This is the second in a series of blogs that will help oganisations to improve its budgeting process. In the last blog (Oh no it’s budgeting season) I covered some of the problems with traditional budgeting. In this blog I will look at the first area that needs attention - the others will be covered in future blogs. The starting point for improving the budgeting process is to define why an organisation would want to set a budget. James McKinsey, back in the 1920s defined budgeting as a way of setting standards of performance and a means of coordinating activities between departments. There’s nothing wrong with this definition today except that the way in which budgeting is conducted is often at odds with that purpose.
One thing is for sure - budgeting is an integral part of a much larger planning process aimed at managing organisational performance. That process typically consists of:
Strategic planning that takes a long-term view of where the organisation should be, given where the market is heading. This view contrasts the organisations current capabilities and those of competitors to decide what it has to do in order to achieve its mission in the future.
- Tactical planning follows next that looks in more detail at the activities to be implemented in order to achieve strategic plan goals, and considers the timing of change as well as the resources required.
- Budgeting is concerned with allocating resources to ensure the day-to-day operation of the business. Budgets can be thought of those that support existing business processes (‘business as usual’), and those that are allocated to strategic initiatives.
- Financial / capital planning looks at cash requirements and the best source of funds
- Operational planning takes place throughout the year to optimize different business processes, for example, organising production with short-term forecasts and available resources.
- Lastly there is Forecasting whose aim is to gain a short-term view of what is actually going to happen. It takes into account current sales activity and operational expenditure to give a realistic assessment of what the organization will achieve if the current course continues.
- This may seem obvious, but get a formal agreement on the purpose of the budget by all those involved in the process and how it fits in with other types of planning. This will help to determine the content of the budget that will be covered in future blogs.