As companies go into another year with the pandemic lingering, flexible budgeting and frequent forecasting approaches that helped businesses survive the past two years may become a mainstay.
In a recent Gartner survey, almost three quarters of CFOs surveyed said a focus for 2022 will be improving flexibility of budgeting and forecasting. Gone are the days where forecasting once or twice a year is sufficient for management to see how close or far off the business is from budgeted numbers.
Changes in the business environment inevitably force companies to deviate from their planned budget. Finance leaders typically look for quick wins when disruptions happen. They may slash selling expenses or general and administrative expenses (SG&A) or move resources within a business unit to avoid difficult trade-offs between business units, Faith Vakil, director of research at Gartner, said in a news release.
But the approach is not fail-proof. When quick wins dwindle, finance leaders are forced to make budget trade-offs at the last minute. The better way is to embed flexibility in budgeting and forecasting with cadenced reviews and, when beneficial, make trade-offs between business units, the Gartner report said. This changes the mindset within the organisation and can encourage innovation and willingness to align to shifting priorities.
More frequent forecast reviews
At AXA France Vie – Reinsurance Branch in India, the company maintained its traditional way of budgeting even after the pandemic, but it reviews its quarterly forecasts every month now, compared to once in two months before the pandemic.
"Flexibility is a core element; you cannot fix something for the future and say that it is going to be the result," said Gaurav Jain, FCMA, CGMA, the CFO of AXA India. "There will be changes based on the actual performance of the organisation, [and] there are a lot of factors that affect it."
Jain added that what used to be a once-a-year process through email to prepare for the following year's budget is now more collaborative and discussion-based and happens throughout the year with more departments involved.
"We ask teams to have more regular meetings with us so we understand where the numbers are going and whether their assumptions earlier still stand," he said.
Such frequent discussions helped the finance department provide recommendations and enabled the business to give feedback on the budgeted resources, Jain said. The regular forecast reviews also help finance ensure that each department receives the necessary resources to achieve numbers in the budget.
"If you don't remain flexible and do it [budgeting and forecasting] once a year, then you almost lose a year [when budgets go off]," Jain said. "With this improvement, I think people have become more serious about budgeting and forecasting, and teams understand the necessity for a regular review and flexibility in the budget."
SMEs more concerned with rebuilding revenue
Small businesses have a different view when it comes to forecasting. Many small and medium enterprises do not have the resources and time to spend on budgeting and forecasting, said Paul Gardner, ACMA, CGMA, founder and CEO of Fresh Accounting, a Hong Kong-based accounting firm. Rather, SMEs have an approximation of the revenue, costs, and profit to expect, he said.
"With the ongoing supply chain challenges in Hong Kong and China, most SMEs will say they don't have the time to budget," said Gardner, whose firm provides monthly accounting, business planning and financial review, and audit and tax services to SMEs in the region. "We're just trying to survive."
But Gardner said that for small businesses to succeed in the long term, it is critical for them to have the financial discipline to forecast and have a better understanding of financial tools. For SMEs, an improvement in forecasting could be as simple as reviewing their budgets more frequently and making small changes when needed.
Gardner said companies need to continuously review their incremental costs as revenues grow, giving the example of the rising shipping costs resulting from a global backlog of container shipments.
And there are increasingly more accounting tools designed for SMEs to help the forecasting and review process, Gardner said. Cloud accounting and cash flow forecasting software have become more accessible for smaller companies, and they help business owners gain a clearer view of their financial numbers.
As for priorities, small businesses are focusing more resources on rebuilding relationships, partnerships, and their revenue base.
"This is where SMEs differ from a multinational firm in that SMEs don't have the full finance team in house," he said. "For most businesses, the priority is to hustle. They want a new deal or to sell something today."
Even with uncertainties and the inherent difficulty in pinning down exact numbers for a budget in 2022, Gardner said that SMEs still prefer having a budget and try to set a revenue target based on past performance.
"We know 2020 was a really tough year, and we know it could be better," he said. "For our clients, they would still want to use that as the base and build back up."
From ad hoc budget adjustments to a flexible approach
Disruptions from the current pandemic can be an opportunity for organisations to be more flexible and gain the ability to adjust how they use their resources throughout the year.
A separate Gartner report suggested that budget adjustments in emergency situations such as delaying hiring, cutting marketing spend, and freezing travel and expense could end up being harmful trade-offs. Organisations may face long-term consequences such as normalisation of crisis mode and short-term decision-making, teams requiring more time to recover after a crisis, and reduced ability to benefit from investment opportunities that arise during a shock.
A flexible budgeting approach would mean that resource allocation reviews happen throughout the year and are tied to performance management processes. There should also be variable compensation incentives that enable budget flexibility and change in mindset. This approach would boost an organisation's overall performance because the assessments would prioritise decisions beneficial to the total company rather than business units, the Gartner report argued.
"This is not the end of budgeting as we know it. Finance will still prepare their annual budget and targets," Vakil said. "It is simply a shift from using resource trade-offs as an emergency response tactic to using them as an ongoing tool for budgeting and resource flexibility."
— Alexis See Tho (Alexis.SeeTho@aicpa-cima.com) is an FM magazine associate editor.