How Driver-Based Forecasting Helps CFOs

A traditional annual budgeting process is long and tedious. Yet worse than this, it also fails to consider that recent years have brought an increased amount of pure data and tools for processing and analysing it.

Utilising these new advantages is vital, and driver-based planning (also known as driver-based budgeting or driver-based forecasting) can be an ideal method to do so.

What is driver-based forecasting? 

Driver-based budgeting looks beyond the financials, to take account of real resources and activities. By focusing on an organisation’s key business and value drivers, business plans and budgets can be based on these key drivers, and how they have developed both previously and, in the future, to give the best chance of success.

This is achieved by:

1. Identifying where time, money, and resources should be directed to provide the most success for the business.
2. Taking into account how much those areas of focus may change year to year. In a business and technological landscape, these areas are moving faster than ever.
3. Creating mathematical models to run scenarios based on these factors, demonstrating the impact on forecasted results.

Driver-based planning is particularly vital for long-term strategy, where CFOs need to anticipate and project future trends as accurately as possible, to give the best opportunity to maximise revenues and minimise costs.

How driver-based budgeting works 

A traditional budget process starts by establishing top-down numbers from sales and expense numbers for the strategic objectives. Calculations are run, assumptions applied, and budgeting guidance published. However, aspects are not as well joined up as they could be for future analysis and improvement.

As actual results come in throughout the year, it is easy to calculate purely financial variances to the budget. However, the explanations and analysis exist outside of the number-based system, and therefore the opportunity to analyse, react and optimise in real-time is likely to be missed.

By contrast, driver-based budgeting allows you to integrate the analysis into the data, making it much more effective at telling the story itself, allowing you to:

1. Gain better insight into the relationships between various parts of your business .
2. See how various variable drivers are.
3. Improve the quality and speed of business decisions.

For example, the sales department would start by entering the products, volumes, and prices they expect to achieve over the relevant period. Unlike previously, they will also need to include an explanation of how the sales will be achieved, as rules to be used to inform and adjust the figures on an ongoing basis to optimise success.

Thus, if those sales are achieved through:

1. The number of salespeople
2. The number of calls
3. The number of quotes

These numbers and the conversion expected would be entered as rules, and
modelling can determine the optimal size of the sales force now and in the future.

Using this, operations can plan their activities based on the people and equipment required and also lock these in as rules aligned to the sales requirements. If the sales forecast changes, operational requirements automatically update and can be acted upon swiftly, to keep the business on course for its goals and targets.

Advantages of driver-based forecasting 

Primarily, driver-based forecasting helps ensure everyone in your organisation is focused on the most crucial factors for business success, and therefore, more aligned with the company’s overall strategy and goals.

Other advantages include:

• Being more aware of change within and outside your business, its impact, and how to make timely adjustments to cope.

• Greater transparency for optimal resourcing, by being able to see what brings success or otherwise for key business goals.
• Instilling greater flexibility into the organisation, to modify these drivers proactively when real-life data advises it, optimising the chances of continued success.
• Ongoing insights to help improve continually through each budgeting cycle and further support organisational success.

What challenges does driver-based budgeting present? 

There are also areas you need to consider carefully to ensure you use a successful approach to driver-based planning.

For example, while you should know the top 10 business drivers for your organisation, how to do you:

1. Identify the most vital aspects to work with, as focusing on too many may reduce the accuracy and efficiency.
2. Decide how detailed the data from them should be.
3. Create the necessary models to insert this data, with Excel unlikely to be able to cope with the complexity.

It is worth looking at the wide range of technology that can help with this, including automating processes and connecting you to the correct data. Read our blog on PowerPivot for one example.

Identifying your key business drivers 

There are two excellent methods to identify your business drivers:

1.      Root cause analysis

2.      5 Whys technique

Root cause analysis to discover business drivers is achieved by examining your financial statements, and asking ‘What drives this line item?’

For example, for a brick-and-mortar retail company:

• Revenue = volume of products sold, multiplied by the average price
• Volume is driven by the number of products and salespeople
• The number of salespeople is driven by the number of stores

As an operational and capital decision, the number of stores is, therefore, a core business driver. 

In short, a business driver defined by this method is the root cause for developing a new project, showing why it is needed and what it will deliver.

If you need to break things down further or help sift through a range of business drivers to define the most critical ones, you can also use the ‘5 Whys’ technique. Questioning why an approach, resource, or goal is seen as vital, can lead to the root cause of a problem and identify if this is a business driver or not.

How to implement driver-based budgeting 

Lots of companies talk about moving to driver-based forecasting, but the shift can be challenging. A 4-step approach is best:

1. Identify the key drivers, as above. With these, you can see if driver-based forecasting will help drive your business forward.
2. Confirm if you have the technology to support the change.
3. Ensure you are aware of and able to access the correct data for the key business priorities so that you can analyse it for the best past, current, and future insights.
4. Build senior executive and organisational buy-in.

The last, in particular, is vital to achieve in advance of starting any transformative work, as there will be changes to the budgetary data collected and how it is used. While this streamlining is highly effective, it may cause some concern to those used to collect data comprehensively for every budget line.

Therefore, it is vital this effectiveness is demonstrated and accepted in advance, and we can help you achieve this through our finance transformation program.

Furthermore, once your senior leaders back the drivers and approach, you can set organisation-wide goals and a transparent approach to achieving them.

Transform your finance function today

Having an expert help you ensure your finance function is optimised, enabling you to focus on supping the leadership teams and drive strategic success.

Talk to us today about our range of services to help you build and deliver a more cohesive, value-added strategy for your finance function, at the very centre of your organisation.

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