The budget is a tool for repression rather than innovation. – Bob Lutz, Ex-CEO, Chrysler
The budget is an unnecessary evil. – Dr. Jan Wallander, Honorary President, Svenska Handelsbanken
The budget is the bane of corporate America. – Jack Welsh, Ex-CEO, General Electric
Annual budgets may sound boring to many, but their impact on society, how we work, and our output as a nation are huge.
In their book Beyond Budgeting – How Managers Can Break Free from the Annual Performance Trap, Jeremy Hope and Robin Fraser paint a very compelling picture for doing away with the annual budget, and moving to a move agile, decentralized value creation model altogether.
Hope and Robin argue that budgets have been hijacked by a generation of financial engineers that have used them as remote control devices to “manage by the numbers.”
They go one to say that “budgets have been turned into fixed performance contracts that force managers at all levels to commit to delivering specified financial outcomes, even though many of the variables underpinning those outcomes are beyond their control. This leads to undesirable and, in many cases, unethical behaviour.”
Examples of dysfunctional behaviour due to annual budgets include:
x always negotiate the lowest targets and the highest rewards.
x always make the bonus, whatever it takes (even if that means stuffing the distribution channel with “sale-or-return” products.
x never put customer care above sales targets.
x Never share knowledge or resources with other teams-they are the enemy.
x Always ask for more resources than you need, expecting to be cut back to what you actually need.
x Always spend what’s in the budget.
x Always have the ability to explain adverse variances.
x Never provide accurate forecasts.
x Always meet the numbers, never beat them.
x Never takes risks.
Hope and Fraser argue that the way out is to enable managers to focus on continuous value creation instead of merely trying to “make the numbers.” (I’m paraphrasing here).
When it comes to setting targets, choice high-level KPIs such as return on capital, frees chase flows, or cost-to-income ratios.
When it comes to rewarding people evaluate teams based on how they compare with industry benchmarks, their peers, and prior years.
For managing resources, make resources available and accessible to front-line teams as and when required through fast-track approvals.
To bring about these changes a change in core philosophy will be required. The fixed performance contract is based on central control. It assumes the absence of trust.
The relative improvement contract is based on self-regulation. It assumes that teams can be trusted to manage their own affairs (within agreed boundaries) and to be fully accountable for their results.
It’s hard to explain, and I am not doing the book justice. But if you are looking for a more lean, less wasteful, agile way to create your budgets, Beyond Budgeting may be the book you’re looking for.
Good reading for those of you looking for a more agile way to approach capital expenditures and budgets at your company.