Every organizational leader wants competitive success, a stellar management team, streamlined costs, continuous innovation, loyal customers and high standards of corporate governance. These are certainly not unattainable goals. Then why doesn't every organization have all of these things? The most likely culprit, a failed business strategy, isn't always the case. Most often it's simply a fundamental breakdown in the way decisions get made across the organization.
In my opinion, the instigator of this decision-oriented problem is the budget. The budget was originally designed for the executive team to plan and control organizations from the top as an instrument to allocate resources according to the company's strategic priorities for the upcoming fiscal year. For a lot of organizations this has become only part of a budget's purpose.
More on the budget. A budget describes how management wants the future to look through top-down dictated targets to which each department needs to adhere. The budget also outlines how we want to achieve our desired results describing the type of investments we want to make to get us there. It was never intended to enable organizational leaders to focus on creating value. But that’s what it’s being asked to do.
To exacerbate an already over-stretched purpose for the budget, it has also become a way to compensate employees via fixed performance contracts. This tie to employee compensation forces managers at all levels to commit to delivering specified financial outcomes, even though many of the variables underpinning those outcomes are beyond their control - a recipe for bad behavior that might not be in the company's best interests.
As a result, there is a distinct difference between the budget and forecast processes. A forecast, on the other hand, describes what the future will most likely look like through honest, bottom-up, unbiased feedback from the business.
Budgets need to be considered for what they are and what they aren't. Knowing this information keeps them in check against what they're being asked to do. Here are some of the things that are part of a budget that should be considered in light of what they're being asked to do:
Consists of top down mandated targets to which the business must adhere
Very long, expensive and iterative process that, once approved, remains as is throughout the fiscal year
Does not address competitive concerns
Create territoriality among employees and departments
Figures are unreliable because of gaming of the numbers
Can lead to dysfunctional behavior
Time period doesn’t reflect a business cycle
Forecasting cures a lot of these ills. Forecasts compile bottom-up, unbiased feedback from all functions and operational areas of the business. This insight provides clarity on what's most likely to occur over a time horizon into the future. They are business cycle-based, not relegated to a time horizon mandated by an accounting standard or by what's expected by the publicly-traded stock exchanges.
As a result, the benefits of employing such an honest feedback loop contained in a forecast are immense.
I just want to make one final remark about forecasting and budgeting using the two "road ahead" images shown in this post. The reality is that when we're planning a journey ahead, we all want to envision it as a smooth ride. But the reality is that once you're on the road and into your journey there's likely going to be unaccounted for road closures. The importance of getting updated as quickly as possible when these issues surface results in being a more nimble and adept company. Only thru the use of a communications tool called the forecast is this possible. Simply replying on the budget to deliver this kind of information is impossible.
Using a continuously updated forecast process will get you that much closer to the "perfect enterprise" I mentioned at the beginning of this post. The next post in this forecasting series will discuss the above image in more detail explaining how a correctly implemented forecast linked to targets translates into a the value-add decision making tool I mentioned earlier that a forecast provides.
Until then, please feel free to share your business experiences utilizing a forecast, budget and/or set of targets.
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Check out IBM Cognos TM1 and its powerful enterprise budgeting and forecasting capabilities.