Let’s set one thing straight. Value is rarely created during the time spent producing numbers. Rather, value is created through timely utilization of the numbers.
This simple fact is also one of the root causes of why companies have been trying to increase the velocity of their reporting and forecasting process for decades. And great strides have been made through advances in technology and process changes, moving finance teams away from old school budgets to rolling forecasts and beyond.
However, serious challenges remain. They are brought on by a world where the velocity of change increases faster than the velocity of reporting and forecasting processes.
Recent years have only cemented this notion with the last five years bringing us the end game of Brexit, US-China trade war, a pandemic, a supply-chain crunch, sky-high inflation levels, and latest: a war in Ukraine and continued lockdowns in China.
It’s fair to say that change never ends. The question remains; how can we continue to increase the velocity of reporting and forecasting processes in the world of Next Normal?
The search for a better response to uncertainty
To search for answers, look no further than to how companies handled the pandemic. Responding to an uncertainty that was perhaps at its highest point ever, they increased the frequency of reporting and forecasting.
Sticking to existing processes was not an option when increasing this frequency. Instead, companies found a simple way of solving this challenge. They asked for fewer details which made perfect sense: why would you want excessive detail when you know with certainty that even a high-level number will be inaccurate?
On the surface, there are some invaluable lessons to learn from how companies handled the pandemic. But did companies stick to the lessons learned?
Evidence suggests that most still cling to their budget process, with more reforecasting and scenario planning processes sprinkled on top to respond to the changes.
However, this is scarcely sustainable. McKinsey accurately noted that post-pandemic, it was time to take a new approach to budgeting.
So how can companies keep up with the urgent need for faster decisions in a totally transformed world?
Take a driver-based approach
The slightly longer answer to increasing the velocity of your reporting and forecasting processes is a clear-cut process change. To change the process, it helps to remind ourselves of the purpose of FP&A in a company.
FP&A exists to drive the right strategic choices in the company.
Hence, any reporting and forecasting process must be rooted in the strategy of the company. Instead of the typical approach of budgets, here’s what companies should do to drive the right strategic choices through a driver-based approach:
- Document the assumptions that would have to be true for your strategy to be successful, and establish a confidence interval for each of those assumptions
- Build a driver-based model around the assumptions including at least a P&L
- Track the development of the assumptions in as close to real-time as possible
- Whenever one of the assumptions breaches the confidence interval (both in upwards and downwards terms), it should trigger an action planning discussion
That’s it. That’s all you need. And driver-based models are very simple to build from a conceptual standpoint.
If your goal is to increase shareholder value creation, there are four main drivers: revenue growth, cost efficiency, asset efficiency, and future expectations. If we stay with revenue growth, this is a function of price and quantity (mix of course applies between products). And again, looking at price, it likely becomes slightly more complex but one of the elements to consider would be inflation.
Example: how to handle unexpected strategy changes with a driver-based model
Let’s consider a highly relevant example, where one of the assumptions in your strategy and a key element in your driver-based model changes unexpectedly:
Assume that your strategy expected inflation to be at 2%. Your confidence interval had it landing between 0.5%-4%. Today it’s 8%.
This means you can no longer assume that your strategy is up to the mark. You need to discuss which actions to take to still achieve the desired outcomes you are aiming for. Converse to this example, had inflation stayed within your confidence interval, there would be no need to re-forecast or take new actions.
There are different views on how far-reaching the process change should be. But whether you combine it with concepts like Beyond Budgeting as suggested by BCG and Bjarte Bogsnes, or take another approach, the driver-based forecasting model is always at the center.
A process like this can be operated at an extremely high velocity. It may take some time to build a proper driver-based model but once it’s there, you’re set to drive the right strategic choices.
Is it time for continuous reporting and forecasting?
The good thing about this process is that it’s simple, especially since there are tools available for you to build it. Gartner estimates in its Top Priorities for Finance Leaders in 2022 that 50% of FP&A teams in large organizations will be using AI to create short-term forecasts. At the same time, they found that 82% of CFOs expect to invest more in advanced analytics tools.
Likely, these tools can be linked to the various data sources you need to track assumptions in real-time. This easily leads to setting up a strategic action dashboard that can show you at any time if you’re heading in the right direction. In many ways, this is the practical definition of continuous reporting and forecasting.
And rest assured that if you also need a budget or a bottom-up consolidation of numbers, you can always retain this process on the side. You could also just replace it with a predictive analytics model and move the discussion from what the numbers should be (producing numbers) to how to make it happen (using the numbers). However, it starts with creating a new process to better track and forecast your strategic progress.
How is your company increasing the velocity of your reporting and forecasting process today? What did you learn from the pandemic, and did it result in lasting process changes? How are you being supported by technology in making these changes?
Reflect on these questions and as you start to answer them, we want to welcome you to a new era of reporting and forecasting where value creation is prioritized over time spent simply producing the numbers.
Anders Liu-Lindberg is a leading advisor to senior Finance and FP&A leaders on how to succeed with business partnering.