CHAPTER ONE INTRODUCTION 1. 1 BACKGROUND OF THE STUDY Budgeting is a planning process which underlines predicting and quantifying the future in financial terms and predicting the future needs for finance. Aside from the planning role of budgeting, numerous articles on management accounting constantly stress the multi-purpose role of budgeting in business organization. Budgeting is used for forecasting, planning, coordination, communication, control and motivation.
In the past few decades, considerable attention has been paid in particular to the role of management control of budgeting (Otley & Pollanen, 2000). In order to reveal the nature of budgeting at business organizational level, it would be best to begin by comparing budgeting with accounting. Budgeting and accounting have different meanings among managers, planners, and the personnel who use these. Both are critical components that must interact to achieve the goals and objectives of an organization. Accounting is a system used to record, classify, and summarize business operation (Meigs, 1996).
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The role of keeping the financial information and on-going analysis necessary to provide management and outside interests with the facts necessary for decision, is also considered as accounting (Grigg, 1988). Relying on certain standards and GAAP (General Accepted Accounting Principles), the accountant of a company develops and reports data to measure firm performance; to assess its financial position, to comply with and file reports needed by securities regulators; to file and pay taxes; and to prepare the balance sheet, financial statements, and the cash flow of the company to recognize sales revenue, expenses etc. hen they are incurred. Therefore, accountants provide accounting information used for individuals external to an organization such as shareholders, customers, suppliers, tax authorities, as well as for employees (so-called financial accounts) and internal managers of an organization (so-called management accounts). Financial accounting systems ensure that the assets and liabilities of a business are properly accounted for, and provide information about profits etc. to shareholders and to other interested parties.
In contrast, management accounting systems provide information specifically for the use of managers within an organization to assist in their decision making (Ryan et. al, 2002). Based on the classification above, budgeting is, traditionally, classified in the management accounting domain by the existing accounting literature. In this sense, budgeting is a narrower concept with more specific focus. Budgeting, if it covers financial aspects, reflects the management’s expectations regarding income, cash flow, and financial position in monetary terms. Horngren, 2002) It focuses on a forthcoming accounting period, rather than on the past period on which the accounting is based to make records. Therefore, budget planning focuses more on a forecast purpose to estimate what is likely to occur in the future and how organizational resources are allocated to realize future operations. Moreover, another important part of budgeting is that of feedback, in which both the plan and the action are compared, providing the opportunity to analyze variances, the causes and to revise future budgets in line with experience.
This is called budgetary control. As a common example of a financial plan in management accounting, however, budgeting pays attention to the administrative function internal to a firm, especially in terms of planning and control. Budgeting is viewed as a critical element of management control (as above mentioned) by a number of scholars (Anthony, 1965; Flamholtz, 1983; Otley and Pollanen, 2000; Otley, 2003). Given the control-required standards against which performance could be assessed, the budget is the natural standard of comparison.
This leads to using the budget with an annual planning period, in practice in many organizations this can be subdivided into quarters or sometimes months, as the fundamental building block of the control system. This study will therefore attempt to analyze the process character of budgeting in the context of Nigerian manufacturing companies, and to investigate the influence of budgetary control process on organizational performance, taking Nigerian breweries and 7up bottling company as case study. . 2 STATEMENT OF THE PROBLEM Traditional budgeting has been criticized for a long time now for its inadequacy as a means of management control. Criticisms concerning its inadequate practices in a changing business environment emerged as early as the mid 1980’s with Johnson and Kaplan (1987) seminal book Relevance Lost. We could also note from the work of Allen (1998) who stated that the rapid changes in today’s business environment renders a rigid approach to budgetary control obsolete.
It is no longer helpful, in his opinion, to compare actual results to that forecasted anything up to 15 months previously. He argues that amongst the requirements of a more appropriate system, would be the building in of accountability to explain the differences between actual and planned performance. This demands a more immediate time frame of information reporting. Thus, there is a need to integrate strategic management and budgeting. We could point out the works of Adams et al (2003) to this regard.
