FROM THE FACULTY OF FINANCE AND MANAGEMENT OF THE ICAEW

Good Practice

Guideline
March 2000

ISSUE 29

P R E FA C E
Research indicates that Faculty members expect regular information, ideas and guidance. The concept of Good Practice Guidelines has therefore been adopted. As chartered accountants often have less time available for reading than they would wish, these documents are succinct and the writers will direct the reader to other, and often fuller, expositions on the subject. The guidelines will give a general overview and an analysis of the critical features of the subject, aiming to be practical. Some will summarise suggested good practice and others will be discussions on current conditions. Authors are chosen on a most appropriate for the subject basis. The guidelines are the personal views of the authors and not necessarily those of their firms or of the Faculty. Some guidelines will have a limited life and will be updated in due course. The nature of some subjects will preclude the guidelines from being definitive or mandatory. Being general in nature, the points made in the guidelines may or may not be relevant to specific circumstances. The Faculty committee intends that the guidelines will act as an aide-memoire for members, provide new ideas, and encourage good practice, but cannot accept responsibility for their accuracy or completeness. Responses from members will be a very important part of the successful development of the guideline tool. Comments, please, to Chris Jackson on 020 7920 8486 or to the web site (www.icaewmembers.co.uk).

21st century budgeting

INTRODUCTION
Budgeting is a financial management technique which was initially developed in the early decades of the 20th century. The need for this technique was largely driven by the emergence of the first diversified industrial corporations. These organisations had to decide how to allocate the resources at their disposal so as to maximise their return to shareholders. To do this, they began to forecast the likely financial performance of their different business units so as to be able to allocate their most scarce resource namely capital to the best performing businesses. Some 80 years later, almost all organisations still base their budgeting process on approaches and techniques developed in the first third of the last century which is a little surprising given the revolutionary changes that have affected every other aspect of business and commercial life.
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CONTENTS

Why change is needed Understanding traditional budgeting approaches Better budgeting a more efficient process Innovations in traditional budgeting

2 4 5 8

More recent thinking Case study Conclusion Further reading

9 14 16 18

ISBN 1 85355 872 9

THE AUTHOR

John Fanning of KPMG Consulting see page 17.

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Budgeting is now one of the most widely practised and well known skills in the financial managers toolkit. That is not to say that it is among the most popular. Indeed, in many organisations, the impending arrival of the budgeting period is viewed with disfavour or even alarm by many participants who are well aware of the volume of work that will be required and the irritations and frustrations which often arise during the budgeting cycle. Many managers would be prepared to tolerate such experiences if the output was of significant assistance to them in their day-to-day activities, but in many cases the budget proves to be of limited merit. In many organisations the budget is unhelpful and in some it can be positively harmful. Does budgeting really have to be like this? This Good Practice Guideline critically assesses current budgeting approaches. It also examines innovations which have been developed to rectify perceived weaknesses in current practice. It then looks at ways in which a smaller number of organisations have moved beyond current practice to radically improve their financial and performance management, without employing traditional budgeting approaches.

WHY CHANGE IS NEEDED

Even when performed effectively and efficiently, the process can be problematic. Many readers will have experienced the frustrating experience of having carefully prepared financial projections rendered useless because of major changes in basic underlying assumptions, such as exchange rates, interest rates, and costs of basic raw materials, which would have been difficult to predict when the initial calculations were performed. This type of external shock is increasingly prevalent, making long-term planning an increasingly fraught and difficult exercise. Numerous surveys, studies and reports have identified the typical budgeting process as being: s inefficient; s lengthy and drawn-out; and s a waste of valuable management time. Let us examine the evidence in more detail. Figure 1 (opposite) shows that only about half of companies currently complete their annual budget within 60 calendar days. Figure 2 (opposite) summarises the problems which are typical of the budgeting process in many organisations. The budget performs a variety of roles but at the heart of the increasing dissatisfaction with the budgeting process are two fundamental and related questions: Can a single budgeting process provide both an accurate picture of anticipated business performance, while, at the same time, encourage managers to achieve substantial step change improvements in business performance?

