It's that time of year again: BUDGETING
Executives and business managers around the world are TRAPPED in conference rooms trying to create plans and budgets for the upcoming year. And then they need to revise and rationalize their budgets after review by the CFO. And then they need to revise and rationalize their budgets again after review by the CEO.
Rinse and repeat. Rinse and repeat.
Why are all "budgeting" processes largely a waste of time? Finance teams and executive team need to think about continuous strategic planning, instead of budgeting.
What do I mean?
The current budgeting exercise is a pure unadulterated tragedy of the commons. I, as an exectuive, throw my full budget requests into the pot as there is limited personal downside to my requesting more budget so that I or my people work less or I have greater probability of hitting my objectives. In a company, there is limited upside in executives or managers doing more with less. I have never seen a business manager say “increase my revenue target, ‘cause I have a lot of gas in the tank.” Even if the CEO or CFO keep the revenue forecast flat, I guarantee that executives would start coaching the numbers down. It's just human nature.
The CEO and CFO of a company need to be excellent at strategic planning. "Budgeting" should be happening everyday and there should never be a budgeting cycle where executives have a free pass to reset their expense budgets and increase headcount.
So how does the CEO and CFO move from budgeting into strategic planning:
1) Back of the Envelope Model: The CEO should maintain a back of the envelope financial model for the company. It should not be more than 20 lines in Excel. It should clearly communicate to every executive and employee what the key levers for the business are to achieve an aggressive revenue target. If the CEO cannot communicate this, it is likely he or she needs to work harder to be crisper with his strategy and how the business model works.
2) Look at Investments, Not Expenses: Every dollar of increased expenses need to be viewed as an investment with a return on investment. Too often, managers argue to increase expenses without justifying a financial return to the business. Any time an increase in expenses hits the CFO's desk, the CFO should quickly understand the return on that investment in a dollar metric. For example, the return on investment for adding a sales person, a marketing manager or an engineer should be easily understood in a common language. That language is a simple return on investment calculation - dollars returned to the business for dollars invested by the business. That means for every incremental dollar being spent, you should have a strong perspective on the financial return on those dollars. The entire company should share in this mindset.
3) Aggressive Accountability: Executives and hiring managers should be held accountable to justify the return on investment for ther headcount and their expenses. This is a really unusual thing to say and it rarely happens. The CEO and CFO should be pushing their executives and their managers on the financial return and the investments they are making every day in their business. The CFO should be challenging the CEO and other executives based on the underlying drivers and unit economics of the business. The CFO should create a culture where getting resources should be reasonably hard for the company. The CFO should be pushing managers to be creative and forcing the discussion whether we should be doing certain activities and what must fall off the plate.
Every dollar spent must be a CONSCIOUS decision.
Every dollar a company spends should be thought of an INVESTMENT, not an expense.
Once your company moves to investing from expensing, then you can move from budgeting to true planning.