By this time of the year most companies who adhere to the long standing tradition of creating an annual budget are knee deep (maybe neck deep) in the process. I know for many managers, the thought of preparing the annual budget evokes fear and trepidation. The budget process requires them to commit to next year’s sales, head count, raises, and other spending estimates. Some “seasoned” managers who knew how the game is played low ball sales goals or pad expenses in order to more easily achieve goals or maintain the status quo. In some organizations compensation and bonus guidelines are established based on the manager’s budget estimates.
Some large companies are changing their philosophy on the benefits of the annual budget. Their criticisms include the budget process is expensive, an annual budget prevents rapid response to unpredictable events, and it encourages focusing on department rather than company-wide strategy. Financial executive in these companies point out that tying compensation to specific departmental goals can create a conflict of interest between what is most advantageous for the department manager versus the company. Further, in larger organizations where spreadsheets are the method of budget preparation and collection, a multitude of spreadsheets are sent out to department managers and consolidated by the finance department. Unfortunately the result of all this data manipulation can result in a consolidated forecast filled with errors and inaccuracies. These completed budgets can quickly become stale as internal and macro events change from the original assumptions used to prepare the budget.
So what are the alternatives to the annual budget? One alternative is to do continuous planning and adapt a rolling forecast. Though still challenging, a rolling forecast can be accomplished by large companies using sophisticated budget/ planning software with a well staffed finance department. Of course this strategy may not be practical or feasible for small to mid-size companies. In my next blog I will explore how small to mid-size companies can take concepts such as the rolling 12 month forecast and apply this forecasting methodology to their organizations.