Should we go beyond budgeting?A research into optimizing the budgetary process

Ralph Holtkampmei 2023

Erasmus Universiteit RotterdamFaculteit der Economische WetenschappenSectie Accounting & Finance

Should we go beyond budgeting?A research into optimizing the budgetary process

Master Thesis

In order to obtain the title Master of Science from the Erasmus University in Rotterdam

By

Ralph HoltkampMay 2023

under the supervision ofDrs. Hendrik Geerkens

AcknowledgementsI would like to thank Wilco de Haan, Focko Doorhout Mees, Fred Willemze, Anton Cornel and Gerrit Geers for their continuous support. I couldn’t have made this thesis without their valuable input.

Table of Contents

1 INTRODUCTION 1

1.1 INTRODUCTION 11.2 RESEARCH RELEVANCE 21.3 RESEARCH PURPOSE AND METHOD 31.4 RESEARCH STRATEGY AND DESIGN 41.5 OVERVIEW AND STRUCTURE OF THESIS 9

2 THE COMPANY: MARSH & MCLENNAN 12

2.1 INTRODUCTION 122.2 MARSH AND MCLENNAN COMPANIES 122.3 MARSH NETHERLANDS 182.4 CONCLUSION 22

3 BUDGETING 23

3.1 INTRODUCTION 233.2 MANAGEMENT CONTROL SYSTEMS 243.3 STRATEGIC PLANNING 273.4 BUDGETING 29

3.4.1 The history of budgeting 293.4.2 Budget functionality 313.4.3 Perspectives on budgeting and evaluative style 333.4.4 Target setting and incentives 363.4.5 The impediments of the budgeting process 39

3.5 BETTER BUDGETING 413.6 BEYOND BUDGETING 453.7 CONCLUSION 47

4 ANALYSIS: THE CONSTRUCT OF THE ORGANIZATION 50

4.1 INTRODUCTION 504.2 ORGANIZATIONAL PROCESS AND PROBLEMS 504.3 ANALYSIS OF BEST PRACTICE 56

4.3.1 Activity Based Budgeting 574.3.2 Zero Based Budgeting 584.3.3 Rolling Budgets 594.3.4 Profit Planning 594.3.5 Beyond Budgeting 604.3.6 Overview of the alternatives 62

4.4 OVERVIEW OF ACTIONS AND CONTROLS 634.5 CONCLUSION 65

5 CONCLUSION AND RECOMMENDATIONS 68

5.1 INTRODUCTION 685.2 SUMMARY OF MAIN FINDINGS 695.3 DISCUSSION 715.4 LIMITATIONS 715.5 POSSIBILITIES FOR FURTHER RESEARCH 71

REFERENCES 73

APPENDICES 78

APPENDIX A: CRITERIA FOR QUALITY OF RESEARCH DESIGN 78APPENDIX B: SIMONS’ FOUR LEVERS OF CONTROL 79APPENDIX C: BEYOND BUDGETING PRINCIPLES 82APPENDIX D: STATISTICAL OVERVIEW OF SURVEY 83APPENDIX E: BEYOND BUDGETING SURVEY (IN DUTCH) 87

Table of FiguresFigure 1.1 Relevant situations for different research strategies 5Figure 1.2 Structure of thesis 11Figure 2.1 MMC’s organizational structure 13Figure 2.2 Marsh’s organizational structure 19Figure 2.3 2010 contribution to growth and NOI 21Figure 2.4 The trend of the budget and forecast 22Figure 3.1 The development and functionality of the budget 23Figure 3.2 The shift of the approach in management and control 25Figure 3.3 The multidivisional structure (M-form) 31Figure 3.4 The Principal-Agent Theory 38Figure 4.1 Statement on the strategic focus 51Figure 4.2 Statement on the responsiveness and flexibility of the budget 52Figure 4.3 Statement on the budget’s time frame 52Figure 4.4 Statement on the budgetary time frame 53Figure 4.5 Statement on the foundation of the budget 54Figure 4.6 Statement on dysfunctional behaviour 54Figure 4.7 Statement on top-down structure 55Figure 4.8 Statement on departmental barriers 56Figure 4.9 Weighted index of the problems 57Figure 4.10 Overview of the alternatives 63

1 Introduction

1.1 IntroductionBudgeting is not from the past decades. On the contrary, it can be traced back to the late 1800’s to the government of the United States (US). In the US, budgets were introduced at municipal level to control the state’s tax earnings and expenses. By 1919 more than forty states had adopted a form of a state budget. The first national budget was provided in 1921 to the National Congress. This was the start of the role of budgeting in the public sector.

The word on the effectiveness of budgeting spread quickly in the private sector. In 1930, most of the larger industrial companies had implemented some kind of budgetary control, although not many used budgeting throughout the organization. A study was conducted in 1941 and showed that almost 50% of the established companies in the US used a form of budgeting.1 Budgeting was practically fully integrated by 1958 in the US. European companies followed the example the US a bit later in time.

Nowadays almost every organization has implemented a management control systems (MCS). The budgeting process is a vital component of the MCS and has been a very useful system by which the management successfully plan, coordinate and control. The budgeting process involves the creation and implementation of the organization’s objectives as well as the short and long term planning. A budget allows the organization to better utilize the available financial resources.

The budget can be distinguished into a normative and behavioural approach. The former elaborates on the preparation and the use of a budget. The latter explains the behavioural aspects of budgeting and people (Grønhaug and Ims, 1988). Argyris (1952) found that behavioural factors were important for understanding the effectiveness of budgeting. DeCoster and Fertakis (1968) investigated how budget pressure was related to leadership style of departmental supervisors. More distinctive research has been conducted on the budgetary participation by subordinates and to which they were able to influence budget targets. Hopwood (1972) and later Otley (1978) respectively showed how the budgets are used to evaluate managerial and subordinates performance. This is now commonly known as Reliance on Accounting Performance Measures (RAPM).Other studies show the relationship between job related issues and managerial style (Otley, 1978; Merchant, 1981; Brownell and McInnes, 1986; Chenhall, 1986; Harrison, 1992; Ross, 1995; Lau and Tan, 1998; Emsley, 2001), and between budgetary

1 National Industry Conference Board (USA), Budgetary Control in Manufacturing Industry, 1931.

participation and job satisfaction and rewards (Merchant and Manzoni, 1989; Frucot and Shearon, 1991).

The normative and behavioural approaches show the distinct relationship between organizational, individual and environmental variables. Both approaches have factors that negatively influence the budgeting process. Neely et al. (2001) determined the twelve most cited criticisms which relate to a) non-added value of the budgeting process, b) the impeding results of budgetary controls and c) organizational and people related issues. The weaknesses of the traditional budgeting have been studied and therefore alternative budgeting techniques such as Zero Based Budgeting, Activity Based Budgeting, Rolling Budgets and Beyond Budgeting have been developed over the past decades to overcome these weaknesses.2

Although, the approach of each technique can be very different, the fundamental purpose of each alternative serves the same cause; to plan and control.Most alternatives are in line with the traditional budgeting, but Beyond Budgeting advocates abandoning the traditional budgeting as the budget does not aid the organization as intended. Beyond Budgeting argues that the disadvantages cause more damage to the organization than the advantages yield. The organization should more to a more devolved environment and use adaptive processes that are based on relative performance. There are several examples of companies (e.g., Svenska Handelsbanken, Tetra Pak, Borealis) who have successfully implemented Beyond Budgeting and have outperformed their competition.

1.2 Research RelevanceAn organization’s structure and (performance) culture always is susceptible to change. These changes can lead to several shortfalls in the management control systems. The shortfalls are most notably noted in the short-term related goals. Negative effects, such as impeding of allocation of organizational resources to their best use and myopic decision planning and other dysfunctional behaviour (e.g., slack or budget gaming), play a major role in the annual budget planning and performance evaluation (Hansen et al., 2003). The numerous shortfalls of the traditional budgeting process have extensively been discussed in the past decades (e.g., Schmidt, 1992; Bunce et al., 1995; Hope and Fraser, 1997, 2003a, 2003b; Wallander, 1999; Ekholm and Wallin, 2000; Marcino, 2000; Jensen, 2001).

2 There are other budgeting techniques available e.g., Beyond Beyond Budgeting or Scenario Budgeting. These techniques are insufficiently supported by the literature on budgeting and are therefore not taken into account.

The shortfalls have lead to the discussion whether the traditional budgeting is the best solution for an organization to go forward or that the organization should decide to change to an alternative budgeting technique.

In this view, Hansen et al. (2003, p. 96) share the same vision:

“The conflicting developments illustrate that firms face a critical decision regarding budgeting: maintain it, improve it or abandon it?”

Problem definitionFor several years, Marsh is not able to comply with the annual budget. The problems that Marsh face is a snowball effect of the past five years. Firstly, the budgetary process is not punctual and the budget works counterproductive due to the unrealistic targets. Secondly, the performance culture is unsatisfactory. Marsh does not work as a team, but as mere individuals who strive for their own goals. Insufficient subordinates dare to take responsibility for their actions related to the budget. And thirdly, the complexity of the system cannot create one version of the facts. Therefore, synergies from running efficient processes and accountability are fully missed, and the budget misses its purpose as a control mechanism for the organization.

Therefore, it is necessary to better understand the traditional budgetary problems and the actions that can be taken to mitigate the risk of these problems. Further analysis should show whether the traditional budgeting process is indeed the right way forward or instead choose for an alternative budgeting technique.

1.3 Research Purpose and MethodAn organization is continuously under the influence of internal and external factors. This also affects the budgeting process. In order to mitigate these effects in the scope of budgeting, alternatives have been developed to suit the organizational and/or industrial needs.

This thesis addresses the functionality of the traditional budgeting process within an organization and compares budgeting to the alternative budgeting techniques that have been developed.

The thesis will contribute to a better understanding of the traditional budgeting process in a holistic way and to explain the weaknesses of budgetary control that have been found in the literature. The twelve most cited weaknesses from a report by Neely et al.

(2001) will be used as it is primarily drawn from the practitioner literature and widely used in the literature on budgeting.A good understanding of the budgeting process is a necessity for elaborating on the alternative budgeting techniques that have been developed to overcome those weaknesses.

The main goal is to conclude whether Marsh’s organization should improve the current budgetary process or decide to move to an alternative budgeting technique. This is written down as the main question and also serves as the title of my thesis:

“Should we go beyond budgeting?”

In order to answer the main question, the following sub-questions have been formulated:

1. What impediments occur in the current budgetary process? And what is the effect of the impediments?

2. Which alternative budgeting techniques are known and how can these techniques be implemented in the current process?

3. Which budgetary controls should be implemented to successfully manage the budget?

And to conclude in the final chapter:4. Which recommendations can be made based on these findings?

1.4 Research Strategy and DesignRobert K. Yin is a renowned scientist in the field of research design and strategies and author of case study research books. His comprehensive work has been widely used and is therefore used to create the scope of the research strategy and design.

Yin (2003) shows several research methods and how every strategy has its distinctive characteristics.There are three conditions to decide on the correct strategy, namely a) the type of research question posed, b) the extent of control an investigator has over actual behavioural events and c) the degree of focus on contemporary as opposed to historical events. Figure 1.2 displays the three conditions and shows how this is related to the five major research strategies (Yin, 2003, p. 5).

Strategy Form of Research Question Requires Control of Behavioural Events?

Focuses on Contemporary Events?

Experiment How, why? Yes Yes

Survey Who, what, where, how many, how much? No Yes

Archival Analysis

Who, what, where, how many, how much? No Yes/No

History How, why? No NoCase Study How, why? No Yes

Figure 1.1 Relevant situations for different research strategies

The main question of the thesis is: “Should we go beyond budgeting?”. Even though the main question is noted as a closed question, we can still determine the correct strategy. To answer this question, we need to know why the organization should alter to a different budgeting technique and how to improve or to incorporate the budgeting technique. The “how” and “why” are the base for a more explanatory field of research as the main and research questions deals with operational links to be traced over time rather than mere frequencies and incidence (Yin, 2003, p. 6). Also, budgeting is a contemporary event which is often used by the organization, but relevant behaviours in this event cannot be manipulated as the investigator has little or no control over. Hence, the case study is preferred.3

A case study consists of two forms of design: the single-case or multiple-case design. Yin (2003, pp. 40-42) gives five rationales to choose for the single-case design. One of the rationales is: “when it represents the critical case in testing a well-formulated theory”.4 This thesis addresses the organizational theory, and as Yin describes:

“The theory has a specified clear set of propositions as well as the circumstances within which the propositions are believed to be true.”

This thesis uses the twelve weaknesses in the report by Neely et al. (2001) which has extensively been used in the literature. The twelve weaknesses fits Yin’s description as there is a clear set of propositions. The extensive use of the report acknowledges the circumstances in which the propositions are believed to be true. The theory is the base to conduct a single-case study. The empirical research will corroborate the outcome.

A single case study has two types of design; a holistic or an embedded case study design. Yin (2003, p. 43) cites: “a holistic case design will be used when it examines the

3 Yin (2003, p. 12) states that the definition of a case study often incorporates the words “organization” or “process” to which this thesis entails.4 Other rationales are when the case represents an extreme/unique, representative/typical, revelatory or longitudinal case.

global nature of an organization or of a program”. This thesis entails an organization (a unitary unit) and does not focus on several sub-units. The thesis also uses a theory that is of a holistic nature. Therefore the case study will be based on a holistic single-case design.

Data collectionThe literature on management control and budgeting has been used to create the scope and define the lay-out of this thesis. The literature will be the base for chapter 3, the theoretical part of the thesis.

Chapter 4 will describe the empirical part of the thesis.The collected data for the empirical part consists of four sources of evidence: documentation (including literature), archival records, interviews and participant-observation. Although every source has its strengths and weaknesses, the thesis will benefit from the use of multiple sources. This is called ‘methodological triangulation’. It will help to establish construct validity and reliability (Yin, 2003, p. 97).5

Next to the mentioned sources above, two surveys will be conducted in order to create a weighted index of the weaknesses in the budgeting process according to Marsh’s employees and determine the alternative budgeting technique. The weighted index is corroborated by the other sources and it will expose the weaknesses in the process and will assist in comparing the several budgeting techniques. The choice of the budgeting technique will be based on the weighted index.The second survey is the Beyond Budgeting test. The survey will expose whether Marsh is ready to move to Beyond Budgeting and supplies information on whether it is possible that the alternative budgeting techniques are implementable.

The functionality of the sources of evidenceThe four sources will aid in answering the main and research questions (Yin, 2003, pp. 85-96). An elaboration on the strengths and weaknesses of the sources of evidence is given below.

The use of documentation (e.g., internal or progress reports) will support the evidence found in other sources. The documentation has been studied as it is/has:

Stable. It can be reviewed repeatedly; Unobtrusive. It is not created as a result of a case study; Exact. It contains exact names, references, and details of an event; A broad coverage. It has a long span of time, many events, and many settings.

5 Please see appendix A for an overview on the criteria for the design.

Although using documentation also has its weaknesses as a) the retrievability can be low, b) a biased selectivity can occur due to an incomplete collection, c) a bias can be reported as it reflects the bias from the author and d) the access to documentation might be deliberately blocked. These weaknesses are the reason for the corroboration and augmentation of other sources.

Archival records are, amongst the advantages mentioned above, also precise and quantitative. E.g., organizational charts and budgets can graphically show the weaknesses of budgeting. Therefore, documentation and archival records are used for their overall value, but in the end will not answer the main question.

Essential sources for the case study are interviews and observations. These sources are needed when a contemporary event has to be examined and the relevant behaviours can not be manipulated.

Interviews are targeted and insightful. It focuses directly on the case study topic and provides perceived causal inferences. The type of interview will be a focused interview. Focused interviews will elaborate on the survey and will entail structured questions, but remain open-ended. To overcome bias in answers, the interviews will be taken separately and from two layers of Marsh’s organization; top-management (CEO, group controller and management directors) and sub-segment leaders. The selection between the two layers will help to check the outcome of the surveys with persons who hold different perspectives. This way the interviews will remain focused and unbiased.

Participant-observation are done in reality and contextual. It also is insightful into interpersonal behaviour and motives. During the participant-observation, I was working as Financial Controller at Marsh. One of my main tasks was controlling the budget process. The budgeting process was based on the process rolled out in 2008. This indicates that I was not able to manipulate parts of the budgeting process. Although enhancements in the process have been carried out, it will not bias the outcome. Hence, an objective view will be given.

Data analysisThe best method to conduct a case study is to have a general analytic strategy. There are three analytic strategies and these strategies are based on a) theoretical propositions, b) setting up a framework based on rival explanations, and c) developing a case description (Yin, 2003, p. 109).Yin (2003, p. 112) describes the following: “The original objective and design of the case study presumably is based on propositions, which in turn reflects a set of the research questions and reviews of the literature. Theoretical propositions about causal relations,

answers to “how” and “why” questions, can be extremely useful in guiding caste study analysis.” Yin’s description perfectly fits when the choice for the general research strategy was explained. This concludes that the thesis will be based on the strategy of ‘theoretical propositions’.6

Budgeting touches every base in the organization; from strategy to performance evaluation and from departments to employees. Every part of the organization can be influenced by the weaknesses in the budgeting process and can cause effects throughout the entire organization. Therefore, the sequential stages in the budgeting process, i.e. the dynamic events that take place in the organization, need to be investigated by using an organizational-level logic model. The use of this logic model will consist of matching empirically observed events to theoretically predicted events (Yin, 2003, pp. 127-133).

Analysis of the research questionsThe sources of evidence are mainly collected to answer the first research question: What impediments occur in the current budgetary process? And what is the effect of the impediments?Chapter 4.2 will, based on the first survey, explore and expose the impediments in the budgeting process. The interviews and the participant-observation will endorse the survey. Documentation and archival records will show a priori why budgeting is not working properly.