These authors conceptualized that to be effective, budgets must be aligned with the organization’s strategies, appropriate strategic planning, and performance management processes introduced, and must involve processes that are value based, consequential and continuous. The work of Tim Blumentritt (2006) could be viewed as further contributions to the above stand point as he recognizes the need for organizations to integrate strategic management and budgeting.
What seems rather unfortunate according to Tim Blumentritt (2006) is the fact that most organizations still treat the budgeting and strategic management processes separately and also, a significant portion of business organisations do not engage in strategic planning (Tim Blumentritt 2006). This study therefore intend to investigate the budgetary control practice of Nigerian breweries and 7up bottling company, two manufacturing companies in the Nigerian food industry and make suggestions of what seems to be the best practice based on literatures, articles and empirics. 1. OBJECTIVES OF THE STUDY The purpose of this study will be to describe and explore the relationship between budgeting and performance. The exploratory inquiry will attempt to discover or identify potential variables and the nature of relationship regarding budgeting and organizational performance of Nigerian manufacturing companies from a review of the scholarly literature. The study will then try to examine whether the established relationship between budgeting and performance is confirmed by the actual budgetary practice of Nigerian breweries and 7up bottling company.
The following is a list of the objectives of this study: 1) To explore the theoretical impact of budgeting on performance of manufacturing companies; 2) To understand empirically how budgeting impacts on the organizational performance of Nigerian manufacturing companies; 3) To investigate the budgeting and budgetary control practice of Nigerian breweries and 7up bottling company; 4) To evaluate the success or otherwise of the use of budgetary control in improving organizational performance using the case study data; 5) To make suggestions of what seems to be the best approach based on literatures, articles and empirics. . 4 RESEARCH QUESTIONS The following research questions shall be provided answers in this study: 1) How does the budgeting process impact the performance of manufacturing firms in Nigeria? 2) How can manufacturing firms’ performance be measured? 3) What is the formal budgeting process and how does it affect manufacturing firms’ performance? 4) How can the role of budgetary participation be defined in the budgeting process, and how does it impact managerial performance? 5) What is the effect of budgeting control process on the performance of Nigerian breweries and 7up bottling company? ) How can a firm achieve better management control apart from using solely the traditional budgetary control tool? 1. 5RESEARCH HYPOTHESIS The following formulated hypothesis relating to the variables in the study is to be tested for acceptance on rejection: H0: There is no significant relationship between budgetary control process and organizational performance of manufacturing firms in Nigeria. H1: There is significant relationship between budgetary control process and organizational performance of manufacturing firms in Nigeria. 1. 5 SIGNIFICANCE OF THE STUDY
Theoretically, the significance of this study first of all will contribute to budgeting theory. It will give a fresh insight into the possible correlation between budgeting and performance in manufacturing companies by theoretical exploration. Moreover, through conducting empirical investigation, the study will show how budgeting undertakes and impacts performance in Nigerian manufacturing companies. Finally, it will expand the existing findings in the budgeting literature. Because quantitative research is involved in the current study, it will enhance the existing research with more empirical data.
Practically, this study, as a whole, caters to a perceived need of organizational managers for better budgeting practice to improve performance. The findings of this research will provide managers of business organizations with more useful understanding about budgeting and participation, i. e. how to apply the budgeting system; how to adjust budget practice within organizations; whether it is useful to apply participation in the budgeting process. The results will simultaneously contribute to business consultants to better understand financial planning and implementation in business organizations.
This study will also responds to the growth of businesses, not only domestically but also globally. As developing countries become more industrialized, the implementation of the management accounting systems and techniques in developing countries remains an important issue. Therefore, more empirical studies are expected to be addressing this issue, to investigate what best budgeting practice should be suitably applied and covered, which will positively improve their performance. 1. 6 LIMITATION OF THE STUDY
There is fair that the two companies to be used as case study might not consent to the administration of questionnaire or conduct of interview on them, the area to be researched being very sensitive to their business due to secrecy and confidentiality. As the organizations under consideration are manufacturing firms having to contend with competitors, the credibility of primary data to be used for the study cannot be justified. Time constraint and costs required to embark on wider study are also notable limitations of this study. 1. 7 SCOPE OF THE STUDY
This study concentrates on the impact of budgetary control process on organizational performance using Nigeria breweries and 7up bottling company in Enugu state of Nigeria as case study, to investigate if they are applying the concepts of budgeting in their operations and how well. The scope of this study shall therefore cover only these two organizations which are both selected from the food/beverages industry of the Nigerian economy in order to ensure homogeneity. CHAPTER TWO REVIEW OF RELATED LITERATURE 2. 1INTRODUCTION This chapter provides an overview of the previous literature on budgeting process and performance.
