Real Budgets Demand Real Communications

May 1, 2006
In determining an item’s added value, find out if value is in quantity—just meeting demand—or in quality.

Creating a real budget means matching real numbers to important activities. To do that, a key must-have is clear communications, says Dr. Timothy Pearson, associate professor and director of accounting in the College of Business and Economics at West Virginia University (, Morgantown, W.Va. “In a business and in a reporting sense, the finance people and the factory-floor people must communicate their objectives,” he states. “What matters to them? What data are to be shared?”

For constructive communications, focus on what creates value. Remember, too, an industry’s value chain—that which links the conversion of some raw resource with meeting someone’s internal or external needs—has to be a function of the efficiencies, Pearson adds. When measuring efficiency, he suggests an essential question, “Are we producing goods at the same or better quality at lowest incremental cost?”

And because the value chain is a function of where there is greatest increase in value, determining the greatest worth will require planners to translate value into measurements, Pearson notes. To accomplish that, he suggests answering at least the following: What does the organization-at-large need? What things is it supposed to be producing? Who are the customers? How are outputs of the facility or operation determined?

Answers to these questions help tie the budget for benefits to the enterprise. “You’ve got to decide what operations are worth measuring. That’s why the conversation with finance is so important,” Pearson emphasizes. “You must answer: ‘How are we going to attach value to those items?’ ” Tangible benefits may be output, incremental costs or quality cost per unit, he says. An evident intangible is better control over the production environment. Regardless, Pearson says that in determining an item’s added value, find out if value is in quantity—just meeting demand—or in quality.

Budget indicators created by this planning must matter to the people being evaluated. “What is the most perplexing thing that hurts personal ownership of budgets?” Pearson asks. “When there are large corporate overheads—the costs of doing business; depreciation, for example—that are being run back at them (staff).” That mindset, which he attributes to old accounting practices, highlights how highly dependent a real budget is on the accounting system, he notes. “It’s pretty important.”

Resolve frustrations, though, and get real manufacturing budgets to work by giving staff manageable, directly related, cause-and-effect numbers, Pearson declares. Not doing so creates problems. “For example, if you want me to manage my allocation for the corporate overhead, I’ll do interesting things to bring that number down so it looks like I’m doing a better job,” he explains. But, he cautions, “If I can do something that causes [the overhead] to change, that should concern everybody.”

Nonetheless, when costs are fixed—and depending on the person or operations being evaluated—then production staff have more incentive to do more activity just to look better, he notes. While doing more may seem beneficial, it may have negative effects. “Now we have a problem where an unreal activity based on economic factors, but artificially created by increasing the output, for example, has real consequences,” Pearson says. The plant may have a surplus, so costs of storage arise, he observes, and the surplus actually may help drive down the demand for the products.

Remember, however, that automation technologies and systems are investments. So when justifying new technology in a plant, Pearson says planners must still ask and then clearly answer this fundamental question: “Is it the best technology to produce what we have?”

C. Kenna Amos, [email protected], is an Automation World Contributing Editor.

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