Capacity-sensitive Driver-based Budgeting and Rolling Financial Forecasts

What is it about?

The annual budgeting process is being criticized as obsolete soon after it is published, prone to gamesmanship, cumbersome to consolidate cost center spreadsheets, not being volume and capacity sensitive, and disconnected from the strategy. The challenge is how to resolve these deficiencies. It can be done through driver based expense projections and driver-based rolling financial forecasts, what-if analysis, and marginal cost analysis (e.g., pricing) which are essential for decision analysis.

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Why is it important?

Driver-based budgeting and rolling financial forecasts requires for (1) operational expenses marginal / incremental expense analysis requires classifying the behavior of resource capacity expenses with changes in future volume and mix as sunk, fixed, step-fixed, or variable. And the classification depends on the planning time horizon because some resource capacity is not easily adjustable in the short term but are longer term (e.g. replacing full time employees with temporary ones; leasing versus purchasing assets). They also require inclusion of the expenses for (2) strategy execution project; (3) enterprise risk management (ERM) mitigation; and (4) capital projects. All four types of expenses need to be combined for effective financial planning and analysis (FP&A).