It's early December 2010 and the executive team of an airline is looking to wrap up its 2011 plan. Not surprisingly, a key assumption in the plan was tied to future oil prices. Throughout the fourth quarter of 2010, the price of oil was between $75 to 85 a barrel. With forecasts for relatively slow economic growth in 2011, management settled on an assumption of $78 for the year. Their comfort level increased when the head of supply chain at a logistics company is quoted by the media predicting a similar price per barrel. Unfortunately, by mid-February Brent crude prices had topped $110 a barrel and the company's budget was in tatters. A frustrated executive team wants to know what it can do to plan more effectively.
The first thing the management team needs to accept is that no traditional budget can withstand a 40 to 50 percent change in a material assumption. In today's volatile and uncertain world, the situation the management team faced is no longer a rare occurrence. Nearly every organization has to deal with unexpected material changes to key budget assumptions as a result of rapid changes in key input prices or the impact of material external events whether it's a natural disaster, such as the earthquake in Japan, or the downgrading of U.S. government debt.
In the face of such uncertainty, executives are looking for tools that can help them plan with greater confidence. The result is a very different process than the traditional annual approach to budgeting, quarterly forecasting and monthly reporting. Today, in an era when the constant is change, four attributes should be part of the process:
- The expectation that assumptions will be wrong
- An early warning system
- Real-time analytics capabilities
- Ability to act with speed and confidence