- Obsolete budgeting - The budget data is obsolete within weeks after it is published because of ongoing changes in the environment. Customers and competitors usually change their behavior after the budget is published, and a prudent reaction to these changes often cannot be accommodated in the budget. In addition, today's budget process takes an extraordinarily long time, sometimes exceeding a year, during which the organization often reshuffles and resizes.
- Bean-counter budgeting - The budget is considered a fiscal exercise produced by the accountants and is disconnected from the strategy of the executive team - and from the mission-critical spending needed to implement the strategy.
- Political budgeting - The loudest voice, the greatest political muscle and the prior year's budget levels should not be valid ways to award resources for next year's spending.
- Over-scrutinized budgeting - Often the budget is revised midyear or, more frequently, with new forecast spending. An excess amount of attention then focuses on analyzing the differences between the actual and projected expenses. These include budget-to-forecast, last-forecast-to-current-forecast, actual-to-budget, actual-to-forecast and so on. This reporting provides lifetime job security for the budget analysts in the accounting department.
- Sandbagging budgeting - The budget numbers that roll up from lower- and mid-level managers often mislead senior executives because of sandbagging (i.e., pad ding) by the veteran managers who know how to play the game.
- Blow it all budgeting - Reckless "use it or lose it" spending is standard practice for managers during the last fiscal quarter. Budgets can be an invitation to managers to spend needlessly.
- Wasteful budgeting - Budgets do not identify waste. In fact, inefficiencies in the current business processes are often "baked into" next year's budget. Budgets do not support continuous improvement.
The annual budget is steeped in tradition, yet the effort of producing it heavily outweighs the benefits it supposedly yields. How can budgeting be reformed? Or should the budget process be abandoned altogether because its inflexible fixed social contract incentives to managers drives behavior counter to the organization's changing goals and its unwritten "earnings contract" with shareholders? And, if the budget is abandoned, what should replace its underlying purpose?
The Evolutionary History of Budgets1
Why were budgets invented? Organizations seem to go through an irreversible lifecycle that leads them toward specialization and eventually to turf protection. When organizations are originally created, managing spending is fairly straightforward. With the passing of time, the number and variety of their products and service lines change as well as the needs of their customers. This introduces complexity and results in more indirect expenses and overhead to manage the newly created complexity.
Following an organization's initial creation, all of the workers are reasonably focused on fulfilling the needs of whatever created the organization in the first place. Despite early attempts to maintain flexibility, organizations slowly evolve into separate functions. As the functions create their own identities and staff, they seem to become fortresses. In many of them, the work becomes the jealously guarded property of the occupants. Inside each fortress, allegiances grow, and people speak their own languages - an effective way to spot intruders and confuse communications.
With the passing of more time, organizations then become internally hierarchical. This structure exists even though the transactions and workflows that provide value and service to the ultimate customers pass through and across internal and artificial organizational boundaries. These now-accepted management hierarchies are often referred to, within the organization itself as well as in management literature, as "silos," "stovepipes" or "smokestacks." The structure causes managers to act in a self-serving way, placing their functional needs above those of the cross-functional processes to which each function contributes. In effect, the managers place their personal needs above the needs of their co-workers and customers.
At this stage in its life, the organization becomes less sensitive to the sources of demand placed on it from the outside and to changes in customer needs. In other words, the organization begins to lose sight of its raison d'etre. The functional silos compete for resources and blame one another for any of the organization's inexplicable and continuing failures to meet the needs of its customers. Arguments emerge about the source of the organization's inefficiencies, but they are difficult to explain.
By this evolution point, there is poor end-to-end visibility about what exactly drives what inside the organization. Some organizations eventually evolve into intransigent bureaucracies. Some functions become so embedded inside the broader organization that their work level is insensitive to changes in the number and types of external requests. Fulfilling these requests were the origin of why their function was created in the first place. They become insulated from the outside world. This is not a pleasant story, but it is pervasive.
A Sea Change in Accounting and Finance
How can budgeting be reformed? Let's step back and ask broader questions. What are the impacts of the changing role of the chief financial officer (CFO)? How many times have you seen the obligatory diagram with the organization shown in a central circle and a dozen inward-pointing arrows representing the menacing forces and pressures the organization faces - such as outsourcing, globalization, governance, brand preservation and so on? Well, it's all true and real. But if the CFO's function is evolving from a bean-counter and reporter of history into a strategic business adviser and an enterprise risk and regulatory compliance manager, what are CFOs doing about the archaic budget process?
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