The primary goal of an organisation is to survive – and to do that it must be financially viable. The income must meet or exceed the expenses; the bottom line must be zero or greater; your financial assets much equal or exceed your financial liabilities.\u00a0 So,\u00a0organisations have to make financial plans to ensure finanical survival and as large organisations are usually sub-divided into smaller\u00a0functional parts the common\u00a0finanical planning tool\u00a0is the departmental\u00a0budget. We all know from experience that the future is not precisely predictable and that costs tend to creep up; and\u00a0the budget is also commonly used as an expense containment tool.\u00a0 A perfectly reasonable strategy to help ensure survival.\u00a0 But by combining the two reasonable\u00a0requirements intoi one tool have we unintentionally created a potentially\u00a0lethal combination? The answer is “yes” – and this is why ….<\/p>\n
The usual policy for a budget is to set the future budget based on the past performance.\u00a0 Perfectly reasonable. And to contain costs we say “if our expenses were less than our budget\u00a0then\u00a0we didn’t need the extra money and we can remove it from our budget for next year.” Very plausible.\u00a0 And was also say “if our expenses were more than our budget then\u00a0we\u00a0are suffering from cost-creep and\u00a0the deficit is carried over to next year and our budget is\u00a0not increased.”\u00a0 What\u00a0do we observe?\u00a0 We observe pain!\u00a0\u00a0The first behaviour is that departments on track to underspend will try to spend the remainder of the budget by the end of the period to ensure\u00a0the next budget is not reduced … they spend their\u00a0reserves.\u00a0 The departments on track to overspend cut all the soft costs they can – such as not recruiting when people leave, buying cheap low quality supplies,\u00a0cancelling training\u00a0etc.\u00a0 The result is that\u00a0teh departments that impose internal cuts will perform less well – because they\u00a0do not have the capacity to do their work – and that has a knock on effect on other departments because the revenue generating work is usually\u00a0crosses several departments.\u00a0 A constraint in just one\u00a0will affect the flow through all of them.\u00a0\u00a0The\u00a0combined result is a fall in throughput, a fall in revenue, more severe budget restrictions, and a self-reinforcing spiral of decline to organisational death! Precisely the opposite intention of the budget design.<\/p>\n
If that is the disease then what is the root cause? What is the patholgy?<\/p>\n
The problem here is the mismatch between the\u00a0financial specification (budget available) and the financial capability (cost required).\u00a0 The solution is to recognise the importance of the difference.\u00a0The\u00a0first step is to set the budget specification to match the cost capability at each step along the process in order to stabilise the flow; the second step is to\u00a0redesign the process to\u00a0improve the cost\u00a0capability and only reduce the budget when the process has been shown to be capable of working at a lower cost.\u00a0\u00a0This requires two skills: first to be able to work out the cost capability of every step in the process; and second to design-for-cost. Budgets do neither of these\u00a0and without these skills a budget transforms from a useful management asset to\u00a0lethal organisational liability!<\/p>\n","protected":false},"excerpt":{"rendered":"
The primary goal of an organisation is to survive – and to do that it must be financially viable. The income must meet or exceed the expenses; the bottom line must be zero or greater; your financial assets much equal or exceed your financial liabilities.\u00a0 So,\u00a0organisations have to make financial plans to ensure finanical survival … <\/p>\n