May 29, 2019

New Ways to Plan and Budget

Carl Young

Carl Young
Former CFO ,Consultant, Business Coach, Trainer/CYoungConsulting LLC

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A successful business must have a plan that is quantified to a budget to guide the utilization of resources and ensure profits and profitability. Planning and budgeting processes, in too many cases, take too long to develop and implement. Hence, their effectiveness is substantially less than required to promote profits and productivity.

Several significant issues exist:

  • The budget process takes too long to develop and implement
  • The budget is based on data elements and activities from the past year that may not repeat in the current year
  • The entire budget focuses on the current year without regard to future years
  • Managers see the budget as authority to spend with a use it or lose it mentality

These are challenging and turbulent economic times. Companies must use new ideas in planning and budgeting to meet challenges and provide a budget focused on the future and essential events and activities that drive the business. Traditional planning and budgeting focus on what took place in past periods under the assumption history will repeat itself. This is not a safe assumption in the turbulent environment of today. Picture driving a car by always looking in the rearview mirror. Contrast this to driving a car by focusing on the future as seen in the windshield.

The recommended solution is to” Boot the Budget” and adopt new planning and budgeting ways i.e. rolling forecasts that focus on the future using Key Business Drivers. Key Business Drivers are activities and events that impact and influence revenue, expenses, profit and productivity. The process requires the creation of an initial fifteen-month budget baseline. Each quarter, add a quarter to the baseline and drop a quarter. This process is repeated. Hence the name of rolling forecast.

A proposed method is six simple steps:

  1. Create a monthly proforma P&L with Revenue, Expenses & Profit
  2. Calculate all components of P&L as a percent to total revenue with revenue as 100%
  3. Designate certain components as Key Business Drivers that influence & impact the business
  4. Calculate five projected P&L quarters from the monthly amounts. This is your initial fifteen-month budget baseline
  5. Use the initial 12 months as input to your budget system for actual vs budget comparison, performance and other production & management metrics
  6. Each quarter do a “what if” analysis of Key Business Drivers. Based on the “what if” analysis, create a new quarter to add to the initial five and drop the first quarter. Continue this process each quarter. Add one & drop one. The process continues to roll forward.

“What if “ analysis is both analytical & subjective. It is an informed look at the anticipated behavior of Key Business Drivers expressed as a percent (%) (+) increase of (-) decrease. It requires a critical look at the economy and business climate. It must be a consensus of all stakeholders and conservatively stated. A good starting point is an actual percent (%) increase/decrease of Key Business Drivers in the actual to budget performance comparison. The key is to focus on the future. Key Business Drivers become leading indicators. The non-Key Business Drivers are lagging indicators based on past trends.

The entire process is to focus on future behavior based on Key Business Drivers and not just data from the past. This can all be accomplished with a simple excel formatted spreadsheet. The real key is to determine Key Business Drivers and keep abreast of how they influence and impact your business moving forward.

This model works with different months in the original budget baseline. Fifteen months is recommended as it covers the current year and one quarter in the subsequent year. Each time you add a quarter and drop a quarter you move further into the subsequent year. When you make this add/drop in the third quarter of the current year, you have effectively planned for the entire second year that only needs to the refined prior to implementation.

The second piece of the process is to extract the first twelve months of the fifteen-month budget baseline and migrate it to your budget system for actual vs. budget comparison. The increase/decrease variance can serve as a good starting point for your “what if” analysis of your Key Business Drivers.

I have used this system in actual practice and advised companies on its implementation and use. The excel format is sufficient to use. Determining your Key Business Drivers and re-orienting your planning & budget to a future orientation is the real key to success in rolling forecasts.

Comments? You can contact me directly via my AdvisoryCloud profile.

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