For most businesses, the annual budget is a key planning document, reflecting the organization's growth projections and its decisions around resource allocation. But a growing number of decision makers and financial experts are questioning the usefulness of the traditional annual budget.
John Orlando, CFO of Centage Corp., a developer of budgeting and planning software based in Natick, Mass., told IMT in an interview that annual budgeting is "a tedious and time-consuming process, depending on how big the organization is." Companies typically end up passing around spreadsheets that can spawn multiple iterations and versions and can be hard to reconcile. "There is a tremendous amount of frustration, and it sucks up a lot of resources for a two- or three-month period of time," he said.
Steve Player, program director of the Beyond Budgeting Roundtable (BBRT), thinks budgeting is a colossal waste of time. Player has said that the budget as a cost-control measure is "a management process that can kill the organization. It's part of the dumb stuff that finance does and should stop doing."
BBRT is a membership organization dedicated to transforming performance management in organizations. The group thinks budgeting prevents rapid response to unpredictable events, is too expensive and detailed, doesn't contribute significantly to corporate strategy, stifles innovation, demotivates employees, and promotes unethical behavior by driving people "to meet the numbers at almost any cost." Plus, as IMT heard from a number of sources, budgeting is out-of-date within a few months.
Instead of budgeting, BBRT members use rolling forecasts to eliminate the resource-consuming annual push to get the budget done. They organize for agility to respond rapidly to changing conditions and replace the annual budget poker game with a focus on continuous cost adjustment. They eliminate the time wasted on annual budgeting and reinvest it in more productive continuous planning.
Centage's John Orlando agrees that rolling forecasts are more effective as a planning tool. "In the budget process," he told IMT, "you have to marshal a tremendous amount of work and resources, but then the first couple of months of the fiscal year go by, and after February your budget may not mean anything at all." Rolling forecasts can be done as often as every month and can be maintained going out 12 months, 15 months or 18 months into the future. "You have the ability to change on the fly," Orlando said. "You really can't base your decisions on what happened in the past. You have to take into account what you're seeing now."
Centage offers software that automates the budgeting process, ties it in better to company accounting and can enable rolling forecasts. However, not all of the company's customers have abandoned yearly budgets, Orlando stressed: "We have a lot of contacts throughout the country who we talk to about best practices, and we canvass the opinions of our users. It's a mixed bag so far. We have a lot of people who think the rolling forecast is the way to go in the future, but a lot of people are still more comfortable with budgeting on a 12-month basis."
A report from PwC's Financial Services Institute also argues for eliminating the annual budget and replacing it with a rolling-forecast process. The report says budgeting processes cost an average of $12 million a year for a company with over $10 billion in revenue and that for 60 percent of companies the annual budget takes longer than three months.
PwC says companies should transform their budgeting and forecasting processes from the rigid annual exercise to the kind of flexible, efficient, and integrated planning process that "enables organizations to be proactive rather than reactive," to clearly understand cost drivers and to continuously update targets as situations change. The report sets out a recommended framework that includes annual strategy development and planning tied to a system of quarterly rolling forecasts that look ahead to the next six quarters. Performance management is continuous and flexible, with incentives based on "plan-to-actual variances, forecast-to-actual variances and controllable KPIs (key performance indicators)."
Chucking out the budget and shifting to rolling forecasts isn't just a pipe dream. Companies are doing it in the real world.
Elkay Manufacturing, a maker of sinks, cabinets, and food-service equipment in Oak Brook, Ill., is transitioning away from annual budgeting as part of its installation of a new ERP system this year. CFO John Hrudicka is implementing continuous forecasting at the company, according to CFO Magazine. "With a budget," said Hrudicka, "you're requiring the company to stick to plans with little or no appreciation of how the world has changed. We're able to make forecasts on a constant basis, then shift resources where needed."
Guardian Industries of Auburn Hills, Mich., a manufacturer of glass, automotive, and construction products, "has operated successfully without budgets" for over 45 years, BBRT's Steve Player writes. The company views "formal budgets as time-consuming, low value-adding, and barriers to fast response," according to Player. The company has been successful instead by fostering a culture based on "an adaptive planning process, a deep sense of responsibility throughout its workforce, and a recognition and rewards system based on an employee's worth rather than his or her job title."