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3 Ways to Add Flexibility to Budgeting

Every two years, we conduct “speed of change” research with our customers and the community. In 2018, in a survey of more than 2,000 managers, 47% reported that to survive they needed to reinvent their businesses every three years or less. In 2020, that number increased to 60% during the pandemic. 2022 data is still going inbut the top 600 respondents show that the speed of change remains incredibly high, with 55.8% reinventing themselves every 3 years or less, and 20.8% changing their plans every 12 months or less – the fastest speed ever we have seen

Surviving, and more importantly thriving, in this new normal requires a new set of rules across functions and industries. Take, for example, the practice of “just-in-time” manufacturing. In the true world of relatively low volatility, having low or even zero inventory is incredibly efficient: you don’t have to tie up capital or invest in warehouse management. But with today’s unreliable supply chains, just-in-time could be exactly what destroys your business.

That, of course, applies to strategic planning, and several thinkers, including the authors of this recent HBR article, have already established new principles for strategizing in turbulent times. But how do we translate these principles into practice, especially when a strategic plan cascades into daily reality through daily budgeting and management? Right now, with many of us in the midst of a planning and budgeting process, how do we prepare for the volatility and uncertainty of the coming months?

Three science-backed, field-tested tricks can make a difference today:

Set your goals in ranges.

It has been common practice for decades to set targets in a singular format that leaves no room for interpretation: for example, 10% net income growth, 7% EBITDA growth, or 15% market share. This approach worked very well in a predictable, low volatility world. But in a world of constant change, it won’t.

What is the alternative?

Instead of the singular “10% net income growth,” have a meaningful discussion to determine a market-ready range (say 8-12% or whatever other range your analysis suggests). Or replace a “15% market share” with a range that would give your team flexibility while also providing focus and discipline, maybe 12-18% or 11-17%.

Working with a range is backed by science. Management thinker Steve Martin explains why:

“Researchers of Florida State University recently demonstrated how this small change in goal setting could have an impressive impact. In A studymembers of a weight-loss club who wanted to lose two pounds a week were assigned to one of two groups: a single-number “lose 2 pounds a week” goal group or a high-low range goal group that he averaged the same ‘lose 1-3 pounds per week.’

The impact of setting a high-low goal on members’ sustained motivation to reach their goal (by enrolling in an additional 10-week program) was striking. Only half of those assigned a single-number weight loss goal stuck with the longer-term goal, but nearly 80% of those assigned a high-low range weight loss goal did. they made”.

Our fieldwork confirms the scientific data and shows another benefit of using ranks: It resolves the age-old war between the “top” and the “bottom” of the organization around goal setting. Often when the board is aiming high, the team views its goals as unrealistic, and as a result, all parties leave the planning process unsatisfied, frustrated, or worse, completely unmotivated.

Thinking of your goals as a range rather than a singular point gives you the flexibility to adapt to a changing environment. It is important to determine your range deliberately and clearly, and celebrate when you reach any point within the defined range.

Set predefined limits.

I’m sure you’ve seen this before: You put a lot of work into preparing your company’s budget, with rounds of corrections and a lengthy approval process. The budget is finally signed and then becomes irrelevant in months, if not weeks, as market conditions change.

Traditional budgeting hurts innovation and renewal in your business, as we discovered when we advised a large manufacturing group setting up a corporate venture fund. While the established companies within the group did relatively well under the traditional planning approach, the new companies within the venture fund were stifled by the need to constantly re-approve each line item in the budget each time a new pivot appeared on the chart. horizon.

Limits came to the rescue. Having some clean, well-calculated lines in the sand gives you a quick and dirty way to move forward while new, more complex budget calculations are made. Cost per unit, cost per customer acquisition, number of product launches – many different dimensions can be used to set smart limits for volatile times.

Caps also help in less dramatic downturns: If a single supplier changes prices mid-year or a new regulation makes things more expensive, caps give your team the freedom to make well-informed decisions without having to re-approve the entire package. budget each time and therefore reduce micromanagement.

It is often claimed that managers must think outside the box, but as many creative leaders have done he pointed, to create something new, we need to start with a box. Limits and restrictions are crucial to our creative thinking, and strategy is the best place to apply your creativity. Use lessons from the past to guide your discussion. What kind of boundaries will minimize the need for micromanagement and give your team clarity? Perhaps some level of cost? Regional limitations? Customer segment restrictions? What imaginary lines should your business have? No cross how you execute your strategic plan?

Reduce the budget cycle.

The traditional budgeting process is closely related to the practice of publicly traded companies, which is why an annual budget is practiced in many companies. That works well in a relatively stable world, but makes it difficult to keep up with disruptive changes in prices, exchange rates, new regulations, new technological advances, and more. Therefore, shorter sprints are needed between plan adjustments.

This was exactly our experience when working with a large multinational mining company for the fall in the price of raw materials in 2015. With prices falling by more than 50% in several metals, their annual budgets were outdated in a matter of days, but the traditional budget adjustment process was complex, time-consuming, and nuanced. The company knew that if it stuck to the approved budget plan, it would destroy itself, but it did not know the extent of the damage and the specific areas (across many business units and regions) where the pain was greatest.

Moving to a shorter cycle (quarterly instead of annually) and developing an 18-month rolling forecast became the solution. Fluctuating data is now entered into the budget more frequently, keeping the budget more up-to-date. These “just-in-time budget” solutions it became popular during the economic crisis of 2008-2011, but for many it was perceived as a temporary solution. Today, high volatility is a permanent feature, it’s time to accept that they are here to stay.

• • •

Whether you accept one of these three tricks or decide to develop your own, one thing is clear. The challenge we face is not trying to survive until things stabilize, but learning to thrive in constant chaos. For that, we have to reinvent the way we run organizations, as the rules for thriving in a stable world are completely different from the rules for succeeding in a volatile one. Creating turbulence-ready goals and budgets is a great place to start.

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