Abolish the budget!

The announcement from Jeremy Fraser and Robin Hope sounds harsh, but so is the criticism of the budget.

According to Per Nikolaj Bukh and Niels Sandalgaard have other methods previously tried to solve the problems with traditional budgeting. Eg. can be mentioned Zero Based Budgeting, Performance Based Budgeting, Balanced Score Card and Activity Based Costing (ABC). These methods undoubtedly improve the budget, but do not solve the problem at its root: the budget is not suitable for planning and performance evaluation! This is due, among other things, to the fact that the budget was created way back in the 1920s, when management tasks were far simpler and the future far more predictable.

What is the problem with the budget?

According to Bukh and Sandalgaard there are a number of problems with the budget as we know it. They mention i.a. these challenges:

• Budgeting is expensive and difficult. Budgeting, follow-up during the year, monthly reports with explanations of deviations and generated management meetings require a lot of time and a lot of resources both among management and finance employees.
• Budgets are out of step with the competitive situation, and no longer meet the needs of top management as well as operational managers. Rigid annual budgets are not adapted to the changing and unpredictable reality in which companies find themselves.
• The extent of gaming has grown to unacceptable heights. Employees try to negotiate as low a target as possible to maximize the opportunity for bonus and target achievement, while the manager tries to pull in the opposite direction.

We all know another common problem with the budget at Christmas time, when employees have some money that must be used up before the end of the year, so as not to have the budget cut the following year. This phenomenon is called the ratchet effect.

What is Beyond Budgeting?

Beyond Budgeting challenges the budget in its foundations and calls into question completely basic assumptions about the strategic effectiveness of both annual objectives and whether employees really are motivated by financial objectives. Beyond Budgeting goes a step further than previous financial management methods and does away with the budget.

Overview, motivation and goals are instead created using other means.

The Beyond Budgeting method is built around 12 central concepts, which create a framework that structures the organization around a new so-called "responsibility model". These 12 concepts are built around 6 performance management principles and 6 leadership principles.

The 6 performance management principles:

The performance management principles achieve many of the purposes of the budget, but in a more adaptive way.

• Target Setting – Set stretch targets based on relative performance. Eg. on the basis of external competitors within the industry or other comparable companies.
• Motivation and Rewards – Team-based bonus based on relative performance rather than fixed performance targets and external benchmarks, reduces gaming.
• Strategy Process – A continuous, adaptive process and more local involvement creates ambitions and quick reactions.
• Resource Management - Decentralized decisions and resources "when needed" result in less waste.
•  Coordination – Coordination of cross-functional activities and initiatives according to prevailing customer requirements encourages collaboration and excellent customer service.
• Measurement and control – Rolling budgets and forecasts focus on learning and encourage ethical behavior.

The six management principles

• Governance Framework – Focus on value-based management rather than on the organization's hierarchical structure.
• High Performance Climate – The building of teams based on common relative goals, with clear values and shared rewards.
• Freedom to decide - Delegation and involvement give employees the freedom to make local decisions.
• Team-based Responsibility – Decentralization of the strategy to autonomous "front-line teams" that have the freedom to act, rather than being subject to centrally controlled decisions.
• Customer Accountability – Results and decisions based on the market.

If you follow these principles, the results can be great:

• Managers are no longer assessed on the basis of numbers, but on the basis of benchmarking against peers, competitors and "world class" organisations, to ensure that they are competitive.
• Because goals are no longer based on hitting specific numbers and resources are made available, it is much more likely that managers can make credible predictions.
• The ratchet effect is avoided because managers know that management does not make random cuts.
• Fear of uncertainty in the market is no longer a problem as resources are available when they are needed.
• The managers are no longer evaluated on the basis of whether the budget targets are met, so they can now focus on adding value to the customer and thereby strengthening the company's competitiveness.
• Team-based structures and delegated strategy mean that the organization is constantly managed in a strategic way.
• The company is no longer lagging behind development, because targets are constantly reassessed.

There is much more information to be found on Beyond Budgeting. Eg. This slide share, by Bjarte Borgnes, who has led both Danish Borealis and Norwegian Statoil through Beyond Budgeting processes.

Also read Jeremy Hope and Robin Fraser's Article  in Harvard Business Review from 2003: "Who Needs Budgets?".