3-way budegting, planning and forecasting

May 2020

Ask most CFO’s and finance directors to describe an ideal planning, budgeting and forecasting process, and they’ll likely portray it as part of an overall integrated performance management framework, ultimately driven by value-based measures. At the same time, however, they’ll admit that achieving this vision involves a significant transformation to their current forecasting and budgeting processes, systems and organisation.

As planning, budgeting, and forecasting (PBF) moves up the corporate agenda, its importance as a strategic contributor is becoming more apparent. CFO’s know the days of static budget preparations and a rigid finance plan for the year are decreasing, but the pace of change is slow. A few early adopters have embraced innovative and experimental technology through a complete overhaul of their systems and processes, and are reaping the rewards already, but most will only commit to dipping their toe cautiously into the future of PBF.  However every business and CFO needs to start somewhere.  Whether it is a complete 3 way budget model, or a ‘simpler’ driver based P&L budget, the most important step is the first one.

3-way planning, budgeting and forecasting

Since the pace of change and the level of uncertainty increases, it is important to model the financial impacts of a whole range of scenarios, months and years in advance. Being able to model the financial impact of any decision in advance makes all the difference in successfully improving cash flow and growing business value.

Ideally a budget should be more than  just a profit and loss prediction. It should also encompass  thought for growth, strategy, and business improvement. A 3-Way budget allows for this through not only providing a target for profitability, but also providing budgets and forecasts for the balance sheet and most importantly cash flow statement, for periods generally of 3 to 5 years.

With a 3-way budgeting solution you can always be certain that your Profit & Loss, Balance Sheet and Cashflow budgets reconcile. With double entry accounting logic behind every number, you can be confident that the numbers are right, every time. All three budgets can then be used to navigate your business and have strategies in place to reach your desired goals.

However, at the same time as uncertainty increases, banks and other lenders are increasingly requesting 3-way forecasts as standard. In many businesses 3-way budgets are generated infrequently, and often only when required as part of accessing finance. By incorporating a 3-way budget as part of your annual budget process you not only have a greater ability to navigate your business, but you are also in a much better position to access finance when required.

Driver based planning, budgeting and forecasting

As mentioned above, businesses have to start somewhere when embracing the future of planning, budgeting and forecasting, and that is often a Driver Based budget model.

A modern Driver based budget will give businesses and CFO’s the ability to generate and budgets that are driven by their core numbers. For most businesses that will mean non-financial numbers first. Whether it is tonnes, units, hours, litres, it is these ‘non-financial’ quantities which are the starting drivers of your budget process. These are the core quantities of your business, to which we apply different costs, prices, exchange rates and so on.

A driver-based planning and budget solution allows you to go to as much, or as little, detail as you want in the calculation of your numbers. In the case of a manufacturing business, quantity sold will obviously determine dollar sales, but what about costs of manufacturing or CoGS?  Do you want to enter a single cost for each item type, or do you want to go down to the pricing the individual components that make up the item?

Much like moving towards a modern planning, budgeting and forecasting model, the adoption of a driver-based budget can be as slow or as fast as you would like. With modern tools such as Jedox and BOARD, you can construct a driver-based budgeting model component by component. Using the example above, that could be with the first version taking a single ‘cost’ for each item, before moving to an itemised cost driver once the appetite is there.

Translate your strategy into plans, budgets and forecasts

Whether it’s a 3-way budgeting solution to unify and adapt financial statements and planning in one solution, or the first component of a driver based P&L budget, both will  lead to dramatic increases in process efficiency. Not just compared to typical Excel only processes but even compared to specialised planning applications that typically only cover the planning aspect well and then create a lot of maintenance efforts to integrate data with a separate data warehouse, data discovery applications or financial statements. This approach often shortens budgeting and forecasting cycles from weeks to a few days.

Finally, in this value-driven environment, the adoption of leading budgeting and forecasting practices is critical in achieving finance mastery and, ultimately, high performance. Business strategy must be effectively translated into long-term plans, mid-term budgets and short-term forecasts in order to make sure that strategic objectives are met, financial targets are reached, and shareholder value gets created in a proper and sustainable manner. 3-way budgeting enables companies to produce a representative picture of an organisations financial and operational data.

At bi5, we know there are many ways, and have helped our customers, to adopt the latest in modern planning budgeting and forecasting process. Be it a 3-way forecasts over 5 years, or single year driver based budgeting solutions with rolling budget and re-forecasts. However the most important aspect is identifying which solution suits your team and organisation best.

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