Yesterday I recommended Steve Morlidge’s The Little Book of Beyond Budgeting, for helping to illuminate the troubling usage of business forecasts in the traditional management / budgeting process. Steve reached out to me overnight with some additional points that he shares in this guest blogger post.

Steve Morlidge on Forecasts vs. Budgets

• Forecasts are an expectation whereas targets (and budgets) are an aspiration. In an unpredictable world there will almost always be a gap between these two values…indeed if we are striving to improve there should be.

So a forecast should (in my view) never be used for setting budgets (particularly if bonuses are attached to them) because it is a sure way to get biased forecasts. A lot of the biased forecasts I see are where demand managers are expected/told to change their forecasts because they “don’t come up with the right answer.” [MG note to readers: How many of you have had your forecasts rejected or overridden by management?]

The mentality associated with budgets that we have all grown up with doesn’t admit the possibility of gaps because one number is used for everything. So, very often people don’t realise they are behaving in a way that destroys the forecast process.

• Short term operational forecasts are used to respond to the future (usually to demand) whereas medium term business forecasts - of the sort used to help manage the financial performance of a business - are used to steer the business and so change the future.

The only way to change the future is to do something different and usually this involves resource reallocation. But budgets are by their nature fixed. Just try taking money from one person’s budget and giving it to someone else, or changing targets on the fly, if you are not convinced.

So budgets and forecasting are - in my view - fundamentally philosophically incompatible. I think many people realise this but we fudge the issue because we don’t want to face up to the fact that budgets only work (in the way that they are designed to do) if you can accurately predict the future…which of course we can’t.

I think it would be helpful for forecasters to appreciate how many of their problems are due to the budgeting process…and maybe demand managers might use the book as a way of promoting change in their organisation. Don’t assume that finance processes are perfect or that they can’t be changed. They aren’t and they can be.