This installment of The Common Sense Manager continues Chapter 9′s discussion of Management Fundamental 6: Plan, Act, Review, Correct.
What, then, are the steps you should take to make sure you have a realistic budget that’s based on an operating plan?
Start with a forecast of the consumption of your product. In most industries the sales force is asked to do this on a customer-by-customer basis. Their bottoms-up forecasts are then subjected to a sanity check by someone who has looked at the industry from the top down. In Chapter four we saw an illustration of this:
If you supply paper-making fabrics and felts to the paper industry, variations in expenditures for consumer advertising are important to you. The fewer dollars spent, the less ad space is bought in newspapers. This means there aren’t as many pages in the papers, so the publishers don’t buy as much newsprint from the paper companies. The papermakers in turn don’t produce as much newsprint, so they run their machines fewer hours, and the fabrics and felts don’t need to be replaced as often.
How do we generate a plan that produces budget numbers?
In chapter four we also saw that a plan consists of objectives, strategies and tactics, or action steps. The actions cost money, which tells you what the expense budget is. They are also expected to generate revenue. The chapter four example:
- Introduce new product at trade show in March. Three salespeople, two days, expenses $3000. Expect X leads. Target date March 31.
- Follow up leads with direct mail and phone calls. Mailers and postage $1500, phone calls $275. Expect 0.3X expression of interest. Target date April 25.
- Call on interested parties and propose sampling plan. Five salespeople, two days, expenses $5000. Expect 0.75(0.3X) response. Target date May 30.
- Expect sample order input of $Y [*] based on response. Target date June 30.
[*] Typical order is 50 pieces, at $17 per piece, total $850.00. If X leads = 1000, the plan calls for sample orders totaling $191,250.00 (1000 x 0.3 x 0.75 x 850). Total costs planned at $9775.00.
This becomes the budget for that event. And where do these numbers come from? As in the case of the percentage method, some come from historical data, or your experience with actions like this in the past. (Or somebody else’s experience). But more likely the numbers come from assumptions you make (which are subsequently validated, corrected or discarded). Sometimes the assumptions are pure grit. If you’re right, you’re a hero. That’s the thrill of risk being rewarded.
Fortunately, not all budgets are based on introducing new products. More often than not, you’re working with a known customer base and an existing sales organization. During the annual planning cycle you can examine the prospect of increasing sales to existing customers, adding new ones, and changing the activities and expense of the sales organization. When sales executives are asked how they got the numbers, they can refer to history and the new assumptions.
In other words, sales revenue is based on unit volume times price. Unit volume is based on numbers of customers and the amount they’ll buy. That is based on knowledge of the total number of customers and the total number bought, and on plans that tell how you’re going to take some business away from competition, or take a major share of the incremental growth in the market.
As defined in Chapter Four, the planning process considers the status of the market, the product, the competition, then reviews conditions and trends in the environment, and identifies problems and opportunities. After these steps are taken, the CEO is in a position to state the basic objectives for the coming year.
These will ordinarily include the basic financial objectives: revenue, expense, gross and net margins, return on equity. They should also include any special objectives concerning the way the company carries out its mission, such as expanding overseas, developing strategic alliances, changing its image, etc.
After the CEO reviews these objectives with the heads of various profit centers or functional departments, the head of each unit is asked to prepare objectives that support the overall company’s objectives, and to bring those objectives back to the team table for general discussion.
Depending on the size of the organization and the levels of management, this process repeats until all employees have been involved in the objective-setting process. Even if the company is just you and your three key associates, do it.
In this process, what you’re doing is establishing a hierarchy of objectives. A good illustration of a hierarchy relates to the objectives, strategies and tactics used by the Allied Forces on D-Day, June 6, 1944.
The hierarchy of objectives – D-Day
ALLIED FORCES U.S. FORCES TASK GROUP 10
Objectives: Get to the Rhine Take Omaha Beach Land LSTs
Strategies: Take France Feint at Calais Naval cover fire
Tactics: Land at Omaha Send LSTs first 2 rds/min 0600-0630
In this example the objectives of each organizational unit are derived from the tactics of the unit to which it belongs, forming a hierarchy of objectives. The Allied Forces have the objective of getting to the Rhine. The strategy chosen is to take France (as opposed to Belgium, for example) and the tactics, or action plans, call for landing at Omaha Beach.
In this organization structure, the U.S. Forces have the objective of taking Omaha Beach. The strategy is to feint at Calais, using Patton and a dummy force, thereby drawing Rommel away from the real target area. And the tactics used to land the troops are to send LST’s first.
Task Group Ten, a unit of the U.S. Forces, has the objective of getting the LST’s landed safely. Their strategy is to use naval cover fire, and the tactics of the shipboard gunners call for laying down a barrage of two rounds per minute between the hours of 6:00 and 6:30 a.m. in a particular sector above and behind the target beach.
As the planning process unfolds, the objectives, strategies and tactics of each layer in the organization are related to those of each other. And, looking at the chart, it becomes apparent how the specific tactics of units all the way down to the naval gunners fit into the big picture and help to achieve the overall objectives of the Allied Forces.
This is, of course, highly simplified, since there were many more than three levels of organization, and the actual plans were inordinately complex.
To be continued.
Posted on January 14, 2012
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