Budgetary Slack, Ethical Issues, and Nestle's Performance

This report delves into the issue of budgetary slack within Nestle Australia, examining its definition, consequences, and ethical implications. Budgetary slack, characterized by overestimation of expenses and underestimation of revenues, is identified as a practice that can negatively impact Nestle's corporate performance, planning, and resource allocation. The report highlights ethical concerns arising from managers intentionally manipulating figures to meet targets. To mitigate these issues, the report suggests implementing a combination of incentive plans, such as stock options and bonuses, alongside participative budgeting to foster a more accurate and ethical approach. The conclusion emphasizes the need for ethical conduct and a balanced approach to performance evaluation to prevent budgetary slack and improve overall organizational effectiveness.

Management Accounting

Table of Contents
INTRODUCTION.......................................................................................................................................1
TASK 1.......................................................................................................................................................1
Part A......................................................................................................................................................1
Meaning of Budgetary Slack...............................................................................................................1
Consequences of Budgetary Slack for Nestle......................................................................................1
Part B.......................................................................................................................................................2
Part C.......................................................................................................................................................3
CONCLUSION...........................................................................................................................................4
REFERENCES............................................................................................................................................5

INTRODUCTION
Budget based standards for performance make incentives to “game” or “sandbag” the
budget process, get involved in wrongful arrangement and manipulate information. Nestle
Australia is also dealing with similar problem of budgetary slack wherein its branch managers
are underestimating revenues and overestimating expenses as this practice helps them achieve
their goals. The present report provides recommendation on how to prevent this situation and
why managers should behave ethically.
TASK 1
Part A
Meaning of Budgetary Slack
Budgetary slack is over-estimating budgeted expenses or under-estimating budgeted
revenue. While some cases of budgetary slack are deliberate, others are not, and many instances
fall in between. Deliberate budgetary slack might take place when a manager wants to “make his
numbers” usually to respond to earlier quarters wherein revenues were below the estimate, and
failed to meet the owners’ expectations. Indeliberate budgetary slack can be an outcome of
insufficient internal controls (Bragg, 2013). If the data to furnish suitable sales and cost
projections is inadequate, managers tend to present an unrealistic budget underpinned by honest
expectations which are usually not more than best guestimates, or are based imperfectly on
previous quarter’s budgets.
Consequences of Budgetary Slack for Nestle
As far as Nestle is concerned, budgetary slack is likely to interfere with its effective
corporate performance. This is because managers merely have the incentive of meeting their
budgeted objectives, which are established very low. Evidently, such deliberate budgetary slack
has been happening for consecutive years in Nestle and this may imply that the company’s
overall performance has plummeted as compared to its more aggressive contemporaries who
employ stretch goals (Monden and Minagawa, 2015). Hence, budgetary slack is bound to have a
long-run adverse impact on the competitive positioning and profitability of Nestle. Another
negative implication of slack for Nestle is that it challenges the usefulness and credibility of its
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budget as a tool for planning and controlling. When managers include a slack, the figures in the
budget no longer represent an accurate picture of future operations (Epstein and Lee, 2011).
By padding the budget, the managers think that their goals are becoming achievable,
which is likely to decrease the company’s efficiency and restrict innovation at workplace. The
senior management will also not be able to undertake an objective assessment of its managers
and their subordinates’ performance employing this budgetary information. Budgetary slack is
also likely to reduce the ability of the organization to highlight its weak areas and take corrective
measures on time. It becomes quite difficult to pin point where the problem actually lies and thus
leads to late recognition as well as delayed remedial actions (Schoute and Wiersma, 2011). The
overall efficacy of Nestle’s corporate planning will diminish. Unwanted actions like reduced
promotional expenditure or pricing changes might be taken due to an apparent need of improving
earnings, when removing the budgetary slack can help attain the same goals without doing any
marketplace changes. The senior management will also not be able to properly allocate resources
to different subunits based on the actual financial performance. This is because budgetary slack
will impact their decision making as the budgets will portray decreased contribution margins
(higher expenses, lower sales). Decisions pertaining to the profitability of different product lines,
incentives, staffing levels etc. can have a negative consequence on Nestle (Chong and Loy,
2015).
Part B
Ethical concerns might emerge because of creation of budgetary slack in Nestle. The
managers are engaging in intentional overstatement of expenses and understatement of revenues.
