Energy provider Statoil has launched a project to ‘blow up the budget’, and replace it with a new planning and performance management approach that is built around the balanced scorecard.
Headquartered in Stavanger, Norway, Statoil is an integrated oil and gas company with about 25,000 employees and activities in 32 countries. For 2005 it reported total revenues of approximately US$60 billion.
Following a series of pilots during 2006, Statoil will become a budget-free enterprise in 2007. Although abandoning the budget will be a new experience for the Statoil organization, a previous daughter company Borealis was a pioneer of the beyond budgeting movement. Borealis abandoned the budget in the mid 1990s and was held up as a best practice benchmark of becoming budget-free.
Blowing up the Budget
Statoil no longer owns Borealis, but there are people within Statoil that played key roles in the pioneering work at Borealis. For instance the project leader at Borealis was its head of finance Bjarte Bogsnes, who is now project manager for Beyond Budgeting in Statoil, with the wonderful (and unambiguous) subtitle ‘blowing up the budget’. He assumed his present position following a spell as group controller for Statoil's International Exploration and Production division. Recalling the work at Borealis, Bogsnes says:
“Borealis introduced the scorecard through a wide-ranging reengineering initiative. One of the main stream activities was to abolish budgeting and one of the concepts that replaced budgeting was the balanced scorecard.
“We achieved what conventional planning and budgeting did in a simpler, more direct way. In fact I would go further. The system we put in place was not just simpler – it gave us far more information and far more control than the traditional budget ever did.”
Unsurprisingly, on returning back into the Statoil corporate fold, Bogsnes remained a champion of the beyond budgeting idea. His conviction that the budgeting process is fundamentally flawed is grounded in several reasons. The most important being the mismatch between today’s dynamic business environment and the static budget concept.
“Our business environment has not just become more dynamic and more unpredictable, but also more demanding on performance and results. The response to these fundamental changes cannot be more command and control and micromanagement from the top. It has to be the opposite. You need to liberate managers. In this new environment, they need more freedom and more responsibility, combined with a more transparent and meaningful performance monitoring than what a budget provides.”
Another problem with budgets is that it forces organizations to rely on one figure to deliver three different outcomes – target setting, forecasting and resource allocation. Outcomes that he believes are three different things, and so should be managed as separate processes. About targets and forecasts, he comments:
“Obviously a target and a forecast are not the same, or should not be the same. A target is an ambition in that it is what you would like to achieve. A forecast is what you expect to achieve. Therefore these should be separate numbers, with separate processes for their setting and management. When you artificially force together a target and a forecast you either have a bad target or a bad forecast, and most likely both.”
Based on this realization, and encouraged by a history of successfully working with new approaches to business performance management, Statoil mustered the confidence to move towards full abandonment of the budget. Bogsnes says:
“Over a period of time Statoil has developed good mechanisms such as balanced scorecards, forecasting tools and clear decision making processes. We feel that these are now robust enough to take over the traditional and detailed role of the budget as the primary performance management tool.”
Senior Management Commitment
But it should be noted that despite the robustness of alternative planning and performance management approaches, and the memories of Borealis, change at Statoil was still dependent on senior management support. Bogsnes says that key to securing senior buy in was creating a sense of urgency.
“It’s about getting the organization to understand that the Emperor has no clothes on, about their understanding the weaknesses of the conventional budget, that they are using something that basically doesn’t work. You can’t start working on alternatives until you have created that sense of urgency. You also need to get people to understand that this is about more than a technical finance process change, it is ultimately about a deep and radical culture and mindset change. You might start creating the case for change around the more obvious and visible weaknesses of budgeting, like the resource waste, or the conflicting purposes. But you should not stop there. The fundamental weaknesses of budgeting go much deeper, into culture, mindset and how you view and treat people.
I sometimes feel that we forget the purpose of “all the stuff” we do under the heading performance management. Strategies, business plans, reporting, analysis, performance contracts and all the rest. It all ends up being a goal in itself. We forget that we do it for one simple reason only; to get the best possible performance. So the ultimate question is; what makes people perform, what makes people tick? If you start from that question, I doubt you will arrive with budgets as your answer.
“I worked for two years to convince my colleagues to see the budget as a flawed process. At a certain point I think some of them were quite fed up with me, but gradually we came to share a common view of the problems. It helped that a new CEO was appointed who wanted to increase efficiencies, reduce bureaucracy and remove non value adding work.”
He says that most new CEO’s would say similar things. The challenge is to find a concrete area to achieve these goals.
“In our case, changing the budgeting process was a tangible way to be serious about improvement as the budget hits all managers.
So we got the CEO support because I believe he wanted to lead radical change and not just oversee the tweaking of performance management processes.”
“The new approach was also strongly supported by the CFO, who has been the original champion of the balanced scorecard within Statoil.”
The Balanced Scorecard
Indeed a central component of Statoil’s new approach to planning and performance management is its longstanding use of the balanced scorecard (it has been a committed scorecard user since 1997). The scorecard will be the primary mechanism for setting both financial and non-financial targets. Says Bogsnes:
“These targets will be ambitious and inspired by how the competition performs, what the external community expects from us and what we have promised as specific targets.”
Bogsnes explains why he believes the scorecard is a more useful management tool than the budget:
“A key reason why many scorecard implementations fail is because it competes with the budget as a management tool, which confuses the organization over what’s the most important. The scorecard is a much better tool for integrating the strategic processes with financial measurement activities and people processes. The budget cannot provide a holistic approach to management as it has a narrow financial focus. Also you can’t read strategy out of the budget, but you can read strategy out of a good scorecard.”
