Driver-Based Budgetary Forecasting

The long procedure for annual budget setting tasks to come to fruition has been a constant in some corporations for decades. Executives, managers and employees stake their reward compensation on a static financial target even though the business drivers are changing daily, which is nonsensical when you think about it in certain fast-moving firms and sectors. The annual budget is commonly a chore event that is broadly disliked, yet little change to the procedure is usually implemented, and accurate forecasting can suffer as a result. 

Forecasting is an on-going core management process, however, not an annual event. Getting this right can aid annual budgeting. Business and economic conditions are always changing, which force businesses to adjust their short-term and long-term plans. A forecasting process transforms a perpetual plan into a financial result; as plans change the financial results of the plan change. Financial, planning and analysis (FP&A) becomes more reactive, rather than static. 

The annual budget and a robust forecasting process can co-exist. In fact, a driver-based, rolling forecast model, perhaps using FP&A tools and disciplines, can enable a drastically reduced effort to be made to produce an annual financial view – a budget within a budget. The goal for the driver-based, rolling forecast process is to create a monthly forecast scenario that enables the company, at any given point in time, to create an annual (12-month period, or even longer) financial budget with minimal effort and treasury or finance time required. 

To be functional, a driver-based, rolling forecast model needs to identify work unit forecasts that are created and maintained by the operating area with regular updates, such that an update can be achieved at any given point – effectively a ‘push- button budget/forecast’ is quickly achievable. The ‘drivers’ reflect the critical business conditions that drive a business, such as demand for product and seasonality. By identifying the driver and correlating it to units of work, the creation of budgets is simplified based upon strong forecasting of the key drivers. 

The Critical Component

Critical for the implementation of any budget or forecast is the achievement of a ‘single version of the truth’. Without common agreement on the numbers and their derivation, more time is spent questioning results and their validity and understanding the nuances of processes, rather than focusing on the critical business impact of what matters most. Thus tying drivers with units, to forecasts that are based upon strong assumptions that can be updated allows for a timelier understanding of financial results and anticipated future trends. It can aid cash management and various treasury or finance functions within firms. Isn’t that where true value to any business lies?

Once drivers and units are identified the entire process is simplified. It is important to keep in mind that it is simplified, not eliminated. Forecasting ideally would be on a monthly basis (potentially more or less frequent) examining expected demand or drivers, resulting in anticipated financial results automatically updating. 

Constant and consistent oversight of the process, assumptions, drivers, and forecasts, is crucial for the driver-based budgetary procedure to work. It needs to dynamically reflect the process changes and should be positively enhanced by this constant updating. After consistent execution process efficiencies should be able to be identified which reduce cycle time and improve reliability on the forecasting activities of corporates.