Skip to content-main content

Creating Value through Better Planning and Execution – Three-Part Series

Part A: Five Steps to Creating an Effective Budget

Developing and managing to a budget is a cornerstone of maximizing your business’ performance. The positive impact of a budget begins even before the first numbers are put down on paper, as management begins the process by discussing the goals and vision for the company, and aligns on what the strategies are to achieve them. This provides the all-important link between strategy and financial / operational goals, helping to set the company up for success. As a CEO once said to me: “The benefit of planning is alignment, the benefit of alignment is speed.” If the team understands the path forward, execution can be more effective.

Step 1: Talk with Your Team About the Future. Start with an open discussion among your key members of management around the goals and vision of the company for the medium-to-long term (usually a 2-5 year time horizon, depending on circumstances). The best approach is to have this planning meeting somewhere off-site, away from daily distractions, for a half-day to a day. The investment in time will be well worth it. Not only is this session a perfect opportunity to share ideas and build energy within the team, but it also creates important context: Since a budget typically focuses on the next full fiscal year, it’s important that it aligns with and supports the longer-term view. Following best practices, the meeting should have an agenda and a designated leader (typically NOT the CEO, so that s/he can focus on the discussions without the distraction of running the meeting, taking notes, etc). The outcome of this meeting should be:

  • Your management team has educated each other on the various areas of the business in the context of industry trends
  • The team is aligned on the future state of the company
  • There is consensus on key high-level financial (revenues, profits, and cash flow) and operational goals for the medium-to-long-term, and what the strategies will be to achieve them
  • You are ready to review these initial plans with your Board of Directors (and this is usually the time to do so)

Step 2: Refine Your Strategies. The next step is to more fully develop the strategies (e.g., growth initiatives, projects to reduce costs, etc.) which you discussed at the planning meeting. Assumptions will have to be vetted, with revenues, costs, and investments reviewed, since these will become the building blocks of your budget. Each strategy should also include key milestones and deadlines so that progress can be tracked. Sometimes strategies will have to be modified, depending on the outcome of this review. From this point on in the budget cycle, Finance usually takes over and will work with functional leaders at your company to complete this work. Broad leadership involvement in strategy refinement is key: Not only are you making the best use of your leaders’ talents and experience, but you are also creating their buy-in and ownership into what needs to be accomplished during the next year and beyond.

Step 3: Fit The Big Pieces Together. Now the stage is set to roll-up the budget. This process can vary, but generally takes the form of starting with baseline financials (that is, how the business would be expected to trend with no impact of strategies), and then adding in the impact of those strategies. This “bottoms-up” result is then compared to and reconciled with the high-level “tops down” financial goals that were set at your planning meeting and reviewed with your Board. Sometimes adjustments will be necessary. Key Performance Indicators (KPI’s) should be established or refined. The end result is that you now have a preliminary budget that:

  • supports your long-term goals and vision for the company
  • is well-thought out by you and your team
  • has management buy-in and ownership
  • supports execution and accountability

Step 4: Give Your Expenses a Good Scrubbing. This stage of the budget process gives your team an important opportunity to take a hard look at expenses in the business. Expense targets should reflect continuous improvement. How you approach this is a matter of philosophy. At a minimum, expenses (outside of specific targeted and tracked investments) should be expected to leverage if revenues are growing. The most disciplined approach is known as “zero-based budgeting” where every department has to start from scratch to justify each line item in their budget, with no expenses allowed to automatically carry over from the prior year without review. An efficient middle-ground approach often used is to set somewhat challenging expense targets which department leaders can hit using their discretion. But the department budgets must show explicitly how the expense targets will be hit. Another matter of philosophy is the level of conservatism in the budget. As the numbers are being finalized (including expense reductions identified), it is a good practice to keep some level of budget reserve available for contingency, or to fund additional investments, etc.

Step 5: Communicate! You and your management team have just completed the hard work of developing a budget. To get maximum value from it, you want to make sure it is communicated and utilized as broadly as appropriate. For your leadership team, the budget (including the strategies to achieve it) will be a key reference throughout the year as you run the business and evaluate performance. For the rest of the team, it is important to share portions of the budget that are relevant to their areas and to which they will be managed. The budget also supports robust communication with external stakeholders such as lenders and investors.This completes Part A of Creating Value through Better Planning and Execution, with an overview of how to develop a budget that will be a critical tool in helping you to improve your business. The next parts of this series are coming soon:

  • Part B: Developing Reporting that Helps You Increase Company Performance
  • Part C: Make Better Decisions Using Analysis and a Structured Approach

Tom Moran is a Managing Director on The Fahrenheit Group’s Finance and Advisory team. This team includes CFO’s, COO’s, and CEO’s with a broad range of experience creating value in a variety of businesses at every stage and can offer your company the right level of talent exactly when you need it.