Hwang Ltd. operates on a calendar-year basis. It begins the annual budgeting process in late August when the president establishes targets for the total sales and net income before taxes for the next year.

The sales target is given first to the marketing department. The marketing manager formulates a sales budget by product line in both units and New Taiwan dollars. From this budget, sales quotas by product line in units and amounts are established for each of the company’s sales districts. The marketing manager also estimates the cost of the marketing activities required to support the target sales volume and prepares a tentative marketing expense budget.

The executive vice president uses the sales and profit targets, the sales budget by product line, and the tentative marketing expense budget to determine the amounts that can be devoted to manufacturing and office expense. The executive vice president prepares the budget for company expenses. She then forwards to the production department the product-line sales budget in units and the total amount that can be devoted to manufacturing.

The production manager meets with the factory managers to develop a manufacturing plan that will produce the required units when needed within the cost constraints set by the executive vice president. 

The budgeting process usually comes to a halt at this point because the production department does not consider the financial resources allocated to be adequate. 

When this standstill occurs, the vice president of finance, the executive vice president, the marketing manager, and the production manager meet together to determine the final budgets for each of the areas.

This normally results in a modest increase in the total amount available for manufacturing costs and cuts in the marketing expense and office expense budgets. The total sales and net income figures proposed by the president are seldom changed. Although the participants are seldom pleased with the compromise, these budgets are final. Each executive then develops a new detailed budget for the operations in his or her area. 

None of the areas has achieved its budget in recent years. Sales often run below the target. When budgeted sales are not achieved, each area is expected to cut costs so that the president’s profit target can be met. However, the profit target is seldom met because costs are not cut enough. In fact, costs often run above the original budget in all functional areas (marketing, production, and company office).

The president is disturbed that Hwang has not been able to meet the sales and profit targets. He hired a consultant with considerable experience with companies in Hwang’s industry. The consultant reviewed the budgets for the past 4 years. He concluded that the product line sales budgets were reasonable and that the cost and expense budgets were adequate for the budgeted sales and production levels.

Instructions

With the class divided into groups, answer the following.

a. Discuss how the budgeting process employed by Hwang Ltd. contributes to the failure to achieve the president’s sales and profit targets.

b. Suggest how Hwang Ltd.’s budgeting process could be revised to correct the problems.

c. Should the functional areas be expected to cut their costs when sales volume falls below budget? Explain your answer.