Budgeting for uncertainty

Is your organisation’s budget ready for the next disruption? Although some sectors were particularly hard-hit by the uncertainties of the past two years, given the length and impact of the COVID-19 pandemic and the ongoing effects of the war in Ukraine, there are very few industries that have come through the past two years unscathed.

This has left organisations seeking new ways to be nimbler in their budgeting and to enhance forecasting methods so they are prepared for whatever may come next. When CFOs and other finance leaders were asked what they will focus on enhancing in 2022, the top choice (72%) was improving the flexibility of budgeting and forecasting, according to a September 2021 Gartner survey. The same percentage of CFOs expected to have either significant involvement or full ownership of initiatives to develop more agile budgeting and forecasting processes.

“The disruptions of the past year did create unpredictability in pulling the budget together and make the budget a very challenging yardstick for performance evaluation,” said Jasper Chung, ACMA, CGMA, head of corporate development, Asia Pacific, for the New York Times Co., based in Hong Kong.

But flexible budgeting techniques aren’t merely a response to the pandemic. Even before COVID-19, flexible budgeting approaches enabled companies to react more quickly to risks and opportunities and to understand how to better use available resources. Going forward, flexible budgeting techniques will continue to provide strategic advantages.

This is a good time for finance teams to review their own yardsticks to determine how new approaches can enable them to respond better to an unpredictable environment. Whether it’s a matter of shifting priorities or changing the entire budgeting and forecasting mindset, there are a number of steps organisations can take to add flexibility to the process.

Change the mindset

To drive flexibility within the organisation, finance team members must be ready to reconsider their own role, said Chathuranga Abeysinghe, ACMA, CGMA, previously lead data evangelist at MAS Holdings in Colombo, Sri Lanka, an apparel manufacturer for international brands that also designs and distributes its own brand. Using new tools and approaches “will demand a transformation of the finance team’s professionals from business analysts, who focus on what has happened, to data analysts, who tell you what will happen”, he said.

While many organisations have adapted traditional budgeting to the uncertainties of the past two years, Aubrey Joachim, FCMA, CGMA, a trainer and coach who works with organisations throughout the world, advocated dropping current budgeting approaches entirely. “The traditional budget mindset looks at organisational, financial, and strategic performance from a long lead time, set well before the actual numbers come in,” he said. “We are in a 24/7 cycle, so that is not suitable to a changing environment.”

Joachim, who is a past president of CIMA, recommended engaging in a change management process that can use many available tools in new ways. When he headed a finance team in a corporate environment, he told managers that instead of giving them budgets to meet, he would simply challenge them to do the best they could. “It encouraged them to use their own initiative and creativity,” he said. It also prevented them from trying to meet established goals despite an unforeseen downturn or supply chain problems, from spending their entire budget on items they did not truly need, or from slowing down efforts once initial budget numbers were reached.

“Remember, too, that using sophisticated tools does not have to mean added complexity,” Joachim said. “At the end of the day, data analytics is only a platform for doing something that finance would otherwise do as a basic foundation,” he said. It is a way to gather and manipulate existing business knowledge for decision-making that can be performed on a basic spreadsheet. When he worked in industry, Joachim employed data analysis long before current data analytics tools were available, using business knowledge as well as regression analysis, decision trees, and activity-based costing, among other tools.

Shorten the budgeting cycle

The significant and wide-ranging disruptions of the pandemic have revealed the limitations of the traditional budgeting approach. During the first few months of the pandemic, illness and other related factors at MAS Holdings led to an unprecedented level of worker absences, which threatened to hinder operations, according to Abeysinghe.

Fortunately, the company has been upgrading its digital capabilities in the last few decades, which allowed it to shorten its budgeting cycle so that it could more easily check and adjust assumptions depending on new developments, he said. “Data analytics and digital transformation can play a huge role,” he said. Data analytics tools made it possible to monitor dynamic variables from throughout the company and feed them into a comprehensive, consolidated rolling budget. His former organisation relied on SAP and Power BI.

Digital information and data analytics can also be used to gather external intelligence on the main variables that affect an organisation’s costs and demand, including data on changes in market size and volume, customer circumstances, and global and domestic financial and monetary policy, he said. And companies can minimise disruptions to customers by informing them of potential delays or other problems well in advance, based on their own updated budgeting data. The many advantages of a more reliable budget also include increasing the likelihood that teams can actually follow it. “If targets are too far off, people are not motivated to achieve the budget,” Abeysinghe noted. “Revised targets make a big difference.”

Finesse your forecasting

While a budget establishes expectations, a forecast estimates reasonable future prospects. At the St. Regis Dubai, The Palm, which is managed by Marriott International Inc., the corporate budget is set in stone, according to Steven Dowd, FCMA, CGMA, director of finance. As a result, a greater focus on forecasting worked well during the pandemic.

“The last year or two were devastating for hospitality,” he said, adding that the disruptions that discouraged or prohibited travel had a greater effect on the industry than 9/11 or the 2008 global financial crisis. As a result, while the organisation might have reviewed its forecasting cycle each month in the past, it began to revise forecasts weekly when COVID-19 broke out, in order to update its model based on new developments.