Some basic concepts such as budgeting process, budgeting planning and budgetary control are defined and explained in this chapter. Additionally, this literature review also aims to find what the theoretical framework is to link budgeting and performance in organization. 2. 2BUDGETING PROCESS: AN OVERVIEW As stated in the previous chapter, a budget is a detailed and quantitative plan. It shows the information about the acquisition and use of financial and other resources over a specific time period, either a long-range period (two- to ten-year) or a short-term period (one- to two-year, or monthly, or daily-based).
Budgets require management to specify expected sales in the case of a market organization, cash inflows and outflows, and costs (Horngren, 2006). Budgets provide rational and tangible data facilitating and enabling decision-making of organizations. Instead of expressing a budget as a statically financial plan or blueprint, the term “budgeting” refers to the act of preparing a budget or the activities of predicting and qualifying future requirements for finance (Garisson, et al. , 2003). In theoretical management accounting literature, some theorists (e. g.
Drury, 2000; Joshi, 2003; Garrison et al. , 2003 and so on) believe that through budgeting in the process of financial decision-making and internal operation of organization, multiple functions regarding budgeting behavior can be achieved. These functions are planning, coordinating, communicating, control, and evaluating. We note that budgeting with its multiple functions triggers a series of activities (from the narrowest to the broadest associated with planning, coordinating, communicating, control, and evaluating) within different departments of organizations during its adoption.
Therefore, another derived term, budgeting process13, is created and is widely used by the management accounting literature to reflect the dynamic nature of budgeting practice in a firm. The following points therefore summarize the purposes of budgeting in a firm according to Drury (2000): 1. To aid the planning of annual operations. 2. To coordinate the activities of the various parts of the organization and to ensure that the parts are in harmony with each other. 3.
To communicate plans to the various responsibility center managers. 4. To motivate managers to strive to achieve the organizational goals. 5. To control activities 6. To evaluate the performance of managers. 2. 3BUDGETING PLANNING AND BUDGETARY CONTROL Although budgeting at the organizational level serves multiple purposes and functions, most studies (Amey, 1979; Ezzamel & Hart, 1987; Bremser, 1988; Douglas, 1994) still pay much attention to the two basic roles of budgets: planning and control, so-called “dual purpose”.
Budgeting process in management accounting is thereby generally classified into budgeting planning and budgetary control. 2. 3. 1BUDGETING PLANNING Briefly, budgeting planning (budget-setting or budget preparation) refers to developing quantitative goals of the organization and preparing various budgets (Bodie & Merton, 2000). There are different types of budgets used in a manufacturing sector. Business organizations use long-term budgets to lay out the planned financial goals and actions over periods ranging from two to ten years.
Long term budgets are part of an integrated business strategy that along with production and marketing plans, guides the firm toward strategic goals (Gitman, 2006). So in this regard, long-term budgets are closely related to strategic plans. Capital budgets, as one example of long-term budgets, are emphasized in financial accounting and budgeting literature. Capital budgeting is defined by Garisson et al. in 2003 as a type of investment decision-making used to describe how managers plan significant outlays on projects that have long-term implications.
It details the planned expenditure for facilities, equipment, new products, and other long-term investments. Apart from long-term budgets, short-term budgets are used to guide day-to-day operations. Short-term (operating) budgeting specifies the acquisition and use of financial and other resources over a short-term period, which most often covers a 1- to 2-year (Garrison et al. , 2003). The complete short-term budgeting in an organization consists of a number of separate but interdependent budgets preparations. The total package of those budgets is the Master Budget. 2. 3. BUDGETARY CONTROL Before we discuss budgetary control process, it is necessary to explain the concept of budget variance in advance. When there is a difference between the actual amount incurred or realized, and the corresponding budgeted (forecasted) figure, there is budget variance (Garisson, et al. , 2003). It can be further divided into favorable variances and unfavorable variances. For revenue items, if actual revenues exceed budgeted revenues, the variance is favorable; while if actual revenues are less than the budgeted figure, this is unfavorable budget variance.