The second research question: Which alternative budgeting techniques are known and how can these techniques be implemented in the current process?Chapter 4.3 will use the literature and the second survey as the basis for the alternatives. The improvements for the budgetary process and the alternative budgeting techniques will be discussed during the interviews. This will indicate whether adoption of a different budgeting technique will actually help the organization.

The third research question: Which budgetary controls should be implemented to successfully manage the budget?Chapter 4.4 will use the literature, the interviews and the participant-observation (i.e., behavioural aspects) to identify controls. The interviews should indicate whether the methods of control are feasible and flexible within the scope of the management. E.g., a method such as rules and procedures are quite rigid, but need to be maintained on a yearly basis by the management. However, accountability needs to be managed continuously as behaviour plays a role within the budgeting process.

6 The strategy for ‘rival explanations’ is used when several hypotheses are included or when a theoretical proposition is lacking. Case description is used when having difficulties making either of the approaches work.

The survey and the implication of statistical inferenceThe surveys are the starting point of the empirical research. The survey is the empirical test of the theoretical part of the thesis based on the twelve weaknesses in the report by Neely et al. (2001) complemented by the opportunities the alternative budgeting techniques give. The survey will disclose the weaknesses in the process and possible solution to these weaknesses. It will also be used as a benchmark for the other sources of evidence.

The survey will be taken amongst the employees who have participated in the budgetary process. This selection will increase the reliability and validity of the data. Although, this means that the sample size will be small, and thus will have a higher margin of error. This will affect the inference to provide statistical evidence for the relationship of the weaknesses in the process and/or organization. However, the latter is not the aim. The aim is to provide a base for the weighted index. It is therefore important that the quality of the survey is retained by keeping respondent mistakes and biases to a minimum.

1.5 Overview and structure of thesisThis thesis aims to 1) create a better understanding of the traditional budgeting process and the alternative budgeting techniques, 2) discuss the problems and provide a solution for the budgetary process, and 3) provide control measures to ensure the budget can be managed (i.e., the trade-off between the performance and the budget). Therefore, the structure of this thesis is as follows.

Chapter 2 comprises the description of the Marsh and McLennan (MMC) organization. I will describe the parent company and its subsidiaries, and the core values of the organization. I will in particular look at the history and goals, the industry and products. The description of the organization will be elaborated to Marsh Netherlands. The Dutch insurance industry will be described and the financial results of Marsh over the past year. The latter will attribute to understanding the main goal of this thesis.

Chapter 3 will discuss the theoretical part of this thesis. Chapter 3.2 will firstly address the scope of management control and the view of the management control systems (MCS) in the organization.MCS consists of several phases; strategic planning, budgeting, performance measurement and reporting, and evaluation. Strategic planning and budgeting will separately be discussed in respectively chapter 3.3 and 3.4. It will also describe the link with strategic planning and budgeting.

The discussion on budgeting in chapter 3.4 will encompass several objectives. The first objective is a review of the adaptation and development of budgeting and the evolution of academic research perspectives into the causes and effects of budgeting.

This will be the introduction to target setting and incentives. Secondly, it will discuss the twelve most cited weaknesses from the report by Neely et al. (2001). Chapter 3.5 will enunciate on the alternative budgeting techniques with extra notice for Beyond Budgeting in chapter 3.6.

Chapter 4 will discuss the empirical part of this thesis. The chapter will explain the current problems found in the Marsh’s budgetary process based on the twelve most cited weaknesses. The traditional budgeting process will be benchmarked against the alternative budgeting techniques that have been evolved in the past decades to overcome those weaknesses. Based on the outcome, an overview of the actions and controls will be given to ensure the best viable budgeting solution for Marsh.

Chapter 5 will summarize the main findings from this thesis. It will also discuss the limitations and shortcomings of the thesis. Finally, several opportunities are mentioned for further research.

Chapter 1: IntroductionProblem definition, research relevance and

overview of thesis

Chapter 2: Description of organizationOverview of MMC and Marsh

Chapter 3: BudgetingBudgeting: the purpose,

causes and the weaknesses

Chapter 3: BudgetingAlternatives to

traditional budgeting

Overview and evaluation of literature

Findings from empirical research

Chapter 4: AnalysisBudgetary process and

problems

Chapter 4: AnalysisBest practice and overview of control

Chapter 5:Conclusion and recommendations

Figure 1.2 Structure of thesis

2 The Company: Marsh & McLennan

2.1 IntroductionThis chapter will provide background and financial information about the parent company, Marsh & McLennan Companies (MMC), and its subsidiaries with the focus on Marsh. The information will help to elucidate on the activities and performance of the company.

Chapter 2.2 will inform about MMC on a) the history and subsidiaries b) the mission, vision, values and goals and c) the competitive conditions.Chapter 2.3 will explain how Marsh Netherlands’ organization acts and performs and will zoom in on financials as a benchmark to the performance in EMEA and the industry.Chapter 2.4 will review the organization with regard to Marsh’s organization.

2.2 Marsh and McLennan CompaniesMMC is the leading global service company who provides advice and solutions in risk, strategy and human capital. The leading brands help clients to identify, plan and respond to critical business issues and risks. Marsh and Guy Carpenter are specialised in risk and insurance services. Mercer and Oliver Wyman are specialised in consulting.Nowadays, more than 75% of the companies in the Fortune 1000 are among MMC’s clients. From small and mid-sized companies to the world's largest multinationals.MMC is listed on the NYSE since 13th January 1978 (ticker: MMC).

MMC’s history dates back to 1871. Marsh, the risk and insurance services subsidiary, has a long and distinguished history as the world's leading insurance broker and risk management advisor. In 1923 MMC made the first major business extension, in reinsurance broking, with the acquisition of the newly formed Guy Carpenter & Company.

In 1959 MMC expanded their presence in human resource consulting with the acquisition of Canadian benefits consultant William M. Mercer Limited. That company is known today as Mercer, and is a global leader for HR and related financial advice, products, and services.

In the 1980s, they began to expand into specialty consulting. Today, the Oliver Wyman Group delivers advisory services to clients via three operating units: management consulting through Oliver Wyman, corporate branding and identity consulting through Lippincott, and economic analysis and advice through NERA Economic Consulting.

In 2004 MMC broadened the risk consulting services significantly with the acquisition of Kroll, which provides a broad range of investigative, intelligence, financial, security, and technology services. Although, last year Kroll was divested in order to focus more on the strategic cells MMC has formulated for the coming years.

Figure 2.1 MMC’s organizational structure

SubsidiariesMarsh is the world leader in delivering risk and insurance services and solutions. It provides global risk management, risk consulting, insurance broking, alternative risk financing, and insurance program management services for businesses, public entities, associations, professional services organizations, and private clients. Marsh is organized by client, industry, and risk categories to facilitate the global delivery of highly specialized products and services covering a wide spectrum of risks.

Insurance Broking and Risk ConsultingIn its main insurance broking and risk consulting business, Marsh employs a team approach to address clients' risk management and insurance needs. Each client relationship is coordinated by a client executive who draws from the many industry and risk specialties within Marsh to assemble the resources needed to analyze, measure and assist a client in managing its various risks.

Product and service offerings include program design and placement, post-placement program support and administration, claims advocacy, and a wide array of risk analysis and risk management consulting services. These include Multinational Client Service, Marsh Risk Consulting, Risk, Specialty and Industry Practices, Bowring Marsh, Consumer Operations and Marsh & McLennan Agency.

Multinational Client Service

Multinational Client Service (MCSe) is solely focused on delivering service excellence and insurance solutions to multinational clients, irrespective of their size. Executing in a clear and consistent manner around the globe, MCSe provides risk management programs with a service platform that comprises a combination of proprietary tools and technology and specialized resources. MCSe provides global expertise and an intimate knowledge of local markets, helping clients navigate local regulatory and legal environments and address the worldwide risk issues that confront them.

Marsh Risk ConsultingMarsh Risk Consulting (MRC) is a global organization comprised of consulting specialists dedicated to providing clients with advice and solutions across a comprehensive range of insurable and non-insurable risk issues, such as restructuring, product safety, patient safety, business interruption, supply chain, governance, workforce, and reputation. MRC helps clients identify exposures, assess critical business functions and evaluate existing risk treatment practices and strategies. MRC provides client services in five main areas of exposure:

Business/Enterprise Risk: provides risk modelling and assessments, enterprise risk management, risk management optimization and reputational risk and crisis management.

Claims and Litigation Support: provides support and solutions to clients to assist in managing claim portfolios and resolving insured and uninsured losses and disputes of all kinds, as well as calculating losses and asset valuations.

Operational Risk Management: provides an integrated approach to managing and optimizing the impact of operational risks such as those associated with property (including natural hazards), supply chain, business continuity, and products (including recalls).

Human Capital: assists in protecting the quality of clients' operational processes and the health and safety of their employees, focusing on issues such as absenteeism, safety and ergonomic programs and employment practices.

Risk Technologies: provides services to help clients manage, collect, analyze and report on the data and workflow associated with risk, insurance, claims and legal matters within their organizations.

Risk, Specialty and Industry PracticesIn further support of its clients' strategic, operational and risk management objectives, Marsh provides consultative advice, brokerage and claims advocacy services through dedicated global Risk, Specialty (areas such as Casualty, Claims, Property, FINPRO) and Industry Practices (areas such as construction, financial institutions, healthcare,

manufacturing). For both large and mid-size organizations, Marsh’s experience and working knowledge of clients' industry sectors, and of the unique environments in which they operate, to facilitate the requisite breadth of coverage and to reduce cost of risk.

Guy Carpenter is the world's leading risk and reinsurance specialist, creating and executing reinsurance and risk management solutions for clients worldwide. It provides risk assessment analytics, actuarial services, highly specialized product knowledge, and trading relationships with reinsurance markets throughout the world. Client services also include contract and claims management and fiduciary accounting. Run-off services and other reinsurance and insurance administration solutions are offered through Guy Carpenter subsidiaries on a fee basis.

Mercer is a leading global provider of consulting, outsourcing and investment services. Mercer consultants help clients design and manage health, retirement and other benefits, and optimize human capital. The firm also provides customized administration, technology and total benefit outsourcing solutions. Mercer’s investment services include global leadership in investment consulting and multi-manager investment management. Mercer’s global network ensures integrated, worldwide solutions for clients who wish to establish global policies and procedures while allowing for the flexibility to accommodate local cultural, legal and regulatory requirements. The firm's locally based professionals are also available to serve midsize companies and to address country-specific issues and opportunities.

The Oliver Wyman Group delivers advisory services to clients through three operating units, each of which is a leader in its field. Oliver Wyman is a top-tier global management consulting firm that combines deep industry knowledge with specialized expertise in strategy, operations, risk management, organizational transformation, and leadership development. Lippincott helps clients create, develop, and manage their corporate branding, identity, and image. NERA Economic Consulting advises corporations, law firms, and government entities on the economics of competition, regulation, public policy, finance, and litigation.

MissionMMC is to be the professional services firm who is committed to assist all clients in the protection and enhancement of value through advice and solutions in risk, strategy, and human capital.

Vision

To be the premier global professional services firm in risk, strategy, and human capital, with each of the companies a clear industry leader.

To be the place that individual professionals, groups of professionals, and professional services firms see as the clear employer/owner of choice.

To create an environment in the firm where professionals have the freedom and support to flourish and grow, and where all colleagues are both motivated and enabled to provide world-class client service.

ValuesMMC share and aspire to act consistent with a common set of values. While the operating companies work in distinct markets using different technologies and ideas, face different competitors, operate in different countries, and draw from different labour markets, MMC are aligned around a way of doing business. As part of MMC, all operating companies and functions strive to operate each day consistent with a set of values that apply to all of our activities, specifically the following:

Clients: To deliver exceptional value to clients on a global basis by meeting or exceeding the clients' requirements and by innovating to meet emerging client needs in a manner that promotes shareholder value over time.

Integrity: To conduct business consistent with the highest ethical and professional standards and not tolerate behaviour that deviates from those standards. MMC will act with integrity, honesty, courage, and mutual respect.

Colleagues: To make MMC a great place to work for outstanding people by treating all colleagues as valued partners, in the spirit of collaboration, engagement, and inclusion. MMC will empower people, hold them accountable for results, and reward them based on their performance as individuals, as teams, and as part of MMC.

Execution: To focus on efforts and consistently deliver on the commitments to clients, shareholders, and colleagues. MMC will ensure alignment around goals, cost discipline, and P&L accountability.

GoalsIn 2010, MMC has listed four targeted objectives for the year.

Grow the firmFor the past two years, the focus has been to stabilize the company and improve financial performance, while effectively managing the overall business through the downturn. MMC have been successful at both, MMC return to the growth objective. Specifically, MMC want to achieve significant, profitable growth across all operating

companies. Each of the businesses is well-positioned to achieve its key strategic and financial goals.

Make significant progress in weaving the company togetherMMC’s second key priority is to unlock the potential value by working together across individual businesses.MMC will create additional value by: 1) taking advantage of MMC’s scale to drive down the cost of doing business, 2) capitalizing on adjacencies between the operating companies and global functions to create incremental revenue opportunities, and 3) creating a greater sense of coherence across the enterprise and cultivating a strong company culture around quality and risk management that supports the most important asset – MMC’s people.

Ensure effective enterprise-wide risk managementMMC will continue their work to further reduce the risk profile of the company. MMC will integrate a common risk management philosophy and protocol into their core business processes – both at the enterprise level as well as within each of the operating companies. This will include establishing a firm-wide risk framework, improving certain of the processes, and facilitating a strong company culture around risk management.

Engage peopleThe successful execution of these goals also depends on the hard work, talent, and commitment of all colleagues around the world. Strengthening the corporate culture and improving levels of engagement for the colleagues across the firm are two areas of opportunity. MMC will also continue the great work that has begun in the areas of diversity and inclusion as well as corporate social responsibility.7

Competitive ConditionsMMC faces strong competition in all of its businesses from providers of similar products and services. MMC also encounters strong competition throughout its businesses from both public corporations and private firms in attracting and retaining qualified employees.

Risk and Insurance ServicesMMC’s combined insurance and reinsurance services businesses are global in scope. The principal bases upon which the (re-)insurance businesses compete include the range, quality and cost of the services and products provided to clients. MMC encounters strong

7 Diversity and sustainability are important to MMC’s culture. Please see www.mmc.com/diversity/ and www.mmc.com/sustainability/index.php.

competition from other insurance and reinsurance brokerage firms that operate on a nationwide or worldwide basis, from a large number of regional and local firms in the United States, the European Union and elsewhere, from insurance and reinsurance companies that market, distribute and service their insurance and reinsurance products without the assistance of brokers or agents and from other businesses, including commercial and investment banks, accounting firms and consultants, that provide risk-related services and products.Certain insurers and groups of insurers have established programs of self insurance (including captive insurance companies) as a supplement or alternative to third-party insurance, thereby reducing in some cases their need for insurance placements. There are also many other providers of affinity group and private client services, including specialized firms, insurance companies and other institutions. The continuing impact of legal and regulatory proceedings concerning the insurance brokerage operations also could affect Marsh’s competitive position.

ConsultingMMC’s consulting and HR outsourcing businesses face strong competition from other privately and publicly held worldwide and national companies, as well as regional and local firms. These businesses compete generally on the basis of the range, quality and cost of the services and products provided to clients. Competitors include independent consulting and outsourcing firms, as well as consulting and outsourcing operations affiliated with accounting, information systems, technology and financial services firms.

2.3 Marsh NetherlandsMarsh Netherlands (hereafter called Marsh) is part of the EMEA, which consists of Continental Europe and UK, Middle Eastern and Africa.The Anglo-American model which MMC introduced is also indoctrinated into the Dutch organization. It is a money-driven business and in a technology and market driven environment. MMC also cares for the stakeholder which is part of the “Rijnland model”. The latter is important, because MMC positioned its values around many stakeholders (e.g., employees, clients).

In the previous years, Marsh drove its business via fourteen product and services lines. These lines of business were controlled by four segments of the organization and acted as separate profit centres. The segments executed Marsh’s strategy.8

Though, this organizational structure failed. Inefficient processes, lack of teamwork, ineffective segregation of duties have lead to deterioration of the organization. In 2011, the executive committee has decided to reorganize the structure by act through the lines 8 Each segment is divided into several sub-segments to reflect a part of the business.

of business instead of the segments. It is a necessary step to bring Marsh back to a healthy organization. The result should lead to better financial results, efficient processes and being able to steer towards the organizational goals as appointed in the strategies (e.g., customer satisfaction, growth and profitability).

Figure 2.2 Marsh’s organizational structure

The Dutch insurance industryIn 2005, MMC developed a new business model in order to be more competitive and more efficient with the resources. The latter required Marsh to alter the organizational structure and therefore changes have been carried forward on product-, service- and client level. By 2006, this restructuring made a hundred (25%) jobs redundant.

Even after the restructuring, Marsh failed to manage their performance in the years after. The business model works with great difficulty due to the many organizational changes and the market is also saturated.Major players such as Aon and Willis remain stronger than Marsh, but also the smaller local brokers are stealing market share from Marsh. Overall, Marsh faces a lot of challenges.

2009 was for Marsh, Aon and Willis a difficult year. Aon saw their revenue decline by 5 million euro to 213 million Euros (growth of -2,3%). This was mainly due to volume decrease. There were less insurances for investments, employees and revenue. However, the attrition was minimal and gained more customers.

Willis saw a decline of revenue of 8% to 17 million Euros. Additional services, such as risk consultancy, were the main driver for this decline. An existent risk is the non-profit sector, and particularly the municipalities. Their budgets shrunk due to savings and therefore municipalities join forces or wrote out a tender to gain information on the best prices. This affected the margins.

Front OfficeCustomer segment: All

Focus: New and Expanded Business

Lines of Business and MRCCustomer segment: premium ≥

USD 30 mlnFocus: Renewal

Finance HR

ProcurationCustomer segment: premium <

USD 30mlnFocus: Renewal

IT Legal

Marsh saw their revenue decline by 10% to 55 million Euros. They are losing revenue mainly due to a low retention rate, less additional risk consulting and to pressure on volumes and commissions.

Marsh’s negative growth is higher than the market average. This indicates that Marsh is losing against their competitors. This also worries MMC, because Marsh is the 9th largest country in EMEA and therefore should contribute to the top-line and bottom-line results.

The 2010 outlook is still not promising. MMC planned for EMEA that The Netherlands is the largest negative contributor to the growth and Net Operating Income (NOI). Though, there were more regions that planned a negative growth, but were able to report positive growth. This makes The Netherlands the worst performer out of eighteen countries in EMEA.The pressure to perform on top-line (revenue) and bottom-line (NOI) continuously exists. Due to the consistent underperformance, MMC tracks the progress of The Netherlands closely.

-1.5%-1.0%-0.5%0.0%0.5%1.0%1.5%2.0%2.5%

Contribution to growth

vs Plan vs Prior Year

-10.0%-8.0%-6.0%-4.0%-2.0%0.0%2.0%4.0%6.0%8.0%

Contribution to NOI

vs Plan vs Prior Year

Figure 2.3 2010 contribution to growth and NOI

The Netherlands have been struggling over the years. In order to keep up with the financial targets, The Netherlands have made numerous attempts to create a healthy and viable business environment.9

The strategic plan remains the focus for the business environment and the budget is prepared according the plan. Marsh fine-tunes the yearly budget to an acceptable level in order to attain the MMC financial requirements on revenue and NOI.Three main sources of revenue form the top-line base and are referred as client service revenue. The distinction of the client service revenue (CSR) is as follows:

9 Initiatives have been instigated to grow revenues and to cut costs (e.g., organizational restructurings).

Renewal, yearly contractual renewal of the product or service; Expanded business, new / extended product or service rendered for an existing

client; New business, new product or service for a new client.

Extra revenue can be achieved through e.g., received bank interest and policy costs.10 This is referred as other revenue. Client revenue and other revenue form the total revenue.

Figure 2.7 shows the quarterly 3-year trend of the budget and the forecasted full year (FY FC) performance by Marsh. This graph has several evident key messages:

1) The budgeted revenue declines every year;2) The forecasted revenue declines every quarter;3) High volatility on NOI in 2010.

Q1 08

Q2 08

Q3 08

Q4 08

Q1 09

Q2 09

Q3 09

Q4 09

Q1 10

Q2 10

Q3 10

Q4 10

30,000

35,000

40,000

45,000

50,000

55,000

60,000

-15.0%

-10.0%

-5.0%

0.0%

5.0%

10.0%

15.0%

Other Revenue

Client Service Revenue

Budgeted Revenue

FY FC NOI Margin

Budgeted NOI Margin

Revenue in EUR mln NO I Margin

Figure 2.4 The trend of the budget and forecast

It is apparent that the revenue line is of a major concern. Questions rise on the health of the performance culture and the reflection of the truth in the budget.As in many organizations, Marsh creates targets for the business on the client service revenue. The budget is not supported by many employees in the organization.

10 Policy payments are made to Marsh which then pays the insurer. The time constraints allow Marsh to receive interest payments on the credit balance.

2.4 Conclusion MMC is the leading service company which has the biggest network around the globe and executed via MMC’s subsidiaries. Subsidiaries often collaborate to benefit from the network.The American culture is a money-driven business. It is indoctrinated in MMC’s mission, values and goals throughout the company. MMC strive for a healthy organization and a great place to work. Therefore, the values and goals are communicated to all levels.In the last years, Marsh has failed to follow the values and goals of the organization. The organization is not financially healthy and is losing their place in the industry. Therefore, MMC closely tracks Marsh’s performance.The problems are found in the budgetary process and the performance culture. The organization insufficiently manages to create a realistic budget and is not able to steer the organizational participants to work towards the organizational goals.

3 Budgeting

3.1 IntroductionIt is a common saying, but tells the truth: “what gets measured gets managed”. Measurement is crucial to management control. Organizational participants focus on the variables that get measured. The variables are derived from the mission and strategic goals into a plan and quantified for the budget. This method helps to execute the strategy on a short-term, often yearly, basis.Controls are the corrective actions in order to ‘keep on track’. It is an evaluation of the realized performance versus the standard. Therefore, the management control process is divided into several phases (de Waal, 2004):

Mission Strategic Plan Yearly Budget PerformanceEvaluation

Control (versus Budget)

Reward (versus Budget)

Figure 3.1 The development and functionality of the budget

Strategic planning is the implementation of the organizational mission, objectives and the achievability of the strategy. The implementation gives a better understanding of 1) the market position, 2) the strengths and weaknesses (internal environment) as well as the opportunities and threats (external environment) and 3) how the company should act in the industry.

The strategy provides a way to exploit the strengths and opportunities, and translates the vision for managers into a subset of tactics which are executed throughout the organization. The subset of tactics have many behavioural aspects such as the discussing the future and the commitment of attaining the performance targets.Therefore, the strategy can be used to assess the organizational success and/or progress.

The budget is necessary; it is the implementation of the strategic plan and it functions as a predetermined ‘contract’ in order to evaluate the realized performance. Thus, the budget plans as corporate resources are allocated throughout the organization and the budget controls, because the realized performance is evaluated against the budget and decisions are made to follow the budget. At year end, the achievements are rewarded if the organizational participants have performed better than the ‘contract’ (i.e., targets).

Though, the industry evolves continuously. Fierce competition, governmental or third party11 pressure on regulations, corporate governance (e.g., SOX), and specialisation and differentiation of customer needs induces change. Strategic choices need to be adapted and which has a great effect on the organization. Managers can undertake actions that are not in line with the budget due to these differentiating circumstances. The budget can become unusable and is therefore not sacred.

This chapter will look at the phases and predominantly focus on budgeting. It will elaborate on the effects of budgeting and which solutions are available mitigate the effects.

3.2 Management Control Systems

“If all employees could always be relied on to do what is best for the organization, there will be no need for a management control systems. But employees are sometimes unable or unwilling to act in the organization’s best interest, so managers must take steps to guard against the occurrence, and particularly the persistence of undesirable behaviours and to encourage desirable behaviours.”

Merchant and van der Stede, 2007

The organization and the industry have developed rapidly to become a more competitive and customized environment and to which creativity and subordinate initiative are key success factors for the organization. Former techniques (e.g., command-and-control) do not suffice to control the organization.

The managerial influence can lead to actions and decisions that are not in line with the organization’s goals and consequently, managers use control mechanisms to keep on track. It is an ongoing process to guide the organization by providing control for the tensions that arise in the dynamics of creating value, strategy making and human behaviour.

Management control is defined by Robert Anthony12 (1965) as: “the process by which managers assure that resources are obtained and used effectively and efficiently in the accomplishment of the organizational goals” and later emphasized that control systems are impacted by behavioural aspects due to managerial influence on other organizational participants in order to implement the organization’s strategies (Otley, 1999, 2003; Noeverman, 2007).

11 Third parties in The Netherlands that act in the interest of e.g. stockholders are Autoriteit Financiële Markten (AFM) and Verening van Effecten Bezitters (VEB).12 Anthony, R. (1965); Planning and control systems: A framework for Analysis, p. 17.

Simons (1995, p. 4) argued that the approach of management and control have shifted due to the change in the industry and organization. It requires a new approach for managers to control the tensions that are inherent to the organization.

Old   NewTop-down organization   Customer/Market-driven strategyStandardization   CustomizationAccording to plan   Continuous innovationKeeping things on track   Meeting customer needsNo surprises   Empowerment

Figure 3.2 The shift of the approach in management and control

Tensions exist between freedom and constraint, empowerment and accountability, top-down direction and bottom-up creativity, and experimentation and efficiency. It is necessary to find the balance between these tensions and how managers control the strategy by using the four levers of control.13 Simons’ (1995) four levers of control are:

1. Beliefs systems, used to inspire and direct the search for new opportunities;2. Boundary systems, used to set limits on opportunity-seeking behaviour;3. Diagnostic control systems, used to motivate, monitor, and reward achievement

of specific goals; and4. Interactive control systems, used to stimulate organizational learning and the

emergence of new ideas and strategies.

Beliefs systems and diagnostic control systems create the inspiration to act in the interest of the organization and the boundary and diagnostic control systems are used to create constraints and compliance. These four levers of control will be the basis for the management control systems and will help to align the organization in achieving the goals.

Diagnostic control systems are the backbone of management control to predict the goal achievement (Simons, 1995). The budget is a form of a diagnostic control system.

Diagnostic control systemsIn today’s business fast and adequate decision-making is compulsory, but managers cannot make all decisions. Hence, activities and decision-making is cascaded to a lower level in the organization (the empowerment). Managers will monitor and control the outcome and take corrective actions if deviations arise versus the performance standard (most common are budgets and profit plans).13 Simons (1995) four levers of control are presented graphically in appendix B.

Managers select critical success factors that influence the achievability of the mandated goals (effectiveness) or to provide a longer term benefit (efficiency). Thus, effectiveness and efficiency are the main criteria for selecting measures in the diagnostic control systems. It is paramount that the selected diagnostic control measures are objective, complete and responsive; that is when a measure is respectively “independently verifiable, captures all relevant actions or behaviours and when it reflects the efforts and actions of the individual” (Simons, 1995, p. 76).

Objective measures administer to a clear and unambiguous description of the goals.14 Completeness is imperative to include all actions and efforts, because incompleteness can lead to dysfunctional behaviour which is not in the interest of the organization (Otley, 1978; Merchant, 1985; Simons, 1995; Dunk and Nouri, 1998; Jensen, 2003).

Diagnostic control systems are designed to assure that the standards are met without constant management oversight. This is the base of management control. Therefore, diagnostic control systems have the ability to:

1. Measure the process’ outcome;2. Compare the actual performance against the performance standard;3. Correct deviations from the performance standard.

Diagnostic control systems give feedback on the progress (‘keeping on track’). It is the curtailment between opportunity seeking and innovation to establish goal achievement.

Managers will only consider the significant deviations and can therefore better allocate their attention for a number of organizational activities (i.e., management by exception) and to generate a better balance between unlimited opportunities and limited attention.

Hence, management control controls the tension between creativeness and innovation, and the expected goal achievement. Management control systems will stimulate and delineate innovation and opportunity seeking and are based on how subordinates can be influenced that they will handle in the best interest of the company and the stakeholders.

14 Nevertheless, subjectivity can be present due to the circumstances in which managerial assessment can take place. This can have an effect on the subordinates’ motivation.

3.3 Strategic PlanningCompanies often use three formal, distinguishable, sequenced planning cycles called strategic planning, capital budgeting and operational budgeting (Merchant and van der Stede, 2007).15

Strategic planning is the organizational process for defining the strategy and to decide on the allocation of resources in order to pursue the strategy.It is commonly agreed that a coherent and implementable plan is beneficial to a firm and it should involve a process (Harris and Ogbonna, 2006), but it can be based on a misunderstood process (Mintzberg, 1994).

A firm’s mission and vision are made tangible as strategic goals and objectives and executed via multiple strategies for competing in the market and aligning internal activities (Neely et al., 2001; Blumentritt, 2006). This makes strategic planning a process to identify and integrate internal and external environmental factors. Hence, planning is the decision-making in advance.

PurposePlanning and budgeting serves four main purposes which are planning and control, coordination, top management oversight and motivation.

Planning and ControlManagers are often focussed on the short-term horizon, because most of the time is spend on “fighting fires” or in other words, realizing and reacting to problems. Though, the focus on short-term activities is not often in the best interest of the company. The managers should be motivated to engage in long-term, strategic thinking.

Strategic planning serves as a control for managers to think about and adapt to the future on strategic and operational level. The process of adaptive thinking will accommodate the comprehension of the organizational strengths, weaknesses, opportunities and threats and the possible effect of decision-making in advance.

The strategic planning will help managers to integrate and control miscellaneous parts of the organization. It will hold the managers accountable for their actions and for any incongruity with a plan. Integration and control are a necessity in larger organizations due to their complexity. Careful planning will ensure that the pieces will fit the puzzle.

The plans of the strategically and operational decision-making can be amended based on the results of the outcome between higher and lower level management. This will 15 This topic of the thesis does not touch the subject of capital budgeting and therefore will only discuss strategic planning and operational budgeting.

increase the effectiveness of planning to make an organization more proactive in challenging circumstances and it will promote the adaptive thinking for achieving or maintaining the internal environment alignment (Miller and Cardinal, 1994; Mintzberg, 1994). It will also yield superior returns for an organization if the process is implemented successfully (Harris and Ogbonna, 2006).The value of adaptive thinking will not contribute to dysfunctional inertia. However, bureaucracy can promote dysfunctional inertia by inhibiting underlying organizational capacity for adaptation (Miller and Cardinal, 1994).

Coordination and communicationCoordination is the communication of information between the several layers of the organization. Though, this is neither a top-down nor a bottom-up approach. It is a complex activity which requires top management to communicate the strategic goals and targets, but equally the participation from business and functional levels. This will indicate actions, resources and risks, and also providing pragmatic alternatives for achieving the objectives.The latter gives managers to express their ideas on creating added value for the organization, but it also is a valuable shared experience and provides an educational opportunity. This will generate individual commitment and personal participation (Hax and Maluf, 1984).

The budget is a tool for the communication of the planned activities in the coming year and gives quantitative information concerning the plans and limitations. The plans will not be carried out in full if the organization does not understand the usefulness (De With and Dijkman, 2008).

MotivationThe amended plans will facilitate top management oversight in order to evaluate and allocate the resources and finally, to set challenging, manageable targets. The targets are the (short-term) plans and budgets that affect the manager’s motivation as it is used as a performance evaluator and as a benchmark for their reward.

Hence, strategic planning is important as it supports adaptive thinking, induces integration and control, creates a common sentiment to achieve the mandated targets and reduces myopia. The strategic planning process should enable agility to adapt to changing conditions and refine the strategy. Therefore, strategic planning will positively affect the firm’s performance. 16

16 Please note that a variety of endogenous (e.g., size, culture, capital intensity) and exogenous variables (e.g., industrial turbulence, competitive intensity) can significantly influence the relationship between strategic

3.4 BudgetingAlmost every firm uses some form of budgeting. It is integrated in the structure of the organization. The research by Neely et al. (2001) showed that 80% of the firms agree that the planning and budgeting process does not function properly for several reasons and it does not add value to the organization. Hope and Fraser (2003a, 2003b) argued that budgeting is “an annual performance trap” and “as long budgeting dominates business planning, a self-motivated workforce is a fantasy, however many cutting-edge tools and techniques a company embraces.”

Even though the compelling words by Hope and Fraser, budgeting is still in use at most companies. They do not want to radically change their budgetary process as they cannot afford to lose central strategic control. Alternative budgeting techniques have been developed to overcome these criticts.

This has lead to the question: do we choose to improve the current budgeting process to overcome the weaknesses or should we go to a radical different approach which exclaims the abandonment of the traditional budgeting process? Hence, will it be Better Budgeting or Beyond Budgeting?

3.4.1 The history of budgetingBudgeting started in the US in the late 1800’s as a management tool to control the municipal income and expenses. In 1921, the first national budget was created and transmitted to the Congress. This was the start of budgeting the public sector.

The industrial growth had a big impact on the economy. Economies of scale could be achieved by standardising the use of raw materials and labour and calculating the standard cost price. Therefore, the efficacy of budgeting was quickly adopted by the private sector. Large firms, such as DuPont, General Motors and Siemens developed budgeting as a method to plan and control their costs and cash flow. Later, DuPont used budgeting as a tool to plan, control and motivate managers. DuPont linked rewards to the budget which also indicated the relationship between the budget and the managerial performance.

Twenty years after the first governmental budget, nearly half of all well established firms in the US introduced budgetary control. The use of budgeting was adopted quickly. Camillus and Grant (1980, p.370) argued: “from the 1950s onward any large-sized

planning and performance (Miller and Cardinal, 1994; Blumentritt, 2006).

corporation without any formal annual budget would, without hesitation, be classified as poorly managed.”

The course of budgeting was set into a manner of planning and control. In the early stage of budgeting, control was more important than planning.Planning and allocation of the resources were only conducted by the senior management that had a great understanding of the business and was only set out for the budgetary period. The planning was afterwards cascaded to the middle-managers who acted as the controllers of the plans and finally, the plans were implemented by the divisional managers.

This was typical for the industrial age (1920s-1970s). Capital was the primary strategic resource and the accounting systems were driven by productivity and volume. The market and competitors were known and the organization was aligned to this process. Accordingly, the organization had a multidivisional structure, the M-form (Hope and Fraser, 1997).

Senior Management

Middle Managers

Division Managers

Division Managers

Middle Managers

Division Managers

Division Managers

Middle Managers

Division Managers

Figure 3.3 The multidivisional structure (M-form)

The M-form helped to shift assets and accountability to the divisions and the top-down approach was used to allocate and control the resources. The M-form was established to support the rapid growth in new products and markets and reduce the complexity of holding multiple strategies (Hope and Fraser, 1997; Frow et al., 2010).

It is obvious that the culture during the industrial age did not allow decentralization and empowerment. It is a culture with a rigid form of vertical integration, divisionalization and command-and-control orientation (Simons, 1995; Hope and Fraser, 1997; Otley, 2003).

