In an era of black swans and perfect storms, the financial planning and analysis (FP&A) function is changing. In order to serve its purpose, FP&A must be more strategic and influential than before—which may require abandoning the budget.
Going beyond budgeting
The proponents of the Beyond Budgeting movement are convinced that the budget attempts to fill too many roles, namely:
- Setting targets
- Resource allocation
- Performance management.
One of the biggest conflicts lies in trying to combine planning with target negotiations. It is a well-known paradigm: budgeting is a process of heavy target negotiations. Targets are linked to remunerations. This makes traditional budgeting a very emotional process: It is a battle for next year’s pay package of the participants. Can it still be objective and unbiased? Probably not.
This is a game, where subjective or objective are often forgotten. When I discuss this subject with professionals at FP&A Club events in different countries, it invariably produces knowing smiles. They can strongly relate this behavior to inefficiencies in their processes. Unfortunately, this traditional process is still so heavily embedded in business practices that often it is very difficult to challenge the status quo.
According to Bjarte Bogsnes, vice president, performance management development of Statoil, the main problems of traditional budgeting are many:
- Planning and forecasting are mixed with the target setting process.
- Compensation targets are fixed and heavily negotiated during the planning and budgeting process.
- Budgeting for the year is fixed. It is perceived as the head of each department’s annual allowance. If he/she does not spend this year, that budget can be cut next year.
- The capital budget is set during budgeting process. It is often fixed for the next financial year (in both projects and money terms). If you see an interesting business opportunity during the year, it may be not considered at all if you do not have budget for this new project.
Beyond Budgeting, Step-by-Step
A staunch proponent of Beyond Budgeting, Bogsnes said the first step should involve separating the three processes that are historically combined in the traditional budgeting routine—target, forecast and resource allocation.
The next step should consist of improving each of these processes:
- The target should become more ambitious, but relative. For example, it should be connected to external industry benchmarks. Fixed targets do not support holistic performance management practices.
- Forecast should be driver based and analytical, assumptions should be logical. Only a logical, analytical process can help create an unbiased planning and forecasting process.
- Resource allocation should be flexible, not fixed. If a new opportunity arises during the year, it should not be killed because of the lack of capital budgeting.
Many companies are currently in a stage of transition: deeply dissatisfied with their FP&A processes, overworked and bombarded by deadlines, and looking for new FP&A talents that can be difficult to find. They are beginning to take the first positive steps towards a better FP&A business culture, implementing rolling forecasts, driver-based models and modern FP&A systems.
However, the culture is often driven from the top of the organization and CFOs and CEOs have lived with budgets for too many years. Are you ready to challenge your CFO/CEO when they set unrealistic targets? Are you ready to point out when a plan is biased and not in line with the trends and driver-based models you have?
Remember—if you want your FP&A department to become more strategic and influential, you have to challenge the status quo.