Summary by James R. Martin, Ph.D., CMA
Professor Emeritus, University of South Florida
This article includes a discussion of the problems associated with the corporate budgeting process and comments from a number of individuals and companies that have eliminated the budget. Banham begins with a quote about corporate budgeting from General Electric's Jack Welch.
"It sucks the energy, time, fun, and big dreams out of an organization. It hides opportunity and stunts growth. It brings out the most unproductive behaviors in an organization, from sandbagging to settling for mediocrity."
Steve Player (program director at the Beyond Budgeting Round Table) calls budgeting an expensive waste of time that can foster unethical behavior and conflicts of interest. The budgeting game includes negotiating the lowest acceptable performance target, hoarding information, and a spend-it-or-lose approach towards allocations. Others say the budget is a bad yardstick for measuring performance, creates opportunities for gaming, and prevents managers from seizing opportunities to create value. Ken Merchant reports that 100 companies around the world are part of the Beyond Budgeting movement. The following list summarizes the problems associated with the budgeting process.
Ten reasons for replacing the Budget - based on a list compiled by the Beyond Budgeting Round Table.
1. Prevents rapid response to unpredictable events.
2. Is too detailed and expensive, absorbing around 20% of managements time.
3. Is out of date within a few months since key assumptions change frequently. This causes confusion and rework.
4. Is out of kilter with the competitive environment.
5. Is divorced from strategy since budgets are based on functions and departments rather than strategic themes.
6. Stifles initiative and innovation.
7. Protects non-value-added costs since cost budgets are usually compiled and agreed on based on prior-year outcomes.
8. Reinforces command-and-control since budgets are designed to enable functional leaders to manage the organization from the center.
9. Demotivates people.
10. Encourages unethical behavior and increases reputational risk since aggressive targets and incentives drive people to meet the numbers at almost any cost.
What do Beyond Budgeting companies do instead of budgeting?
1. Continuous management that includes shifting to rolling forecasts.
2. Target setting using medium-term targets (3-5 years) as the focus rather than a fixed annual target.
3. Incentives focus on a pay-for-performance system measured by peers rather than pay-for-results.
4. Action management focuses on making the organization more agile for faster responses to changing conditions.
5. Resource allocations focus on continuous planning to quickly improve the business.
6. Teams are more accountable as control is shifted to relative key performance indicators and continuous improvement.
Banham sums up the dilemma for many firms (based on some comments by Ken Merchant) noting that most CFOs don't have the time to convert to the Budgeting and Beyond approach, but companies in turbulent industries like technology and oil and gas would benefit from dynamic forecasting. Their strategic plan drives spending at the unit level, so they don't need a budget for that.
Note: There is an additional short section on page 44 related to budget believers. The theme of that section is "If your budget is broken, fix it."
Deming, W. E. 1993. The New Economics For Industry, Government & Education. Cambridge: Massachusetts Institute of Technology Center for Advanced Engineering Study. See Chapter 9 on tampering with a system or process. (Summary).
Hope, J. and R. Frazer. 2003. Who needs budgets? Harvard Business Review (February): 108-115. (Summary).
Jensen, M. C. 2001. Corporate budgeting is broken - Let's fix it. Harvard Business Review (November): 94-101. (Summary).
Johnson, H. T. 1989. Professors, customers, and value: bringing a global perspective to management accounting education. Proceedings of the Third Annual Management Accounting Symposium. Sarasota: American Accounting Association: 7-20. (Summary).
Johnson, H. T. 1992. Relevance Regained: From Top-Down Control to Bottom-up Empowerment. New York: The Free Press. (Summary). (Note: Johnson is critical of top-down remote control).
Johnson, H. T. and R. S. Kaplan. 1987. Relevance Lost: The Rise and Fall of Management Accounting. Boston: Harvard Business School Press. (Summary).
Sandison, D., S. C. Hansen and R. G. Torok. 2003. Activity-based planning and budgeting: A new approach. Journal of Cost Management (March/April): 16-22. (Summary).
Van der Stede, W. A. 2000. The relationship between two consequences of budgetary controls: Budgetary slack creation and managerial short-term orientation. Accounting, Organizations and Society 25(6): 609-622. (Summary).