The importance of planning has increased rapidly over the past years. This can be attributed to the rapid change in the business environment. The industries have become

more competitive and less predictable, the consumer and employees’ needs have increased in demands. It instigated firms to consider the long term instead of short term.

The emphasis is now on speed, service, quality and innovation. Capital is no longer the main strategic resource, but is substituted by a combination of information, knowledge and intellectual capital.17 This made the industrial age not lenient enough for these changes due to its bureaucracy and unresponsiveness to organizational needs.And thus, the industrial age changed to the information age (Hope and Fraser, 1997).

3.4.2 Budget functionalityThe long term thinking is the strategy that is implemented in the year-on-year plans and quantified in the annual budgets. The literature gives many descriptions to capture the scope of budgeting. Horngren et al (2000, p. 883) define the budget as: “A quantitative expression of a proposed plan of action by management for a future time period and is an aid to the coordination and implementation of the plan”. Zimmerman (2000, p. 238) added: “Budgets are an integral part of the organization’s performance evaluation and decision rights partitioning system”. The most comprehensive definition is given by Shim (2009, p.1):

“A budget is defined as the formal expression of plans, goals, and objectives of management that covers all aspects of operations for a designated time period. The budget is a tool providing targets and direction. Budgets provide control over the immediate environment, help to master the financial aspects of the job and department, and solve problems before they occur. Budgets focus on the importance of evaluating alternative actions before decisions actually are implemented.A budget is a financial plan to control future operations and results. It is needed to operate effectively and efficiently. Budgeting, when used effectively, is a technique resulting in systematic, productive management. Budgeting facilitates control and communication and also provides motivation to employees.”

This makes a budget a powerful management control tool which has become a fixed part of the organization. The budget is also referred to as ‘a fixed performance contract’. The continuous development made budgeting to become a functional instrument. Van Horn (2003, p. 25) argued that budgeting is:

A system of authorization; A means of forecasting and planning;

17 Intellectual capital includes competent managers, skilled knowledge workers, effective systems, loyal customer and strong brands.

A channel of communication and coordination; A motivational device; A means of performance evaluation, as well as providing basis for decision

making; Task setting; An integration instrument;18

An instrument for risk control.

The budgetary functionalities can be summarized into the three goals. The budget is to provide:

Strategic control: To assure that the organizational activities are being developed as proposed by the senior management;

Financial control: To assure that the activities meet the demands of the shareholder;

Risk control: To assure that the development of the organizational activities are within the boundaries of the possibilities and risk.

Control refers to the continuous cycle of monitoring the progress and taking appropriate, corrective, actions to achieve the budgeted performance.

Strategic control has a primarily external focus; managers examine the industry and the firm’s position. The primary action is to compete with the competition using the information on the strengths, weaknesses, opportunities and threats.

Financial and risk control have internal focus and can be integrated in the scope of management control. These are mainly managerial decisions on how to align the organization to the organizational goals, i.e., how can we influence employees’ behaviour to create goal congruence. The quantification of goal congruence (i.e., achieving targets) works as a motivation when the manager is rewarded based on the achievements.

Although, the effectiveness can only be guaranteed when the budget is (de Waal, 2004): Impartial: only organizational goals should have priority (not third party); Formed in collaboration: all available knowledge and experience should be used

to formulate the budget; Carried across the entire organization: everyone should understand and support

the budget; Reasonable: the budgets should be challenging, but attainable.

18 Van Horn (2003) elaborated that budgeting is an integration instrument for management control as it forces all processes and departments to be geared to one another, e.g. production department is linked with the procurement, HR and sales department and is also linked to the cash budget.

3.4.3 Perspectives on budgeting and evaluative styleThe increasing importance of budgeting has now become one of the most extensively researched topics in management accounting. Budgeting has mostly been researched in the theoretical accounting fields of economics, psychology and sociology and relates to cost accounting, responsibility accounting, performance measurement and compensation. Hence, budgeting gives the opportunity to research the choice between the theories of different perspectives or the compatibility of the theories of different perspectives. This validates the comprehensiveness of the explanations into the causes and effects of budgeting (Covaleski et al., 2003).

Economical perspectiveThe economical perspective views budgeting as a part of the management control systems, because budgets coordinate and plan activities and provide incentives. The economical perspective focuses on “equilibrium budgeting arrangements that maximize the combined interest of organization owners and managers” (Covaleski et al., 2003, p. 10). It provides to find the balance between decision-making and available information in order to maximize the organizational objectives. The research investigates the use of budgets in relation to employee demands, uncertainties and information asymmetry.

The main scope relates the owner-employee relation. The owner and employee are presumed to display perfect rational behaviour whose decisions are to maximize the organizational objectives.Though, the equilibrium state is hardly ever achieved. The organizational position is a strategic interaction between owner and employee. Individuals have different preferences due to uncertainties and do not share the available information with the owner (information asymmetry) and therefore primarily base decisions in response to self-interest (i.e., the agency theory).Managers should create goal congruence by motivating employees to work in the interest of the organization and to communicate all information. This method will aid to control the business and attain the strategic objectives. Simons (1995) describes the communication and interaction (debate and dialogue) between owner and employee (in order to control) of interactive control systems.

Psychological perspectiveThe psychological perspective researches the influence of budgeting on the individuals’ mental state, behaviour (e.g., communication, effort, gaming) and performance (Covaleski et al., 2003).The psychological research has made two assumptions. The first assumption describes that behaviour is limitedly rational and satisficing. That is, individuals do not necessarily

maximize their value due to insufficient cognitive resources (bounded rationality) and therefore try to satisfy their means to what is sufficient.19 The other assumption describes that individual want to create a mental consistency, but individuals are often in an imbalanced position due to the bounded rationality and satisficing.

The available information for budgetary decision-making can exceed the individuals’ limited cognitive capacity. The individual will not assess all information about all alternatives in order to optimize the decision, but as a result of the bounded rationality and satisficing will instead often choose the first choice when it provides benefits above the satisficing standard. Therefore, the selected alternative does not represent the optimal solution for the organization, but it is a satisfying solution for the individual. Though, the aspired standard tends to adjust to the circumstances. Mental tension (i.e., cognitive inconsistency) is avoided when individuals adjust their preferences to feel better about their belief of the achievability of the outcomes.The individual strives for a mental balance, but can become imbalanced (inconsistency) due to mental tension (e.g., stress) which in effect leads to dysfunctional behaviour.

Sociological perspectiveAccording to Covaleski et al. (2003, p. 29), the sociological perspective on budgeting “explicitly addresses the tension in aligning individuals’ goals and behaviours with the organizational goals and objectives, as well as the role of individuals in shaping the organizational goals and objectives, through the budgeting process.” It focuses on how goal congruence between e.g., employee and employer or subunits can be achieved.

The contingency and institutional theory are major research streams in the field of sociology. Both theories relate to the organizational level.

The contingency theory assumes that it is complicated to align the organizational goals with the individual behaviour, as the latter is boundedly rational and satisficing. Incongruity can arise when errors occur in the organizational structure and process and in response, individual behaviour can, unintentionally, change.

The institutional theory argues that individuals act for their self-interest, because the individual is boundedly rational. The tension is throughout the whole budgeting process (planning, control and bargaining).

The perspectives emphasize the individual behaviour and how tension arises with conflicting interests. It shows that the organization influences the behaviour and therefore also the managerial style of evaluation.

19 Simons (1956) coined the word “satisfice” by combining the verbs “to satisfy” and “to suffice”. For more information, please review: Simon, H. A. (1956); "Rational choice and the structure of the environment"; Psychological Review, Vol. 63, No. 2; pp. 129-138.

Evaluative styleThe strategy determines in an indirect way the manager’s evaluative style as the attainment of the goals are based on the strategic plan.

Budgets are a derivative of the strategic plan. Budgets facilitate decision-making by improving a) coordination for the planned activities across the organization and b) the share of knowledge on local condition (via participative budgeting). Secondly, budgets influence decision-making because the play a major role in performance evaluation and rewards (Covaleski et al., 2003). Therefore, budgets affect the managerial (dys-) functional behaviour (Otley, 1978).

The measurement of the management performance can be distinguished into three budget styles (de Waal, 2006; de With and Dijkman, 2008):

Budget constrained style; Profit conscious style; Non-accounting style.

The budget constrained style is aimed at tight budgetary control in pursuance of the realization of the short term related goals. It is primarily focused on accounting measures. The most notable weaknesses of budgeting are often encountered in the budget constrained style.The profit conscious style focuses primarily on the general effectiveness of the business unit’s result regarding the longer term. The evaluation is based budgetary information, but the budget functions more as a business guideline. Any overspending is evaluated with regard to the long term objectives.20

The non-accounting style does not focus a great deal on the budget; in fact it plays a minor role in the managerial evaluation. The evaluation is primarily focused on non-financial information.

3.4.4 Target setting and incentivesIn an empowered organization, the organizational participants are asked to bear more accountability. Incentives are a must when the organizational participants take risks and should be rewarded for over-performance.

20 De With and Dijkman’s research showed that 90,9% of the respondents did performance measurement in The Netherlands and is evaluated against the long term goals. This refers to the profit conscious style.

Incentives are monetary incentives as well as non-monetary incentives, e.g. praise, recognition and autonomy (Merchant and van der Stede, 2007, p. xiii). Incentives stimulate the individual efforts for initiative and opportunity seeking. The definition of the organizational goals provides focus to the area in which the opportunity seeking should be done.

The diagnostic control systems incentives are linked to the output measures defined by the management. The output measures thrive on the subordinate’s motivation, because the subordinate will be rewarded when attaining their own target.Though, the target setting will only work when the measures are objective. Objectivity provides direction and fairness which consequently motivate subordinates for the attainment of the targets.Fairness is obtained when managers let subordinates participate in and influence on the process of target setting. The decision is, however, the manager’s responsibility.The trade-off has several reasons. Firstly, subordinates are more likely to understand the level of the target and are therefore more likely to accept the target. This will create commitment to attain the target.Secondly, it is an information-sharing dialogue. On one hand, the subordinate will discuss the opportunities and on the other hand, the manager will discuss the corporate resources and preferences. The dialogue can provide valuable information on corporate prioritization and limitations for senior managers.Thirdly, it clarifies expectations and encourages the organizational participants to think about the most efficient and effective way of achieving the target.

Dysfunctional behaviourIncentives can make organizational participants self-interested and try to attain easily achievable targets to secure their rewards. This is known as dysfunctional behaviour. Typical comments associated with dysfunctional behaviour are e.g., “Always negotiate the lowest targets and the highest rewards”, “Always make the bonus, whatever it takes” or “Always meet the numbers, never beat them” (Hope and Fraser, 2003b, pp. 12-13). They will try to create slack in the targets or game the system.The former firstly induces less negative variances when the actual performance benchmarked against the lower standard and therefore decreases the risk of scrutiny. Secondly, future expectations are tempered. The latter means that actions are taken to either make their current year’s performance look more favorable whilst the actions have no positive effect on the real performance or to move actual results into the subsequent measuring period when it is clear that this year’s targets will not be met.

Game playing can be exercised by several means (Simons, 1995, Hansen et al., 2003; Merchant and van der Stede, 2007):

Smoothing: changing time and flow of data without changing the transactions being measured. Example: changing accounting methods such as accounting accruals or postponing preventative costs such as maintenance costs.

Biasing: only reflect favorable information. Example: only show achieved targets. Illegal acts: violation of rules and/or laws. Example: violation of codes of conduct.

Dysfunctional behaviour is an example of the principal-agent theory.

The principal-agent theory is known as the inability to motivate one party to act on behalf of the other party. The principal-agent theory arises when the employer, the principal (P), remunerates the employee, the agent (A), and in return the agent performs acts in the interest of the principal.

Figure 3.4 The Principal-Agent Theory

The agent’s self-interest can cause dysfunctional behaviour in order to achieve the incentives. The agent has (more) relevant information about their performance which is not shared with the principal and thus creates an imbalance. This is known as information asymmetry.

AchievabilityBonus incentives are predominantly tied to short-term related goals (e.g. budgets). The targets should be “tight but achievable” or in other words, to set a challenging performance target to perform at a higher level which leads to “innovation rather than incrementalism” (Merchant and Manzoni, 1989; Merchant and van der Stede, 2007).

If targets are easily achieved, subordinates will be less motivated to work hard as the targets can be attained with a minimum of effort, creativity and perseverance. On the other hand, unrealistic targets will lead to discouragement and conclusively the subordinate will lose commitment and exert no effort to attain the targets.

Challenging, but attainable will lead to a higher motivated workforce with an increased commitment (winner’s mentality) which provides realistic forecasted financial projections and reduce dysfunctional behaviour. Objective measures and participation will assure that the risk of dysfunctional behaviour is minimized.

3.4.5 The impediments of the budgeting processBudgets survive, because they are deeply imbedded throughout the organization (Hansen et al., 2003) and the budgeting process encompasses all organizational activities (Otley, 1999) which is centrally coordinated (Neely et al., 2001).

Many researches have argued that budgeting does not satisfy the organizational need for planning and control (Hope and Fraser, 1997, 2003a, 2003b; Ekholm and Wallin, 2000; Marcino, 2000; Jensen 2001).

Neely et al. (2001) summarized the twelve most frequently cited criticisms. These criticisms can be placed into the following categories (Neely et al., 2003):

Competitive strategy:1. Budgets are rarely strategically focused and often contradictory.Budgets make managers try to achieve the short-term related goals without looking at how to beat the competitors and generate value for the organization and to increase customer satisfaction. The myopia makes strategic goals to become less relevant, even when it is an indicator on the long term business health.

2. Budgets concentrate on cost reduction and not on value creation.A study by Lazere (1998)21 showed that only 27% of companies integrate strategies and only 22% have forecasts including corrective action plans. Budgets fail to measure and suppress growth of future cash flows’ key drivers and shareholder value.The budget’s aim for cost reduction may become deadlocked as the budgets create an upper and a lower bound for the expenses. The aim becomes to fully spend the budget in order to get the same budget for next year (de Waal, 2004).

3. Budgets constrain responsiveness and flexibility and are often a barrier to change.The budget is a fixed performance contract and all attention is aimed at the achievement of the budget. There is hardly any possibility to amend the budget to reflect the changing

21 Lazere, C. (1998); All together now – why you must link budgeting and forecasting to planning and performance; CFO Magazine; pp. 28-36.

conditions. The fixed performance contract makes incentives to out-perform the budget fully miss their purpose.The budget becomes a barrier for continuous improvement and success, because the organization is focused on how to beat the budget instead of how to maximize the potential.

4. Budgets add little value, especially the time required to prepare them.A study by Trapp (1999) found that the financial department spends more than 50% of the time on the budgeting process and only 27% on analysing the budget.The budget becomes an annual bureaucratic procedure rather than a method to stimulate creative thinking on how the organization will generate value.

Business process:5. Budgets are time-consuming and costly to put together.The budgetary process is too rigid and the management focuses less on strategic queries. In many organizations the budgeting process consumes around 20-30% of the management’s time.

6. Budgets are developed and updated too infrequently, usually annually.Budgets are a yearly one-off exercise and are often not changed during that year. The changing circumstances can make a budget irrelevant after one month.

7. Budgets are based on unsupported assumptions and guess-work.Budgets are often determined by senior managers where they will in- (i.e., last-year plus) or decrease next year’s budget by a fixed percentage (i.e., across-the-board cuts). It is not a well-considered process of assumptions which can be validated by the in- or external factors. This will limit the possibility to perform a variance analysis and eventually becomes disruptive for controlling the organization.

8. Budgets encourage ‘gaming’ and perverse behaviours.The primary focus on the annual performance creates a mismatch between the operational and strategic decisions that highlight non-financial variables (Hansen et al., 2003). Accordingly, participants do not commit to the organizational goals, do not feel accountable and as a result are only self-interested during the budgeting process. The incentives encourage participants to create budgetary slack or other games in order to attain the incentives. This will deter the participants for creating added value for the organization.

Organization capacity:9. Budgets strengthen vertical command and control.

A budget is often the mandate by senior managers in order to plan and control all resources and activities in the organization. The budgetary process becomes a tool to exercise the mandate and consequently discourages employees in innovative thinking rather than to stimulate them.

10. Budgets do not reflect the emerging network structures that organizations are adopting.Budgets often remain a top-down approach which restrains empowerment and thus, opportunity seeking promotes centralized control in the current organization’s ability.

11. Budgets reinforce departmental barriers rather than encourage knowledge sharing.The participants will try to achieve their own budgets and targets and will keep useful information to themselves as it may harm the pursuit of their own targets. There is hardly any incentive for knowledge-sharing in order to achieve synergies.

12. Budgets make people feel undervalued.Budgeting is a top-down approach and prevents decentralization. Budgets see employees as means of production rather than intellectual capital. Therefore, budgets restrict the opportunity seeking in contribution for the organization. It has been suggested that abandoning budgets can attract qualitatively good managers who value empowerment and challenging targets.

3.5 Better BudgetingNowadays, budgets still exist. They are integrated in the organization and work as a management planning and control tool in many stable industries. It helps to remotely control the corporate business and organization. And for some, budgets are an aid in cost price calculations. Therefore, budgets are still of importance.

Due to the rapid changing environment, it is obvious that budgets do not function efficient- and effectively as expected under different circumstances. This commands change in the way of planning and control. Hence, the organization will need to apply appropriate strategic planning, improve the performance management process, and identify and manage key drivers of shareholder value (Neely et al, 2003; de Waal, 2004). Better budgeting will aid in:

Create more efficiency in control processes; Accelerate current plan- and budgeting processes; Reduce the amount of detail in planning activities; Formulate moving average forecast instead of yearly planning; More non-financial KPI’s in operational planning;

Goal setting against relative external standards; Clear top-down standards with decentralized operational planning; Use of integrated planning- and performance software systems.