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FIGURE 1 BUDGET CYCLE TIME WORKING DAYS

40

35% 28%

20

17%

16%

4%
0

1 month

2 months

3 months

3/4 months >6 months

Source: KPMG Consulting database of finance function processes

FIGURE 2 TYPICAL BUDGETING PROBLEMS

s Mechanics of budgeting process are inefficient. s Budgets prepared in isolation from, and not aligned to, company strategy and goals. s Focus primarily on financial outputs to the exclusion of other perfomance measures. s Budgeting time horizon not linked to the rhythm of the business, ie long horizons in rapidly moving sectors and short horizons in relatively stable sectors. s Data collected on complex array of spreadsheets and fragmented data sources. s Information on current performance not easily accessible. s Managers tend to game and manage around plans. s Employee goals and the appraisal process are not linked to business objectives.

Can an approach in which rewards are based upon delivery of performance commitments enshrined in the budget guarantee that managers always adopt behaviours which prioritise the needs of the organisation rather than their own interests? Increasingly observers are coming to the conclusion that the answer to both of these questions is no. Despite this, many organisations continue to prepare budgets in the traditional fashion. Why is this?

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Two factors can be identified: s an absence of any compelling desire or need to change for too long, financial managers have tolerated a process which demands considerable effort for little tangible reward. However the pressure for change is steadily mounting. Allied to a general realisation that the process, in its current configuration, is of limited utility, the impact of the internet cannot be ignored. In a business environment dominated by e-commerce, all financial management techniques will have to promote speed of response and organisational agility. Those organisations that persist in taking three to six months to pull together a traditional budget and/or are unable to re-forecast sensibly and without undue effort on a regular basis will fall behind their competitors; and s a lack of knowledge as to the alternatives this Good Practice Guideline proposes alternatives. We will identify ways in which current approaches might be modified to achieve improvements in existing practice, while at the same time examining ways in which existing approaches have been more substantially altered by some organisations to dramatically improve the utility of the process.

UNDERSTANDING TRADITIONAL BUDGETING APPROACHES

One issue which seems to create considerable difficulties for many organisations is deciding upon which basis the budget should be prepared. Several options exist, as can be seen from Figure 3.

FIGURE 3 OPTIONS FOR PREPARING THE BUDGET

Source: KPMG Consulting database of finance function processes

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The choice of approach depends largely upon the circumstances of the organisation. The general situation in which each approach is to be preferred are discussed briefly below: s bottom up a bottom up approach tends to be preferred in organisations which possess a lot of business units or which operate in numerous business sectors. In this type of business it is very difficult to identify performance improvement criteria which will be suitable for application in a universal fashion across all the businesses. However, this approach is often slow and difficult to administer; s top down a top down approach is most frequently found in stable and predictable business environments. It is also typically found in a turnaround situation where there is little time for debate or consensual decision-making. The primary disadvantage of the top down approach is that it does little to promote ownership of the budget among business managers at operating unit level; s top down bottom up top down this approach is very common. Senior management set broad criteria within which the business units are free to use some discretion in arriving at a detailed budget. The disadvantage of this approach is that it tends to promote gaming between the centre and operational site with each side trying to second guess the others intentions so as to secure the most favourable outcome; s historical extrapolation a substantial minority of organisations still use historical extrapolation as the basis for future performance. In some sectors stable or highly predictable sectors for example this is the best and most suitable approach. The disadvantages of this approach are clear. Firstly the general business environment is becoming increasingly unstable so using the past as a guide to the future is becoming increasingly risky and secondly this approach tends to promote introspection the organisation concentrates on its own performance and fails to consider the actions of competitors; and s other approaches a number of alternative approaches to budgeting have been developed over the past decade or so. These are discussed in more detail below (see page 8 Innovations in traditional budgeting) Relatively few organisations have adopted these approaches to date.

