As we conclude 2020, we must anticipate and plan for more uncertainty in 2021. And reverting to old patterns and practices, “making the same mistakes again” as noted in the cartoon, is not a realistic approach. Here are three approaches to planning for uncertainty, providing tools that will help your organization adapt “on the fly” to developments we can’t anticipate now.
Multiple budgets for different scenarios build in adjustments
This is a traditional approach to planning for uncertainty. It requires the most upfront work, but forces decisions in advance, with more analysis and consideration, than may be possible after a crisis or opportunity materializes. Typically there are three scenarios — expected, worse than expected, and better than expected. The three scenarios are typically characterized by revenue differences of 15% or possibly more.
When revenues fall by 15% there will be required reductions in spending — probably in multiple line items, not just staffing. When revenues grow by 15% or more, there will be opportunities to invest precisely in order to accelerate growth — in marketing, sales, customer service, operations, and elsewhere. Preparing these three separate budgets requires lots of work. And there is still the question of when to switch from one to the other. And there are risks to shifting either too soon or too late.
Rolling 13-week cash forecast highlights quick adjustments
This tool is often used by startups and by firms facing a cash flow crisis. It should be used more broadly and 2021 may be the time for many more firms to adopt this discipline. A rolling 13-week spreadsheet lists all cash inflows and outflows by week. Smaller amounts, perhaps under $1,000 can be aggregated into a single figure every two weeks.
The focus should be on larger items such as payroll, major payables, collections on accounts receivable, and note payments due — including rent, equipment notes, line of credit, etc. Within this forecast there are two levers for adjusting in real time — cash collections and cash outflows. Many small to midsize businesses don’t pay enough attention to the timely collection of accounts receivable from customers. This is typically the only option for improving cash inflow, without resorting to loans of additional infusions of owner equity.
The weekly granularity of this tool allows for faster detection of problems and faster decisions on how to adjust. Your controller or CFO needs to make the weekly updating of this tool his or her top priority. “Cash is king” is more than a cliche — in a crisis it becomes a rule for survival.
Dynamic triggers for budget adjustments can be customized
This approach enables fast and specific adjustments, without the need for a completely separate budget. I suggest looking at them on a rolling 2-month basis. So a significant gain or shortfall for two consecutive months becomes a “trigger” for plan adjustment — at the beginning of the third month. The key triggers will be different for many firms, so the CEO and CFO should select the ones that best fit your organization.
Here are some sample triggers: a) sales up or down 10% or more, b) orders from existing customers up or down 10% or more, c) inventory levels up or down 10% or more, d) billable hours (in a professional services firm) up or down 10% or more.
Every firm will need to select 3-4 key triggers and the percentage variation for two consecutive months that are most suitable. I suggest that the CEO and CFO collaborate on a list of suggested triggers, then discuss, debate, and select with the entire leadership team. The hardest decisions will be the actions to take when negative triggers are tripped. Will staff be asked to take a pay cut, or furloughs, or give up company contributions to the company 401(k) plan? Will vacancies not be filled? Or will staff reductions be needed?
How will your organization prepare for 2021 uncertainty?
Many organizations have faced difficult challenges and painful decisions in 2020. If planning for uncertainty in 2021 takes place now, the impact of sudden changes can be mitigated. The faster the response, either to crisis or opportunity, the better the result.
Would you like to brainstorm your triggers in a complimentary 30-minute call? Contact me at email@example.com.