There are several alternatives developed and the following alternatives will be discussed: 1) Activity Based Budgeting, 2) Zero-based Budgeting, 3) Rolling Budgets, 4) Profit Planning and 5) Beyond Budgeting.

1. Activity based budgetingActivity based budgeting has been elaborated on the concept of Activity Based Costing. The methodology of activity based budgeting looks at all activities (instead of products) to determine the capacity where afterwards the corporate resources, activities and costs are allocated to an activity centre and cost driver. The costs depend on an appropriate cost driver within each activity.22

Activity based budgeting consists of two elements: one element focuses on the market strategy (external) and the other element focuses on the operational strategy (internal). The former determines the expected volumes and price of the product- or services. The organization will allocate resources based on the expectations. The latter determines the available capacity for providing the goods or services. It assigns available activities based on available means at a normal capacity. The core of the operational strategy is products and activities. Activity based budgeting is an effective means to align supply and demand.

Activity based budgeting has been developed, because it gives information on production plans which are in need of new capacity in order to cover the indirect activities, provides information on expected costs and tries to hold managers accountable for costs incurred in their activity centre. The organization would get more control on their cost structure than the traditional budgeting process.

In practice, activity based budgeting is not widely used. Most organizations use the yearly budgeting process which is mainly driven by interdependencies, exceptions, and negotiations and therefore cannot adopt any other form of budgeting. There are also other causes that have lead to the rare use of activity based budgeting.Activity based budgeting requires cultural and organizational change, because it is based decisions related to indicator and activities, and not on hierarchical achievements. The process requires a revision on responsibility and incentives as it is now based on activity centres.Activity based budgeting often requires a repetitive process for determining the correct KPI’s. KPI’s are necessary as it let organizations better control their processes and 22 Example: a machine is a cost driver for the production department.

activities, but the KPI’s blur the link with the strategic plan (although activity based budgeting will help to create more focus on strategy).A necessity for activity based budgeting to work is sufficient information on processes and activities which is time and money-consuming.

The nature of the organization and the product/service determines whether the organization is ready for activity based budgeting. It becomes difficult to implement when an activity cannot be allocated to a product or service or when the implementation of the process is difficult (Van Ekelen and Baerts, 2006).

2. Zero-based budgetingIn common practice, budgets contain last year’s figures plus incremental increase, but this leads to inflated budgets with higher costs. Zero-based budgeting is a technique that budgets from the start again, i.e., it takes no information on previous year(s) into account.The necessity of all expenses is discussed, but past decisions on corporate resources and human capital are not part of the discussion. Zero-based budgeting determines the justification of the spending in contrast of (in-) direct value. This prevents that any inaccuracies and inefficiencies are part of the new budget.Each department should indicate the purpose and output of the departmental activities and the costs incurred. This state is known as the zero base (Fransen and Schepers, 2004; Groot, 2007).

Zero-based budgeting has proved its effectiveness in cutting unnecessary costs, but it is time-consuming and is in no contrast to the return on investment.23 At most, it can be used as support the reorientation of the organization every three to five years. Zero-based budgeting is therefore hardly used for cost control (Groot, 2007).

3. Rolling Budgets (or rolling forecasts)The traditional budget covers a specific period of time, often a year. A rolling budget is the budget (or plan), but it is updated continuously and frequently – often every month or quarter – that it still reflects the same time horizon as the original budget. Due to the frequent updates, the changing circumstances are reflected in the rolling budgets.

The use of rolling budgets can be beneficial for several reasons. Rolling budgets will aid when future activities or costs cannot be accurately determined and it can integrate strategic perspectives.24 It provides for a more accurate forecast.

23 Zero-based budgeting is not very effective in The Netherlands, because labor is only moderate variable due

to legislation and Collective Labour Agreements (CAO’s).

Secondly, the frequent updates make rolling budgets a less time-consuming activity as the budgeting activities are spread over the year. It becomes part of the routine and it only requires time for the update of the new budgeted period.Thirdly, managers can be more in control as they can spend their access time on decision-making rather than creating, analysing and deciding in a short term as it is the case when the traditional budgeting is made. This can result in a positive attitude towards budgeting and could lead to a better effort and result.Finally, rolling budgets can help to mitigate myopia. The manager is not focused on the short term results and consequently immobilizes the decision-making ability, but keeps looking forward.

Rolling budgets perform as an information tool, used for resource allocation, communication, planning and control and not as an incentive tool. The incentive role either remains with the budget or is done by other mechanisms (e.g., Balanced Scorecard, relative internal performance benchmark such as ‘league tables’).

A combination with the incentive tools can procreate into short-term profit maximization and long-term value creation that is homogenous to the strategy. Disconnecting rolling budgets to incentives will also lead to a decrease in dysfunctional behaviour.

4. Profit PlanningProfit planning is much alike budgeting only profit planning is determined for profit centres within an organization for short and long term prognoses. The profit plan will give an estimate on expected revenues and expenses. It concludes if the organization creates enough cash flow, economic value added and financial means for investments (de Waal, 2004).Profit planning is hardly used in practice, because there is little evidence that it actually simplifies the traditional process.These alternatives have a distinct relationship with the traditional budget, but Beyond Budgeting advocates a different approach. Budgets should be abandoned.

3.6 Beyond Budgeting

“Not to beat around the bush, but the budgeting process at most companies has to be the most ineffective practice in management. It sucks the energy, time, fun and big dreams out of an organization. It hides opportunity and stunts growth. It brings out the most unproductive behaviours in an organization, from sandbag- ging to settling mediocrity. In fact, when companies win, in most cases it is des-

24 Please note that rolling budgets does not force managers to think strategically, but is more consistent with the strategic perspective than the traditional budget.

pite their budgets, not because of them. And yet, as with strategy formulation, companies sink countless hours into writing budgets. What a waste!”

Jack Welch,Former CEO General Electric

In 1998, thirty-three, mainly European firms joined the Beyond Budgeting Round Table (BBRT) to work on alternatives for the traditional budgeting process.According to the BBRT, budgeting is costly, time-consuming and encourages dysfunctional behaviour when ‘managed by the numbers’. Budgets are turned into fixed performance contracts without reference to an external source that force all managers to attain their targets, even when variables are out of their control (manager’s desire versus subordinate’s feasibility). This is detrimental and therefore leads to unethical behaviour. Budgets also provide poor value. They do not address any competitive variables. Conclusively, Hope and Fraser (2003a, 2003b) argued that budgets are a ‘barrier to change’. Hope and Fraser also argued that Activity Based Budgeting and Zero-based Budgeting are not beneficial if management structure and style are not coherent (Neely et al., 2001).

Based on the literature and practical research, BBRT concluded that budgeting can be abandoned and management should change their focus in order to have a good functioning organization. The change in focus meant that managers should vision that subordinates are intellectual capital and not means of production.

The BBRT called the alternative Beyond Budgeting. Hope and Fraser (2003b) argued that Beyond Budgeting is “not just another tool”. It provides an alternative general management model based on the managerial decision-making needs.

Beyond Budgeting proposes to eliminate the fixed performance contracts and to replace these contracts with performance evaluations based on relative performance contracts with hindsight (Hansen et al., 2003).The relative performance element uses budget targets with financial and non-financial measures which are benchmarked internally, i.e., versus other departments or externally, i.e., versus competitors. The non-financial measures will ensure alignment with strategic goals. The benchmarked targets are likely to augment fairness and accuracy of the performance evaluation and reduce

dysfunctional behaviour and motivational problems. The target becomes challenging, but achievable when competing against an appropriate standard.

The hindsight element defines that targets will be adjusted looking in retrospect and should incorporate the differentiating circumstances that occurred during that period. Rewards should be based subjective performance evaluations and focus on group performance rather than individual performance. The aim is to promote teamwork and encourage strategic initiatives. The latter can capture opportunities that are not comprehended in the benchmarked target. This will be, on longer term, favourable for the organization (Neely et al., 2001; Hansen et al., 2003).

Beyond Budgeting model is set for a ‘behaviour based’ instead of often used ‘managed-by-numbers’. It requires a flexible organizational structure which can be achieved by the devolution of decision-making and empowerment, and an adaptive performance management process.

In the past twelve years, BBRT have studied organizations that abandoned command-and-control structure and have adopted similar principles. These principles redefine the Beyond Budgeting model.25

The first six principles provide a framework for leadership by creating the decentralization of accountability to front-line teams. This enables them to quickly respond to opportunities and therefore make them accountable for continuous internal and external improvements and relative performance.

The second six principles provide a process framework for adaptive performance management process that enables front-line teams to become more responsive to business environment and customer demands. 26

Governance and transparency1. Values: Bind people to a common cause; not a central plan.2. Governance: Govern through shared values and sound judgement; not

detailed rules and regulations.3. Transparency: Make information open and transparent; don't restrict and

control it.

Accountable teams4. Teams: Organize around a seamless network of accountable teams; not

centralized functions.

25 http://www.bbrt.org/beyond-budgeting/bb-principles.html26 Please see appendix C for an overview of principles of the new performance contract and the devolved organization.

5. Trust: Trust teams to regulate their performance; don't micro-manage them.

6. Accountability: Base accountability on holistic criteria and peer reviews; not on hierarchical relationships.

Goals and Rewards7. Goals: Encourage teams to set ambitious goals; don't turn goals into fixed contracts.8. Rewards: Base rewards on relative performance; not on fixed targets.

Planning and controls9. Planning: Make planning a continuous and inclusive process; not a top-down annual

event.10. Coordination: Coordinate interactions dynamically; not through annual budgets.11. Resources: Make resources available just-in-time; not just-in-case.12. Controls: Base controls on fast, frequent feedback; not budget variances.

3.7 ConclusionA business is healthy when it is under control. Good management control is essential for an organization to perform. It should be aimed at the future and directed towards the organizational goals.The control is managed via a management control systems. It evaluates the organization for its long-term objectives via the strategic plan and incorporates the short-term objectives in the budget. This makes the budget inextricably bound up with the strategic plan. Hence, the budget evaluates the performance and signals whether adjustments are needed. It creates a constant monitoring of the organization.

The budget has several other functionalities than planning and control, e.g. it is a communication and coordination tool, a motivational device and task setting. The fact that the budget touches the field of behaviour has lead to research in economical, psychological and sociological fields.The researched fields showed that all can be intertwined. The information can be kept for personal gains (information asymmetry) or how behaviour and tension in the budgetary process can conflict. This is often regarded as dysfunctional behaviour.Dysfunctional behaviour can be the effect of evaluative style and target setting. Evaluation can be fully aimed at the budget (budget constrained style), regards the long term health of the organization in which the budget plays a moderate role (profit conscious style) or it can be inferior where the evaluation is based on non-financial measure and therefore the budget plays a minor role.

Behaviour is rewarded when certain achievements are made. The budget becomes the target. Incentives are rewarded when the budget is attained. The matter on how the target is achievement can have several implications. It gives the possibility for dysfunctional behaviour which most commonly appears as creating slack and budget gaming. Slack is creating better attainable targets and budget gaming is creatively influencing the results (smoothing, biasing or by illegal act).

The budget also has its weaknesses and relates to the 1) competitive strategy as it is contradictory and not strategically focused, it is a barrier to change and constrain responsiveness and flexibility, concentrates on cost reduction rather than value creating and adds little value due the lack of analysis, 2) business process, it is time-consuming, quickly out-of-date, it is based on unsupported assumptions and encourage dysfunctional behaviour, and 3) organizational capacity as it strengthens vertical command-and-control, do not reflect emerging network structures, reinforce departmental barriers and make people feel undervalued.

There have been several alternative budgeting techniques developed to overcome these weaknesses. The most reflected alternatives are: activity based budgeting, zero-based budgeting, rolling budget, profit planning and beyond budgeting.Most alternatives serve the common purpose as the traditional budgeting process, namely to plan and control. Beyond budgeting, however, advocates for the abandonment of the budget. According to Beyond Budgeting, the budget is a fixed performance contract whilst it should be a benchmark for relative performance and restrains a devolved organization. Every organizational participant should be empowered and become more responsible for their actions instead of the central control that the budget executes.

4 Analysis: The construct of the organization

4.1 IntroductionThis chapter will look at the Marsh’s budgetary process and what improvements can be made in order to increase the reliance of the budget in the organization.

Chapter 4.2 will discuss the weaknesses found in the budgetary process according to the report by Neely at el. (2001) and the effects of these weaknesses on the organization. It will follow the outcome from the first survey. The survey has been conducted amongst the participants (n = 29) in the budgetary process to analyse the weaknesses. Chapter 4.3 will elaborate on these impediments by measuring them against the alternative budgeting techniques. The response on the first survey will rank the weaknesses. The second survey (n = 3) and interviews have been conducted amongst the Executive Committee to analyse whether it is possible to go to Beyond Budgeting. The outcome is important as it also gives a base on how other alternatives can be successfully managed. Chapter 4.4 will accommodate a set of controls in the budgetary process.Chapter 4.5 will conclude this chapter by looking at the weaknesses in the budgetary process and added value of the alternatives and the controls.

4.2 Organizational process and problemsMarsh has become an incoherent organization with self-interested organizational participants who are insufficiently steered to work towards the organizational goals. Their inability to comply with the budget has far reaching effects on the organization. The unrealistic targets make it more difficult to create a motivated workforce. Marsh’s performance culture is lagging and this is noted throughout the organization itself.

A survey was conducted containing 25 questions about the twelve most cited weaknesses by Neely et al. (2001) to expose the weaknesses that are currently in Marsh’s budgetary process.27

1. Budgets are rarely strategically focused and often contradictory.Marsh’s budget has been agreed for 2011-2013. Though, 2012 and 2013 are set as estimates for profitability. There is no detailed plan on how to achieve the profitability (i.e., via revenue growth and/or cost control). Hence, the scope is mainly focused on the coming year.This is mainly due to the importance of the current year revenue and profits. The myopic view creates an imbalance towards the longer term business health. The corrective 27 Please note that the percentages contain rounding errors. Therefore, the sum of the choices might show a slight deviation from 100%.

actions to enhance the short term goals are very time-consuming which leaves insufficient time for the organization to create longer term opportunities.

The statement that the budget is rarely strategically focused and contradicts to the long term perspective corroborates the outcome of the survey below.28

The achievement of the fixed short-term related goals is a priority without contemplating what would create added value for the organization and accomplish a higher customer satisfaction.

n = 29 Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budget lets me to aim on customer service. 20,7% 41,4% 13,8% 13,8% 0,0%The budget allows me to create added value for Marsh (e.g., obtain higher revenue than budgeted).

13,8% 27,6% 37,9% 10,3% 3,4%

The budget allows me to act on a longer term (i.e., longer than one year). 20,7% 37,9% 17,2% 17,2% 0,0%

Figure 4.1 Statement on the strategic focus

2. Budgets concentrate on cost reduction and not on value creation.Marsh uses forecasts to reflect current (market) conditions and to steer towards their targets. Though, the forecast model does not follow the strategic plan and it does not take all corrective actions into account due to the uncertainty of the achievement of those actions.The myopia leads to cost control in order to attain the targeted NOI. It becomes more fixated when the targeted revenue is insufficiently achieved. Budget cuts make managers are incommensurately rewarded for spending less than expected. Therefore, the aim for cost reduction misses its target.

3. Budgets constrain responsiveness and flexibility and are often a barrier to change.The budget is a fixed performance contract for the full year. There are no possibilities to amend the budget to reflect the market conditions, because firstly the budget is linked to the incentives. The inability to change effectively mitigates the incentive to outperform the budget. Secondly, EMEA looks at the performance based on the given budget and does not allow for any changes in the budget (unless they are substantiated and fall in the first quarter). Therefore, the aim becomes to beat the budget instead of outperforming the market and competitors. This restrains the possibility to improve.

28 Please note that respectively 10,3%, 6,9% and 6,9% of the respondents have chosen “not applicable” at question 1,2 and 3 due to the nature of their responsibilities.

The majority of the respondents disagree that budget is a method to exploit continuous improvement and success which is mainly driven by the response of sales / account managers and brokers. It is interesting that the view of Finance (e.g., Executive Committee, Finance department) differs as 13,8% (strongly) agrees.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budget allows me to carry out changes when these occur. 6,9% 37,9% 17,2% 34,5% 3,4%

Figure 4.2 Statement on the responsiveness and flexibility of the budget

4. Budgets add little value, especially the time required to prepare them.Marsh’s budgetary process starts in April when the Finance department decides on how to budget will be implemented. In the previous years, several methods were handled; it was either based on policy level or account level. The analytics is impacted as it requires detailed analyses per (sub-) segment. In order to budget on lower (or lowest) level demands more time to prepare for each segment and thus less time for the Finance department to analyze the budget. Secondly, the time constraint makes the relevance of the budget to become more saturated within the organization and the goal to stimulate creative thinking to generate value is undermined.The respondents agree that the budgetary process takes too much time and it affects their other responsibilities during the budgetary process.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budgetary process gives me enough time to evaluate the budget. 6,9% 55,2% 20,7% 17,2% 0,0%

Figure 4.3 Statement on the budget’s time frame

5. Budgets are time-consuming and costly to put together.The budgetary process is time-consuming for the management in which from August to October evolves around the preparation of the budget. The management agree that they do not have sufficient time to focus on strategic queries that are eminently important or being able to quickly anticipate to recurring customer issues.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budgetary process is time-consuming and therefore I have insufficient time for other business related activities.

0,0% 24,1% 27,6% 34,5% 13,8%

Figure 4.4 Statement on the budgetary time frame

6. Budgets are developed and updated too infrequently, usually annually.The budget is a static mechanism that is not updated during the year. It is a one-off exercise to determine next year’s performance which reflects current market conditions. The changes that occur after the budget has been set and can potentially impact the budget are not taken up in the budget. It is acknowledged by the management that failing to address these changes can make a budget irrelevant before the year has even started.

7. Budgets are based on unsupported assumptions and guess-work.The CSR budget is based on last year’s CSR plus an addition for New and Expanded Business and is insufficiently taking the strategic plan into consideration.

Each (sub-) segment-leader will discuss with every account / sales manager their account and next year’s attainment of revenue. It is an open process in which the renewal based revenue is determined via dialogue. New and expanded business targets are assigned by the manager, but often are not agreed in dialogue. The target attainability depends on the achievement of the segment. Unfortunately, this can lead to unrealistic targets.29

The spread in the first question matches the fact that renewal is part of the discussion and new/expanded business is mostly appointed top-down. Therefore, the account / sales managers are often drifted to agree that the budget is determined by their manager. New and Expanded Business targets are according to the sales / account managers not pertinent attainable (respectively 41,4% and 31% disagrees). The majority of the respondents overall agree that the budget is in accordance with the agreements between the senior management and business level.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budget is determined by my manager. 30 0,0% 31,0% 27,6% 13,8% 24,1%

I can fully substantiate my budget. 0,0% 13,8% 27,6% 44,8% 13,8%

Figure 4.5 Statement on the foundation of the budget

8. Budgets encourage ‘gaming’ and perverse behaviours.

29 Example 1: A sub-segment leader received a target from the segment leader for New and Expanded business. A part of the target was allocated in dialogue with his account / sales managers. Therefore, the latter group got tight, but attainable target. The rest was given as a target to the sub-segment leader. This was twenty times higher than the average target and was completely unable to achieve that target.Example 2: Other sub-segment leaders proportionally gave targets to their account / sales managers and fully miss the purpose of having “tight, but attainable” targets.30 One respondent (3,4%) choose not applicable due to the nature of respondents responsibilities.

The budget is based for the year and does not account for any long-term actions which are presented in non-financial KPI’s. It misses the link with the organizational goals.The focus is on next year’s financial achievement and instigates to act towards self-interest as it aims to beat the budget. The respondents agree that they will try to get a better attainable target, i.e. they will try to create budget slack.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

During the budget negotiations, I will try to realize a better attainable target.31 3,4% 6,9% 24,1% 41,4% 13,8%

I will try to achieve my bonus, even if it is not in the interest of Marsh.32 72,4% 24,1% 0,0% 0,0% 0,0%

Figure 4.6 Statement on dysfunctional behaviour

It is not a surprise that the respondents believe that they act ethically towards the attainment of their targets. Unfortunately, this is not always the case. There are several examples of game playing.

SmoothingA manager iniquitously records an accrual at year end to reflect the current year’s performance. Due to the accrual, the performance is sufficient to attain the target. The adverse consequence can be that next year’s target is too high due to the inclusion of the accrual. Hence, a gap in the budget arises when the accrual is reversed.

A manager can also decide not to book any sales at year end when it is certain that the target will not be achieved. Sales are accounted in the next year and are not budgeted for. Hence, the manager starts with a “plus” in the following year.

BiasingInitiatives can be budgeted too opportunistically. It is sometimes known that a budgeted target of a certain initiative will not be met. The decision to keep this result in the P&L account biases the outcome, but in the end is only procrastination.33 The manager suffers a loss of face and it is also a signal towards EMEA that Marsh is not in control of the budget and is therefore very likely to underperform. EMEA is very strict towards attaining the financial targets as it treasures MMC’s values (the P&L accountability is part of MMC’s value “execution”).

9. Budgets strengthen vertical command and control.

31 Three respondents (10.3%) choose not applicable due to the nature of respondents’ responsibilities.32 One respondent (3,4%) choose not applicable due to the nature of respondents responsibilities.33 This is also reflected in the 2010 results (please see figure 2.7) in which in the last quarter a major initiative was taken out of the P&L account. This has lead to a drop in revenue and NOI.

The budgetary process is a bottom-up and top-down approach to which senior management uses the budget to evaluate the organization. Initiatives by subordinates to add value to the organization still are performed.The respondents mostly agree that they can act to their personal best in order to add value to the organization. Senior management let the subordinates run their part of the business. The preset conditions are not fixed, but are discussed in dialogue. Therefore, subordinates are motivated to achieve their budget.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

The budget allows me to give a personal interpretation to the activities in order to achieve the budget.34

10,3% 20,7% 10,3% 44,8% 6,9%

I am motivated to achieve the budget. 0,0% 6,9% 10,3% 51,7% 31,0%

Figure 4.7 Statement on top-down structure

10. Budgets do not reflect the emerging network structures that organizations are adopting.Senior management empowers the subordinates. Subordinates can better influence the customer satisfaction and increase the value for the organization. The process is controlled by the senior management, but keeps the dialogue.

11. Budgets reinforce departmental barriers rather than encourage knowledge sharing.The cooperation between segments and lines of business is ample according to the respondents. Though, time and service and thus revenue are lost due to the internal bickering between segments on the appointment of the more profitable accounts. As a result, insufficient synergies between segments have been created.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

I share my knowledge with one or more segments to achieve the budget.35 3,4% 13,8% 3,4% 48,3% 20,7%

I share my knowledge with one or more lines of business to achieve the budget.36 3,4% 3,4% 3,4% 58,6% 24,1%

Figure 4.8 Statement on departmental barriers

12. Budgets make people feel undervalued.

34 Two respondents (6,9%) choose not applicable due to the nature of respondents’ responsibilities.35 Three respondents (10,3%) choose not applicable due to the nature of respondents’ responsibilities.36 Two respondents (6,9%) choose not applicable due to the nature of respondents’ responsibilities.

The respondents are divided on the recognition of their efforts. Marsh arranges the process not only as a top-down approach. The opportunity seeking and personal interpretation of adding value is encouraged throughout the organization.The reason of the division is mainly due to the managers lack good people-management skills.

n = 29Strongly disagree

Disagree Not agree, not disagree

Agree Strongly agree

I receive sufficient recognition for my efforts to achieve the budget. 10,3% 24,1% 31,0% 24,1% 10,3%I can sufficiently act to my own interpretation to exploit my ideas that support the organization.

0,0% 6,9% 34,5% 41,4% 13,8%

Figure 4.8 Statement on freedom of act and praise.

4.3 Analysis of best practiceThere have been several budgeting techniques developed to mitigate the weaknesses the traditional budgetary process. Each alternative will be benchmarked against the current budgetary process in order to see which of the alternatives will be the best solution to Marsh’s current budgetary process.

The first survey requested the respondents to indicate which of the following subjects were most important to them. They were allowed to choose more than one subject.37

Other important aspects (e.g., organizational structure, allocation of resources, possibility to decentralize) that are driven by the Executive Committee will be substantiated by the outcome of the second survey.

The relevant subjects will be discussed separately within the scope of each alternative, but this can deviate. Any remaining subjects that relate to the design (determination of budget) or behavioural aspects (e.g., freedom to act, share of knowledge or recognition) of the budgetary process and are not specifically designed for the alternative will be discussed as a whole. This way, each alternative will be assessed on the possibility to accelerate efficient and effective processes for planning and control and decide how the organization can move to a more decentralized environment in which the organization can steer towards the organizational goals without radically changing the organizational structure.

Subject Response

#

1. Time frame budgetary process 18,9% 212. Focus of the budget on the (e.g., revenue, customer-) strategy 16,2% 183. Relevance of the budget during the year (possibility to amend the budget to market conditions)

15,3% 17

4. The link between the budget and incentives 13,5% 155. Freedom to act 9,0% 10

37 None of the respondents used the possibility to indicate a different subject than the listed subjects.

6. Dialogue for the determination of the budget / target 8,1% 97. Share of knowledge 7,2% 88. Ethical behaviour 7,2% 89. Recognition 4,5% 5

Figure 4.9 Weighted index of the problems

4.3.1 Activity Based BudgetingActivity based budgeting (ABB) is distinguished by the focus on two elements; market strategy (external) and the operational strategy (internal). ABB balances the capacity (supply versus demand) and operational requirements which in effect highlight inefficiencies and other bottle necks. The activity-based model constitutes a horizontal process view instead of the vertical orientation of the organization. Though, the activity-based model requires a cultural and organizational change in order to fully benefit from its advantages.

The activity-based model is the opposite of the traditional product-to-market and departmental focus as Marsh currently manages. Marsh cannot drive the organization with separate activities as most are interdependent (e.g., a client can have multiple insurances which require different lines of business) and require specific knowledge on the processes and activities. Also, the insurance industry in which Marsh operates, does not innovate much.38 A reiterating process on defining KPI’s is therefore not necessary. To keep all information on activities and processes up-to-date is a money- and time-consuming exercise.

ABB is focused on the strategy which is preferred to the Marsh’s current budgetary process. It is not indisputable that ABB is a better solution for following the strategy that Marsh currently handles. The latter is mainly due to the fact that Marsh performed an organizational change and nowadays does not focus on the different segments, but on the need of a customer and to achieve efficient processes. This will aid in achieving the budgeted revenue and/or profitability and customer satisfaction.According to ABB, the budget is based on the expected demand. It still is an estimate what next year’s P&L account will look like. This process is the same as the current process to which estimates are made. These estimates will not be amended during the year. Therefore, the relevance of the budget during the year is not neutralized by the alternative.

ABB can be integrated with other performance measurement systems such as the balanced scorecard due to the use of KPI’s. The balanced scorecard is a method to link the incentives to the performance of the organization.

38 Insurance products (e.g., casualty or liability) do not deviate much as it is a (often yearly) risk assessment.

However, Marsh already uses the balanced scorecard. Marsh introduced the balanced scorecard in which mostly financial KPI’s regarding the current budgetary process are recorded. 39

ABB is a solution for a better allocation of resources. It reflects more on capacity and where any inefficiencies or bottleneck emerge which can lead to enhanced decision-making. The allocation will also lead to less game playing as better information is at hand.Though, the new organizational structure let Marsh to become more internally and externally focused. Another change in the structure to reflect the activities is not supported by the executive committee. ABB is a time and money-consuming alternative which does not provide the solution to Marsh’s problems.

4.3.2 Zero Based BudgetingZero based budgeting (ZBB) does not look at the budget in retrospect. Instead, it starts from scratch. All costs are assessed on its added value to the organization. This will avoid that any inefficiencies will become part of the budget.The strong focus on the allocation of costs can lead to improved targets and decision-making, but unfortunately it does not take the budgeted revenue into account. The latter is a major part of the Marsh’s budgeting process.

It is beyond dispute that ZBB becomes very money and time-consuming if Marsh has to budget costs from scratch every year which is the opposite of the survey’s outcome. ZBB does not look at the strategy and how the budget can be turned into a derivative of the strategy as it does not look back and assess if Marsh is ‘on track’. Nor does it tell anything about decentralizing the organization or how dysfunctional behaviour can be managed.Groot (2007) argued that ZBB can be used as a support for the organization in every 3-5 years to assess the contribution of the costs to the organization. Therefore, ZBB can be (at most) an addition to the current budgetary process on costs.

4.3.3 Rolling BudgetsMarsh currently uses the budget and forecast to predict the year end outcome. Every quarter the forecast is updated with the latest information to reflect the current year’s performance. Most insurance products have a contractual period of a year and therefore Marsh has not looked at the possibility rolling budgets can give.

39 E.g., each part of the client service revenue will have a target for the account manager and broker.

The advantages of using rolling budgets are that the activities for creating next year’s budget are spread over the year. The quarterly updates on the budget can be performed for a rolling year instead of the current year only. Budgeted revenue can be budgeted (forecasted) and would take less time as only one quarter is done at a time. The consequence is that the budgetary participants will have more time to evaluate the budget on accuracy and completeness, but also will be able to focus on other activities during the month in which the budget is determined.Secondly, rolling budgets can integrate Marsh’s strategic perspectives and reflect financial and environmental changes. The information can be updated during each revision of the rolling budget. This decreases information asymmetry and therefore game playing. The increase of the reliability will enhance decision-making and it can therefore better allocate resources during a specific period. This reduces the short-term orientation and becomes a better tool for planning and control.

The role of rolling budgets is not fit for performance measurement. Rolling budgets are used as an information tool to communicate, plan and control. Marsh can keep the Balanced Scorecard as the performance measurement systems with the KPI’s that have been agreed during the budgetary period.

4.3.4 Profit PlanningProfit planning are the short and longer term prognoses on revenue and expenses. It indicates whether sufficient profit, cash flow and other means of economic value added is attained.

Profit planning is already in use at Marsh. Marsh has budgeted for 2011-2013. 2012 and 2013 are the plans for profitability, but there is no formal plan on how to achieve the profitability, because of high volatility in the industry (e.g., average premium or commission) and consumer behaviour (risk appetite of the client). Profit planning is used as an indication for the targeted growth in top and bottom-line. It does not add value to the budgetary process as it lacks the opportunity for enhanced decision-making on the available information. Too many factors are missing to contribute as an alternative.

4.3.5 Beyond BudgetingBeyond budgeting advocates the abandonment of budgeting as the advantages do not outweigh the disadvantages in order to have a good functioning organization. According to Beyond Budgeting, a good functioning organization is achieved by decentralizing the organization and to create an adaptive performance management process. The former proposes to eliminate fixed performance contracts and replace them with relative

performance contracts and the latter proposes to create more responsibility on lower levels in the organization.Beyond Budgeting formed twelve points to which they argue that Beyond Budgeting is a better solution than the traditional budgetary process. Points 1-6 relate to go from fixed budgets that are fixed performance contracts to adaptive processes which are relative performance contracts. Points 7-12 relate to central control that should be self managed teams.

1. Fixed targets should become relative targets: relative targets are often benchmarked against competitors (external) or between departments (internal) to stretch changes. Marsh hardly uses relative targets and, according to the second survey; introducing relative targets can mildly aid the organization.The focus is mainly internally driven in order to make the organization financially healthy again and create a great place to work by running efficient processes and to stimulate teamwork. At this moment, relative targets can impede this process.

2. Fixed incentives should become relative rewards: rewards would be based on subjectivity and should incorporate the differentiating circumstances that have occurred. It should also base the incentives on group performance rather than individual performance.

Marsh is not able and willing to adjust the targets according to the circumstances. Though, the organization is in need of a steady method of evaluation. A revision is necessary, but it cannot be based on subjectivity as this can lead to a distorted performance evaluation.Marsh should base their rewards based on individual and group performance. There are ample examples of companies who have successfully introduced a performance evaluation based on group and individual performance (e.g., Unilever). The group performance is necessary to stimulate synergies.

3. Fixed planning should become continuous planning: continuous planning would lead to an increased focus on value creation. It regards a longer period than one year. This is an improvement to the current situation where the aim is to meet the budget.

4. Allocation of resources should become resources on demand: The new organizational structure has lead to a different allocation of resources. Costs are yearly allocated to where it is necessary. There are no indications where Marsh is under- or overspending in order to retain the same budget. Marsh looks at the profitability to determine whether the revenue and costs are in line. The latter is assessed by the executive committee.

5. Central coordination should become a dynamic coordination: Marsh’s value “colleagues” is to empower employees. According to the second survey, the decentralization is sufficient (no further decentralization is needed). The responsibility lies with each organizational participant. The survey indicated that the budgetary process is partially top-down and bottom-up and the budgetary participants can influence the setting of the budget and feel that they are allowed to work to what they think is best. Hence, the organization is flexible enough for lower level employees to be valuable for the organization.

6. Variance controls should become relative KPI controls: To put relative targets and controls does not currently work for the organization and therefore relative KPI’s would also not add value yet. It should be Marsh’s goal to work towards relative targets in the future as it would increase the internal and external competitiveness.

7. Mission statements should become principles and values: The mission statement is not a primary target that is communicated throughout the organization. Marsh acts more to the principles and values of the MMC organization. 8. Focus on internal targets should become focus on competition: Responsibility and trust are not up to standard to create internal and external benchmarks. It can imbalance the new organization due to the focus on product- and service levels.Once the organization is internally aligned, Marsh should be able to focus more on competitors.

9. Top down controls should become freedom to decide: The response on the surveys conclude that the budgetary participants feel that they have enough freedom to decide on how to add value to the organization. The budget may remain a fixed plan, but initiatives to improve e.g., the customer strategy can still be arranged.

10. Budgets and ‘red tape’ should become capability to act: Decisions are made to the information available in the budget (e.g., what is the targeted revenue per client). Relevant information is used at that time to make the best decision possible. Excluding this from the budget would not improve Marsh’s situation.

11. Focus on ‘please the boss’ should become focus on ‘please the customer’: The new organization focuses more on customer needs. This will be supported now by efficient processes. Customer satisfaction is main priority, because low customer satisfaction would mean low retention. This cannot be balanced by new and expanded business. Therefore, the new organization will lead to improved customer outcomes.

12. Manipulated information should become ethical information: manipulated information exists due to dysfunctional and opportunistic behaviour. Communication and empowerment would lead to the share of information and therefore mitigates the risk of information asymmetry.It is compulsory for Marsh to get one version of the facts from the system and communicate this to each team. Senior management in accordance should let each team regulate their performance.

4.3.6 Overview of the alternativesMarsh does not want to renew the organizational structure again due to the recent change. The focus is firstly to internally align the organization by getting all processes and organizational participants to work more efficiently and effectively. We can conclude that due to the nature of the industry and Marsh (as part of EMEA) needs budgets to evaluate the performance. Marsh expects that abandoning budget would lead to the loss of strategic control.

The weaknesses that have been spotted in the budgetary process can be addressed. We can conclude graphically which alternative provides the best solution for the weaknesses in Marsh’s budgetary process.It is no surprise that Beyond Budgeting scores best. The relative performance and empowering the organization make Marsh more agile to respond to the market signals and customer needs.

