Accurate sales budgets: Achieving the impossible

Over the past few years, accountants and financial managers have increasingly bought into the concept that there is value to be gained by involving cost or profit centre managers in the budget process

November 16, 2010

By Kevin Phillips, MD of idu Software

Over the past few years, accountants and financial managers have increasingly bought into the concept that there is value to be gained by involving cost or profit centre managers in the budget process. It’s only these managers who have the detailed knowledge of what is happening, and likely to happen, in their areas of responsibility — and without that detailed knowledge, an expenses budget is never really going to be much more than a sophisticated thumb-suck.

So far, so good: The more managers are brought on board, the more accurate the budget gets. But there is a glaring, and baffling, gap: What about the revenue budget? If your profit centre managers have unique and valuable knowledge to contribute about their own micro-environments, surely the same goes for your sales teams? And if that’s true, why is almost everyone wasting this knowledge resource?

The standard response is to argue that it’s counter-productive to ask salespeople to create their own budgets, because they’d deliberately under-budget to ensure bigger bonuses. This just doesn’t hold water: A budget is not a target.

A revenue budget is an informed forecast of the revenue that is likely to come in — without it, you can’t possibly plan a decent expenditure budget. A target is something else entirely, a performance incentive for your sales team. The organisation can set this target wherever it likes – it could be budget plus 50%, or budget plus 100%, or whatever seems reasonable. The sales team knows the difference: the budget figure is what is expected to keep the organisation ticking over and themselves employed; achieving the target is what makes them smile.

What’s the alternative to involving your sales team? Typically, people apply a rough rule of thumb like “last year plus 10%”, a system that is deeply flawed. Let’s say you had a particularly good year last year, for entirely external reasons – maybe you happened to be responsible for gas sales in the year Eskom imploded. This performance is not repeatable — but the typical Head Office target setting process will impose it, plus the usual 10%, as this year’s target. Everybody on the sales team with any sense knows the target is unattainable and leaves as soon as possible.

That’s what you get when you fail to consult the people who actually have the knowledge of the environment they will be working in. The alternative is to involve them in the budget process, get an accurate idea of what you will be dealing with, and plan your activities for the year accordingly.

From a practical point of view, this is relatively easy to achieve. Instead of budgeting for expenditure per profit centre account, you’d budget for products sold per customer.  Link your products to an account code, and your customers to a profit centre code, and an aggregated sales budget is within your grasp.

There’s room for considerable flexibility within this schema: you could budget per sales person rather than per customer if that suits your organisation better. If you have a large product line with thousands of SKUs, you can budget per product line or range rather than per SKU — whatever is going to create the most manageable, meaningful, accurate budget.

If, for example, you’re selling life insurance, you can break your cost of sales down into components such as commissions, stamp duties, lapse ratios, underwriting costs and even claims percentages. Each will be either a fixed cost, or a percentage per policy sold. Estimate the number of policies you are going to sell, and you have the ability to forecast your budget all the way from sales to gross profit.

The implementation can get very detailed, in short, but the principle is the same: You have people in your organisation who know what is going on, and wasting that knowledge is short-sighted.

If something is happening in your market that is going to affect your revenue at the end of the year, wouldn’t you rather know about that at the beginning of the year? Your marketing team may have dreamed up a fancy new product and sold the board on it, but will your customers actually buy it? The sales team can answer that question, based on their knowledge of what’s really going in their micro-environments.

You don’t have to take everything your users tell you as gospel, of course; but more information is better than less. If the revenue forecasts coming from your sales team are very different to those coming from your Head Office, you’ll at least know there are some questions to answer.