Summary by Michele Martinez
Ph.D. Program in Accounting
University of South Florida, Spring 2002
An important aspect of any management control system is the budget process. Managers for a number of reasons such as; motivation, performance evaluation, product pricing, and investment planning utilize budgeting information. Additionally, a number of diverse things within the organization determine whether the budget process will be effective. Otley (1985) states that past research on the budgeting process has shown that budget estimates are rarely achieved for two principal reasons: (1) imperfect forecasting models and (2) divergence between individual and organizational goals. These problems lead to distorted, or biased, information input to the accounting system. It’s imperative that managers understand budgetary biasing behavior because reliance on biased information may contribute to poor decision-making. Consequently, in order for managers to properly utilize budgetary information they must understand the circumstances under which budgets may become biased.
As stated by the authors’ the purpose of this paper is to report on the budgeting behavior of superior and subordinate members in a Fortune 250 consumer products company before and after the implementation of a budget-based incentive compensation plan for subordinates. The characteristics of the company’s budgeting environment are identified and analyzed using Lukka’s (1988) explanatory framework for budgetary biasing behavior.
1. Provides an account of the implementation of a
budget-based incentive compensation scheme for sales employees in a Fortune 250
consumer products manufacturing company. Provides a first-hand account of
changes in biasing behavior when targets are linked to subordinates’
2. Utilizes Lukka’s framework for budgetary biasing to identify and organize important factors that affected the budgeting behavior of budgetary actors.
Budgetary Biasing, Motivation, and Effects of Participation
Budgetary bias consists of three different components:
Expectancy Theory predicts an increase in employee motivation with an incentive compensation scheme if the beneficiaries perceive the goal is attainable. The expectancy model of motivation provides that individuals will exert effort only if the effort has a reasonable probability of achieving a defined goal and achieving the goal is associated with positive expectations of receiving desirable outcomes. The outcomes may be extrinsic or intrinsic.
Effects of Organizational Structure on the Budgeting Process
The budgeting process involves simultaneous efforts of both superiors and subordinates. Either aggregating subordinates estimates or disaggregating estimates by a superior may initiate the budget. Three interrelated factors affect the magnitude of budget estimates: (1) estimation method used by subordinates, (2) what will be communicated to the superior, (3) superiors must combine the estimates of subordinates while considering the information at hand and their own likelihood estimates of possible outcomes. Thus, the budget will be viewed as one of two possibilities: 1) flexible, to allow for unexpected events or 2) a best point estimate of what is likely to occur.
Budgetary Biasing Framework
This framework is used to identify and organize factors that influence behavior of budgetary actors in the subject organization. The framework explains biasing behavior in the context of human action and specifically allows for differences in contextual characteristics across organizations.
H1: Subordinates’ participatory budget estimates will be lower (easier to achieve) following the implementation of a budget based incentive compensation plan.
MethodologyActual quarterly sales volume and two estimates of quarterly sales volume were obtained to test for effects of the incentive plan on budgetary biasing behavior. Ten years of data were analyzed.
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