Friday, February 12, 2010

Why the 12-month budget is bad for business

The budgeting process used by businesses today is fundamentally flawed. No, I’m not against budgets, far from it. However, the idea that a budget should refresh every 12 months wastes money, prohibits progress, and compromises decision-making. Let me explain:

It wastes money
When you near the end of the year with a budget surplus, what do you do? You spend it, because if you don’t spend it, your budget will decrease the following year. Sure, you may use that money for necessary purchases, but many do not. Regardless, the “spend it or lose it” mentality should never drive a purchase. If budget surplus carried over to the next year, the temptation to make a hasty purchase is eliminated.

It prohibits progress
On the flip side, a one-year budget may prohibit future progress. Let’s say, for example, that you found software that would save time and money over the next five years. However, it won’t fit into the budget this year. What do you do? Although going over the budget one year would help the company in the long run, those following a strict 1-year budget are out of luck. Budgets should have a little flexibility for incorporating common-sense. If a purchase will drastically help the company in the future, it should be worked into the budget. Don’t get me wrong, I’m not telling you to overspend every time you run across something small that could help your business. Purchases exceeding a budget must require lots of planning and research, and sometimes a little creative thinking for those with very tight budgets. Who knows, maybe there’s a better, cheaper way to accomplish your goals.

It compromises good decisions
In some companies, managers who come to the end of the year under budget receive bonuses. Sure, the company saved money that year, so the manager gets rewarded. But…at what expense? Do they avoid purchases that could help the company in effort to get a bonus? Incentivizing managers to not spend money creates a conflict of interest, one that will almost always turn out poorly for the business. Budget surplus should have no bearing on manager bonus.

Budgets these days are too short-sighted. Focus your budgets on the long-term, but create guidelines for each year. Most importantly, don’t let strict budget guidelines hinder progress, and always leave room for common sense.


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