BETTER BUDGETING A MORE EFFICIENT PROCESS

Irrespective of which of the above approaches is adopted, it is important that the mechanics of budget preparation are made as straightforward and efficient as possible. In too many organisations: s the mechanics of the process are confused and inefficient; s level of commonality being sought is excessive and often counter-productive; and s the technology used in the process is unsuitable. Let us examine each of these issues briefly in turn. Process improvement In all but the most efficiently run organisations the potential to improve the efficiency of any business process is substantial. As a general rule, those processes

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which are most deeply embedded in the organisation offer the greatest scope for improvement but are also the most difficult to change. This is certainly true of budgeting which is a process that most organisations have been performing usually in an unchanged fashion for many years. Process improvement is a complex subject in its own right and a substantial body of literature has developed around the subject. However at its most basic, process improvement involves three steps. s identifying the activities being performed within the process; s benchmarking the performance of these tasks within the business and, if possible, against external best practice; and s ensuring the performance of the tasks in the most efficient manner possible. Organisations wishing to improve the efficiency of their budgeting process should follow this three-step approach. The most common metric used in budgeting process improvement is cycle time reduction, ie the elapsed time between the start of the process and its completion. A host of improvement initiatives are available. Some of the more commonly used are shown in Figure 4.

FIGURE 4 PROCESS IMPROVEMENTS

s s s s Better data control and close monitoring of adherence to budget timetables. Improved control over drafts and versions. Common treatment of internal allocations. Clearer definition of roles and responsibilities in the process particularly the respective roles of the operating unit and division/head office. s Provision of dedicated support to budget managers, eg a help line. s Clearer supporting guidelines and better budget manuals. s Improved training for those involved in the process.

Level of commonality Many organisations have tried to improve their budgeting process by imposing greater uniformity on the process. The assumption seems to be that, if greater uniformity is applied to the process, then efficiency improvements will be the natural result. Although this can be true in some circumstances for example some of the situations identified in the preceding section it is not true in all situations. Organisations should ask whether insisting upon this level of uniformity is actually assisting the business. Figure 5 (opposite) shows typical approaches and potential improvements which can save substantial time and effort during the budgeting process. Technology innovation Almost all financial managers are adept in the use of spreadsheets and, given that non financial managers also have substantial experience of this type of package, it is not too surprising that, in most organisations, the favoured tool for collating, storing and presenting budget data is the spreadsheet.

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FIGURE 5 A LESS UNIFORM BUDGETING PROCESS

Typical practice s Use common forms and templates. s Demand a uniform and spurious level of detail. s Allow all units the same time to complete the budget process. s Employ the same planning horizon. s Insist upon the use of common metric across all business units. Better practice s Use templates and forms which capture a central spine of data but allow latitude in other areas. s Line item detail is based upon materiality and is substantially less than that found in the chart of accounts. s Budgeting units are given an amount of time commensurate with their needs if their business is simple they are expected to finish more quickly. s The planning horizon is based upon the natural rhythm of the sector in question. s Key metrics are varied to reflect the maturity of the business and key business imperatives. Spurious or irrelevant metrics are not sought.

This is not to say that spreadsheets are the best tool for budgeting. Over the past few years a number of IT applications have been developed which allow data to be used in innovative ways. Figure 6 shows how the type of applications used for budgeting have developed over time.

FIGURE 6 HOW THE TOOLS HAVE DEVELOPED

Web based tools Business Utility

Business Intelligence/Data Warehousing applications Accounting Analytical applications

Spreadsheet 1980 1990 2000

The first budgeting tools were based upon flat file technology and this technology is still used in some of the applications on the market today. These tools were designed to facilitate the collection of large amounts of data from files. These files were either templates associated with the application or spreadsheet files. Once incorporated into the master file, data could be further analysed and manipulated.

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This type of technology is of particular application in very large or dispersed organisations where ensuring the reliable receipt of information and its inclusion in consolidated reports is important. The introduction of this type of tool is expensive since it requires users at both operating unit and central location to have access to, and be adept in the use of the software. This can be an expensive option. More recent innovations have employed multi-dimensional technology and online analytical processing (OLAP) to allow the performance of more elaborate analysis and modelling of the data. The next generation of the budgeting application is beginning to emerge. This is the web-based application. The user is able to access the budgeting application via a web browser and submit information to a central database. Multidimensional technology is then used to allow both the administrator and the original user to analyse the information in multiple ways.

FIGURE 7 BEST PRACTICES USE OF INFORMATION TECHNOLOGY

s Metrics and information accessible and used by all levels of the organisation, subject to security and confidentiality concerns. s Consolidation of budget data executed automatically through single common tool. s Planning and budgeting is integrated with business reporting modules through a data warehouse. s Models handle all financial functions including consolidation, eliminations, recharges and currency conversions. s Modelling tools can provide multiple what-if scenarios and sensitivity analysis.

