more-arw search

Should Companies Eliminate Budgets?

Creating a budget could actually be a disadvantage for a firm.

Companies that limit their spending based on outdated facts and figures may risk losing business to their competitors. But that is exactly what companies do every time they go through the traditional, annual budgeting process. They make predictions about the near future, based on old data that doesn't necessarily tell anyone – executives or investors – about the true state of the company today. The result can leave managers scrambling to meet unrealistic targets at year's end and executives having to explain why their numbers were so off at the end of the fiscal year.

Budgeting May Be Outdated for CFOs
A report from PricewaterhouseCoopers stated annual budgets are simply not the best route for companies, that they actually have the potential to hold back firms that stick to them. Using more integrated financial planning and forecasting tools is a better solution for CFOs who want to manage their organization's funds in the most efficient manner, the writers of the report suggested. The study pointed out that many businesses lean on the previous year's budget to shape their budgets for the upcoming six to 12 months. However, seven in 10 CFOs said they could not forecast more than a single quarter out. 

Critics of traditional budgets include Jack Welch, former CEO of General Electric, who has said that creating a budget is one of the primary errors that contributed to the financial crisis that has limited many organizations throughout the U.S. He was quoted in 2006 and 2009, speaking about just how much he believes budgets can play a role in debilitating a firm.

"The budget is the bane of corporate America," he said in 2006. "It should never have existed. Making a budget is an exercise in minimization, i.e., showing how little you can do."

And in 2009 he said "Not to beat around the bush, but the budgeting process at most companies has to be the most ineffective practice in management." However, three years later, many companies and their finance organizations have not been able to break the habit.

Why Budgets Place Firms at a Real Disadvantage
While the economy has been in a turnaround compared to the past few years, CFOs have renewed their focus on growth. But they may be hindering that effort by encouraging their companies to stick to inflexible budgets. Consider the following negative aspects of budgeting provided by news site AccountingWEB and question whether your budgeting process should change or be eliminated altogether:

  • Time could be wasted: Finance chiefs who want to draw up a budget may not realize how much time they are putting into planning their firm's finances for the rest of the year. These precious hours could be spent on something more beneficial to the organization.
  • Departments have restrictions on their funds: When finance leaders allot certain amounts of money to each aspect of their company, departmental decision-makers either have to use the money or they have to give it back, leading to potentially poor investments or unnecessary risks.
  • Budgets could be inaccurate: Budgets generally do not account for changes in the marketplace, and organizations are not always prepared to make adjustments when unexpected swings in the economy occur, turning a budget into an obsolete guideline.
  • Blame is thrown around the company: If a certain aspect of the organization has too much or too little money to carry out processes, top decision-makers may believe the CFO and members of the finance team are responsible for their issues, causing a rift within the business.

Comments

Nicole Healing
Title: Digital Marketing Executive
Company: Diditerre
(Digital Marketing Executive, Diditerre) |

Budgeting in the traditional sense of the word does seem outdated, especially in the current, volatile global economy. Really interesting comment from Chris Shumate above regarding governments. We all know how archaic and bureaucratic most governments are, so...

Topic Expert
Wayne Spivak
Title: President & CFO
Company: SBAConsulting.com
LinkedIn Profile
(President & CFO, SBAConsulting.com) |

Yet, not only do governments insist on budgeting, but Wall Street, Investment Bankers (including PE & VC) love budgets.

I use as why these budget (both short and long-term; unyeilding and static) don't work. I say look at 2011 where three non-related events took everyone's budget and threw it out the window. The tusnami in Japan, the drastic increase in the cost of oil and the natural disasters on the East Coast.

All increased costs, and had different types of rippled effects.

Rolling forecasts, that are "nimble" allow mid-course corrections (monthly).

Dawn Hall
Title: Chief Financial Officer
Company: Bionix Development Corp
(Chief Financial Officer, Bionix Development Corp) |

I agree with most of what was said above. I wanted to add a book that I have been reading that pertains to this: Future Ready, How to Master Business Forecasting by Steve Morlidge and Steve Player. I have not finished the book, but I have enjoyed what I have read so far.

Norman Campos
Title: Director, Finance
Company: NA
(Director, Finance, NA) |

Having a budget is a good thing because it creates a benchmark for performance. Especially if it's tied to the overall strategy, the market changes, or need for internal cost controls. It's the process of creating one that's flawed. Relying on last year's budget as a basis can result in misallocation of funds. Much like a prospectus caveat, past performance is not indicative of future results.

Anders is on the right track. Regular review of the market, performance, and timing of cash flows eventually leads to a budget that allocates funds where necessary, is realistic, and continuously updated..