This is caused by their intention and not by any unexpected mistake in the process of estimation.
Instead of honestly communication the projected expenses and revenues of the department, the
managers of Nestle are padding their figures to provide themselves a breathing space and evade
the limits of a strict budget. Underestimated revenue numbers are simpler to achieve and are
likely to result in incentives for the managers (Walker and Fleischman, 2013).
The company is putting considerable trust in its managers and employees. Every staff
member at every hierarchical level is responsible to behave in an ethical manner and work in the
best interest of the company, keeping their interests secondary. As Nestle is linking accounting
measures to performance evaluation, its managers are engaging in a range of undesirable, and
usually unethical behaviors (Epstein and Lee, 2011).
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Majority of the ethical decisions, including that of budgetary slack, lie in a gray area
wherein there is no unambiguous decision which can be taken completely through considering
objective data or quantitative evaluation. Managers are required to make ethical decisions based
on sound judgment and interpretation, applying a series of values to a suite of estimates and
perceptions of the implications of an action. Managers at all levels in Nestle are held to a great
standard of ethical conduct. Each day, these people take key decisions which impact their
company, its shareholders and every other stakeholder (Kerzner, 2013). As a manager, it is
important to comprehend and stick to the legal and ethical obligations of their position to satisfy
the expectations of every stakeholder group, and to create an example of such moral behaviors
for others to follow.
Hence, it is imperative for the managers at Nestle to comprehend Codes of Ethics and
Conduct, and all the other formalized rules and to obtain and keep records of relevant
documentation outlining the guidelines and expectations for ethical behavior. These people are
also responsible for ensuring that their subordinates also comprehend such rules. Managers of the
company are also required to establish expectations that no sort of unethical practice is
acceptable. Resultantly, anyone who either witnesses or conducts such an act is accountable to
report it via suitable channels (Rodríguez and Gil, 2016). Ethical ambiguity is not what a
manager at any level must deem acceptable.
Part C
The existing performance evaluation and reward system at Nestle encourages managers
to undertake budgetary slack. Promotions, salary hikes and bonuses are all impacted by a
manager’s potential to meet or beat the budgeted targets. As a manager’s career and financial
standing could be impacted, budgets are having considerable behavioral effect.
To prevent such practice from becoming a habit, Nestle can consider some other
measures to balance the dysfunctional elements promoted by the existing system. A combination
of different incentive plans plus participative budgets can be used by Nestle to develop an
attractive incentive scheme and prevent budgetary slack. Stock options is one of the plan that can
be used by the company to motivate its branch managers to beat their goals and positively drive
their company’s stock value (Chen and Jones, 2004). Stock options add significant value in a
designated time frame so that managers will be able to sell their stock on maturity of that time
period. This can be combined with providing a bonus for any rise in sales over the 10% increase.
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In fact, for every 1% rise over the 10% target, the company could provide a bonus. Participative
budgets will give the branch managers a feeling that their viewpoints are valued by the senior
management and they will also have a better attitude toward ways of achieving the budgeted
goals. In addition to this, there are high chances that such a participative approach will lead to a
more accurate budget setting (Elmassri and Harris, 2011).
CONCLUSION
Hence, it can be concluded that the existing bonus and career progression system of
Nestle is responsible for budgetary slack. Having said that, this does not give the managers any
liberty to resort to unethical ways of padding their numbers. Budgetary slack is less likely to
happen when a limited number of aggressive managers are the ones permitted input into the
budgetary model, as they can establish really high expectations. It is also less likely to take place
when there is no or a full-proof connection between bonus plans or performance and the budget.
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REFERENCES
Bragg, S. (2013). Budgetary Slack. [Online]. Available through:
<https://www.accountingtools.com/articles/what-is-budgetary-slack.html>. [Accessed on
15th September 2017].
Chen, C. and Jones, K. (2004) ‘BUDGETARY SLACK AND PERFORMANCE IN GROUP
PARTICIPATIVE BUDGETING: THE EFFECTS OF INDIVIDUAL AND GROUP
PERFORMANCE FEEDBACK AND TASK INTERDEPENDENCE’, Advances in
Management Accounting, 13, pp.183 – 221.
Chong, V. and Loy, C. (2015)’ The Effect of a Leader’s Reputation on Budgetary Slack’,
Advances in Management Accounting, 25, pp.49 – 102.
Elmassri, M. and Harris, E. (2011) ‘Rethinking budgetary slack as budget risk management’,
Journal of Applied Accounting Research, 12(3), pp.278-293.
Epstein, M. and Lee, J. (2011) ‘Advances in Management Accounting’, Emerald Group
Publishing.
Kerzner, H. (2013) ‘Project management: a systems approach to planning, scheduling, and
controlling’. John Wiley & Sons.
Monden, Y. and Minagawa, Y. (2015) ‘Lean Management of Global Supply Chain.’ World
Scientific.
Rodríguez, S. and Gil, D. (2016) ‘Effects of trust and distrust on effort and budgetary slack: an
experiment’, Management Decision, 54(8), pp.1908-1928.
Schoute, M. and Wiersma, E. (2011) ‘The relationship between purposes of budget use and
budgetary slack’, Advances in Management Accounting, 19, pp.75 – 107.
Walker, K. and Fleischman, G. (2013) ‘Toeing the Line: The Ethics of Manipulating Budgets
and Earnings’, Management Accounting Quarterly, 14(3).
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