Everybody lives on a budget. Well almost everybody. It seems the US congress hasn’t needed a budget for the last few years so they haven’t bothered to create one. I guess that comes from the fact that if they need more money they can just trot down to the treasury and print some more. They also have the added benefit that if they spend more than they actually have no one seems to mind.  Aside from that one glaring exception we all must live within our means, and that means we have a budget.

The same principle should apply to business. Organizations should have goals, and for the most part these goals need to be quantitative. In case you are missing the link here, goals and budgets should be closely related.

Budgets are great management tools in that they provide goals, but they are goals that have a certain amount of variability based on business levels and directions. They provide both statistical as well as real number targets for leaders to manage to. This enables the business leader to have some leeway and variability of the budget goals based on the overall business performance. It allows them to make business decisions and to manage.

Warren Buffet, who is widely thought of as one of the wisest and most capable business men around, has also come out in favor of budgets, specifically with respect to the aforementioned members of congress. His approach to having congress set and operate within budget, and like the rest of us live within it was simple. He said:

“…pass a law that says that anytime there is a deficit of more than 3% of GDP all sitting members of congress are ineligible for reelection.”

He was saying that the US government budget would be linked to the GDP measurement and must be within three percent of it. I like the sentiment, but the only problem with this solution is that those that would be measured and or limited by the budget, are also those that would have to “pass a law” requiring it. Past experience does not indicate there is a willingness within the congress for this type of behavior.

Regardless of that, the budget approach is correct. If there is a good economy and GDP rises, then there is more money for congress to spend. If there is a poor economy and GDP stays flat or worse, falls, then there is not as much money to spend. And just like a business that sees its revenues fall, cuts in its spending must occur.

Lets again look at what has become one of my favorite discussion topics in business: travel. I have traveled a lot for business in the past, and don’t particularly relish the thought of future business travel, but I absolutely agree that some travel is required for successful business to be conducted. There is no substitute for face to face contact, either with customers or with other members of the business unit. I also understand that travel costs money and there is a finite amount of cost that any business can bear and still be both viable and profitable.

All business groups or functions should have a travel budget. It should be expressed both in real dollar terms, and as a percentage of revenue terms. If times are good and the business is growing it should be expected that revenue will be growing and there will be more customers to visit and that the actual amount spent on travel may be more that the real dollar target, but it can still be in line with (but hopefully less than) the statistical percentage of revenue. The idea here is that you don’t want to limit your revenue growth because you decided to limit your travel to a fixed dollar level.

Just as in tougher business times you would not want your travel expense to meet the dollar level set in the budget when revenues fell short of their projected levels. This would cause travel to increase as a proportion of revenue to a statistically unacceptable level of revenue. This would adversely affect the business’ profitability. If the overall business levels are reasonably accurate, then both the fixed level and statistical level targets can be used as measurements.

Rewards can be provided for achieving budget goals and penalties or reduced rewards assessed for not achieving them. This logic can then be applied across the entire business against almost all cost categories as well as most revenue structures. If the business has time sensitive aspects then the amount of time that is budgeted per project or event can be used in the same manner. If the business is service oriented as opposed to product oriented then the number of labor hours, or the number of employees associated with conducting the desired level of business can be budgeted.

Good leaders will understand the various trade-offs that will come into play with the various goals and budgets that they have to attain and work with. Leaders that consistently work within their overall budget constraints, either real dollar, statistical or both depending on prevailing business conditions and the accuracy of the initial conditions, should be rewarded both monetarily as well as with increased responsibilities over time as they have demonstrated good stewardship of the business. Those that don’t demonstrate these traits should not expect these types of rewards.

I stated “over time” as a criteria as there will always be a stochastic or unpredictable aspect associated with business. That means that sometimes you can and will do everything right regarding your budgets and objective, but there will be unexpected events outside of your control such as disruptions in supply chains, natural disasters, changes to commerce laws, etc. that will preclude you from being successful.

It happens.

It doesn’t happen all the time though. Many of the issues can be predicted and de-risked. Those leaders that can predict and prepare for these unforeseen events will minimize their affects, continue to be able to perform, and progress. Those that can’t handle these types of events will need to learn the requisite skills if they wish to continue to advance.

Senior management cannot and should not try to both set objectives and then dictate how the business leaders are to achieve these goals or operate within these budgets. It usually neither works nor enables the next generation of senior leaders to grow into their future roles. One size does not fit all and differing leaders will have differing approaches to solving their specific problems.

Setting both goals and budgets enables leaders to understand what is expected both on an overall basis as well as on an individual or specific budget basis. It also enables those leaders to make decisions regarding tradeoffs within the specific budget structures as to enable the attainment of the overall organization’s goal. A rigorous reward structure with BOTH positive reinforcements and negative consequences needs to be in place regarding both goals and budgets to support this approach. It also requires a senior leadership team that understands that some leaders will succeed and be rewarded, and others may not be rewarded and will need to gain more experience, but that the overall business will benefit.

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