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Replacing Bank Budgeting with a Rolling Forecast

Gregory J. Nolan

Published 11.13.2020 by

Banks across the country are in the process of creating their annual budget. For many managers, it is the most painful and least rewarding endeavor of the year, and yet it ultimately forms the basis for the bank’s earnings per share goal.

Senior executives want relief from a process they believe is ineffective and does not represent the plans they would have created if they had been allowed to do so.  Chief executive officers want a process that gets senior managers more involved, but still represents the goals that shareholders and analysts expect of them. They try bottom up and top down, but neither is satisfactory.

Before improvements can be made to the annual budget, banks must first fix the measurement of organizational profitability. This means replacing expense allocations with a more meaningful calculation.

Budgeting Profitability

Before eliminating budgeting, one must first improve it so it links with the measures of organizational profitability. It is a tremendous step forward to have managers budget profitability.  Profitability is the ultimate objective of the planning process and the critical goal for which banks should hold managers accountable.

What is required to budget profitability? Banks that have improved the measurement of profitability using activity-based costs are in a unique position to budget profitability.  To accomplish this, they must budget transaction volumes.

Using budgeted transaction volumes allows the planned activity-based costs to be extended by planned volumes to create planned channel usage amounts for inclusion in the budgeted P&Ls. This approach to budgeting also supports the creation of integrated budget profitability – that is, budgeted profitability by profit center by product, etc. It also dynamically links front- and back-office plans.

Now that a clear view of actual and budgeted profitability exists, the bank can take the next step, which is to eliminate the painful annual budgeting process.  The logic behind this step assumes that, if there is value in projecting future results, it must make sense to project future results more than once a year.  Why not forecast results consistently throughout the year, and beyond?

Our research shows that the single biggest obstacle to planning volumes is the business manager’s reluctance to get involved with that level of detail.  This obstacle can be overcome by utilizing analytical systems that create the forecasts using historical data in conjunction with statistical trending packages. This approach puts the manager into edit mode rather than creation mode.

Another major improvement would be to ask the manager to only interact with key volumes, rather than all of them.  The system can create the remainder of the required volumes based on key historical relationships among the volumes.

These improvements would result in a rolling 18- to 24-month continuous forecast of profitability and channel usage.  Every fall, management simply has to review the forecast for the next fiscal year and, when satisfied, populate the budget for the next fiscal year with those forecast numbers. The pain associated with this process would be minimal, since management would be familiar with the numbers and experienced in working with them.

The Future of Financial Planning

The future of financial planning is painless, not painful.  Managers, who have unique knowledge and insight into the business, will be reviewing rolling forecasts to edit the future projections and finalize the forecast. The linkage of profit centers to operations will be dynamic.

Likewise, when customer behavior changes due to outside influences such as competition, technology advances or new offers from others, the trend lines will show the migration.  As senior and executive management develops plans to respond to these realities, the results of those plans will be shown in the new forecasts with integrated views showing the cascading effect through the company of projected change.

Most importantly, management will be focused on real operating results without the credibility issues and internal bickering associated with expense allocations.  They will also be focused on the future, not just the future through end of the next fiscal year but a future that extends consistently through eight fiscal quarters.

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