INNOVATIONS IN TRADITIONAL BUDGETING

As discussed earlier, current budgeting approaches are based on those developed in the first half of the 20th century. However, it would be incorrect to conclude that there have been no innovations in budgeting practice in the intervening period. Figure 8 (opposite) illustrates some of the major innovations, the basic features of the new approach and the major advantages and disadvantages. It should be noted that current budgeting practice has assimilated elements of many of these approaches. However, none of them have proved to be of universal application. This suggests that though the innovations can provide some advantages for selected organisation in certain sectors none is a general panacea for budgeting purposes.

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FIGURE 8 THE MAJOR INNOVATIONS

Approach Zero based budgeting (ZBB) Basic features Managers must justify all income and expenditure items at each budgeting cycle. Developed in the late 1960s by Federal Government managers in the US. Still popular in the public sector and other businesses with high fixed cost bases. Managers rank competing resources requests using agreed criteria. Those which do rank sufficiently highly are refused. Developed in the late 1980s. Often used in organisations in which resources available are severely limited or must be reduced significantly. Approach derived from the activity based costing explosion in the late 1980s. Activity costs are multiplied by anticipated volumes of the product or service in question to identify the operating cost base of the business. This forms the basis of the budget. Advantages Resource demands have to be justified every year. If business circumstances change and a resource is no longer required then it can be eliminated. Disadvantages The process is inefficient. In practice many resources are in fact required on a recurring basis and confirming this fact represents a waste of time and effort.

Priority based budgeting (PBB)

Useful if resources are severely restricted or if resource demands need to be curtailed.

Can tend to favour the politically powerful or adept operator to the detriment of more deserving but weaker negotiators. The process used to prioritise resources can be involved and time consuming.

Activity based budgeting (ABB)

Conceptually appealing approach which can provide very accurate assessments of potential costs.

The approach requires that a well established and robust ABC system be in place. Only a minority of organisations will have a system sufficiently robust to support ABB without substantial modification.

Regular production of Regular re-forecasting revised financial projections. Popular in fast-growing sectors and those in which selling prices/input costs change frequently.

Financial projections reflect changes in underlying assumptions so the most recent business situation is being reflected at any given time.

There is confusion as to whether the budget or the forecast should be the focus. The techniques used to prepare a forecast are similar to those used in the preparation of a budget. The result is that inefficiencies in the budgeting process are replicated in preparation of forecasts.

MORE RECENT THINKING

Two trends which are assuming increasing significance are: s the move to more frequent budgeting (rolling budgeting); and s more fundamental questioning of the role of the budget as a business management tool (the so-called beyond budgeting approach).

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We will now look in some detail at these trends as they represent the leading edge of budgeting practice at present and provide clues as to how best practice might develop in the future. More frequent budgeting Many organisations have moved away from the single big bang approach to budgeting, in which all financial planning activity takes place over a relatively compressed period on an annual basis, towards a model based upon more frequent reviews looking at business performance in general and financial performance in particular. This approach has been widely adopted in the US. This tendency has no doubt been driven by the requirements of US capital markets for detailed financial information to be provided on a quarterly basis. A number of terms are now commonly used in this area and it may be useful to define them more accurately at this stage: s reforecasting this was described in the preceding section and is the practice of periodically updating an annual budget to reflect revised assumptions or changed circumstances but without extending the predictions beyond the end of the current accounting period. The overwhelming majority of organisations almost 90% according to a recent survey in the UK re-forecast at periodic intervals (usually quarterly or half yearly) during the financial year; s rolling forecasting often termed continuous forecasting, this involves extending the planning horizon so that is always extends beyond the end of the current accounting period. Far fewer companies have adopted this approach a survey in the US in 1997 suggested that only 16% of companies had actually implemented this approach. The review process associated with the rolling forecast tends to be limited to the preparation of revised financial estimates; and s rolling budgeting by contrast, in rolling budgeting, the review of financial projections is complemented by a review of strategic options and plans. Rolling forecasts are therefore usually a sub-element of rolling budgets. They provide the necessary short- and medium-term financial measures. As Figure 9 suggests, only rolling budgeting truly embraces the strategic dimension; re-forecasts and rolling forecasts tend to have a far more operational financial focus. Although few organisations have currently moved to rolling budgeting it is clear that many would like to. In a recent survey by Comshare, the application vendor, more than half of the respondents said that they would give the highest level of priority to the ability to handle rolling budgets and forecasts when evaluating a budgeting and planning system. The major problem with this type of arrangement is that, if the forecasting process is based upon the traditional budgeting approach then it is likely to be so cumbersome and inefficient that a move to an approach based upon re-forecasts is likely to be impossible on logistical grounds. If the average budgeting cycle takes more than three months, it will be logistically impossible to move to a system based upon quarterly re-forecasting! Clearly it will be necessary to streamline the approach substantially if this arrangement is to be introduced. Most of the organisations that have adopted this have used the techniques identified earlier to streamline their approach so

