1.3 Budgets and performance management Responsibility accounting divides the organisation into budget centres, each of which has a manager who is responsible for its performance.
The budget is the target against which the performance of the budget centre or the manager is measured. The advantages of this approach
§ There is a clear published target known throughout the organisation that is linked to the overall organisation aims ( goal congruence).
§ Managers may be involved in setting the targets, which may make them more realistic.
§ Budget targets can be linked to individual rewards, which may provide motivation to improve performance.
The disadvantages of the approach are that:
§ Managers may work towards specific short-term budget targets to the detriment of long-term organisational goals.
Management by exception is the practice of focusing on activities which require attention and ignoring those which appear to be conforming to expectations.
When measuring performance it may be appropriate to concentrate on activities which are deviating from plan.
§ Managers should use a flexed budgeting approach to adjust fixed budget targets to reflect actual volumes of output achieved.
§ Managers should only be assessed against costs and revenues’ that are within their control (the ‘controllability principle’). Failure to do this can be demotivating if, say, a manager fails to achieve a target due to factors outside their control.
Illustration 2 – Purpose of budgets
A simplified performance report for an operating division is shown below:
$000
Sales750
Variable costs420中华考试网
Contribution330
Controllable fixed costs110
Key measure for assessing managerial performance220
Uncontrollable fixed costs (e.g. share of general overhead)150
Profit70
Test your understanding 2
A wage award for production staff is agreed which exceeds the allowance incorporated in the budget. Discuss whether this is a controllable cost. |