Business Management: The Dark Side of Budgeting

Working within a budget guides a business in its modeling, planning, and control. All good, right? But there's a dark side to budgeting, too. Unrealistic business goals and unfavorable variances (as in, losses and shortfalls) are just a couple of examples.

Unfavorable budget variances

In larger businesses, budgets are typically used to hold managers accountable for their areas of responsibility in the organization; actual results are compared against budgeted goals and timetables, and variances are highlighted.

Managers don't mind taking credit for favorable variances, when actual comes in better than budget.

But beating the budget for the period doesn't always indicate outstanding performance. A favorable variance could be the result of manipulating the budget in the first place, so that the budgeted benchmarks can be easily achieved.

Unfavorable budget variances have to be interpreted carefully. If a manager’s budgeted goals and targets are fair and reasonable, the manager should be held responsible. The manager should carefully analyze what went wrong and what needs to be improved.

Stern action may be called for, but the higher ups should recognize that the budget benchmarks may not be entirely fair; in particular, they should make allowances for unexpected developments that occur after the budget goals and targets are established (such as a hurricane or tornado, or the bankruptcy of a major customer).

When managers perceive the budgeted goals and targets to be arbitrarily imposed by superiors and not realistic, serious motivational problems can arise.

The downside to budgeting

Budgeting isn't without its problems. Budgeting looks good in theory, but in actual practice things are not so rosy. Here are some issues to consider:

Budgeting takes time, and the one thing all business managers will tell you is that they never have enough time for all the things they should do.
Budgeting done from the top down (from headquarters down to the lower levels of managers) can stifle innovation and discourage managers from taking the initiative when they should.
Unrealistic budget goals can demotivate managers rather than motivate them.
Managers may game the budget, which means they play the budget as a game in which they worry first and foremost about how they will be affected by the budget rather than what’s best for the business.
There have been cases in which managers resorted to accounting fraud to make their budget numbers.