Written by Guest Author and FP&A Professional: Paul Barnhurst (aka The FP&A Guy)

Planning, in some form or another, has been around for as long as the human race.  However, formal budgets are much more recent, as they started in England as a way to put checks on the king. It eventually made its way to the US, with President Taft proposing the first formal government budget in 1910.  Shortly after that, companies started creating formal budgets, with one of the biggest advocates being Donaldson Brown, who is known for creating the “Dupont Formula” used by many people to analyze businesses worldwide.

Today, most companies have a budgeting process in some form or another.

• Larger organizations typically follow more formal processes, including Strategic Plans, Long Range Plans (LRP), Annual Financial Plans, and Forecasts, which we’ll dive into in greater detail in this article.
• Smaller companies often have an informal budgeting process until they scale to a size that requires a more robust and standardized planning process across the company. For those interested in budgeting and planning for smaller companies, check out these podcasts:
  • Financial Modeling for Startups to Drive Growth and Make Better Decisions with Lauren Pearl
  • Don’t Let your Startup Fail – Essential Financial Tips for Entrepreneurs with Renato VIllanueva

This article will focus on how the budgeting/planning process typically works for Mid-market to Enterprise companies that need connected planning across the organization.

• Strategic Plan: Executives meet for a strategic planning session and lay out the company’s strategic goals and plan.
• A Long-Range Plan (LRP), which is built at a high level, is often created for a 3-5-year period and updated periodically.
• Annual Financial Plan: Most companies spend a few weeks to a few months working with the finance organization to create a detailed financial plan focused on achieving the strategic and LRP targets and goals once a year.
• Operational Plan: The operational plan (Sales, Marketing, Product, IT, etc.) is a more granular plan focused on helping the business’s operations achieve their goals. The operational plan should be built to achieve the financial plan, and the finance organization and each department should be aligned on the operational and financial targets. 
• Forecasts: Throughout the year, many companies update their budgets based on the latest predictions after receiving results for the prior period(s). The forecast should reflect the most up-to-date predictions on how the business will perform moving forward, typically in the next 12-18 months. 
• On the surface, the planning process seems similar across companies and industries, and this is true, but when you get into the details of planning, there are almost as many ways to build plans as there are companies worldwide. To paraphrase a popular quote about their being no one right way to live.

“There is no one right way to plan.”

Given the many different planning approaches, it is critical that your Process and your Technology is flexible; Flexible enough to allow you to plan at the level of detail and with the methods that are right for your organization.

In the following sections we will talk about the Financial and Operational plan and different approaches one can take when planning.

Financial Planning

Financial planning usually starts with a Long Range Plan that is followed by annual planning. The planning process can take anywhere from weeks to months, depending on the company’s size, complexity, and approach taken. Companies have to make many decisions around the level of detail they need to include in the plan.  What financial statements will be forecasted, and at what level of detail? They also must decide what approach they will take to the different parts of the plan (revenue, headcount, expense, etc.)  This often starts with deciding on whether to use a top-down or bottom-up forecast.

Top-Down vs Bottom-Up Forecasting 

When it comes to planning, and in particular, financial planning, a question that is often asked is should we do bottom-up or top-down forecasting. One will find a lot of different opinions on what is the right approach. For example, I recently interviewed a Fractional CFO who specializes in supporting start-ups, and she said she would choose a top-down high-level forecast nearly every time. On the flip side, I would have said bottom-up, but I have mostly supported mature businesses with years of history. This conversation reminded me how both approaches have their place, and a lot of it depends on your company’s needs and the preferences of your leaders. Let’s review each approach. 

Top-Down Forecasting

A Top-Down forecast is a high-level forecast established by senior leadership. It often involves examining the macro-environment and making high-level assumptions. The whole idea is the forecast starts from the top and filters down as necessary.

Pros of Top-Down Forecasting

• Simplicity – Top-down forecasts are much easier to implement and support than a bottom-up forecast 
• Time – Top-down forecasting is usually much quicker than a bottom-up forecast build
• Useful for Strategic Planning & Long Range Plans (LRP) – Top-down forecasting is often the preferred method for strategic and LRP planning because it is quick and simple to implement.
• Early-Stage Company Planning – This is often ideal for early-stage companies that lack detailed data to support a bottom-up forecast.

Cons of Top-Down Forecasting

• Lack of Detail – Often fails to account for details at the local level that need to be considered. 
• Overlook Bottom-up insights –  The bottoms-up approach often leads to insights as you combine the different building blocks necessary to build the plan up and you miss this with a top-down approach.
• Lack of involvement –  Often a top-down approach fails to involve the business units which can lead to people feeling a lack of ownership in the targets. 
• Overgeneralization Risk – When creating a top-down forecast, you often run the risk of overgeneralizing assumptions that result in unachievable targets.

