Take any employee of a company, ask him or her his/her top frustrating business process. My bet is that you get either the budget allocation process or the yearly performance appraisal (the 2 being linked btw in most organisations). This blog post is about alternative ways of dealing with the former. So we are going to talk about “Money” “Money” “Money” but …not only 🙂
Riding a bike
The traditional budget process is like riding a bike blind folded on a pre-defined fixed path. You first set the destination and time of arrival (in business term: the objective, what we want to happen). Then you define a fixed path to get there (resource allocation/yearly budget, what is needed to get there). On top of this, you ride there blind folded (in business term forecasting, what you think will happen yearly). The outcome (the reward) is that most likely you are going to end-up far from destination or worse (performance evaluation).
Having target settings, forecasting, budget allocation and performance evaluation tied to each other is where it all goes wrong in most organizations. To make the issue simple, by doing so, the following issues appear:
- Targets are not ambitious because you will be evaluated on it. So better be safe than sorry.
- Forecasting is not relevant (blind folded) because it looks at either extrapolation of the past (so does not take into account new events) or look too far in the future (and as far as I know nobody can know the future).
- Budget allocation is as big as possible because it is the future of your department or business unit that depends on it. It is yearly based, most of the time, so not taking into account unforeseen events during the year.
- Performance evaluation is not making sense as it is usually based on fixed targets that do not take into account externalities and performed only once a year.
At the end, this financial system is time consuming, full of politics and disconnected from the company strategy. It however fulfil core functions of any organisation (setting objectives for instance). It is essential to improve it to create more future proof organizations.
Looking for alternative to this core process, I have been truly inspired by the companies like Statoil implementing what they call beyond budgeting principles.
What beyond budget approach is advocating is straightforward in description:
- Decouple target setting, forecasting, budget allocation and performance evaluation
- Set inspiring and stretching targets
- Do forecasting with limited details on a short time line and on a rolling/dynamic basis to be able to capture timely changes. It changes for instance financial communication especially for listed companies.
- Implement dynamic ressource allocation which is event driven not calendar driven. I like this quote from some of the Beyond budget implementors “The bank is open 24h a day!”
- Evaluation performance continuously (and in hindsight) based on relative indicators. For instance, one can use benchmarked performance standards through internal (e.g. different branches in a company) or external league tables (e.g.key performance indicators (KPIs) compared with competitors) focusing on teams rather than individuals.
Sounds like magical to me, and a number of small and large companies have started the journey turning contractual yearly based budget/performance management into an event driven continuous budget/performance management.
How to get started?
Changing financial system is a very delicate matter, because it is a system and a number of processes are interconnected. Looking around, little uniformity exists in how companies have approached this transition. Ultimately, both top down decisions need to be made and a number of bottom up experiments need to happen. So yes winning the board is essential to start reinventing this backbone system but at the same in any business units or departments, experiments can take place around alternative rewards mechanisms or dynamic ressource allocation for instance. You can check out his video on the implementation of alternative budget practice at Statoil.
Then, the implementation can also be gradual. Starting by improving the reward process the first year, then decoupling target settings, forecasting and budget allocation the next year, then introducing rolling forecasting the year after, then relative targets setting, … There is no recipe in implementation but the ingredients are known. So up to each one of us to get it done: let’s go beyond budget!