Break With the Budget

Traditional budgets are no longer flexible enough to deal with an increasingly dynamic, unpredictable and demanding business environment because they force organisations to rely on one figure to deliver target setting, forecasting and resource allocation. Statoil believes these are very different objectives and should be managed as separate processes.

Statoil decided to abandon traditional budgeting in 2005, and the following year its new model was introduced at group, business area and business unit level, combined with a series of deeper pilots. The board no longer approves a traditional budget, but a set of strategic objectives, KPI targets and actions. Despite a strong belief in alternative performance management approaches, change at Statoil was still dependent on support from line managers and their controllers.

CFO Eldar Sætre and Beyond Budgeting project manager Bjarte Bogsnes say the first step is to communicate the weaknesses of traditional budgeting.

"It's about getting everyone to understand that they are using something that doesn't work that well any more," says Sætre. "Most people agree that mixing targets, forecasts and resource allocation has a negative effect on the quality of all three and that the traditional process is flawed.

"The sceptics are mainly concerned about understanding the alternatives. But you can't start working on alternatives until people buy into the problem. You must first make the case for change."

Sætre and Bogsnes believe that it is essential to make sure everyone appreciates that Beyond Budgeting is more than a technical finance process change; it is a radical culture and mindset change. You might start making the case for change, citing the more obvious and visible weaknesses of budgeting, such as resource waste or conflicting purposes. But you should not stop there. The fundamental weaknesses of budgeting go much deeper – into culture, mindset and behaviour.

Bogsnes is particularly keen on involving HR and has worked on connecting the business-level finance processes with the HR processes at the individual level. He says: "I sometimes feel that we forget why we perform all the tasks under the 'performance management' heading. Strategies, business plans, reporting, analysis, performance contracts. It too often ends up being a goal in itself. We forget that we do it for one simple reason: to get the best possible performance from people and teams. For me, the ultimate question is: what makes people perform, what makes them tick? If you start with that question, I doubt you will arrive at budgets as your answer."

ELIMINATING CONFUSION

A central component of Statoil's new approach to planning and performance management is the balanced scorecard, which it has been using since 1997. The scorecard, or Ambition to Action as Statoil's version is called, is a cornerstone of the new process.

"Ambition to Action is the bridge between our strategy, finance and people processes," says Sætre. "It translates our ambitions and strategic direction into concrete strategic objectives, KPI targets, actions and individual goals."

He believes that many scorecard implementations fail because they compete with the budget as a management tool. "This confuses the organisation over which is most important. When you have both, the budget normally wins because it has the longest tradition and managers are familiar with it," he explains. "When you remove the budget, no one is in doubt about the role of the scorecard."

GETTING IT RIGHT

Bogsnes advises: "Spend quality time defining strategic objectives before you move on to the KPIs. The strategic objectives translate strategy into success using a simple language that makes people tick. I've seen a lot of scorecards that just show KPIs. What strategies do they communicate?"

To ensure that people focus on strategic objectives as well as KPIs, Statoil has integrated the strategy map with the metrics, targets and initiatives scorecard. This is supported by Management Information in Statoil (MIS), an interactive system that allows managers to access related information, including KPI data, action plans and milestones, weekly reports and benchmarks.

Arvid Hollevik, who is responsible for MIS, says the balanced scorecard requires a good data system that secures automatic data collection, offers a good reporting function and has a flexible and dynamic action follow up. "MIS has been key to Statoil's scorecard success," he adds.

IMPROVED STAFF PERFORMANCE

All Statoil employees have individual goals on both delivery and behaviour. Performance is judged 50% on delivery, as defined by Ambition to Action, and 50% on behaviour and living up to Statoil values. This is also the basis for calculating individual bonuses awarded on top of the common bonus for everybody, which is linked to Statoil's performance versus the competition.

Sætre explains: "We have broken the automatic link between fixed KPI targets and bonuses – not just by introducing relative KPIs or behaviour as key elements, but also by broadening our definition of delivery. Delivery used to be solely defined by KPIs, but they seldom provide the whole picture. That is why you need a more holistic assessment. We now look at Ambition to Action as a whole and make a qualified judgement in hindsight."

FREEING UP RESOURCES

Pivotal to its new approach, Statoil is also transforming resource allocation. It is moving away from the advance distribution of money through annual budgets to increase flexibility and optimise resources.

Sætre explains: "We are turning the budgeting approach upside down. We are now saying that resources are, in principle, available.

"There is no allocation for running costs and operations, but it is not cost anarchy. The business will typically have KPI targets on profitability or unit cost, benchmarked against peers where possible. You cannot spend wildly without a return. We also monitor cost trends, and can intervene at any time if a negative trend has no good explanation."

Statoil does still allocate funds to projects or major decisions involving costs, but only when the project is ready for a decision. The problem with the conventional annual budget process is that it forces companies to decide on funding once a year, which is not always the right time.

Bogsnes agrees with Steve Morlidge at Unilever, who says: "Imagine a bank telling its customers that it will only be open for loan applications for three weeks in October. That would be pretty stupid, but that is how a traditional budget works."

Through Statoil's new approach, project money can be allocated at any time, but it is controlled through clear criteria, ensuring a more flexible and dynamic resource allocation.

SAVING TIME FOR THE FUTURE

Statoil also intends to save time on the planning process by reducing the amount of detail and the number of times a plan is sent back and forth before it is considered adequate.

"Our plan has two purposes," says Sætre, "to identify the actions required to meet our strategic objectives and to illustrate the expected consequences of these actions through unbiased forecasts so that potential gaps can be revealed as early as possible." A key benefit is that much less time is spent explaining past events and deviations.

Statoil's bold new plan aims to completely revolutionise the budgeting process, allowing decisions to be made at the right time for the right reasons. With Statoil firmly focused on the forecasts and actions required to reach its targets, this alternative approach could soon become standard practice.