How do you test your budgeting assumptions?

I believe it is not advisable to sign off budget unless most prominent local and global news events are scrutinized as potentially it can have an impact on the numbers presented that was not necessarily anticipated. I shall make a truly simplistic example. I recently launched a girlchild leadership and dignity project for grade 11 learners in Stellenbosch with a very small budget to my disposal. The designated kick off date for the project was 9 August and I alerted the project charter that it might potentially be disrupted by the looming taxi strike. They disregarded my advise and it resulted in additional expenses to crisis manage the 4 events planned when the taxi strike indeed happened.

I do agree that using historical data always acts as a baseline for budget and forecast. However we tend to ignore macro economic factors. Some companies may gain immensely and others lose from such. Unforeseen circumstances also make us do budget adjustments in the year. I recently worked on budget 2024 in my company and alot had to be factored in including unmeasurables. e.g. political instabilities (non quantifiable), global wars e.t.c

One requirement of the DFARS Estimating System is to go back and compare forecasted and budget results against actual results on a cost element (labor, material, other direct cost, overheads and G&A) basis. They also expect forwards pricing rates and budgets to use prior year history at the account and cost element basis to help establish reasonableness of the rates. You can build and use a detailed basis of estimate if you want to vary from historical trends. But you must show the historical trends.

I always look at the last 3 years of actuals to compare (both average and trend) my budget. I do this by expense account. I also do it by revenue groupings. Some revenues are what is known as churn. You don't know where it's going to come from, but it happens year after year. Some revenue comes from specific, big contracts. Churn also happens with certain types of expenses. Checking the patterns in actuals help you from over or under budgeting.

I wouldn't go back much more than three years if the data is expressed in dollars. Even then I would look to adjust for inflation. The last few years we saw inflation in the 7 - 9% ranges. If it is in hours, go back further. Hours are better because unless the process and technology changes significantly, it will be more consistent to the future.

Since I started my career in FP&A I have been passionate about sensitivity analysis. In a simple way, we can identify the main risk variables for the model and we can simulate to measure and manage this risk.

Different cost elements have different sensitivities (correlations) to revenue and other volumes. Some are fixed. Some are variable. Some of semi-variable and some are semi-fixed. Knowing and using these relationships help you verify your assumptions.

You should know the characteristics of your accounts. Some, like depreciation or amortization are fixed and only change as you add or get rid of capital items. Some are semi-fixed and step up at different operating levels (know those breaks for a step up or step down). Some are semi-variable and will gradually rise on given causal beneficial relationships but always have a fixed floor. Some are variable but may vary with different correlations from each other. Sensitivity analysis provides the means to know how to predict the nature of each account and compare those nature models to your budget values. Where they are out of whack, you need to ask questions.

Sensitivity analysis is focused on the concept of fixed, semi-fixed, semi-variable and variable and the relative ranges that the cost trends operate. Step functions are real. Correlations are real. Fixed and non-recurring costs are real. These analytical techniques are helpful in verifying reasonableness. However, they don't always help with changing technology or waste prevention and elimination, though those to can be isolated and have factors established. Just remember to document the changes you expect when performing sensitivity analysis.

Es la mejor herramienta tanto para el presupuesto del a?o como para la planificación a 5 a?os o 7, también ayuda a ver en que momentos podemos tener quiebre en nuestro flujo de caja bajo ciertas circunstancias. Y preveer que tendremos que activar un colchón financiero en esos momentos.

Every budget has a purpose. That purpose benefits different stakeholders. You should engage with them all the time. Don't make it a one time thing. You might set budget only once a year, but all the interactions of the past 12 months should be learnings that fuel your new budget.

Budget assumptions has different aspects & varies from one to other category, it depends on what you are budgeting considering groud realities pertains to that area.

Hybrid of both top down and Bottom up approach. Communicate to dept heads and do sessions to validate and quantify the assumptions.

When defining budgetary assumptions, it is important to check whether they are consistent with each other and with the designed scenario. Benchmarking and a historical comparison are excellent ways of checking. Cyclical events are very common in projections.

The best budgeteers are readers. I say this because in reading business, economic, and technology periodicals and reports you gather needed information that you can use to validate your budget assumptions and trends. When in an inflationary period, a flat budget is unreasonable. In a recession? I wouldn't be optimistic about sales. High interest rates? You may not be able to afford all the things everyone wants to do. Is a competitor coming out with a new, improved product? What's that going to do against your sales? The Government coming out with new laws and regulations? What's that going to do to your business? Not reading puts you at a disadvantage.

I've always worked with 2 versions of the annual budget. A static variation to see at year end how accurate the budget and projections were against actual performance and a rolling budget that gets updated based on how monthly results are trending and any major changes that occur during the year.

I rely on a straightforward yet effective method. By consistently monitoring spending and analyzing current and historical spending patterns through formulas, I can determine likely year-end budget outcomes for the funds I manage. This method has proven to be highly instructive and provides early warnings, helping us proactively address funding challenges and ensure alignment with our goals. Additionally, it allows us to test outcomes on the fly before making financial commitments, ensuring that our decisions remain grounded in reality.

Don't update your budget regularly during the year. Update your indicated final forecasts. From these updates you can establish risks and opportunities facing the business and operating functions/ departments. If done early enough, you can redeploy resources to cover overruns or take advantage of opportunities.

No, don't update your budget. Update you estimate at completion (EAC) or indicated final (IF) forecasts. The budget is the representation of what the original plan was. It needs to be the standard from which variance analysis is performed. The forecasts are the updated expectations of how the plan evolves based upon changing conditions during the year and over the project. They also serve as where you can identify risks and opportunities for the expenditure of resources to get the mission and commitments accomplished.

I've seen people try to do bottom up, detail estimates and budgets. They put in a lot of effort and time to do so. They also ignore them as soon as the ink is dried because they didn't foresee some event or condition or opportunity. In a nutshell they don't establish budgets based upon how they really operate. It's better to question them a couple steps down with regard to things they've experienced in the past so as to reflect that into the budget.

To ensure robust budgeting, validate assumptions through historical analysis, sensitivity assessments, scenario planning, benchmarking, and expert input. By rigorously testing assumptions, you empower informed decision-making, paving the way for financial resilience and strategic success.

Make sure that the budget is tightly aligned with the story. If it isn't, then you either have a lot of waste (padding) that will encourage over-spending or will find yourself short. I strongly disagree with Federal spending trends where departments will spend on things, they don't need because if they don't their budget will be reduced next year. It's also a bad practice in business. Tying budgets to the story helps prevent this.