As a company expands and matures, leadership will eventually lose control over the Planning, Budgeting, and Forecasting (PB&F) process. Over time, different regions and functions will develop unique and siloed processes that provide the CFO budgets with varying levels of depth and flexibility. The CFO’s attempt to corral the process by notifying the organization that their group at HQ is now running the show inevitably launches the Top-Down(TD) vs Bottom-Up(BU) civil war.
Effectively navigating the evolution from a pure BU to a pure TD approach is nearly impossible. Replicating the old ways with a TD process that budgets at the same level, even with allocations, presents well-documented challenges. Cost center owners disengage from the process because they do not feel like their input is valued, functional leads don’t fight for a potentially profitable project because they fear “Corporate,” and the finance guys in the ivory tower forecast inaccurately because “how would they know what goes on here in the field/plant/etc.”
Strategic Top-Down Target Setting
Predictably, the answer to the TD vs. BU debate is somewhere in-between. Instead of overhauling the current Bottom-Up process, the organization can leverage it and still give the CFO the control he or she covets by implementing Strategic Top-Down Target Setting. The CFO typically does not care that 401k expense is budgeted to stay flat, or that marketing expense is budgeted to rise 50 basis points. The CFO cares about top-line growth, margins, and cash flow. The finance organization can control these in the budgeting process without strangling the different regions with peanut butter spread allocations. Within the firm’s planning tool of choice, Finance will set various Key Performance Indicators (KPIs) that the current planning teams must achieve. Common budgeting KPIs are:
- Gross Margin
- DSO, DPO
- Inventory Turns
The Strategic Top-Down method generates the typical benefits an organization receives from the pure TD process (e.g. reduced cycle times, improved accountability, and removing personal interests), while allowing the different functions or regions of the organization to build their budget in the way that best works for them. As challenging as it may be for Finance to give up planning revenue growth down to the basis point, it is far more effective to work with the different commercial groups to set market and product growth expectations, instead of holding them to profitability metrics.
This budgeting strategy can also drive creative pursuits of revenue-generating activities and operational efficiencies to meet the KPIs set by finance. For example, instead of conforming to a headcount maximum, a commercial region is able to increase team size to meet new sales initiatives, while continuing to grow revenue in line with Finance’s margin targets.
This process pushes the decision-making to the teams that will have to live and operate under the budgets. Importantly, the teams must trust the targets they have been given. They cannot feel like they are building up to meet margin targets pulled out of thin air. Cross-functional teams should present a strategic vision annually that includes:
- Commercial/Sales groups presenting their expected market and product growth
- Operations presenting expectations for inventory, manufacturing efficiency, and commodity price fluctuations
- Finance presenting pricing and foreign exchange expectations
By maneuvering these levers, the CFO and his FP&A team can effectively set their revenue growth, margin, and cash flow expectations without the numerous reiterations that result from a pure TD or pure BU process.