For cost items, an unfavorable variance refers to a variance that decreases operating income relative to the budgeted amount; a favorable variance, however, increases operating income relative to the budgeted amount. Friedlob & Plewa (1996) point out that favorable budget variances are “generally signs of efficient, effective cost management and increases in net income”. Conversely, unfavorable budget variances are results from inefficient, ineffective cost management, and reduced net income. Hirsch, Jr. (1994) summarizes the causality of variance, subdividing this into four reasons.
Firstly, variance can be the result of inaccurate data. Secondly, an upward change in costs (price standard) or production conditions (quantity standard) can result in an unfavorable variance. Thirdly, variance can be the result of random happenings (something that is unlikely to occur on an ongoing basis. ) Finally, variance can be the result of especially efficient or inefficient operations. Control, briefly, is the process of ensuring that a firm’s activities conform to its plan and that its objectives are achieved (Drury, 1996). Accordingly, this process is commonly referred to as “budgetary control”. . 4THEORETICAL FRAMEWORK LINKING BUDGETING PROCESS TO PERFORMANCE A critical literature review shows research on the relationship between the budgeting process and performance in small and medium-sized enterprises (SMEs). We rely on Wijewardena & De Zoysa’s model (2001) in terms of the formal budgeting process. Wijewardena and De Zoysa define the formal budgeting process as the formal financial planning process and the formal financial control process. Both of these aspects of the formal budgeting process are important contributors to enterprise performance of organizations.
Other studies redefined the concept of the formal budgeting process by adding more dimensions of the budgeting process. Budget goal characteristics, including goal clarity and goal difficulty, are stressed in Yuen’s (2004) work. It reveals that a “tight but attainable” budget goal is the most effective way to motivate the employees’ performance. Therefore, clear goals reduce budgeting process uncertainty and improve firm performance. A similar statement is also made by other studies such as Ivancevich (1976), Steers (1976), Imoisili (1989), Locke & Schweiger (1979), Mia (1989), Ezzamel (1990), Hirst & Lowy (1990) etc.
Another study on the formal budgeting process and performance relationship is research on budgetary sophistication. Budgetary sophistication is defined by scholars (Merchant, 1980; Peel & Bridge, 1988; Edward, et al. , 2001) as greater use of computer, technical staff, and advanced financial modeling. Empirical results (Merchant, 1980) show that budgetary sophistication enhances the accuracy of the budget plan and the degree of information accuracy. In turn, it results in higher performance in organizations.
By mixing Yuen’s (2004) and Merchant’s (1980) models with Wijewardena & De Zoysa’s model, we redefine the formal budgeting process as the completeness of the formal budgeting planning process, budget-goal clarity and difficulty, budgeting sophistication, and the formal process of budgetary control. As to performance measurement, most existing literature on budgetary control process use financial performance as a dependent variable. Some studies use non-financial performance which includes budgetary performance and other performance. However, the measurement in this study includes only financial performance.
The theoretical framework in this study is derived from the combined models of several studies, including the formal budgeting process, budgetary participation, and the measurement of performance (Wijewardena & De Zoysa, 2001; Yuen, 2004; Merchant, 1980; Parker & Kyj, 2006). CHAPTER THREE RESEARCH METHODOLOGY 3. 1REINSTATEMENT OF HYPOTHESIS The following formulated hypothesis relating to the variables in the study is to be tested for acceptance on rejection: H0: There is no significant relationship between budgetary control process and organizational performance of manufacturing firms in Nigeria.
