Budgetary Slack
Participation in developing a budget may result in a padding of the budget, also known as budgetary slack.
Budgetary slack ⇒ is the excess of resources budgeted over the resources necessary to achieve organizational goals. This practice results in the underestimation of revenues and overestimation of expenses. This must be avoided if a budget is to have its desired effects.
The natural tendency of a manager is to negotiate for a less stringent measure of performance so as to avoid unfavorable variances from expectations.
Management may create slack by overestimating costs and underestimating revenues.
A firm may decrease slack by emphasizing the consideration of all variables, holding in depth reviews during budget development, and allowing for flexibility in making additional budget changes.
A manager who expects his or her request to be reduced may inflate the amount.
If a budget is to be used as a performance evaluator, a manager asked for an estimate may provide one that is easily attained.
Slack can have both positive and negative effects on the budgeting process.
Slack can reduce the budget‘s planning benefits, since the budget may not be entirely accurate.
For example, a cash budget might show that $60,000 needs to be borrowed this month, whereas that amount is not really needed because managers were just being cautious.
Alternatively, lack of slack may discourage managers from implementing new programs or might cause managers to avoid routine maintenance when the budget does not show funds available in a particular period.
Ways to reduce the incidence and effect of budgetary slack include:
- Use budgets as planning and control tools but not for manager performance evaluation.
- Reward managers based on the accuracy of the forecasts they used in developing their budgets. For example, the company’s senior management could say that the more accurate a division manager’s budgeted profit forecast is and the greater the amount by which it is exceeded, the higher the manager’s bonus will be.
- Use measures other than comparison of actual results to the budget to evaluate managers. For example, managers could be evaluated on comparison of actual results to external benchmark performance measures.
- Top management should educate lower-level managers on the importance of accurate budgeting.