Anders Liu-Lindberg
Title: Regional Finance Business Partner
Company: Maersk Line Northern Europe
LinkedIn Profile
(Regional Finance Business Partner, Maersk Line Northern Europe) |

Ken,

I agree that the data-sample is small, but on the other hand I consider hbr.org a somewhat trustworthy source so I take it as a good indication. However clearly more research into the topic is needed.

Anders Liu-Lindberg
Title: Regional Finance Business Partner
Company: Maersk Line Northern Europe
LinkedIn Profile
(Regional Finance Business Partner, Maersk Line Northern Europe) |

Should a company get rid of budgets? ABSOLUTELY!

If you are more interested in the topic I suggest you take a look at the Beyond Budgeting movement. I have been involved in plenty of these discussions over the past 2-2.5 years and seems when explained properly most finance professionals see the benefit.

So what you do is to replace the budget with a rolling forecast, a target setting process and a resource allocation. Believe that would also take care of some of your concerns Ken.

One thing I found interesting when I was recently reading this story on hbr.org (http://blogs.hbr.org/cs/2013/07/good_companies_are_storyteller.html) is that many of these "storydoing" companies who are outperforming their peers financially have actually gone Beyond Budgeting so evidence is starting to show that it works.

Ken Stumder
Title: Finance Director / Controller
Company: Ken Stumder, CPA
(Finance Director / Controller, Ken Stumder, CPA) |

Anders - thank you for the interesting HBR article. Good read, though of course as anyone can tell you, taking a list of companies and subjectively selecting "storydoers" based on criteria off of a (subjectively) predetermined list does not constitute empirical evidence!

Googled Beyond Budgeting and will read up on it. Thank you once again for offering some alternative material.

Ken Stumder
Title: Finance Director / Controller
Company: Ken Stumder, CPA
(Finance Director / Controller, Ken Stumder, CPA) |

Chris - rereading the topic, I see that it does make reference to frequency. We do quarterly rolling forecasts. The mechanics are not substantially different from the budgeting process. I'm curious how different companies adjust comp plans to achieve desired results.

Ken Stumder
Title: Finance Director / Controller
Company: Ken Stumder, CPA
(Finance Director / Controller, Ken Stumder, CPA) |

How does a company execute on a strategic plan without allocating resources? Selling, customer service, market research, etc. require investment. Don't budgets makes sure managers weigh each investment decision carefully - and reasonably in advance? I don't think a budget is intended to stifle growth, it's just a way to formalize "here are our goals and this is how we will get there". In my view, the value of a budget is not in its "accuracy" and that survey of CFO's who say they cannot project more than a quarter out may be taken out of context.

These studies don't mean much without alternatives being offered. What alternatives to formalized budgets have members of the Proformative community seen put into action with success?

Chris Shumate
Title: Accounting Manager
Company: Dominion Development Group, LLC
LinkedIn Profile
(Accounting Manager, Dominion Development Group, LLC) |

Ken - I have seen and tried to get rolling forecasts going. As an example, I work for a construction GC. We know the slowest month is going to be December when billings are down, projects are slowing because of the holiday season. There are also jobs that the project development folks have on their list that they are 90% sure the company has. Then there is that 10% when something actually falls through. If we were relying on that in a budget there could be hard decisions to be made in regards to employment for that job. A rolling forecast and being on top of what is happening is more beneficial for us because of that reason than a traditional budget.

There are quite a few White Papers on Proformative that discuss rolling forecasts and its benefits, as well how great the particular company's model is.

Chris Shumate
Title: Accounting Manager
Company: Dominion Development Group, LLC
LinkedIn Profile
(Accounting Manager, Dominion Development Group, LLC) |

I wonder if the budgeting process could be blamed for cities and counties all over the U.S. failing to stay on and under budget. If budgets are obsolete for companies, surely budgets are obsolete for the varying forms of government.

"Time could be wasted: These precious hours could be spent on something more beneficial to the organization." True. I would like to see potential things mentioned that may be more beneficial to the organization.

Chris Shumate
Title: Accounting Manager
Company: Dominion Development Group, LLC
LinkedIn Profile
(Accounting Manager, Dominion Development Group, LLC) |

Wayne - Thanks for replying. As far as market research is concerned, would CFOs and other finance leaders be doing research regarding a particular product or service's marketability, trying to secure funds from investors, or other something completely different?

What about the CFOs and other finance leaders' role in regards to customer service?

I understand selling and productivity improvements correlation with the CFO. I do not have the experience regarding the other two though.

Topic Expert
Wayne Spivak
Title: President & CFO
Company: SBAConsulting.com
LinkedIn Profile
(President & CFO, SBAConsulting.com) |

Selling, customer service, market research, productivity improvements to name just a few.

Products and Companies: