IMPACT OF BUDGETING AND BUDGETARY CONTROL ON THE PROFITABILITY OF SMES

CHAPTER ONE

INTRODUCTION

1.1 BACKGROUND TO THE STUDY

Wants are numerous while resources are limited but there is every tendency to waste or under-utilize the limited resources by the human factor involved in the production of goods and services. With various companies competing with one another, only a few that are able to produce at least possible cost will survive the growing competition in the market.  Therefore, it is paramount for every serious business undertaken to produce at that possible minimum cost so as to remain in business and also achieve the corporate objectives of profitability and stability.  In view of this, there is every need to do realistic planning of the activities of the firm taking into consideration the limiting factors and the long term objectives of the firm. In order to achieve this, budgeting – a tool of planning and control becomes indispensable. Budgeting is ubiquitous and has long been considered a necessary tool in managing a company.  Nigeria as one of the developing countries in the world, the growth of Small and Medium Enterprises (SMEs) is very vital for the growth of the economy in general as SMEs account for over 70% of the total business activities in the country. SMEs in most developing countries are usually neglected by both the formal financial institutions and the government unlike the developed countries like China, USA, etc. where SMEs are not taken with levity as they believe were to be the engine room for the development of any economy (Amuche, 2015). Kendall (2005) posited that budget and budgeting are concepts traceable to the Bible days, precisely the days of Joseph in Egypt. It was reported that nothing was given out of the treasure without a written order. History has it that Joseph budgeted and stored grains which lasted the Egyptians throughout the seven years of famine. Budgets were first introduced in the 1920s as a tool to manage costs and cash flows in large industrial organizations. John (1996), states that it was during the 1960s that companies began to use budgets to dictate what people needed to do. In the 1970s performance improvement was based on meeting financial targets rather than effectiveness companies then faced problems in the 1980s and 1990s when they were not willing to spend money on innovations in order to stay with the rigid budgets, they were no longer concerned about how customers were being treated, only meeting sales targets became essential. A budget has been defined by Chartered Institute of Management Accountants [CIMA] (2004), as a financial or qualitative statement prepared and approved prior to a defined period of time for the purpose of attaining a given objective.  It may include income, expenditure and the employment of capital. CIMA also defined budgetary control as “the establishment of budgets relating the responsibilities of executives to the requirements of a policy and the continuous comparisons of actual with budgeted results, either to secure by individual action the objectives of that policy or to provide a basis for its revision. Budgets are known to have an important role to transmit the expectation of top management to lower levels. According to Bremser (2008) budgets are used to communicate management’s expectations to managers and employees. According to Lucey (2003), it is a quantitative expression of a plan of action prepared in advance of the period to which it relates, expressed in money terms approved prior to the period. Lucey (2003) further urges that performance of the small and medium-sized organization is influenced by many factors which include planning and coordination, clarification of authority and responsibility, effective communication both internal and external, control of resources available, both human and non-human and motivation of both the lower and middle management. If the actual numbers delivered through the financial year turn to be close to the budget, this actually demonstrates that the organization’s management understands its business and has been successfully driving it in the direction they had planned. On the other hand, if the actual results diverge wide from the budget, this sends out an „out of control‟ signal. For this reason, budget based control means the manager’s evaluation according to budgetary goals

 

1.2 STATEMENT OF PROBLEM

Small and medium scale enterprises are the backbone of any economy. Their growth will significantly have an effect on the growth of such an economy. Budgets are necessary to prudently manage scarce financial resources and at the same time serve as means of expenditure authorization, control and evaluation base. Profit-making organizations consider budgets and budgetary controls important elements in their policymaking. It has however been observed that many SMEs do not care about budget or budgetary control. The success of organizations depends largely on good budget preparation and effective budgetary controls. Failure of many small businesses nowadays erupts from the fact that budgets and budgetary control which are the bedrock of any successful business organizations are weak or absent as reported. In line with this argument, the study looks at the impact of budget and budgetary control on the profitability of SMEs.

 

1.3 RESEARCH QUESTIONS

Based on the problems indicated above, the following research questions were raised;

i. What is the adoption level of budgeting and budgetary control in small and medium-sized businesses in Nigeria?

ii. What are the reasons for SMEs not adopting budgetary control in Nigeria?

iii. What is the effect of budgeting and budgetary control on the profitability of SMEs?

 

1.4 OBJECTIVES OF THE STUDY

The broad and general objective of this study is to examine the impact of budgeting and budgetary control on the performance of SMEs in Nigeria. However, to achieve this objective, the following specific objectives were raised;

i. Determine the adoption level of budget and budgetary control by SMEs in Nigeria

ii. Derive the reasons some small and medium-sized businesses do not adopt budgetary control.

iii. Investigate the effect of budget and budgetary control on the profitability of SMEs in Nigeria,

 

1.5 HYPOTHESES OF THE STUDY

In order to achieve the stated objectives for this study, the following null hypotheses are stated so that they can be tested with analytical tools and inferences could be drawn on them.

H01: The adoption rate of budget and budgetary control by SMEs in Nigeria is significantly low

H02: There are no significant reasons SMEs in Nigeria do not adopt the budget and budgetary control

H03: Budget and budgetary control have no significant impact on the profitability of SMEs in Nigeria.

 

1.6 JUSTIFICATION OF THE STUDY

Budget and budgetary control have been identified as an important factor for the growth of any organization. Hence, various authors have researched the topic such as Yang (2010) who examined the impact of the budgeting process on performance in small and medium-sized firms amongst many other authors. Quite a lot of this researches all sought to examine the effect budgeting has on the performance of SMEs and unfortunately, in many of this research, the authors barely identified the theoretical framework in which the study is supposed to be built. This study, on the other hand, will also examine the effect of the budget on the performance of SMEs but precisely on their profitability. Unlike the other authors, this research has a sound theoretical foundation upon which the literature was built upon. The outcome of this research will be very beneficial to the management of SMEs which invariably will have a significant effect on the economic condition of the country.

 

1.7 SCOPE OF THE STUDY

It has been established that 70% of the business organizations in Nigeria are small and medium scale businesses. Hence, due to the huge amount of SMEs spread all over the country, it will be very impossible to want to examine the entirety. Due to the location and proximity of the author, SMEs operating in Kwara state will be examined.

 

1.8 Plan of the Study

To ensure the orderliness of the study, the plan of the study was carried out and reported chronologically, under five chapters. Chapter one which is the introduction to the study provided the background to the study, statement of the problem, research questions, the justification for the study, objectives of the study, the hypothesis of the study, the scope of the study, definition and terms and plan of the study. The second chapter contained a review of relevant literature.  The research methodology is presented in the third chapter and it included headings such as research design, the population of the study, sampling techniques, method of data collection and methods of data analysis. The fourth chapter contained the data presentation analysis and discussion of a result obtained from the field survey. Chapter five covers the summary, conclusions, and recommendations.

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