# WeaknessABB

ZBB RB BB

1 Time consuming - - + -/+2 Incorrect allocation of resources -/+ + -/+ -/+3 Insufficient control mechanism -/+ -/+ -/+ +4 Creates a strong focus on target achievement - -/+ - +5 Creates insufficient space for decentralization -/+ - -/+ +6 Encourages dysfunctional behaviour -/+ - -/+ -/+7 Focuses on own activities -/+ - -/+ -/+8 Looks at internal activities only -/+ - -/+ +

- : Alternative is not a solution to the weakness.-/+ : Alternative might be a solution to the weakness, but depends on implementation.+ : Alternative provides the solution to the weakness.

Figure 4.10 Overview of the alternatives

4.4 Overview of actions and controlsThe budget is a control mechanism. Management control is necessary to estimate the likelihood of the expected outcomes. Lack of good management control is considered

when there is a poor performance. Good management control is characterized when it is future oriented and objectives-driven, and it creates alignment for the organizational participants to work in the best interest for the organization.

There are several budgetary controls to achieving the budget. The decision on the certainty of achieving the budget also depends on the tightness of the budgetary controls (van der Stede, 2001; Merchant and van der Stede, 2007).

Marsh already uses tight budgetary control, because it distinguished by low tolerance for budgetary variances, detailed budget reviews (i.e., policy level) and high importance on achieving the budgeted targets on a short-term horizon (van der Stede, 2001).Though, the budgetary controls are insufficiently anticipated in the organization.

Results controlResults control involves motivating the budgetary participants to generate the outcome that is in the interest of the organization. The following steps need to be taken:

1. Define which results are desired and can be measured. E.g., growth, profitability, customer satisfaction, number of client visits.It is important the results are based on financial and non-financial KPI’s. The latter will help to translate strategic goals into operational goals which affect the (long term) business health and mitigate the risk of being managed-by-numbers.

2. Measure the outcome.3. Set performance targets. The targets can be based on the KPI’s and should be

tight, but achievable. This will affect behaviour as it motivates and allows for self-reflection regarding their performance. It is important that the targets can be significantly influenced within the scope of the organizational participant’s responsibility. This method will keep the organizational participants accountable for their actions.

4. Provide monetary and non-monetary incentives that lead to the desired results.

Tight results control can only be achieved when the budgetary participants understand the objectives and when the KPI’s are SMART; Specific, Measurable, Attainable, Relevant and Timeliness. Communication and congruence are important as it will ensure that behavioural problems are not likely to occur.

Action controlAction control is to ensure that the budgetary participant operates in the organization’s best interest by making the participant’s actions the focus of control.

1. Budget reviews: the scrutiny is necessary regarding the planned actions to achieve the budget. This is a form control Marsh currently handles.

2. Action accountability: To make the budgetary participant accountable for their actions. This requires the communication and observation of what is (un-) acceptable and rewarding good actions or punishing actions that are not acceptable..

Tight action control can be achieved by regularly detailed budget reviews by the manager with whom the budget has been agreed with. Tight control on accountability depends on the level of acceptance. Marsh should have a more tight action accountability control to focus more on what is adding value to the organization and steer the budgetary participants towards the optimal level of behaviour. Therefore, close action tracking is compulsory, but it should not interfere with the ownership. I.e., empower the budgetary participant, but observe closely and communicate often.

Cultural controlCultural control involves the stimulation of reciprocal monitoring. It is a form of group pressure on participants which actions differ from the organizational norms and values.Group rewards will encourage cultural control as it instigates teamwork, communication and share of knowledge to work towards the attainment of the budget.

4.5 ConclusionThe budget and the construct of the organization in the past years have lead to insufficient planning and control in the organization. This resulted in negative financial results, inefficient processes and self-interested organizational participants.

Marsh uses the budget as its main control mechanism. This chapter has looked at the weaknesses in the current budgetary process and which improvements can be made. An overview of the weaknesses in Marsh’s budgetary process has been presented.

The most notable weaknesses are the time frame of the budgetary process, focus of the budget on the strategy (ability for long term thinking), the relevance of the budget during the year and the link of the budget to incentives. Other weaknesses relate to the behavioural aspect of budgeting. The budgetary participants find that freedom to act, share of knowledge, budgetary participation and recognition are important factors as well.Even though, some weaknesses are addressed in lesser terms, they are still intertwined. E.g., the budgetary participants find incentives important when it is linked to the budget. Incentives comprise of monetary incentives and non-monetary incentives. The budgetary participants find monetary incentives more important than non-monetary incentives. Still, non-monetary aspects such as praise and recognition are appreciated.

Alternative budgeting techniquesAlternative budgeting techniques have been developed to overcome these weaknesses. Five alternatives have been benchmarked against the traditional budgeting process; activity based budgeting, zero-based budgeting, rolling budgets, profit planning and beyond budgeting.

Activity based budgeting creates a focus on market and operational strategy. It determines the expected volume and price of the product and services. The determination of the demand would improve the allocation of the resources to activities.In order to function properly, ABB requires an organizational change that would lead to a focus on activities rather than products and departments. Marsh’s handles product-to-market scenario which means that allocation to activities would unnecessarily complicate the organization due to the interdependencies of the lines of business. Besides, the new organization has been set and Marsh will not alter the organization again in order to comply with the new form of budgeting.The weaknesses on the time constraint of the budgetary process and focus on target achievement show that ABB does not aid the current budgetary process.40

Zero-based budgeting is cost-based. ZBB is a technique that starts for the beginning, i.e., it does not look to the budget in retrospect. All costs are discussed on its purpose and value to the organization. It is effective in cutting unnecessary costs, but it is too time-consuming and does not look at the other effects (e.g., behaviour related issues, incentives) that budgets have.ZBB can only help Marsh every three to five years when the orientation of the organization is discussed. Therefore, ZBB is hardly used for cost control. This technique does not aid Marsh’s budgetary process on the short term.

Rolling Budgets do not require a fundamental change regarding its budgetary process. The process is nearly the same, but it will no longer be a one-off exercise. The one year time horizon will be kept in order to retain the scope on the longer term objectives. Rolling Budgets will be updated every quarter to include all available information. This will provide a better forecast for the year end and for the allocation of resources during the time horizon. This will decrease myopia and information asymmetry and increase the effectiveness of decision-making in advance.

40 ABB argues that a new ABB system has to be built, but another possibility is to amend the current process by better link to the capacity planning systems (Hansen et al., 2003, p. 105). Marsh does not have a fully integrated planning system. Therefore, this part has not been elaborated.

Rolling budgets cannot be maintained for performance evaluation as it too difficult to create targets. Marsh can keep the Balanced Scorecard as the performance management systems. Therefore, rolling budgets can add value to the organization without major adjustments to the organization. It will still be in line with Marsh’s current strategy.

Profit planning is already in use. The strategy predefines long-term financial objectives. Therefore, Marsh budgets three years in advance for the long term profitability. Marsh does not have a predefined plan on how to achieve the profitability; it looks into a crystal ball. The missing plan is difficult to compose due to the unpredictability of the industry and the risk appetite of the consumer. It gives no added value to the current budgetary process, because insufficiently focuses on the outcome of long-term thinking.Profit planning can help in support of rolling budgets. It will give direction whether the appointed targets are to be achieved in the forthcoming year.Beyond Budgeting would be a good alternative for Marsh’s budgetary process. The signals indicate that Marsh is able to become a more devolved organization and able to create adaptive processes, but not at this moment.The new organization has to be set up and all organizational participants should understand the role of the new organization and his or her place in the new organization. The new way of working should lead to a more agile company with the financially healthy base. In order to achieve this situation, Marsh firstly needs to create synergies by making the performance culture up to standard which needs efficient processes and teamwork. Relative performance contracts do not aid directly to increase teamwork and the focus customer satisfaction.The budget can aid to this situation. Hence, Marsh should amend the budgetary process and not abandon the budget.

Tight budgetary controlThe budgetary process is in need of enhanced tight budgetary controls. This is to be achieved by the implementation of results, action and cultural controls.These controls will aid in the clarification and communication of the organizational goals into the targets for the budgetary participants and will be able to perform controls on the individual actions which would lead to behaviour that is in the interest of the organization.

5 Conclusion and Recommendations

5.1 IntroductionWhen the business is not going well, people will quickly shout that the strategy is not working and that communication is lacking. It is a quick assessment of the problems.

Marsh’s problems relate to the ineffectiveness of the budget and the lack of a good performance culture. Marsh uses the budget as the main control mechanism and as the performance evaluator. A number of problems have been identified that have lead to unattainable budget and an ineffective performance culture:

The realistic estimation of renewal revenue was insufficient according to the senior management and was therefore compensated in new and expanded business to show growth;

Insufficient budgetary participation of the Executive Committee; Insufficient communication between sales / account managers and brokers

resulted that available information was missed that could help determine budgeted revenue. This has lead to too much opportunistic behaviour in the budgeted revenue;

Undisciplined behaviour had lead to the fact that hardly anyone want to feel accountable for the achieved results. Still, everybody think that they performed well and therefore contributed to the organization;

The complexity of the system has lead to unreliable data; Cuts in back-office personnel have lead to loss of knowledge and inefficient

processes.

The scope of these problems does not only entail the budgetary process. It does give an overview of impediments in the organization which has influenced behaviour in the budgetary process.

Two surveys have been held. The first survey contained questions regarding the weaknesses found in the budgetary process according to a report by Neely et al. (2001). The second survey contained questions whether Marsh was able to implement Beyond Budgeting. The survey revealed information that has been used to determine the possibility of the other budgeting techniques. The latter has been discussed in chapter 4 and will therefore not be summarized. The surveys did contribute to the main findings.

5.2 Summary of main findingsThe first survey spotted the following weaknesses in Marsh’s budgetary process:

The budgetary process is too time-consuming. The budgetary participant does not have enough time to evaluate the budget and cannot sufficiently focus on their own tasks;

The budget is not strategically focused. E.g., the link to the customer strategy is not fully represented;

The budget does not allow any changes to market conditions during the year; The budget encourages dysfunctional behaviour. The unrealistic targets

encourage gaming and to create budgetary slack in order to attain the incentives; There is insufficient congruence on the budget and communication; Insufficient non-monetary incentices, i.e. the soft controls.

The following steps are required in order to mitigate the addressed weaknesses in the budgetary process

1. Incorporate rolling budgetsRolling budgets will help spread the budget over several quarters instead of a one-off exercise whilst the time horizon remains one year. This means that every quarter an update for the budget’s next quarter is required. The advantages are as follows:

Less time-consumingThe amount of work is spread over the quarters. The budgetary participants will have sufficient time to evaluate the budgeted quarter and will be able to work on their other duties. Also, the budget can still be arranged on policy level. This will help the financial team to track any mishaps in the process and/or results.

Incorporate information on market conditionsThe revision of the budget will lead to an up-to-date budget with the latest information. Any adjustments can quickly be made on the previous quarter. This way the rolling budget always is up-to-date.

Create longer term focusThe rolling budgets focus on a full year and not only on the fiscal year. Information can be gathered whether Marsh is still in line with the achievement of current year’s results and assist them in planning for next year.

Mitigate dysfunctional behaviourThe continuous update of the budget can lead to the share of information between the manager and subordinate. This might decrease the information asymmetry and therefore budgeting gaming and/or slack.

2. Change budgeting styleMarsh is a typical example for using the budget constrained style. The subordinates are assessed by their managers based on their result versus the budget. The tight budgetary control leads to myopia, because the aim is to achieve the yearly budget. This misses the goal on what is adding value to the organization. The managerial budget emphasis on the accounting measures (e.g., revenue growth, profitability) and budget participation can lead to budget slack.

Marsh should move to a more profit conscious style instead of the budget constrained style. The profit conscious style focuses primarily on the longer term general effectiveness of the business.The evaluation is based on the budgetary information, but the budget functions more as a guideline. Overspending is evaluated with regard to the longer term objectives. Lower revenue obtainment (new and expanded business) should relate to customer satisfaction and a higher retention level.Positive communication between managers and subordinates can lead to a reduction in dysfunctional behaviour. The subordinate feels more confident in sharing information and less pressure to create budgetary slack (Dunk, 1993).

Conclusively, Marsh should assess the organizational participants on financial and non-financial KPI’s. The KPI’s will form the targets in order to achieve their incentives. The targets should be tight, but attainable. The motivation and commitment will be high to attain the target and the organizational participant would go that extra mile to achieve their target.It is mandatory that incentives are linked to individual performance and group performance. This method will help to further develop synergies such as teamwork and efficient processes.

3. Coordinate and communicateCommunicate regarding the relevance of the budgetary process. The organizational participants need to be informed on the added value of the budget in relation to the organizational goals and how the company benefit if the budget is met.An accurate budget affects the participants as it influence the financial health of the company and thus, their compensation.The dialogue will help managers to share ideas and initiatives which are in the interest of the organization and it will create commitment. Therefore, budgetary participation is extremely important.

4. Create “One Stop Shop”.

The Finance department is in charge of the financial planning and analysis. They should be the single point of contact for delivering the budget and financial results. This will keep one version of the facts which can be communicated throughout the company.

5.3 DiscussionThe tightness of the budgetary controls depends on the executive committee idea on how the organization should participate, but also on what the side effects may be and what the incurred costs are. Therefore, personnel controls have not been discussed.The basis of the tight controls is beneficial to the range which determines the organizational success.

5.4 LimitationsThis thesis entails the budgetary process and its effects on the organization. There are factors that relate to the performance culture of the organization which does not touch the topic of this thesis. Though, the effects have an indirect relationship to the budget. The budget is offset against the organizational performance. If the performance is better, motivation will generally higher.

The manager’s evaluative style is also important, because factors such as environmental or task uncertainty, strategy and education affect other organizational participants. The relationship between the evaluative style and budgeting has not been fully addressed.

5.5 Possibilities for further researchBudgetary control is part of the overall management control. It would be an interesting topic for Marsh to see how the current management control systems can be updated that reflects the current organizational structure and performance.Secondly. the performance management can be topic as it would help Marsh to create a good (or better) functioning performance management systems (e.g., Balanced Scorecard, EVA) or how performance relates to the management control systems (e.g., Simons’ levers of control).Thirdly, budgets relate to behaviour. This has been extensively discussed in the Reliance of Accounting Performance Measures (RAPM). It would be of interest how the economical, psychological and sociological factors relate to Marsh’s budgetary process. It would aid in defining an optimal approach in the behavioural aspects regarding the budgetary process in relation to the performance evaluation (Hartmann, 1998; Noeverman, 2007).

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Appendices

Appendix A: Criteria for quality of research design

Test Description of test Case Study TacticPhase of

research in which tactics

occur

Construct Validity

Establishing correct operational measures for the concept being

studied

- Use multiple sources of evidence- Have key informants review draft case study report

Data collection

Internal Validity

Establishing a causal relationship, whereby the

certain conditions are shown to lead to other conditions, as distinguished from spurious

relationships

Use logic models Data analysis

External Validity

Establishing the domain to which a study's findings can be

generalizedUse theory Research

design

ReliabilityDemonstrating that the

operations of a study can be repeated with the same results

Use case study protocol

Data collection

Appendix B: Simons’ four levers of control

Belief systemsBeliefs systems are the core values of the organization which are a set of organizational definitions (e.g., mission, vision and goal of the firm) that managers use to provide purpose and direction to their subordinates.The purpose is to provide inspiration and guidance for opportunity seeking. Beliefs systems will inspire subordinates to motivate them to pursue new ways of creating added value for the organization and provide guidance when strategic problems arise and help to determine the solution to this problem.

In the current competitive environment, the complexity of an organization has increased significantly. The (financial) information is better at hand and requires quick reassessment of the position. This makes the internal processes of extreme importance, because it should be managed efficiently and effectively and clear to all organizational participants. The continuous organizational change creates a commitment to strong values in order to create stability.

Managers work towards the organizational goals and empower subordinates for their opportunity to innovate for the organization. It is eminent that managers should transform subordinates from individuals with own expectations and desire for challenges to a coherent workforce. A coherent and motivated workforce will provide stability and increase the performance of and commitment for organizational goals. Therefore, subordinates should understand the values and purpose of the organization and how they can contribute to the organization.

Boundary systemsThe continuous search for opportunity seeking by organizational participants is motivated by the beliefs systems although the organization cannot handle all initiatives. Therefore, a limit is imposed by the boundary systems.

The limit creates an acceptable domain inferred from the business risks in which organizational participants can perform opportunity seeking activities and also provide accountability due to this limited scope.41

Managers empower subordinates to exploit and decide on new initiatives and in effect stimulate creativeness and maximize organizational flexibility. Due to the large amount of opportunities, limitations of the possibilities are necessary and therefore managers create an underlying barrier on what not to do. This enforces a method of decision making on what should be done. This process is stimulus for effective decision-making.

Interactive control systemsInteractive systems are not a unique type of a control system, because it can be used interactively. It becomes interactive when managers involve on all kinds of activities for goal achievement.

It is the managerial vision on how to cope with strategic uncertainties when implementing the business strategies and by personal decisions and control in order to perform, will lead to an interactive control system. The signals will instigate for an interactive debate and dialogue, and through learning contained from the interactive control system, effective measurement of the business strategy can be performed.

Control systems can only be used as an interactive control system if the following five conditions are applied (Simons, 1995, pp. 108-9):

1. The control system must require the re-forecasting of future states based on revised current information. A better understanding of changes in the business will allow organizational participants to better estimate the effects of the current plans and induces debate;

2. The information contained in a control system must be simple to understand. Debate must focus on the cause and effects which should be supported by unequivocal information;

3. A control system must be used not only by senior managers, but also by managers at multiple levels of the organization. Organizational integration and usage is necessary to be fully effective (e.g., budget);

4. A control system must trigger revised action plans. Revision will lead to the testing new ideas and strategies to adapt quickly in the industry;

5. A control system must collect and generate information that relates to the effects of strategic uncertainties on the business strategy. A control system, e.g., profit planning system must be in place to follow and coordinate (inter)action.