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FIGURE 9 FORECASTING OPTIONS

Strategic Focus

Rolling Budgeting

Operational Focus Re-forecasting < 1 year

Rolling Forecasts

> 1 year

that it can be performed on several occasions each year. Three key decisions which organisations must make when moving from a reforecasting model to a rolling forecasting or a rolling budgeting model are: s the frequency of re-forecasting the shortest practical period is a month but quarterly and half-yearly re-forecasting is far more common. The predictability, or otherwise, of the market(s) in which the business operates will be a key consideration. This may be either because of the short life cycle of the product eg fashion goods or because of rapid changes in input prices eg commodity based products; s the planning horizon there are many different approaches here. A six-quarter planning horizon is common but, as can be seen from Figure 9, a number of other approaches have been adopted by organisations. Again this will depend upon the market in which the company operates but the ease with which capacity can be increased or decreased may also be important. Thus utility and infrastructure organisations may have very long planning horizons; and s the level of detail to be sought/provided in almost all cases, the level of detail required is reduced with significant numbers of general ledger line items being aggregated to simplify the process. Clearly the choice will depend upon the nature of the organisation in question. Remember that it may not be appropriate to apply a single time horizon uniformly across the business. I have already noted that a uniform approach may not necessarily be desirable in all cases. Figure 10 (see page 12) shows examples of the re-forecasting frequency and time horizons being used by a number of organisations in different business sectors. It is important to note that approaches based upon more frequent forecasting do not usually imply any change in the basic underlying philosophy which underpins traditional budgeting; that business performance can be predicted, controlled and encouraged through the use of detailed financial planning.

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FIGURE 10 EXAMPLES OF FREQUENCY AND TIME HORIZON

Type of company Power generator Petrochemical company Vehicle manufacturer Telecom operator Telecom equipment supplier Frequency of forecasting Every six months Every three months Every three months Every three months Every six months Planning horizon Three years 18 months Two years 18 months One year

By contrast, some organisations have moved towards a wholly new approach. We will now examine this in some more detail. Beyond budgeting Several organisations have spoken and written publicly about how they have abandoned budgeting or moved beyond budgeting (the reading list on page 18 contains several articles describing how a number of organisations have achieved radical change in this area). In addition a number of other organisations have made similar changes without publicising the fact. Many, but by no means all, of these organisations have worked closely with the Beyond Budgeting Round Table (BBRT see page 14), which is a research forum devoted to the study of innovative approaches to budgeting and business performance monitoring. It is acknowledged that the material in this section is based upon and draws heavily from the work of the BBRT. A primary theme of the BBRTs work has been the need, in a post-industrial economy, to move from a business model based upon control from the top of the organisation (the control model) to one based upon enterprise, innovation and empowerment (the enterprise model). As Figure 11 demonstrates, traditional budgeting tends to obstruct necessary changes. Only by removing this hidden barrier can organisations hope to be able to move rapidly to this new model.

