Many times, allowing employees to participate in the budgeting process creates an unpleasant side effect: budget slack. Budget slack occurs when revenue estimates are understated and expense estimates are overstated so that, when the actual results are known, it appears that employees did a great job in generating sales or controlling costs. You are the restaurant manager in a medium-size hotel in a city that is extremely popular with tourists. The CEO of the hotel has asked his upper-level managers to prepare budgets for their areas for the upcoming year. Your friend, the manager in charge of group sales, has decided to reduce his expected projections of events and revenues by 15 percent in preparing his budget. His reasoning is that he receives a year-end bonus of $1,000 for every one percentage point above budget that his actual revenues are.
Required:
(a) Write a memo to your friend explaining how his understatement of expected revenues will affect the budget that you will be preparing.
(b) Write a memo to the CEO addressing some of the problems with the current bonus system. Do not implicate your friend in any way or address his budget behavior in this memo.
(c) For what types of material, labor prices, and quantities would you be able to develop standards for in preparing your budget for the CEO?