Is the Annual Budget a Colossal Waste of Time?

Consumer Brands

In today’s world, it’s rare to find a topic that generates agreement across a broad cross-section of people, but it’s a reasonably safe bet that most finance and non-finance people will agree that the ROI on the annual budget process is typically lower than it should be. Way lower.

The well-deserved list of complaints is extensive and includes:

  • It takes too long;
  • It is too detailed;
  • It lacks flexibility and is obsolete by the time the new fiscal year starts;
  • It consumes too many resources;
  • It includes expense allocations that aren’t meaningful or fair; and
  • It is disconnected from the company strategy.

Why would any rational management team subject itself to so much self-inflicted pain? The reality is there can and should be meaningful benefit from creating a budget. A well thought out budget can establish operational goals, timelines, and resource requirements and provide a way to measure performance and drive accountability for results. It can also serve as the foundation for a dynamic budgeting process that facilitates responding to market changes as they become visible and while there’s still time to take proactive steps.

Begin with the assumption the company is committed to preparing a credible annual budget that will drive accountability in the organization. The first question is what kind of a budget will it be? A static budget, done once and left unchanged for the full fiscal year? Or, a dynamic budget (also known as a rolling budget/forecast) done as part of a continuous planning cycle with periodic updates that fit the company’s business model and adjusts resources in response to changing market conditions?

Let’s dismiss the static budget as being the old way, although it still may be well suited for companies that operate in low volatility, highly predictable environments. If you’re not sure whether that applies to your company, ask yourself if the original budget assumptions will be equally valid 2, 3 or 4 quarters into the year. Would any resulting variances vs. budget in later quarters provide actionable intelligence? If so, a static budget could work for your company.

But if the answer is no, and given the pace of change in today’s markets it probably should be for most companies, then focus on a delivering a dynamic budget as part of a continuous planning cycle.

Given the list of complaints about the budget process, the term “continuous planning cycle” may generate visions of a descent into a bottomless pit of budget madness. Fear not, there are steps that can be taken to make this a more productive and far less painful process. Before looking at each of the complaints individually, let me caution you that starting by moving to the latest cloud-based planning solutions won’t fix bad processes. Once the processes are fixed, then you’re set to generate the most leverage from more robust software.

It takes too long – Parkinson’s law is the adage that “work expands to fill the time available for its completion.” If you implement a four-month budget process you can bet the process will take at least four months, if not longer. Start by compressing that time, maybe by 50%, and you’ll likely discover the process is accomplished in the shorter period. To increase the odds of success, start by issuing tops-down planning targets rather than relying on bottoms-up submissions. Tell the team where you expect them to land and focus subsequent discussions on submission variances vs. the targets.

It is too detailed – Requesting and analyzing too much detail is also a factor in long budget cycles. Materiality is the key to limiting detail. Review the importance of the budgeted element to the business and how often it changes. Elements that aren’t that important, or don’t vary much from one quarter to the next, don’t justify detailed treatment.  The fact is most of the details in the budget will prove to be wrong by the end of the year. They are estimates that, in total, are intended to provide a reasonable approximation of total company performance.

It lacks flexibility and is obsolete by the time the new fiscal year starts – Delivering a dynamic budget as part of a continuous planning cycle puts this complaint out of its misery. Determine the best cycle for budget updates, such as once per quarter or semi-annually, depending on the business and how far into the future you want to project (current fiscal year only, next four quarters, current fiscal year plus one quarter, etc.).

It consumes too many resources – Reducing the detail will help here, but there’s frequently another culprit, and that’s incentive compensation. The annual budget typically tries to serve too many masters and ends up serving none of them well. Taking incentive compensation out of the budget process, and managing it separately, will reduce gamesmanship and help focus discussions on the business.

It includes expense allocations that aren’t meaningful or fair – Removing incentive compensation targets from the budget will make a huge difference. If allocations are still a point of contention, track them separately at the total company level and don’t waste time trying to hold managers accountable for numbers they can’t control.

It is disconnected from the company strategy – My colleague Tom Sheppard’s recent blog “Using Olympic Training Methods to Improve Your Planning & Budgeting” includes insightful suggestions for improving your planning and developing budgets that are aligned with your strategies and plans.

Implementing these improvements will be a huge step forward in establishing a credible financial plan to allocate corporate resources in support of your strategic objectives.

 


 

Joe leads the firm’s Branded Consumer Products practice area, which specializes in financial services to companies developing branded products for consumers. A versatile financial professional, Joe has broad experience in financial planning & analysis, investor relations and financial operations management and process improvements that drive increased efficiency and cost savings. He is well-regarded for his communication skills within organizations and with investors and banking partners.

If you would like to speak with Joe, please use the Comments section to make a request.

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