility ought to lie. The budget process has to be managed and led. The budget process and personnel involved have to work in harmony.
The issue of harmony or alignment is considered below when pondering the question of budget culture.