1. BEYOND BEYOND BUDGETING
Can rolling forecasts improve the motivational effect of budgeting?
Prof. Dr Frank Hartmann

2. Finext - Rolling Forecast
The control challenge
19 April 2018
Finext - Rolling Forecast

3. Finext - Rolling Forecast
The control challenge
Economic theory
Psychology theory
Control is about:
Agency problems
Behavior
Control serves:
Contracting
Motivation
Key control issue:
Indicators to measure value creation
Systems to motivate managers
Model of man:
Self-interested utility maximizer
Social creature with various ‘needs’
Focus lies with:
The superior’s problem of control
Managers’ behavioral patterns
Good control practice:
Measure and reward value creation
Everything to motivate managers
Motivation:
Implied in utility function
A complex issue
19 April 2018
Finext - Rolling Forecast

4. Finext - Rolling Forecast
The control challenge
19 April 2018
Finext - Rolling Forecast

5. The budgetary control challenge
Purposes of budgeting
Typical characteristics of budgets
Planning
Coordination
Performance evaluation
Goal setting for motivation
Authorization
Communication
Expressed in monetary terms
Typically one year
Fixes managerial responsibility
Approved by higher authority
Typically fixed scenarios
Typically complex
19 April 2018
Finext - Rolling Forecast

6. The budgetary control challenge
Purposes of budgeting
Typical characteristics of budgets
Planning
Coordination
Performance evaluation
Goal setting for motivation
Authorization
Communication
Expressed in monetary terms
Typically one year
Fixes managerial responsibility
Approved by higher authority
Typically fixed scenarios
Typically complex
19 April 2018
Finext - Rolling Forecast

7. What behaviors do we see?
Myopia
Using one-year budget forecast as main goal setting mechanism
Using one-year budget as source of KPI’s to determine rewards
Sandbagging (lying, cheating, filtering and all that)
Using budget goals for both motivation and performance evaluation
goal setting
goals
effort
performance
performance measurement
19 April 2018
Finext - Rolling Forecast

8. Do we have technical solutions for these problems?
Value Based Management
Use KPI’s that measure ‘long term value creation’
Balanced Scorecards
Use KPI’s that signal value creation on top of typical budgetary KPI’s
Change the budgetary process
Rolling forecasts
19 April 2018
Finext - Rolling Forecast

9. Value Based Management
19 April 2018
Finext - Rolling Forecast

10. Value Based Management
“At Enron, failure – even of the type that ends up on the front page of The Wall Street Journal – doesn’t necessarily sink a career”
“We have never seen Enron as just an energy company. We’re pretty good at creating new products and services around our high-tech trading and risk management skills.”
“If we’ve broken a paradigm, it’s the compensation paradigm. We pay people like entrepreneurs. A lot of companies talk about intrapreneurship and ask people to take risks, but if those people succeed they get nothing more than an small bonus and if they fail they get fired.”
19 April 2018
Finext - Rolling Forecast

11. Balanced Scorecards Measure multiple aspect of performance share price
company value created
relevance to firm
‘return on investment’
unit profits
unit costs
work quality
controllable by decentralized manager
19 April 2018
Finext - Rolling Forecast

12. Balanced Scorecards Measure multiple aspect of performance
hard to tell the effect on managers’ priorities
negative effect on motivation
share price
company value created
relevance to firm
‘return on investment’
unit profits
unit costs
work quality
controllable by decentralized manager
19 April 2018
Finext - Rolling Forecast

13. What behaviors do we see?
Technical solutions often have not delivered on promise, since people are not just economical but also pychological creatures
The real challenge is to have goals and targets which are motivational in the short run to enhance effort, direct effort and make effort persist...
...but which are more than just KPI’s for future reward determination
goal setting
goals
effort
performance
performance measurement
19 April 2018
Finext - Rolling Forecast

14. What behaviors do we see?
Targets become ‘reference points’:
SMART goals provide clearer reference points than do-your-best goals
Proximal goals provide clearer reference points than distal goals
Reference points split the performance horizon in ‘gain’ and ‘loss’ domains
These reference points have motivational value:
Effort increases as the reference point gets closer
Effort decreases above the reference point
People are more risk seeking when they are below their reference point
Rewards become less effective when people are above their reference poiny
Multiple reference points lead to unpredictable performance
19 April 2018
Finext - Rolling Forecast

15. What behaviors do we see?
Technical solutions often have not delivered on promise, since people are not just economical but also pychological creatures
The real challenge is to have goals and targets which are motivational in the short run to enhance effort, direct effort and make effort persist...
...but which are more than just KPI’s for future reward determination
goal setting
goals
‘reference point’
effort
performance
performance measurement
19 April 2018
Finext - Rolling Forecast

16. Finext - Rolling Forecast
19 April 2018
Finext - Rolling Forecast

17. Rolling forecasting: beyond beyond budgeting
“Budgeting is about goal setting and forecasting is goal seeking”
19 April 2018
Finext - Rolling Forecast

18. Traditional budgeting
effort
Goal setting: single reference point
“Budgeting is about goal setting and forecasting is goal seeking”
large effort gaps
time
Year t-1
Year t
Year t+1
19 April 2018
Finext - Rolling Forecast

19. Traditional budgeting
effort
Goal setting: single reference point
“Budgeting is about goal setting and forecasting is goal seeking”
large effort gaps
time
Year t-1
Year t
Year t+1
19 April 2018
Finext - Rolling Forecast

20. Rolling forecasts effort Multiple reference points: goal seeking
“Budgeting is about goal setting and forecasting is goal seeking”
small effort gaps
time
Year t-1
Year t
Year t+1
19 April 2018
Finext - Rolling Forecast

21. Rolling forecasts: beyond beyond budgeting
19 April 2018
Finext - Rolling Forecast

22. Finext - Rolling Forecast
Rolling forecasts
Rolling forecasts is not just technique but a process based on principles:
Loosely coupling goal setting and performance evaluation
Loosely coupling of goal setting and yearly budgetary planning
Loosely coupling performance evaluation and yearly budgetary planning
...but technical adequacy of system is crucial success factor
That means:
Moving from plain ‘measurement’ to ‘dialogue’
Use KPQ’s instead of just KPI’s
Managing through financials (rather than ‘value’)
Managing through financials (rather than in BSC)
19 April 2018
Finext - Rolling Forecast

23. Finext - Rolling Forecast
Q&A
19 April 2018
Finext - Rolling Forecast