Budgeting and Forecasting
The corporate budget process is usually a frustrating one for all stakeholders. For managers tasked with preparing budgets it is a time-consuming and inefficient process. For busy managers it is an unwelcome distraction from other responsibilities, adding further pressure and stress. They often feel there are unrealistic demands and expectations from above and unreasonable consequences for failing to achieve budgeted outcomes. The process is cumbersome, takes too long and adds insufficient value.
There is often an expectation gap, with Chief Executives and Boards of Directors frustrated at what they perceive as the overly conservative first attempts, gaming of the numbers and poor explanations of variances between budgeted and actual results.
At the same time, nine out of ten finance executives consider the process inefficient and the results unreliable.
Despite this almost universal ambivalence, budgeting remains an entrenched business process for monitoring performance. Don’t expect that to change.
There is no step by step, follow the numbers solution to these problems. Each entity has its own specific requirements and issues. With that in mind, consider the following principles in order to improve the budgeting and forecasting process:
Rolling Forecasts
Instead of a once or twice a year budgeting/forecasting process, put in place a rolling forecast tool. By forecasting out 18 months, a first-cut budget for the next year can be prepared six months before the financial year commences. This would be enough to cover almost all existing budgeting cycles, which tend to get underway four or five months before the start of the year. By the time the budget is finalised it will have gone through several iterations as part of a regular, ongoing process.
Update the rolling forecast every reporting cycle. This will sound like a lot of work, but once it is established it becomes routine. The more you do it, the better you get at it. Instead of it being a major undertaking once or twice a year, squeezed in around already busy schedules and often not given the full attention it deserves, updating the forecast as part of the regular reporting cycle becomes a smaller task, repeated often.
An annual budgeting cycle is forward-looking once (at the time of preparation) and backward-looking twelve times (assuming monthly reporting). A rolling forecast is continually forward looking. Stakeholders will appreciate that the further in the future, the less reliable the forecast. It is nevertheless a more useful tool to all users than a retrospective review.
Regularly updating a rolling forecast is an iterative process and may appear at odds with the principle of zero-based budgeting. The reality is that zero based budgeting almost never occurs. The norm is a hybrid between an iterative budget, where the future prediction is based on past performance, modified for expected changes, and zero-based budgeting, which starts with a blank sheet. Once rolling forecasts become routine, they can actually take up relatively little time and effort in a reporting cycle. There is nothing to prevent an annual zero-based budgeting exercise also being undertaken, with results compared with the latest forecast. The outcome would be a more robust budget than either exercise would produce on its own.
Have a Great Tool
Often the bulk of the time and effort in preparing budgets goes into manipulating data into the budget model, rather than the planning and analysis of business drivers which give rise to and support the predictions.
By having a well-established, reliable, easy to use budgeting/forecasting tool, the focus can be on the content rather than the process. It is too common for managers to struggle through the budgeting process, manipulating data into models, double checking that everything flows to all the right places, heave a collective sigh, wipe the sweat from their brows and choose to ignore the fact that they have put insufficient effort into considering the inputs in depth.
A good budgeting/forecasting tool will be robust, reliable and easy to use. Managers will update assumptions and drivers and the results will flow. Having said that, it’s important to bear in mind that forecasting is at least as much art as it is science. It is possible to model scenarios to the nth degree, with ever-decreasing returns on the effort expended. Forecasts are inherently inaccurate and are out of date the moment they are finalised. Find the right mix of the application of experience (gut feel) and calculation. When it comes to the latter, make sure the computer does the grunt work.
Plenty has been written on why spreadsheets are not the best tool for budgeting and forecasting. The arguments presented against spreadsheets are valid and the points in favour of alternative solutions have merit. Nevertheless, the fact remains that, as revealed by a recent survey, 78% o
f corporates use spreadsheets for these tasks. In reality the proportion is much higher. Many organisations use alternative products because they are either enlightened or the alternatives are forced upon them from parent entities. The truth is that the real work is often done in a spreadsheet, then uploaded into the forecasting applications.
Spreadsheets remain the tool of choice because they are ubiquitous, well understood and have ultimate flexibility. They require no additional capital outlay or learning curve. They are in many ways ideally suited to budget and forecast modelling and can serve this purpose well as long as they are well designed and robust.
Whatever the tool, ideally it will retain multiple budget and/or forecast versions. Comparing the actual results to the previously forecast results each cycle is a useful device in improving the accuracy of forecasts.
