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Strategic Finance

Smart budgeting supports strategy

Monday, 27 November 2006

To some, the budget is today's prime short-term instrument of corporate strategy. To others, it is a time-wasting, bureaucratic anachronism. Joseph Fitzpatrick of Atos Consulting explores this apparent paradox and provides pointers towards its resolution.

In many companies, the commencement of the budgeting round is customarily greeted with a loud instit-utional groan. The sound ripples through all departments, and frequently reaches right up to the boardroom. Often it is accompanied by strange creaking noises as cumbersome spreadsheets - unused these past 12 months or more - are dragged out and dusted off.

But it doesn't have to be like that. As we shall see, a new wave of enlightened organisations are making a virtue out of necessity - changing the budget into a valued, integrated and creative element of the corporate strategic planning process and losing the grim overtones normally associated with this much-maligned discipline.

There is no doubt that this transformation needs to take place. Ask the wrong people, such as results-driven sales staff, and the budget will be seen as a distraction with no relevance to their day jobs. But ask the right people, as Kennedy & Dugdale did in 1999, and 99 per cent of companies will confirm that they have a budget and have no intention of abandoning it.

The budget as strategy

The fact is that no organisation of any size can afford not to have a budget. Even the Microsofts of this world do not have limitless funds. An organisation that allowed individual divisions to consume resources and burn cash free of central control would soon founder. A government that failed to shape and control departmental spending would ruin its national economy, and quickly find itself out of power.

So the budget (or whatever we may choose to call it) as an essential business discipline is clearly not going to be discarded. The challenge is to harness and exploit the energy that goes into its creation in a way that accentuates the many positive aspects inherent in the exercise - the problem is not the existence of the budgeting process, but how it is explained and applied.

The core message is that the budget is a crucial means through which valuable resources are marshalled to achieve a firm's strategic objectives: in essence, a practical and tactical realisation of the first year of the strategic plan.

Advantage in enlightenment

In many cases, a break with the past is needed. In some companies the budget exercise is a dull and drawn out affair, with its roots in an era when business cycles were predictable over the medium-term as customers and markets were slow to change. Those companies are typified by laborious bottom-up data collection - exacerbated by systems that don't talk to each other and the use of function-specific spreadsheets - followed by an inevitable knee-jerk top-down reaction when the numbers do not add up or match corporate aspirations for cost cutting or sales growth. The result is a downward spiral of dispiritment and disenchantment, and the finance function often unfairly gets the lion's share of the blame.

In more insightful organisations the budget is an intrinsic part of the strategic planning cycle - invariably supported by technology - not an afterthought or a separate standalone process. Such firms understand a simple salutary fact: today no one has the complete luxury of determining how well they perform on an ongoing basis. It is the likes of institutional shareholders and market regulators who set standards and monitor performance.

In these enlightened institutions, the budgeting process facilitates an ongoing dialogue as to how internally and externally determined performance goals will be met - in other words it assists them in developing and executing strategy. Specifically the budgeting process enables them to:

Take the time to formally review, understand and plan how they will deliver required performance, and manage inherent risks;
Make their assumptions explicit, encourage challenge in the business, and engender understanding and buy in;
Force management to think long-term, while equally preparing people for the short-term decisions they will need to take in a rapidly changing environment;
Push down core values and business objectives; and set accountabilities and responsibilities to ensure that people are clear what is expected of them;
Allocate and prioritise projects and resources; and benchmark costs, allowing them to be kept in check.

Getting there

The natural question is this: if your company is not in that happy state (and many fail on one or more of those dimensions) how do you get there? The key steps are to:

Develop a process that integrates strategic planning, budgeting, forecasting, and reporting and analysis into one seamless and mutually reinforcing cycle;
Support that process with the right technology platform in order to automate data collection and enable sharing and collaboration across the enterprise;
Communicate the new regime to managers and staff in a manner that helps them to make a connection between their inputs into the budgetary process and the ultimate (and ongoing) success of the enterprise.

Figure 1.

In developing the process, it is essential to build in an understanding of the business objectives at each stage (in fact, that is where the design effort should start). The process should define, for example, the nature and timing of the business conversations that have to take place and how the different elements of the cycle work together. A framework for such an integrated process is depicted in the diagram above (see Figure 1).

The importance of the technology platform should not be underestimated. The finance function should ask itself one fundamental question: during the budgeting round, what proportion of time is spent producing, consolidating, formatting and validating data; and what proportion is spent on discussion, challenge and explanation?

In addressing that issue, the role of the technology platform is twofold. Firstly, to take cost out of the budgeting process by automating cross-enterprise data collection. Secondly - and equally importantly - to make key assumptions clear and auditable, allow data mining and manipulation, and enable scenario planning and sensitivity analysis. All of this must be supported by figures that can be relied upon right across the organisation - implying the need for an information quality regime with clear data standards to help different systems to share and process that data.

Finally, the critical role of the finance function in owning the process and managing the transformation must be taken on board. The vital tasks are to drive the programme forward by creating and communicating the future vision alluded to above (not perhaps traditional territory for many finance professionals), articulating that vision through a sound business case, and getting board level buy-in.

Fundamental truths

But, if it were that simple, why have the necessary changes not taken place already? The answers are complex and shrouded in business folklore. Foremost among these is the fact that the true cash costs of poor budgeting processes are distributed across all departments, making them notoriously difficult to track. The same applies to the notional costs, where the value of opportunities lost is literally impossible to measure. Secondly, there is the seemingly intractable problem of 'making time to save time' especially against today's resource-draining Sarbanes-Oxley, IAS and Basel II (to name but three) environments. Thirdly, there is a multitude of cultural and attitudinal factors ranging from 'better the devil we know' to 'one size fits all' mentalities.

Those companies that have successfully transformed their budgetary processes have recognised two fundamental truths:

The budgeting process actually consists of four interlocking sub-processes (as explained above);
Budgetary transformation is a challenge for the entire business, not just the finance function.

Supporting change

Using its experience of many such successful projects, Atos Consulting has designed a structured process for budgetary transformation - starting with an interview programme, through new process design to implementation, embedment and continuous review (see Figure 2).

Figure 2.

Tellingly, Kaplan & Norton reported in June 2000 that 275 portfolio managers regard the ability to execute strategy as more important than the quality of the strategy itself.

In other words, there is risk inherent in all corporate transformation programmes. As discussed above the finance function has a crucial role to perform, to mitigate that risk by owning and supporting change.

The opportunity clearly exists for enterprises to replace their old-style budgeting processes - virtually eliminating the labour-intensive elements - and replace them with a motivational regime that supports strategy and adds value to the entire business. Recognition of the opportunity depends upon encouraging the right business conversations and nurturing the necessary culture change. Nothing less will do.