Wednesday, September 13, 2017

Process Change in Budgeting and Forecasting

As mentioned in my first blog post,  there are  five main challenges  that face traditional FP&A functions today. I expanded on the first one , " ERP systems adapting to Big Data", in my last week's blog post.  In this post I will be expanding on  the process changes we need in planning, budgeting and forecasting  to support the transformation through big data.

I read a great article by KPMG - "Planning, Budgeting and Forecasting: An Eye on the Future". It gave a good definition of what is planning, budgeting and forecasting.

Planning is defined as  a top-down strategic activity that defines the strategic aims of the enterprise and high level activities required to achieve the goals of the organisation.

Budgeting is defined as an activity that enables resource allocation to be aligned to strategic goals and targets set across the entire organisation.

Lastly, forecasting is defined as an activity that tracks the expected performance of the business, so that timely decisions can be taken to address shortfalls against target, or maximize an emerging opportunity.

 A company should do all three of the above activities  to plan, implement and measure. With agile technology development , constantly changing technology  and digitization  the way we do these essential activities of planning budgeting and forecasting within FP&A needs to change.  Today these are static activities - we plan  in our strategic planning cycles for the next 3 to 5 years , develop a detailed budget for the next 1-2 years and forecast on a monthly or quarterly basis for the current year. But by the time a budget  is developed and approved , it is already obsolete due to to the changes  that have taken place  in the market or within the company more recently.  We then develop waterfall charts to explain the difference between plans, budgets and forecasts. A lot of  the time of the FP&A analysts is spent in chasing down the data to explain these waterfalls instead or really digging into the insights from KPIs and partnering with business to take strategic decisions.

Many articles today are suggesting we should move to dynamic planning. Brian Kalish describes dynamic planning  is his article " Dynamic Planning For A Dynamic World: Are You Ready For Change?" as " Dynamic planning enables companies to evaluate risks, seize new opportunities, adjust to new challenges, react quickly and properly to threats, adapt to changing technology, and make decisions that help it thrive" . Dynamic planning would still require long term goals  to be set but it would allow the  teams to revisit the ways that would achieve those goals in shorter time horizons. If dynamic planing is done  with flexibility and agility to would allow companies to do course changes quickly instead of making big bang investments  and then being forced to be married to it for some time. Rolling forecasts  is another way that more flexibility can be added to the process of  budgeting and forecasting. But  in some industries  or companies, long term investments have to be made  which will require a long term risk taking and investment. For example , for a manufacturing company investment in a new site is a long term investment based on the current and future predictions of demand at a certain point in time. Once a commitment is made to do an investment, huge amount of capital is invested in it and it cannot be abandoned after 1 year because demand changed.

We know  the current static process is not sustainable to the quickly changing technologies  and availability of huge amounts of data, but we still   have to plan  for  long term as well as short terms planning horizons.  Changes to the current static process have to be made keeping in  mind the needs of the industry.  Balance has to be maintained in the processes to take into account quickly changing technology vs longer term investment such as in fixed assets or R&D.

I believe we need to understand  and divide the budget into short term / dynamic variables vs long term / static variables. The short tern dynamic variables  items should be reviewed on shorter time horizons  ( monthly or quarterly) and regularly allowed to be updated  to achieve the goals while the long term static variables should be reviewed on an annual basis to achieve the goals.  This would require a different way to look at the P&L and balance sheet  and partnership with the business in understanding the short term and long term decision making impacts. I call it the hybrid planning process.


Thank you for reading. Please leave your comments here or  on linkedin. I welcome your feedback and comments.

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