Archive: Jun 2013

  1. The Advantages of Rolling Forecasts

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    Post 4 of ‘Budgeting – make it valuable and not a chore’

    Jerry Davison

    First, a recap of the messages from the last three blog posts. What we’re saying is that budgeting is important, but to make it truly valuable so that it gets buy-in rather than indifference, it’s crucial that everybody can see that the budget has a direct link to the company’s strategy and that it fits in with its culture. The whole team will then be much more motivated to do their best to produce a budget more quickly and more reliably.

    But what is the best type of configuration for a budget? One of the major problems of the traditional budget, and a basic reason why budgets are often disparaged, is that the whole focus seems to be on the 12 months that make up the financial year but of course this is an artificial construct in the first place. It may be convenient block of time for the finance department, but the financial year-end date may be completely irrelevant in the context of project timelines, sales seasonality, capital expenditure and other such factors. Other grudges often cited about budgets include demands for far too much detail and excel templates that are too inflexible.

    The value of ‘rolling forecasts’

    The volatility and uncertainty in the markets, compounded by an increasing speed of change, means that most companies need to update their forecasts and budgets on a very regular basis. Many companies have adopted a policy of rolling forecasts that are updated either monthly or quarterly.

    In terms of configuration, forecasts that always look 15 months ahead are very popular. At the end of every month or quarter, having reviewed the latest actual results, a further month or quarter is added on to the end of the current forecast. The entire 15-month forecast is updated in the light of the actual results and trends. This provides what is effectively a refreshed budget on a continual basis, and it avoids the restraints of the classic straightjacket budget.

    What does this mean in reality for the small business? It does mean of course that managers need to have accurate and up-to-date information, e.g. sales data on a weekly or even daily basis, and frequent feedback from managers and staff on what’s happening in the market and how it may affect your future sales and your cost costs and overheads, and of course you need up-to-date cash flow data.

    For rolling forecasts to work the budgeting and forecasting process itself needs to be streamlined, e.g. with good employee training and guidance, and the sort of budgeting templates that don’t demand unnecessary detail.

    Variance reports are critical to explain differences from expected outturns and negative variances should not be used to ‘punish’ responsible managers but to enable the company to learn. A monthly meeting is used to ensure that everyone involved gets the right feedback on results and that variances are analysed in relation to strategy – do tactics, margins, etc need any adjustment?

    The lessons learnt are then applied in updating the rolling forecast.

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  2. Better and Faster Budgeting

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    Post 3 of ‘Budgeting – make it valuable and not a chore’

    Jerry Davison

    At its heart, budgeting is an exercise in carefully allocating resources to ensure that a business maximizes its returns. As discussed in the last blog post, the allocation must be in alignment with the strategic plans of the company. Expenditure such as IT, marketing, capital expenditure and recruitment of staff should all be targeted at the strategic goals. At the same time, the board has to ensure that the budget works within the constraints of cash flow and that it allows for contingencies. It’s a big challenge to grow your company while managing the increased costs associated with that growth.

    Think of your budget as a picture of the expected outturn rather than as a set of targets. Accuracy of forecasting is much more important than ‘beating the numbers’, especially when the latter can lead to number fudging. Focus on processes rather than departments, to encourage cross selling and avoid silo mentality. Look outwards at customers and competitors. Reward people on relative measures (e.g. performance against the competition) rather than simply beating an internally set number.

    A lot of smaller companies have been busy improving their budgeting processes because of the level of uncertainty (and therefore risk) in all market sectors, partly because of the economic climate and partly because of the speed at which the Internet is driving change. At a time of such uncertainty you definitely want a better picture of what’s coming round the corner.

    So good companies have made their whole forecasting and budgeting process quicker, more accurate and more efficient, i.e. faster, better and cheaper. In a recent survey, companies that showed an average 22% decrease in time to do their budget showed an 11% increase in profitability thereafter. This increase flowed from the heightened awareness of priorities, performance, and communication throughout the whole business.

    Once the strategy and budget are in place, and they’ve been clearly communicated to everyone, then the focus will be on measuring performance against your strategic goals and objectives throughout the year. Many companies are now using not just financial performance measures but also qualitative criteria i.e. it’s not just the numbers being measured but also things such as customer service, competitive activity and staff productivity.

    A lot of these measures are incorporated into a regular report – monthly, weekly or even daily – as key performance indicators, or ‘KPIs’. It can be incredibly useful for a business to have a one-page report that shows the KPIs and for the MD and board these are the metrics that run to the core of the strategy. Each department manager can also have their own KPIs and one-pager.

    Of course, it’s essential that the reports show variances against budget and give a view of emerging trends. Many companies have some form of ‘dashboard’ or scorecard to show the one pager; these days it will normally be accessible on the web. For larger companies there is software available that automates and displays this information but it’s expensive. There are less complicated methods available for SMEs.

    The best companies also assess operational and financial performance and risks on a continuous basis, giving them the ability to rapidly update their forecasts. I will discuss the mechanics of this in the next post, but in short it revolves around using a flexible, rolling forecast rather than a rigid annual financial plan.

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  3. Strategy first, budget second

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    Post 2 of ‘Budgeting – make it valuable and not a chore’

    Jerry Davison

    In my first post on budgeting I listed ten key points to consider when setting out your budgeting process. I know from personal experience that a lot of staff in many companies view a budget as a bother rather than as a useful tool. If this is a problem in your company, it needs to change or it becomes corrosive and demotivating.

    A budget should be simply a financial picture of something much more important, and that is the company’s strategy. The goals and objectives planned for the next one or two years will determine how the business is expected to perform. The budget – or forecast – should reflect the anticipated revenue streams and the resource costs that flow from these plans.

    It follows therefore that budgeting should be a dynamic and motivating process because it is a core part of enabling your strategy; it is actually an opportunity for showing strategic leadership throughout the entire organization. It is essential therefore that the process involves as many people as possible, and that decision-making is bottom up as well as top down.

    The need to demonstrate leadership, and show that the budget is just one part of the overall implementation of your strategy is why a budget should never be the ‘main thing’ where it takes on a life of its own. In too many companies, the budget becomes a straightjacket, where managers are afraid to ‘go over’ their budgeted expenses, or feel they must chase budgeted sales at all costs. Initiative can be stifled and in such an environment it’s all too easy to become internally focused and blind to what’s actually happening in your market.

    The better approach is to involve people throughout the company in the overall strategy process so that everyone is motivated to develop a meaningful budget because they will each have responsibility for their own inputs and results. Have an open culture that encourages initiative because employees are assessed on delivery of goals rather than meeting numbers.

    Such a process is obviously more challenging than one which typically revolves around the finance department sending out a bunch of spreadsheets that require completion by different departments. Instead, allow managers really think about how they can contribute to the strategy, which means that they have to really understand that strategy. So the first requirement is good discussion and communication of goals and objectives.

    In the next blog post we will look at ways in which strategic budgeting can be rolled out across the company in more effective ways, for example by using measures of performance other than the purely financial numbers in the budget. For example: customer service, staff productivity, competitor pricing, delivery times, product quality, complaints – all measures that give you a much bigger picture of real performance.

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