FIGURE 11 THE PROBLEMS OF TRADITIONAL BUDGETING

Producer-led "Control" Model

Market-led "Enterprise" Model

Source: CAM-1/Beyond Budgeting Round Table 1999

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It is important to appreciate that moving from the control model to the enterprise model does not imply that control is unnecessary in organisations. It does imply that control can and must be achieved in a different way. Identifying alternative control mechanisms which are suitable for use in a post-industrial environment has been one of the major planks of the BBRTs work. A second major theme has been the differing role of the budget in a control model company. Budgets tend to fulfil two roles: s a stretch target achievable only if managers produce extraordinary performance; and s a forecast of the most likely outcome if managers produce only average performance. If one considers these roles, it soon becomes apparent that they are mutually incompatible. A single figure cannot act as both a stretch target and a statement of most likely outcome. Trying to reconcile these mutually incompatible goals is the source of much of the gaming that is associated with traditional budgeting approaches. This is particularly the case if managers rewards are to be based upon achievement of budgeted targets; they will be tempted to finesse or manipulate the numbers to make the achievement of reward-inducing targets more likely. The BBRT approach features three key elements: s divorcing target-setting from financial planning the BBRT identified that divorcing target-setting from the prediction of financial performance was a key step in the successful implementation of a beyond budgeting model. In such companies managers are typically remunerated on targets which are far broader than pure financial targets. Usually these are measures based upon either balanced scorecard-type measures based on economic profit or value based measures (further information on both these approaches can be found in earlier issues of Good Practice Guideline, which are listed on page 20); s more frequent financial forecasting the most usual way of doing this has been to use rolling forecasts, usually on a quarterly basis. In a beyond budgeting environment the most important aspect of forecasting is the accuracy of forecasting rather than beating the forecast. A failure to meet the target in either direction implies an unacceptable lack of understanding and insight into the market in which the business is operating. In a beyond budgeting company there is little point in finessing these numbers so as to produce a pleasant surprise at the end of the period since financial rewards are no longer based upon the financial out-turn alone but on a broader suite of measures. The relationship between improved performance on the broader suite of measures and improved financial outcome must be clearly understood. Financial performance must improve as progress is made towards the nonfinancial targets set; if it does not it implies there is no linkage between the selected measures and profitability or that the linkage has been misunderstood. However improvement is difficult to measure if there is no long-term target for financial performance. This is why organisations adopting the beyond

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THE BEYOND BUDGETING ROUND TABLE

The Beyond Budgeting Round Table (BBRT) is a research body which has studied innovative approaches to budgeting in considerable detail. The BBRT is run by CAM-I, a US based organisation devoted to co-operative research work in management and business organisations. Over the past two years the BBRT has studied a number of organisations that have eliminated the use of traditional budgeting approaches from their armoury of business management tools. They have used the findings to formulate a new management model which is of particular application to businesses operating in the modern economy and which does not rely upon traditional budgeting to monitor and control the business. Membership of the BBRT is open to interested organisations on payment of an annual fee. This gives access to: s s s s s s accumulated research; regular meetings; case studies; White Papers; implementation guidance; and assistance and support from the research leaders and other members.

Contact details for the BBRT can be found on page 19.

budgeting model tend to use rolling forecasts with a horizon of in excess of 12 months. Importantly, these long-term predictions of financial performance are compared with the actual performance solely to provide further insights into the linkages between the non-financial performance measures and financial outcomes. There is no linkage between the financial targets and rewards; if such linkages exist the temptation to game can prove irresistible; and s cultural change to fully adopt the BBRT approach demands substantial cultural change in most organisations. The necessary cultural change usually demands a considerable amount of time and effort. Too many organisations are tempted to modify their approach to budgeting without fully appreciating the level of cultural change needed. They short-cut on cultural change with deleterious results for the process as a whole.

CASE STUDY BOREALIS

Borealis is a major international petrochemical company with manufacturing operations in Europe, the US and the Middle East. It is the one of the largest producers of polyolefin plastics in the world. Borealis abandoned its traditional budgeting system in 1995. The primary aims of the project were as follows:

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s s s s

to to to to

improve financial management and performance measurement; decentralise authority and decision-making; simplify the budgeting process; and reduce the level of resources used in the budgeting process.

At the start of the initiative, Borealis spent some time identifying the main objectives of their budgeting process. Having clarified the objectives they then identified the best mechanisms by which these objectives could be achieved (see Figure 12).

