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What Every CFO Should Know
The 80 year-old method of managing through budgets has finally taken its toll on the competitiveness of Global Automotive Supply. The CFO has been pushed into a corner as the budgetary process pushes Global Automotive Supply downward. Is there a better way?
|Note: This column is dedicated to providing fictional case studies to present common managerial dilemmas and provide executives with solutions and insight s to improve their business practices.|
Jerry, the CFO of Global Automotive Supply has had a tough week. He met with each one of his department directors to ask them to reduce their budgets another 10 percent. He is confident that this will cure the cash flow problem Global Automotive Supply has been experiencing.
Michael, director of Logistics, sat staring at the numbers he had created after several weekends working overtime at the office. He had been proud of his ingenuity. But Jerry wants him to cut another 10 percent, which he feels is an impossible hurdle to mitigate.
Abby, the director of Operations walks by.
Abby, did you hear the news? Each department must find another 10 percent to reduce spending. You know the Just-in-time initiative that you wanted to deploy this year? There is no way I can do that! All the benefits in inventory reduction are going to be enjoyed by Operations, and my costs are going to skyrocket! I will never be able to get that passed this year, Michael says.
Michael, that cant happen again this year! We have been talking about this since I joined the company. Abby is frustrated. She storms off to talk to Jerry.
Abby was plucked off the ladder from their main competitor to teach her colleagues about best practices. People at Global Automotive Supply have been really pleasant, seem to listen, but nothing ever improves. This company has been running its business the same for the last 100 years, with the viewpoint: Why fix it if it aint broke? Abby realizes this perspective gives the competition an important edge.
Jerry has plenty of experience. He knows more about the industry and its players than anyone in the company. He is also well educated and has passed his CFA. Jerry continues to pour over numbers at his desk when Abby enters his office.
Abby, I can tell by the look on your face that you have heard about the additional budget cuts. Jerry says, I planned to tell you last as I knew this would be upsetting for you. Jerry likes Abby; he was one of the primary advocates behind Abbys hire into Global.
Jerry, doesnt anything that I do mean anything to this company? Abby asks.
Sales are down sharply this year - way under budgets, even though we have given sizable quarterly incentives to our sales people. The decrease didnt become evident until this past quarter when we didnt allow forward booking, and we made the decision to require sign-offs on canceled invoices and shipments. I am sorry. I know that the JIT campaign was very important to you.
Important to me? It will save the company millions in inventory reduction and our customer service levels will significantly improve, Abby explains.
Well, we cant sell what we have in inventory; I just dont know what else I can do for you. The few customers we still have are way over their credit limits. I am sorry that our financial position just isnt gong to allow for any new initiatives.
This takes place not only at Global but also at companies throughout the world. The practice of managing to budgets has been around for 80 years, and has been a primary performance measurement for 40 years. Budgets have become detailed and burdensome; one study revealed that on average managers spend 30 percent of their time budgeting.1
Managers and executives generally feel secure in knowing that they have control over the purse strings. Most continue to manage using this annual review of company costs despite the exponential increase in information flow that facilitates equally rapid changes in the business environment. There have been some new ideas, such as Zero-Based Budgeting (ZBB) that may superficially appear to be a brand new way of management. However, ZBB is just a slight alteration of the same old budgeting process by which managers focus on costs rather than over all performance.
Primarily, managing through budgets is dividing companies into smaller units that lacks a view of the whole. This runs counter to the whole essence of a supply chain is based upon strong relationships, clear communication and strong consumer demand data. This approach eliminates the opportunity to achieve synergy by forcing each department to compete for resources rather than encouraging departments to work as a team toward a common goal.
The existence of budgets as a common management tool continues to limit the visions of supply chain managers around the world.
Budgets As a Management Tool:
Secondly, managers across the world are stifling innovation, as Abby witnessed. Heres how:
Thirdly, the numbers within the budgets are built upon annual forecasts. But the economic environment is too volatile to be able to plan one year in advance. Imagine how the current jump in economic growth is impacting budgets that were developed one year ago. It can be assumed that very few managers may have anticipated this upswing. As a result, departments will fight to meet the demand that was not in the budget.
Perhaps you have been convinced of the inferiority of budgets as a management tool. In this case, the next question is how will CFOs like Jerry, manage cash, plan, forecast, and measure performance without budgets?
Global Automotive Supply needs to:
For Jerry, there is a better way to manage his company. The practice discussed in these pages will encourage innovation, synergistic teams, realistic cash management, and real sales numbers!
Global Automotive Supply may still have a chance to unify before their competitors conquer the market.
1 Harvard Business Review, Tool Kit Who Needs Budgets? February 2003