Bottom-Up Forecasting

A bottom-up forecast is one that begins at the micro level and is aggregated up.  For example one might build a forecast by customer, product, or individual sales rep. The forecast is built with detailed assumptions and inputs such as quota, price, product mix, etc. 

Pros of Bottom-Up Forecasting

• Data – Driven – Bottom-up forecasting benefits from being focused on data and using data to support the forecasts. 
• Operational Insights – Building a granular forecast that can be compared to actuals makes it easier to find operational insights. 
• Accountability – A more detailed, driver-based forecast makes it easier to hold people accountable for the numbers submitted as part of the build-up.  
• Granular Detail – Having granular detail is beneficial for reporting and analysis. 

Cons of Bottom-Up Forecasting

• Time-Intensive – Detailed bottom-up forecasting for the annual budget often takes several months to implement. 
• Complexity – Bottom-up forecasting can be complex and often difficult to implement due to the need for lots of data, inputs, and assumptions. 
• Resource Intensive – Detailed bottom-up forecasting can often be resource intensive and take people away from the day job.  
• Requires Good Data – One of the challenges of building a good bottom-up forecast is the need for quality data to support assumptions and inputs. 

Given the pros and cons of each approach many companies will do a hybrid where the business builds a bottom-up forecast and management develops targets using a bottom-up approach and then you compare the two and work together to develop a final budget/plan using both forecasts. Remember no right way exists to conduct your financial plan but  few things to keep in mind. 

• Accountability – Focus on building your plans at a level that allows you to hold the business accountable for the targets they submitted. 
• Flexibility – Be flexible as the business changes you will have to change your forecasting methods and approaches from time to time. 
• Time-Commitment – Balance the need for a budget with the time it takes away from other important day-to-day business activities.
• Involve People – Remember to involve people and make sure they feel a shared-sense of ownership for the budget.  Pushing down numbers from the top without alignment rarely ends well. 

Remember that the financial plan will need to be integrated and supported by the operational planning done by the different business units; doing this in a way that makes sense and fits the way your business runs is key to adopting and sustaining the approach.  

Operational Planning

Operational planning involves implementing the strategy and financial plan at a department level to support the day-to-day activities. Companies need to align their daily activities with their strategic and financial goals. For example, if the financial plan assumes a 10% reduction in product churn, the operational plan needs to ensure that the day-to-day activities are focused on achieving these goals. 

I have often seen financial plans built in a vacuum, which causes a disconnect between the financial targets and the operational plan. If you have worked in FP&A long enough, you have experienced the meeting where someone raises their hand and says, “I do not recognize that number. ” If this happens, then you know your company lacks an integrated, connected planning process. 

When it comes to integrating your planning process across the company, technology can play a big role. Having a platform that allows you to integrate your financial and operational plans in one place where everyone can see them is incredibly beneficial. Technology is also helpful in gathering all the data needed to support a connected planning process. Regardless of how you build your operational plan, remember to ensure it is connected to your strategic and financial plan.  

Conclusion

When it comes to planning, the most important thing is to develop a process that works for you and your business.  

Flexibility is essential, and finding the right tool for your needs is important.  Many different planning tools can meet your needs, but one that is known for its flexibility in supporting operational and financial planning is Kepion.  

In the 2024 Gartner report for Financial Planning software, Gartner said that Kepion “…is recognized for its flexible modeling capabilities and cross-functional applications, connecting strategic, financial, and operational plans in real-time with a single unified system.” Gartner went on to mention, “Another enhancement is the expansion of industry-specific FP&A and xP&A modules. These ready-to-use modules are tailored for various industries, enabling quicker implementation and streamlined support. “ If you want to learn more about Kepion and its focus on planning your way, click here.

Remember that no matter what tool you use, being flexible and focusing on planning in a way that supports your business is critical. 

A few things one should keep in mind with the planning process include…

• Keep it simple – Remember, all plans are wrong, so focus on streamlining the process where possible. 

• Organizational Alignment – All good planning processes will break down silos and make sure the organization is on the same page and aligned with its strategic goals and how to achieve them. 

• Different Approaches –  Remember no right approach exists to planning, explore different forecasting methods and compare them to get a more holistic answer.

• Uses Range Estimates – Ranges are your friend.  Only calculating a point estimate for all your forecasts is dangerous.  Make sure you look at a range of numbers and the risk around your numbers and estimates. 

• Be Flexible – Be flexible and willing to adjust your forecasting methods and update your forecasts as needed.  Make sure you control the process and do not let the process control you. 

• Utilize Technology – Utilize technology to streamline the planning process.

As you continue to focus on the planning process, remember that it is not just about the numbers you produce but the thought process that goes into them. Planning is about helping us achieve our strategic goals, not about achieving a precise number. 

Until next time, remember, Stay Curious, Stay Informed

~ Paul Barnhurst, The FP&A Guy