In a perfect world, budgets would always line up perfectly with actual spending.
As most businesses know, this outcome is rarely the case. Even the most strategically crafted budgets can take hits from unforeseen circumstances.
Anticipating that something unexpected will occur over the course of the fiscal year weakens the argument for creating a traditional budget. But that doesn't mean that companies should operate budget-less, either.
When prepping for budget season, finance professionals should consider that driver-based budgets are the more practical, predictive choice for planning sufficiently while also leaving room for unforeseen changes.
What Is a driver-based budget?
A driver-based budget focuses primarily on identifying the key business elements (or drivers) that impact revenue. This approach focuses on the aspects of the company that have the most direct impact on — and most directly reflect — performance. By using budget drivers, business leaders can more accurately estimate revenue and costs.
What are the benefits of a driver-based budget?
Companies across many industries can reap compelling rewards from adopting a driver-based budget.
More predictive analysis
How will a company handle unforeseen events? Are they strong enough to weather the storm, or will they sink from the pressure and stress? Using a budgeting software platform to run predictive exercises offers even more insight into the results. Properly identifying drivers gives organizations a way to look at variables and see how they would affect their business.
Instead of getting mired down in budget details, companies that operate off a driver-based budget are more agile and flexible. Instead of only weighing financial variables, driver-based budgets factor in operational and other key performance indicators (KPIs) to create a more well-rounded result.
Not only can they proactively address negative threats, they can help companies more quickly take advantage of opportunities as they arise.
Increased cross-departmental collaboration
Drivers don't come from a single department. There's valuable information gleaned from almost every corner of the company. When different departments get a chance to contribute to a project like a driver-based budget, they become more invested in its success. Plus, if each section of a company functions as a silo, the budget will only be one dimension and not as effective as one that's all-encompassing.
Reduced budget negotiation shenanigans
The "squeaky wheel gets the grease" scenario is a big factor in traditional budgeting. The members of the leadership team with the biggest, most persuasive personalities may end up getting larger chunks of the budget than their quieter counterparts.
Not only is this unfair — it's also not in the best interests of running and growing a company. With driver-based budgeting, data pushes the decisions, making the process more objective.
How to identify budget drivers
What drivers should you be looking at? How many drivers should companies identify? Can they change?
Every industry (and company) will have drivers specific to it, but some of are relevant across the board. Here are some common drivers companies use in their budgets:
Common internal budget drivers
These drivers exist inside the company, and are unique for eachcompanies.
- Market size, shares, and growth
- Number of customers or clients
- Number of orders or shipments
- Sales volume and average price per sale unit
- Website traffic
Common external budget drivers
External drivers occur outside the company but impact it financially. External drivers may affect more than one company or industry in a similar way.
- Economic and market conditions
- Geopolitical factors affecting global supply chains
- Competitor positioning
The better a company is at identifying its most important drivers, the better its budgets will be at predicting spending, costs, and tolerance for unforeseen events in the coming months.
Why are spreadsheets unhelpful for driver-based budgeting?
Many organizations, especially smaller businesses, choose to use spreadsheets for their budgeting needs. While spreadsheets are a safe, conservative choice for those who know how to navigate them, they are not the best option for creating driver-based budgets.
Spreadsheets offer no assistance in pinpointing the most important drivers for the organization. It can be time-consuming for finance teamswho are working from spreadsheet-based budgets to deduce which drivers they need to use for driver-based budgeting.
This dilemma is why many organizations that adopt driver-based budgeting opt for an automated budget planning software platform to handle their budgeting tasks.
This type of budgeting tool performs better than spreadsheets by:
- Analyzing the impact of internal and external drivers quicker and more succinctly
- Creating consistency across the business
- Establishing a more transparent, trustworthy process
- Offering scenario simulations to help leaders identify and plan for unexpected occurrences
- Streamlining the time and effort it takes to gather budget data
What are rolling budgets?
Some companies update and refine their budgets on an ongoing basis rather than creating a budget for the fiscal year and setting it in stone. Creating a budget for each month or quarter, or rolling it, can offer distinct benefits to an organization.
- Rolling budgets accurately represent a company's financial state at a given point in time, with fewer assumptions than a traditional budget.
- Rolling budgets offer greater agility by managing change more efficiently.
A driver-based budget can also be a rolling budget. Using both concepts simultaneously can make companies stronger, make their processes more predictive, and help them grow faster.
Adopting a driver-based budget
Driver-based budgets are dynamic tools that align the entire company and prepare it for the inevitable scenario that affects its plans. By employing this type of budget, companies insulate themselves from risk, open themselves to opportunities, and give themselves a way to use data metrics to reach more informed decisions.
Book a demo to see how Centage's formula-free, drag & drop FP&A software streamlines the creation and tracking of driver-based budgets.