FIGURE 12 ALTERNATIVE MECHANISMS

Budget objective High level financial planning Target-setting Control of fixed costs Allocation of capital resources Delegation of authority Achieved via Quarterly rolling forecasts Balanced scorecard Trend reporting Activity based approaches Variable approaches based upon level of investment Revised authority mandates

Fundamental to the whole initiative was the desire to separate performance measurement from financial forecasting. However, as Figure 12 suggests, during this process additional objectives were identified which required attention. Borealis devised a model which replaced their existing budgeting process with a revised management model based upon four elements: s the balanced scorecard; s regular and more frequent financial forecasting; s improved techniques for the evaluation and assessment of capital investment decisions in which the technique used varied according to the size and business significance of the decision; and s substantially improved mechanisms for monitoring fixed costs including activity based costing and trend reporting. Figure 13 (see page 16) illustrates how these four elements replaced the traditional budgeting approach previously used. Firstly they discovered that much of the existing budgeting process became redundant as the new approach was introduced. Secondly they discovered that each individual element now offered more insights into the operation and performance of the business than its equivalent in the traditional budgeting configuration had done. For example: s financial forecasting is more frequent and always looks beyond the end of the current financial year; s targets now include a substantial number of non-financial indicators;

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FIGURE 13 A NEW MODEL

Financial planning Quarterly forecasts, not linked with "performance management"

Target setting Balanced scorecard to set targets and measure performance

Budget
Controlling fixed costs Trends, activity accounting, ABC and SAP Resource allocation Trends (s), Hurdle rates (m), Case by case (l)
Source: Borealis

s resource allocation decisions are being afforded a level of scrutiny more appropriate to the significance of the investment; and s costs are being examined using activity-based principles and other innovative methods such as trend reporting. The overall result is a process which provides greater freedom to managers to achieve improved performance whilst providing them and senior managers with the performance and reporting measures they need to monitor progress towards corporate goals.

CONCLUSION
Many observers have suggested that the most successful organisations in the economy of the future will be those which are agile, flexible and responsive to change. In such an environment the relevance and usefulness of traditional budgeting approaches with their emphasis on incremental progress and fixed time periods is likely to diminish. Unsurprisingly an increasing number of organisations are beginning to question the role of traditional budgeting in their organisation. That is not to say that there is agreement on what should be used in place of traditional approaches. Indeed there is very little consensus. There are two reasons for this: s the idea is new and thinking in this aspect of financial management practice is not well developed; and s few organisations have radically re-engineered their approach to budgeting and there are very few off the shelf solutions or examples for organisations to draw upon.

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Those organisations that have revised their approach in this area have secured substantial benefits from doing so. This guide has sought to identify the core principles and approaches used by these organisations. Financial managers are in a prime position to influence the direction their organisations take with respect to performance measurement and reporting and the author hopes the readers will be inspired to reassess and question the role of budgeting in their organisation after reading this guide.

ABOUT THE AUTHOR

John Fanning is a consultant in the World Class Finance practice of KPMG Consulting. Before joining KPMG John held financial controllership positions in a major UK chemical manufacturing business and in a US-based consumer goods company. John is a Chartered Accountant and a member of the Faculty of Finance and Management. He also holds an MBA degree. John has participated on behalf of KPMG Consulting in the Beyond Budgeting Round Table for the past two years. He has also spoken and written widely on improved approaches to budgeting processes as well as other aspects of financial management practice. Tel: +44 (0) 131 222 2000 E-mail: john.fanning@kpmg.co.uk

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FURTHER READING
Books Although there are a number of books devoted to this topic a full reading list can be obtained from the ICAEW library few of them can be recommended. The books tend to focus on either: s the mechanics of the process (with particular reference to the use of spreadsheets in budgeting). Given the pace with which new applications eg web based budgeting tools are being developed and introduced these books are likely to become outdated rapidly; or s the softer and behavioural aspects of the process. The books in this category tend to be rather academic in nature and are of limited relevance to the reader who wants a practical guide to the subject. Handbook of budgeting (4th Edition) Robert Rachlin, John Wiley & Sons 1998, ISBN 0471183504 This is a massively detailed book on budgeting covering all aspects of the process. It is not easy to obtain the UK and is best ordered via internet book services. Ensure your credit card can take the strain; it costs $160! Not for the faint-hearted. Just-in-time accounting: how to decrease costs and increase efficiency Stephen Bragg, John Wiley & Sons 1996, ISBN: 0471137685 This book provides a great deal of practical advice on how to improve the efficiency of a wide range of financial processes not just the budgeting process. The book is not easy to obtain in the UK and is rather expensive for that reason.