H1: There is significant relationship between budgetary control process and organizational performance of manufacturing firms in Nigeria. 3. 2RESEARCH DESIGN The research design employed in this study is descriptive in nature. Descriptive research allows the assessment of certain attributes, properties or characteristics in a situation prevailing of a particular time. It gathers consistently the data of occurrence of events, which are used to give explanation of the relationship, test hypothesis, make prediction or get meaning and implication of the situation. 3. STUDY AREA This study shall be carried out only in Enugu state of Nigeria by investigating the production factories of the two companies taken as case study, Nigerian breweries and 7up bottling company, both located in Enugu state. 3. 4POPULATION OF STUDY This study is focused on all organizations that use budgets and engage themselves in the budgetary control process to achieve better operational performance. Practically by convention, all organizations, both private and government, use budgeting process as a tool for planning and controlling their operations.
The population of this study is therefore infinite, consisting of all organizations, both private and public (government organizations), in Nigeria. However, the two private organizations indicated shall be used as case study. 3. 5SOURCE AND INSTRUMENT OF DATA COLLECTION In this study, questionnaires function as a preliminary data collection technique providing empirical analysis in this study. They aim to describe the general pattern of budgeting practice in the case study companies and thereby infer how formal budgeting planning and control is undertaken in a firm.
The senior manager or financial manager of the companies will be asked to rate the extent of budgeting planning and control practice in their companies and indicate the firm performance. 3. 6DESIGN AND ADMINISTRATION OF QUESTIONNAIRE Questions to be used in measuring variables of the study shall be directly adopted from other research. It is more efficient and time-saving than developing your own questions, provided that you can still collect the data you need to answer the research questions and to meet the research objectives.
For some questions, both positive and negative statements shall be used. The answer of respondents can then be checked once again by re-reading and comparing both questions. With regards to the types of the questions, the questionnaire includes a combination of open-ended questions and closed-ended questions. The respondents shall be asked to fill in their companies’ actual profit figures, budgeted and actual revenue and production costs over 10 years, 2000 to 2009, for secondary data analysis.
The questionnaires shall be self-administered by the researcher and delivered by hand to each respondent and collected later. Questionnaires are to be completed by senior managers, chief financial officers, or the lower level managers in the factory. All of them have more or less budgetary responsibility during the budget setting. 3. 7RELIABILITY AND VALIDITY OF TEST INSTRUMENT Some measures shall be taken to ensure the validity and reliability of the questionnaire and the responses. The questionnaire shall be reviewed by the researcher’s supervisor to ensure validity.
Before commencement of the administration in each of the two selected companies, the researcher shall emphasize the need for privacy and honest responses from the respondents, while assuring them confidentiality of their responses. This is to prevent biased responses as much as possible. At the end of each day of the questionnaire administration, responses shall be crossed checked. In cases where there are ambiguities and other mistakes, these shall be clarified and corrected during data editing exercise. 3. 8DATA ANALYSIS TECHNIQUE
In this study, parametric statistics shall be the major technique of statistical analysis. Data obtained from the questionnaires shall first be analysed by the frequency method. To analyze the impact of the budgeting process on enterprise performance, linear regression method of ordinary least square shall be used. The relationship between the variables of study is formulated as follows: Performance = f ( budgetary control ) …………………………(1) Growth in Profit Before Tax (GPBT) shall be used as a proxy for performance while budgetary control shall be measured by two proxies:
Relative Percentage Variance between budgeted and actual sales revenue (REVVAR) and Relative Percentage Variance between budgeted and actual production cost (COSTVAR). Thus, the regression model is put in linear form to have equation (2) below: GPBT = ? + ? 1REVVAR + ? 2COSTVAR + ? ………………. (2) Where ? = constant i. e the intercept of the regression function ? = the regression coefficient of the independent variables 3. 9RESEARCH PROCEDURES This research will start with an extensive review of the literature for both budgeting and performance.
This phase is subdivided into the phases of theoretical analysis of budgeting impact on performance. Through this logical exploration of the existing bodies of literature, an initial conceptual framework of budgeting-performance relationship in organization will be established. Based on the implication of the conceptual framework, the tentative propositions also will be generated as assumptions, which shall be checked by empirical results later on. The literature review will, on the other hand, identify previous research deficiencies or gaps.
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