Benchmarking Your Forecasting: When Balance Is Bad.

• Author: Eyermann, Louis

Why biased decision-making and driver-based forecasting are good - and the balanced scorecard may not be

It's ironic that in a world of abundant information, planning processes are more cumbersome today than when the decade started. According to research from Hackett Benchmarking solutions, the average company, regardless of industry, takes nine months to complete its annual budget.

The balanced scorecard is often at the root of the problem. How can you make the best decisions for your area of responsibility when you give equal weight to goals/missions, objectives, profit/return to shareholders, quality, customer service, innovation and corporate citizenship? To suggest the decisions can somehow consider all these values equally and still arrive at an optimal course of action for a defined area is equivalent to "management communism."

Adding to the scorecard confusion is the fact that managers at most of these companies are forced to make forecasts and budgets with this ineffective tool. It's ironic, again, that budgeting at most companies has yet to be re-engineered when so much depends on sound forecasting. When done well, production lines are fully staffed, the necessary amounts of raw materials are procured and product is available to customers when and where they need it.

Poor forecasting, on the other hand, can ruin a company. If one underestimates demand, production lines are understaffed, forcing labor to work overtime at a wage premium. The scarcity of raw materials on the shop floor forces buyers to accept higher prices when rushing late to market. And these added costs strangle cashflows.

The overestimation of demand has just as many penalties. Massive amounts of data have not improved forecasting. In some cases, the deluge has blinded managers because they can't decipher what is important.

What can a manager do? Rather than try to understand all the information that is available, you can create a predictive model that relies on only a few financial and operative factors to generate a reliable forecast. By limiting the criteria and capitalizing on the speed of measurement offered by technology, you can make better forecasts faster.

Driver-based forecasting does exactly that. It determines profitability by pinpointing those factors that drive revenue, cost and profit. Drivers are internal and external factors, like the effect seasonality can have on the prices of raw materials or the impact of a strong economy on the availability of labor.

To be a driver, a predictor must have materiality and volatility. "Materiality" is defined as any factor that has a significant impact on components like revenue and costs. It is determined by comparing the relative proportion of a financial line item to the organization's total costs. "Volatility" is how much the factor varies from period to period. One must...