Many companies struggle with creating effective, insightful budgets and forecasts. The existing processes for creating budgets and forecasts are often highly inefficient and outdated.
Throughout my consulting career, I have come across several consistent mistakes that most companies make when setting up their planning, budgeting and forecasting processes. What I am sharing in this blog are tips for addressing these pitfalls as we head into 2015. These best practices can hopefully lead to creating new opportunities to achieve very significant improvements in the quality of the forecasting information delivered to your client’s executive management team and line managers.
1. Problem: Excessive amount of detail
The inputs for budgets and forecasts are collected at a too low of a level. Too many inputs cause the budgeting and forecasting process to become very time consuming and inefficient. Instead of being able to obtain a new monthly forecast soon after the accounting close each month, the decision makers within a given company need to wait till the third of fourth week of the month to receive an updated, actionable re-forecast.
Furthermore the additional, detailed inputs prevent the budget or forecast from being accurate. This finding is rather counterintuitive but I found it too be true at many of my clients. In fact, one my clients in the technology industry employed a very extensive monthly forecasting process which consistently created forecasts which were about 20% of the mark when compared to the actuals for a given month. Our client sponsor, the new CFO of that company, was so frustrated with the existing forecasting process that he had asked his secretary to run a quick forecast of her own every month using the Crystal Ball software. That forecast, created by a secretary with no Finance background, used very few inputs and yet managed to produce very accurate monthly forecasts.
Solution: Reduce the level of detail in the annual Budget and the monthly Forecast
The annual Budget should contain enough detail to support a robust annual bottoms up planning process. It should not try to “boil the ocean” and try to plan for the level of detail that actuals typically come in at.
The monthly Forecast should be done on “exception” basis only. i.e., if there is significant change in the business outlook it should be reflected in the new Forecast. If not, the Forecast should simply be tweaked to account for the last month’s actuals. On quarter end months the Forecast needs to be revised from the bottoms up and all inputs for all accounts needs to be revised.
2. Problem: Too much focus on the annual Budget
Most companies still go through an annual budgeting process which typically takes anywhere between 4 to 7 months and puts a significant burden on the Finance department. Once the final version of the Budget is approved, the assumptions in it are typically so stale and meaningless that the entire Budget can be almost totally discounted.
At the same time companies do not employ the most effective forecasting tool at their disposal: rolling forecast.
Solution: If this solution sounds radical that is because it is: companies should stop creating annual Budgets. They provide little additional value and tie up significant Finance resources for an extraordinarily long amounts of time.
Leading companies rely on 18 month rolling forecasts to create a permanent 18 month long window into the future. It allows their managements to effectively plan their business operations for a meaningful, constant period of time. A typical 12 month annual forecast (not a rolling one) becomes less and less relevant as the year progresses and does not provide a long enough window into the future for the management to make effective longer term decisions.
My clients who changed their Planning, Budgeting and Forecasting processes to avoid the two pitfalls mentioned above had been able to achieve very significant improvements in the quality of the forecasting information delivered to their executive management team and their line managers. This in turn, led to much improved decision making and significant business growth.
