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Beyond The Budget ... Lies the Budget

 

 

 

 

 

 


 

The latest trend in business seems to be every manager’s utopia – a budget-free business.  Analysts like Robin Fraser have advocated the concept of Beyond Budgeting, an attempt to move away from restrictive budgets and measure performance against competitors.  Nicholas Campleman, MD of Dream Catchers, says while Beyond Budgeting may free up businesses from rigid budget structures, budgeting properly is more beneficial.

“Doing away with budgets is like throwing the baby out with the bathwater,” says Campleman.  At a higher level, you’re always interested in what your competitors are doing, but should that define your business strategies?”  He claims that while traditional budgeting methods were time-consuming and often distant from the reality of the business, little thought has gone into where the value of a budget lies.

“A budget is a tool, but not the only tool that needs to be used to create a successful business.  To lay the blame for straight-jacketing businesses on budgeting is a fallacy.  Budgets have a place, and just because they have been misused in the past does not mean their value is diminished,” says Campleman.

According to Campleman, Fraser is correct in asserting that current budgeting methods are flawed, and that these methods have created restrictive business environments that do not allow for rapid responses to changing conditions.  “Inevitably, budgets result in disappointment, are expensive and are time-consuming to create.  Moreover, they are static and constrictive, as well as being open to abuse.  However, for the last century, we have been budgeting only in name,” he argues.

Campleman’s answer to the problems inherent in previous budgeting methods is to ignore much of the criticisms from Beyond Budgeting.  “They miss the mark because they don’t deal with the actual budgeting process, and I feel a budget is exactly that – a process.  It’s not a spreadsheet or an application.  It is a method whereby a specific kind of forecast is created, mandating expenditure based on a set of assumptions regarding the needs of the business, whether they be financial, capital, human or other resources.”

This is the point at which most budgeting falls down.  “A budget should define the lowest point as far as contribution to the business is concerned, either in revenue, cashflow, resources or services, which mandates the expenditure (both capital and operational) approved – no more, no less.  Any minor changes should be dealt with along the way.  If anything major changes, then the plan needs to be reviewed.

Through this process, the core business, or centre, can review resource demand and allocation from a holistic view, and may decide that one business priority takes precedence over another.  It may also identify that the group does not have, or will be unable to generate and provide, the necessary resources demanded.  According to Campleman, this is where the second failing of budgeting usually occurs.

“The criterion for continued funding is achieving the goals laid out, or being able to justify why they are not being achieved.  Using a pocket money analogy, we define goals that should be achieved with that pocket money, and we list them.  We also define what is required as far as funding is concerned.  We then hand responsibility for managing that money over to the child.  We do not mandate specific amounts for each item that makes up the total allowance, nor do we prevent the child substituting and saving in one area while spending more in another,” he says.

“Household expenses are budgeted and managed at a higher level, and while the child is made aware of the costs, they are still dealt with by the centre.  We review the child’s allowance continuously and it is changed as his or her needs expand.  As the child’s responsibility increases, the allowance increases while dependence on the household decreases.  Eventually, when the child starts earning an income, he or she can begin contributing to the household.”

In light of this analogy, Campleman wonders why so many managers are treated like little children.  “With a three-year-old, each individual expense is individually managed and not mandated.  We verify that the child has bought only that item, and we ask for change.  Otherwise, we allow the child to choose an item from a predefined selection, buy it and hand it to them.  This is no way to run a business.”

Campleman argues that a budget should be a mandate to incur expenses in the attainment of goals; it should not be used as a measure of anything other than expenditure versus those goals.  Any deviation or change over time should result in a review of the appropriateness and validity of the budget, or the manager’s actions.  “A budget should be a high-level document detailing the mandate to the business manager, not detailing the mandate for each line of expenditure.  The total should be calculated as the sum of the individual line items, yes, but the mandate must be the total amount.”

Managers should be able to reallocate expenditure to where they believe it is necessary, which empowers them to deal with the reality of their business.  Where expenditure varies greatly from the budget, investigation is required, but Campleman does not think this is likely.  “This process encourages managers to seek cost savings as the first avenue in funding changes within the business, or dealing with change.  However, it is critical that the avenue is always open to call for more or changed resources when required.”

Campleman says the centre should encourage branching out and expedition exercises.  “Budgetary review and controls remain the key tools at management’s disposal for identifying excessive or unusual expenditure.  Comparisons to the norm will identify areas of concern, but in general financial managers will be freed up from creating cumbersome budgets in which detail is ultimately meaningless.  Data should be analysed and converted into useful management information to make decisions and reallocate resources quickly.”

Budgets should be kept simple and relate specifically to what the centre does not know.  “Key drivers in each business unit should be the areas of focus,” says Campleman.  “They have a finite amount of time to spend on each budget, so they should not be swamped.  I think most budgeting information can be generated from the centre anyway – business unit managers aren’t usually accountants, and they should be left to do what they know well.”

Managers should be given the chance to question the budget, and should ultimately accept the final budget as their mandate.  Any increases in expenditure thereafter need to be justified.  “The centre should trust the business unit’s opinion.  A budget should not define the ultimate goal of the business, but should define the requirements for the expenditure mandate to remain valid.  A budget that is unattainable may as well not exist.”

The contribution of each business unit to its own reserve funds, or those of the centre, should also be defined in the budget.   Incentives should not be based merely on profitability.  “Where specific and tangible goals can be precisely measured, identified and verified, a specific incentive can be used.  Business units should be encouraged to improvise and be creative in meeting those goals.”

Campleman argues that we cannot dictate how external factors will affect our businesses, and that the response to these factors should not be to alter how the business plans, but to change how we respond to these factors. “We need to use the right tools for the job, forecasting of expected cash flow versus mandated expenditure is the crux of good budgeting.” 

“The original meaning of the word budget is important here, it come from the Latin for a purse.  Budgeting must be based in reality, and the centre must realise that it cannot control events external to the business.  In light of this, rigidity problems arise when decision making and planned cost analysis become a fixed annual event and do not have built-in scope for flexible planning and dynamic review processes to respond to changes in the business environment, not due to any particular budgeting methodology!” Campleman concludes
 

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