Joachim offered an illustration of how forecasting can work in practice. He noted that many factors influence the sale of a car, including the cost of petrol, a downturn or upturn in the economy, and the direction of consumer prices or of unemployment or exchange rates. All of these considerations are variable, but using their own algorithms and data analytics, organisations can fine-tune their understanding of how any pertinent element might affect sales and then revise forecasts accordingly. New assumptions can then be applied at all levels. For example, an updated car sales forecast may translate to a change in sales expectations for individual salespeople at a dealership or in production plans at a manufacturer.

Joachim also pointed to online retailers that use high-end algorithms to immediately offer customers products related to something they have just bought. The algorithms can also alert the retailer to potential future needs. For example, if someone buys a recipe book, the immediate auto suggestions might be cooking ingredients that have a very high likelihood of a buying decision in the next few days. This would set off an entire chain of purchasing decisions that could be forecast. Using this kind of predictive analytics, the spontaneous book purchase can provide insights into subsequent events.

Powered by artificial intelligence, next-best-action models use data about a customer to recommend actions or offers that might meet customer needs.

Put familiar tools to work

Flexibility is also enhanced when organisations make the best use of existing approaches, even ones that have been adopted on the fly during the past two years. “If you’ve put in the time and energy to develop new and more efficient reporting tools, don’t put them aside when things return to normal,” Dowd advised. During the pandemic, his organisation has worked to achieve a better balance between fixed and variable costs to determine whether the benefits of an expense still provide value during a downturn. The organisation will continue to monitor this balance and use the new KPIs that it has determined are best for the business.

For example, his hotel might get a lower price for window cleaning by signing a long-term contract, but that service might seem unnecessary when idle staff members could perform some of the work during a downturn. If it does not commit to the contract, the hotel could perform the service as needed, based on cash flow, thus ensuring the business’s ongoing survival, even if it does mean higher costs in the short term, Dowd said. In considering this choice, factors might include any termination penalties or necessary notices for cancellation, in addition to the cash flow forecast. “If there is a high risk that cash resources will be a challenge, the business will need the ability to reduce the cash outflows,” he said.

In addition, with a stable brand and relatively stable market, Dowd’s organisation can generally rely on a steady cash flow because hotel bills are generally settled immediately. However, “when income suddenly stops for six or seven months, but commitments and outflow continue, it makes you wake up and start looking at cash flow,” Dowd said. He emphasised the resulting importance of continuing cash flow analysis so that organisations can respond quickly when their cash levels are below expectations. The hotel was able to extend payment terms with some vendors and third parties, making it possible to maintain a positive cash status.

Maintain good communications with stakeholders

Hotels and airlines often distribute newspapers to customers, so low occupancy rates and travel restrictions during the pandemic had an impact on print edition subscriptions at The New York Times, according to Chung. Times online subscriptions continued to grow strongly as remote work and digital learning for students became a fact of life, however, he said. At the same time, “physical event planning remains very fluid due to the unpredictability of COVID-19 situations and social-distancing rules locally and around the region,” he said. Cancellation of events presented by the company affects the Times’s revenue stream from advertising sponsorships and ticket sales.

“Keeping in close communication with clients will certainly help us understand their situations and will enable us to make quick turnaround plans and new proposals to fit their needs and exploit the opportunities when there is a sign of recovery,” he said. When it comes to event planning, the Times also tracks circumstances in locations where events were planned.

The management accounting team should be proactive in communicating with the budget owners inside the organisation as well, Chung said. “Staying nimble means that management accountants need to understand their internal stakeholders better to balance between the level of detail and the speed of delivery needed for decision-making.”

Focus on priorities

To make the best and most timely allocations of time and money in uncertain times, Dowd recommended taking a step back and concentrating on the core business. In a strong market, organisations may try to expand their outreach to drive additional revenue streams and grow the business, but that can become a distraction when times are tough.

For example, while hotels are well equipped to rent rooms and serve meals, many may also branch out into running restaurants or providing catering for events off-site, Dowd noted. Those efforts can require a great deal of time and attention, which may seem worthwhile in a strong market but can eat up valuable time and effort during a downturn, he said. Finance can help a company be more agile in recentring itself by, in Dowd’s case, gathering data on productivity, occupancy rates, and meal sales that help identify whether the organisation is spending time driving areas of the business that aren’t as profitable. The organisation can also use that data to identify and address drains on the budget.

In another case, when Dowd’s organisation found itself overstaffed during the downturn, his team examined ways it could develop employees’ skills to take on new responsibilities. This enhanced productivity and, in some cases, enabled them to explore new career opportunities within the company, he said.

Anita Dennis is a freelance financial writer based in the US. To comment on this article or to suggest an idea for another article, contact Oliver Rowe at Oliver.Rowe@aicpa-cima.com.

LEARNING RESOURCES

Behavioural Aspects of Budgeting and Planning

Learn various approaches of budgeting and the distinctive features of each approach to exercise control over the operation and to deliver information for decision-making.

COURSE

Finance Transformation: Manage Disruption Certificate

Covers the evolution of finance in organisations by focusing on why and how the business environment is changing and how the finance team can prepare for and respond to these changes.

CERTIFICATE

Forecasting and Predictive Analytics Certificate

Gain the fundamental techniques used for predictive analytics so you can implement an analytics practice in a practical way that will equip you to deploy those tools as needed within your organisation.

CERTIFICATE

Further Aspects of Budgeting and Planning

Learn budgeting processes to exercise control over the operations of an organisation.

COURSE

MBAexpress: Best Practices for Better Budgeting and Planning

Turn forecasting and budgeting into a positive planning process that helps your organisation achieve its strategic goals.

COURSE