Journal articles There have been a considerable number of journal articles on this topic recently. The first five articles discuss the work of the Beyond Budgeting Round Table. The remainder look at other aspects of the budgeting process. Beyond budgeting; building a new management model for the information age Jeremy Hope & Robin Fraser, Management Accounting, Jan 1999. Detailed explanations of the findings of the BBRT. Budgets: the hidden barrier to success in the information age Jeremy Hope & Robin Fraser, Accounting & Business (official journal of the ACCA), March 1999. Part 1 of a two-part description of the BBRT approach. Budgets: how to manage without them Hope & Fraser, Accounting & Business, April 1999. Take it away If budgets are a barrier to innovation take them away Hope & Fraser, Accountancy, May 1999 Time to bin the budget? CFO Europe Magazine, May 1999 Includes descriptions of how Diageo, Ericsson and Borealis radically reengineered their approaches to budgeting.

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Revolution in planning secrets from the front lines in the struggle to remake the budgeting process CFO Magazine, August 1999 www.cfonet.com/html/Articles/CFO/1999/99AUrevo.html This article provides case study evidence from North America. All together now why you must link budgeting and forecasting to planning and performance CFO Magazine, Feb 1998 www.cfonet.com/html/98FEcfo.htm Earlier examples from the US and some interesting survey evidence. Sprint re-tools the budgeting process CFO Magazine, Sept 1997 www.cfonet.com/html/Articles/CFO/1997/97SEspri.html. This article discusses how Sprint, the US telecom operator radically re-engineered the budgeting process and replaced their existing approach with one based upon rolling forecasts. Getting the most from budgeting Alison Kennedy and David Dugdale, Management Accounting, Feb 1999.

Other sources The Beyond Budgeting White Paper BBRT & CAM-I An overview of the work of the BBRT and case study examples from the research. www.cam-i.com Contact: Dr Peter Bunce on + 44 1202 670717 or e-mail peter@cam-i.demon.co.uk Software vendors There are a considerable number of software vendors operating in this market and, as one might expect, new products are being launched onto the market on a regular basis. Below is a list of the larger vendors specialising in budgeting and forecasting software. This listing is provided for the convenience of readers. It should be noted that this is not meant to be a comprehensive listing. For example, the major ERP vendors offer budgeting functionality within their products, but, as this is not the focus of their activities, they are not listed. Comshare (www.comshare.com) Hyperion Solutions (www.hyperion.com) Frango (www.frango.com) Sage Group (www.sage.com) Adaytum (www.adaytum.com) These vendors provide a large amount of interesting information on their web-sites including discussion papers, surveys and, of course, product information. BudgetHub This web-site (www.budgethub.com) contains an interesting collection of articles and other budgeting related materials. Most of the material has a US flavour.

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21st century budgeting

Good Practice Guideline

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Good Practice

Guideline
Date 1993 1993 1993 1993 1994 1994 1994 1995 1995 1995 1996 1996 1996 1996 1996 1997 1997 1997 1998 1998 1998 1999 1999 1999 1999 1999 2000

The full list of issues published to date is: Issue 1: 2: 3: 4: 5: 6: 7: 8: 9: 10: 11: 12: 13: 14: 15: 16: 17: 18: 19: 20: 21: 22: 23: 24: 25: 26: 27: 28: 29: Title April Budgeting Treasury Management May Business Recovery July Withdrawn Management Information December Business Valuations April Working Capital May Selling a Business October May Developing Performance Indicators Derivatives...Their Use by Non-Specialists June Implementing Target Costing July Withdrawn Valuing Partner Contributions in April Strategic Alliances Post Completion Review June Effective Employment Strategies July Financial Due Diligence November Market Segmentation December March Cultural Awareness Competitor Analysis April Value Chain Analysis December Strategic Working Capital February Management Value Based Management June Activity Based Cost Management December Shared Service Centres March The Balanced Scorecard June Business Planning September December Employment Law Update Managing Intellectual Capital December 21st Century Budgeting March

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