It is important that the technical design of these systems is in place, but more importantly, how managers effectively use these systems. Simons (1995, p. 5) refers to management control systems as “the formal, information-based routines and procedures managers use to maintain and alter patterns in organizational activities”.

Simons (1995) firstly refers to the formal routines and procedures as the plans and/or budgets used by the management. Secondly, the information-based systems are used for multiple purposes; 1) to define the domain for the opportunity searching, 2) a communication tool for plans and goals, 3) to monitor achievements of the plans and goals, and 4) to keep and to be informed on emerging developments. The information-based systems become control mechanisms when managers use these steps to provide guidance, i.e., to maintain or alter patterns in organizational activities.

Simons (1995) argued that managers use control systems to stabilize tensions between unlimited opportunity and limited attention, intended and emergent strategy, and self-interest and the desire to contribute. These tensions exist due to the desire to do what is right for the organization. Management control systems are used in this process for unlocking the potential by:

Specifying and enforcing the organization’s rules of the game. This is necessary to mitigate the risk of temptation or pressure;

41 The limit is accomplished by e.g., codes of conduct, strategic planning systems or operational guidelines.

Formulating and supporting clear target setting in order to bring focus and resources to the organizational participants who seek achievement;

Inspiring and motivating organizational participants to innovate; Triggering the share of knowledge.

Appendix C: Beyond Budgeting Principles

Appendix D: Statistical overview of surveyFunction Sample Response

Response rate Weight

Account / Sales Manager 20 14 70,0% 48,3%Broker 3 1 33,3% 3,4%ExCo / Finance / Sub-segmentleader / Controller 12 8 66,7% 27,6%Practice Leader 4 4 100,0% 13,8%Other (HR, budget administrator) 2 2 100,0% 6,9%Total 41 29 70,7%

Survey

Question FunctionStrongl

y disagre

eDis-

agree

Not agree,

not disagre

e AgreeStrongly agree

Not appicabl

e

The budgetary process is time-consuming and therefore I have insufficient time for other business related activities.

Account / Sales Manager 0,0% 6,9% 17,2% 17,2% 6,9% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 6,9% 3,4% 10,3% 6,9% 0,0%Other 0,0% 3,4% 3,4% 0,0% 0,0% 0,0%Practice Leader 0,0% 3,4% 3,4% 6,9% 0,0% 0,0%

Total 0,0%24,1

% 27,6%34,5

% 13,8% 0,0%

The budgetary process gives me enough time to evaluate the budget.

Account / Sales Manager 3,4% 27,6% 10,3% 6,9% 0,0% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 3,4% 13,8% 3,4% 6,9% 0,0% 0,0%Other 0,0% 0,0% 3,4% 3,4% 0,0% 0,0%Practice Leader 0,0% 10,3% 3,4% 0,0% 0,0% 0,0%

Total 6,9%55,2

% 20,7%17,2

% 0,0% 0,0%

The budget allows me to carry out changes when these occur.

Account / Sales Manager 6,9% 24,1% 0,0% 17,2% 0,0% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 3,4% 10,3% 10,3% 3,4% 0,0%Other 0,0% 3,4% 0,0% 3,4% 0,0% 0,0%Practice Leader 0,0% 3,4% 6,9% 3,4% 0,0% 0,0%

Total 6,9%37,9

% 17,2%34,5

% 3,4% 0,0%

The budget lets me to aim on customer service.

Account / Sales Manager 13,8% 13,8% 6,9% 10,3% 0,0% 3,4%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 6,9% 10,3% 3,4% 0,0% 0,0% 6,9%Other 0,0% 3,4% 0,0% 3,4% 0,0% 0,0%Practice Leader 0,0% 10,3% 3,4% 0,0% 0,0% 0,0%

Total 20,7%41,4

% 13,8%13,8

% 0,0% 10,3%The budget allows me to create added value for Marsh

Account / Sales Manager 6,9% 13,8% 20,7% 3,4% 3,4% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%

(e.g., obtain higher revenue than budgeted).

ExCo / Finance / Sub-segmentleader / Controller 6,9% 6,9% 6,9% 0,0% 0,0% 6,9%Other 0,0% 3,4% 0,0% 3,4% 0,0% 0,0%Practice Leader 0,0% 0,0% 10,3% 3,4% 0,0% 0,0%

Total 13,8%27,6

% 37,9%10,3

% 3,4% 6,9%

The budget allows me to act on a longer term (i.e., longer than one year).

Account / Sales Manager 6,9% 20,7% 6,9% 10,3% 0,0% 3,4%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 13,8% 3,4% 3,4% 3,4% 0,0% 3,4%Other 0,0% 6,9% 0,0% 0,0% 0,0% 0,0%Practice Leader 0,0% 6,9% 6,9% 0,0% 0,0% 0,0%

Total 20,7%37,9

% 17,2%17,2

% 0,0% 6,9%

The budget allows me to think creatively about actions that I want to exploit.

Account / Sales Manager 3,4% 20,7% 13,8% 10,3% 0,0% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 3,4% 10,3% 0,0% 10,3% 0,0% 3,4%Other 0,0% 6,9% 0,0% 0,0% 0,0% 0,0%Practice Leader 0,0% 6,9% 6,9% 0,0% 0,0% 0,0%

Total 6,9%48,3

% 20,7%20,7

% 0,0% 3,4%

I always want to attain my target.

Account / Sales Manager 0,0% 0,0% 3,4% 24,1% 20,7% 0,0%Broker 0,0% 0,0% 0,0% 0,0% 3,4% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 10,3% 13,8% 3,4%Other 0,0% 0,0% 0,0% 6,9% 0,0% 0,0%Practice Leader 0,0% 0,0% 0,0% 13,8% 0,0% 0,0%

Total 0,0% 0,0% 3,4%55,2

% 37,9% 3,4%

The budget is determined by my manager.

Account / Sales Manager 0,0% 13,8% 6,9% 10,3% 17,2% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 10,3% 6,9% 0,0% 6,9% 3,4%Other 0,0% 0,0% 6,9% 0,0% 0,0% 0,0%Practice Leader 0,0% 3,4% 6,9% 3,4% 0,0% 0,0%

Total 0,0%31,0

% 27,6%13,8

% 24,1% 3,4%

I can influence the setting of the budget.

Account / Sales Manager 10,3% 13,8% 10,3% 13,8% 0,0% 0,0%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 3,4% 0,0% 20,7% 0,0% 3,4%Other 0,0% 0,0% 3,4% 0,0% 3,4% 0,0%Practice Leader 0,0% 3,4% 3,4% 6,9% 0,0% 0,0%

Total 10,3%20,7

% 17,2%44,8

% 3,4% 3,4%My manger evaluates my progress (at least once a quarter) for achieving the

Account / Sales Manager 0,0% 17,2% 10,3% 17,2% 3,4% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub- 0,0% 0,0% 3,4% 13,8% 3,4% 6,9%

budget.

segmentleader / ControllerOther 3,4% 0,0% 0,0% 3,4% 0,0% 0,0%Practice Leader 3,4% 3,4% 0,0% 6,9% 0,0% 0,0%

Total 6,9%24,1

% 13,8%41,4

% 6,9% 6,9%

The budget allows me to give a personal interpretation to the activities in order to achieve the budget.

Account / Sales Manager 10,3% 10,3% 6,9% 20,7% 0,0% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 3,4% 3,4% 10,3% 3,4% 6,9%Other 0,0% 0,0% 0,0% 3,4% 3,4% 0,0%Practice Leader 0,0% 3,4% 0,0% 10,3% 0,0% 0,0%

Total 10,3%20,7

% 10,3%44,8

% 6,9% 6,9%

I can fully substantiate the budget.

Account / Sales Manager 0,0% 6,9% 17,2% 24,1% 0,0% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 3,4% 10,3% 13,8% 0,0%Other 0,0% 0,0% 0,0% 6,9% 0,0% 0,0%Practice Leader 0,0% 3,4% 6,9% 3,4% 0,0% 0,0%

Total 0,0%13,8

% 27,6%44,8

% 13,8% 0,0%

I am committed to the budget.

Account / Sales Manager 3,4% 3,4% 13,8% 27,6% 0,0% 0,0%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 3,4% 0,0% 0,0% 13,8% 10,3% 0,0%Other 0,0% 0,0% 0,0% 3,4% 3,4% 0,0%Practice Leader 0,0% 3,4% 3,4% 3,4% 3,4% 0,0%

Total 6,9% 6,9% 17,2%51,7

% 17,2% 0,0%

I am motivated to achieve the budget.

Account / Sales Manager 0,0% 3,4% 6,9% 24,1% 13,8% 0,0%Broker 0,0% 3,4% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 13,8% 13,8% 0,0%Other 0,0% 0,0% 0,0% 3,4% 3,4% 0,0%Practice Leader 0,0% 0,0% 3,4% 10,3% 0,0% 0,0%

Total 0,0% 6,9% 10,3%51,7

% 31,0% 0,0%

My yearly target for Renewal attainable.

Account / Sales Manager 0,0% 10,3% 6,9% 27,6% 3,4% 0,0%Broker 0,0% 0,0% 3,4% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 13,8% 6,9% 6,9%Other 0,0% 0,0% 0,0% 0,0% 3,4% 3,4%Practice Leader 0,0% 3,4% 3,4% 6,9% 0,0% 0,0%

Total 0,0%13,8

% 13,8%48,3

% 13,8% 10,3%My yearly target for Expanded Business attainable.

Account / Sales Manager 0,0% 20,7% 6,9% 20,7% 0,0% 0,0%Broker 0,0% 0,0% 3,4% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader /

3,4% 0,0% 0,0% 17,2% 0,0% 6,9%

ControllerOther 0,0% 0,0% 3,4% 0,0% 0,0% 3,4%Practice Leader 0,0% 6,9% 3,4% 3,4% 0,0% 0,0%

Total 3,4%27,6

% 17,2%41,4

% 0,0% 10,3%

My yearly target for New Business attainable.

Account / Sales Manager 10,3% 13,8% 13,8% 6,9% 3,4% 0,0%Broker 0,0% 0,0% 3,4% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 6,9% 3,4% 0,0% 10,3% 0,0% 6,9%Other 0,0% 0,0% 3,4% 0,0% 0,0% 3,4%Practice Leader 3,4% 3,4% 3,4% 0,0% 0,0% 3,4%

Total 20,7%20,7

% 24,1%17,2

% 3,4% 13,8%

During the budget negotiations, I will try to realize a better attainable target.

Account / Sales Manager 0,0% 6,9% 10,3% 24,1% 6,9% 0,0%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 3,4% 10,3% 6,9% 6,9%Other 0,0% 0,0% 0,0% 3,4% 0,0% 3,4%Practice Leader 3,4% 0,0% 10,3% 0,0% 0,0% 0,0%

Total 3,4% 6,9% 24,1%41,4

% 13,8% 10,3%

I will try to achieve my bonus, even if it is not in the interest of Marsh.

Account / Sales Manager 37,9% 10,3% 0,0% 0,0% 0,0% 0,0%Broker 3,4% 0,0% 0,0% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 17,2% 6,9% 0,0% 0,0% 0,0% 3,4%Other 6,9% 0,0% 0,0% 0,0% 0,0% 0,0%Practice Leader 6,9% 6,9% 0,0% 0,0% 0,0% 0,0%

Total 72,4%24,1

% 0,0% 0,0% 0,0% 3,4%

I share my knowledge with one or more segments to achieve the budget.

Account / Sales Manager 3,4% 10,3% 3,4% 17,2% 10,3% 3,4%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 13,8% 10,3% 3,4%Other 0,0% 0,0% 0,0% 3,4% 0,0% 3,4%Practice Leader 0,0% 3,4% 0,0% 10,3% 0,0% 0,0%

Total 3,4%13,8

% 3,4%48,3

% 20,7% 10,3%

I share my knowledge with one or more lines of business to achieve the budget.

Account / Sales Manager 0,0% 3,4% 3,4% 27,6% 13,8% 0,0%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 13,8% 10,3% 3,4%Other 0,0% 0,0% 0,0% 3,4% 0,0% 3,4%Practice Leader 3,4% 0,0% 0,0% 10,3% 0,0% 0,0%

Total 3,4% 3,4% 3,4%58,6

% 24,1% 6,9%I can sufficiently act to my own interpretation in order to attain the budget

Account / Sales Manager 0,0% 13,8% 3,4% 24,1% 6,9% 0,0%Broker 0,0% 0,0% 0,0% 3,4% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller

0,0% 0,0% 3,4% 10,3% 6,9% 6,9%

Other 0,0% 0,0% 3,4% 0,0% 3,4% 0,0%Practice Leader 0,0% 0,0% 10,3% 3,4% 0,0% 0,0%

Total 0,0%13,8

% 20,7%41,4

% 17,2% 6,9%

I can sufficiently act to my own interpretation to exploit my ideas that support the organization.

Account / Sales Manager 0,0% 6,9% 20,7% 17,2% 3,4% 0,0%Broker 0,0% 0,0% 3,4% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 0,0% 0,0% 0,0% 17,2% 6,9% 3,4%Other 0,0% 0,0% 3,4% 0,0% 3,4% 0,0%Practice Leader 0,0% 0,0% 6,9% 6,9% 0,0% 0,0%

Total 0,0% 6,9% 34,5%41,4

% 13,8% 3,4%

I receive sufficient recognition for my efforts to achieve the budget.

Account / Sales Manager 6,9% 10,3% 10,3% 17,2% 3,4% 0,0%Broker 0,0% 0,0% 3,4% 0,0% 0,0% 0,0%ExCo / Finance / Sub-segmentleader / Controller 3,4% 3,4% 10,3% 6,9% 3,4% 0,0%Other 0,0% 3,4% 0,0% 0,0% 3,4% 0,0%Practice Leader 0,0% 6,9% 6,9% 0,0% 0,0% 0,0%

Total 10,3%24,1

% 31,0%24,1

% 10,3% 0,0%

Appendix E: Beyond Budgeting survey (in dutch)Behoeftebepaling  A. In welke mate is de organisatie momenteel tevreden met het budget?  

B. In welke mate bestaat er binnen de organisatie de bereidheid om het budgetteringsproces aan te passen?  

Status van de organisatie1a In welke mate is de organisatie momenteel gedecentraliseerd?  1b Is naar uw mening de decentralisatie in organisatie voldoende?  1c Is het mogelijk om (verdere) decentralisatie door te voeren?  1d Zou u bereid zijn hieraan mee te werken?  

2a In welke mate hebben managers op lagere niveaus in de organisatie (bijv. sub-segment leaders, account managers) de vrijheid om zelf beslissingen te nemen?  2b Is het mogelijk om de handelingsvrijheid te vergroten?  2c Is de organisatie bereidt dit te doen?  

3a In hoeverre zijn de budget normen in de organisatie dynamisch, d.w.z. dat deze gedurende het jaar (naar boven of beneden) bijgesteld worden, al naargelang de omstandigheden?  3b Is het mogelijk om de normen dynamisch te maken?  3c Is de organisatie bereidt dit te doen?  

4a In welke mate is de organisatie momenteel gericht op de klant?  4b Is het mogelijk om een sterkere klantgerichte service structuur door te voeren?  4c Is de organisatie bereidt dit te doen?  

Behoeftebepaling5a In welke mate is de leiderschapstijl van managers binnen de organisatie te beschrijven als coachend?  5b Is het mogelijk om een coachende leiderschapstijl te ontwikkelen?  

5c Is de organisatie bereidt dit te doen?  5d Heeft dat naar uw mening een toegevoegde waarde?  

6a In hoeverre worden de normen in de organisatie relatief ten opzichte van concurrenten gesteld?  6b Is het mogelijk om de normen relatief ten opzichte van de concurrentie te stellen?  6c Is de organisatie bereidt dit te doen?  6d Heeft dat naar uw mening een toegevoegde waarde?  

7a Hoe ziet het strategieproces er in de organisatie uit?  7b Is het mogelijk om het strategieproces flexibel en bottom-up te maken?  7c Is de organisatie bereid dit te doen?  7d Heeft dat naar uw mening een toegevoegde waarde?  

8a In hoeverre worden in de organisatie voortschrijdende prognoses gebruikt?  8b Is het mogelijk om voortschrijdende prognoses (rolling forecasts) in de gehele organisatie in te voeren?  8c Is de organisatie bereidt dit te doen?  8d Heeft dat naar uw mening een toegevoegde waarde?  

9a Op welke manier worden middelen in de organisatie toegewezen?  9b Is het mogelijk om middelen flexibel toe te wijzen (daar waar nodig op het moment dat ze nodig zijn)?  9c Is de organisatie bereidt dit te doen?  9d Geeft dat naar uw mening een extra ondersteuning?  

10a In welke mate is in de organisatie sprake van een snelle en goede informatievoorziening die gebaseerd is op een brede set financiële en niet-financiële prestatie-indicatoren?  10b Is het mogelijk de informatievoorziening te verbeteren?  10c Is de organisatie bereidt dit te doen?  

11a In welke mate is in de organisatie sprake van een beloningsstructuur die gebaseerd is op een gebalanceerde combinatie van individuele beloning en groepsbeloning?  11b Is het mogelijk om de beloningsstructuur te baseren op de combinatie van individuele beloning en groepsbeloning?  11c Is de organisatie bereidt dit te doen?  

RandvoorwaardeI. In hoeverre heeft de organisatie de vrijheid om het budgetteringsproces aan te passen?