Statoil has over 700 scorecards within the organization. And through his years of leading balanced scorecard design and implementation efforts, Bogsnes comments that a key challenge is making sure that you describe the strategic objectives before looking at KPIs (key performance indicators). He comments:
“I’ve seen a lot of scorecards that just show KPIs, which is not enough to communicate or implement strategy. It’s very important to bridge that gap between strategy and KPIs with well formulated strategic objectives. You must spend quality time on defining these. That will help you communicate your strategy, and help you select the right KPIs.
To ensure that people focus on strategic objectives as well as KPIs, Statoil has replaced the conventional scorecarding approach of separating the strategy map from scorecard of metrics, targets and initiatives with an integrated approach. All strategic objectives, KPIs and actions/initiatives are displayed together as ‘Ambition to Action’. This only fills a page or a screen picture in its supporting system MiS.
Ambition to Action also defines half of the performance contract for those on bonus. The other half is about behavior and how you live the Statoil values.
“We have broken the mechanical link between fixed KPI targets and bonus. Not just by introducing behavior as a major element, but by broadening our definition of delivery. It used to be defined by KPIs only. Now it is the full Ambition to Action. We also make a qualified judgment in hindsight, asking questions like:
- Looking behind the KPI performance, did you really deliver towards the strategic objectives?
- How ambitious did the targets turn out to be?
-Are the results sustainable?
Bogsnes comments that with regard to metrics it is also a challenge to get people to understand the difference between absolute and relative KPIs. Absolute KPIs, such as a cost figure is just measuring one side of the equation and is not in relation to what you want to get out of those costs, he says.
“So is meeting a cost target good or bad? Well it depends in what you get back from those costs. Perhaps you should have spent more as you lost value adding business opportunities by not doing so, or less because ‘budgeted’ projects did not come through. In any case, you will only know afterwards and not beforehand what the ‘right’ cost level is.”
Relative KPIs describe performance better as they link inputs with outputs and should where possible also be based on benchmarks – performance relative to the competition.
However, he advises not to search for the perfect KPI.
“It doesn’t exist. I’ve spent 10 years looking for it. There are good KPIs and good combinations of KPIs but there’s no perfect KPI. The problem is that we often forget what the ‘I’ in KPI stands for – indicator. It’s only an indication of whether or not we are moving toward our strategic objectives, and not a goal in itself. So de-emphasize KPI targets and heighten objectives and actions.”
Pivotal to its new approach, Statoil is also transforming its process for resource allocation. With the aim of increasing flexibility to get a more optimal resource usage, they are moving away from the advance distribution of money through annual budgets.
“We are in a way turning the budgeting approach upside down. Our starting point now is that resources are in principle available for the business to deliver on its objectives.
“For running costs and operations, there is no “allocation”. The business will however have KPI targets on e.g. profitability or unit cost, against peers where possible. This means that you cannot spend ‘uncontrolled’ if that spending does not bring something back. We also monitor cost trends, and can intervene at any time if a negative trend has no good explanation. That has not been necessary so far.
“When it comes to projects or major decisions involving costs, we still allocate money, but we do it when the project is mature enough for a decision, which seldom fits with the budget making window”
“With a conventional budgeting process you are forcing a mixed bag of projects into the decision gate – some will be ready for a decision others won’t but the decision is being forced because it’s budget time and the time we get money.”
“As Steve Morlidge at Unilever puts it; it’s a bit like being a bank manager looking at loan applications. The bank manager doesn’t force his customers into getting all their applications in once a year. They do it continuously. Organizations should take the same approach.”
Statoil is taking this option. This means that through Statoil’s new approach money can be allocated when required, but it is still controlled through four criteria, thus averting any fears of financial free for all and subsequent meltdown. These being:
- direction stated in the strategy and plan
- scorecard targets
- project decision gates
Also key to the new approach, Statoil intends to save time on the planning process itself by reducing the amount of detail and the number of times a plan is sent back and forth before it is considered adequate.”
“Our plans are really forecasts, and must be realistic. Gaps between targets and plans must be revealed and not hidden behind unrealistic plans.”
Furthermore, he says that a key benefit expected from the new approach is that less time will be spent on explaining past events and more emphasis placed on the future and actions required to reach targets.
Bogsnes comments that succeeding with the balanced scorecard and the inculcation of more adaptive planning processes requires the support of a good data system that secures automatic data-collection from source systems, with good reporting functionality and flexible and dynamic action follow up. “Our in-house system MiS has been key in Statoil’s scorecard success,” he says. “My colleague Arvid Hollevik has been crucial in driving our MiS implementation during the last five years.”
Bogsnes offers a few advices on implementation.
“There will always be a large group of concerned people that you cannot convince up front. Instead of arguing against them, tell them you accept that there is a risk that it will not work. But what is actually the risk if going Beyond Budgeting fails? Most companies can go back to budgeting overnight. Nobody will have forgotten how to do it. So ask them to compare that minimal downside risk with the upside if it works as intended. That tends to calm people down.
As for implementation, do not try to solve every possible problem up front. Design to 80%, and sort out the rest along the way. The actual issues will anyway be different from what you thought up front.
And finally, get HR and the good HR people involved early. Beyond budgeting is about changes in people’s heads, not in their calculators.”
This is taken from the report Reinventing Planning and Budgeting for the Adaptive Enterprise, Business Intelligence, 2006.