Is Your Resource Allocation Destroying Value?
Successfully allocating resources requires more flexibility than traditional budgeting allows.
Resources are scarce. Whether you look at it from a global perspective or the company level it’s a fact that companies have to deal with. That is unless you’re Apple and are stockpiling 20 billion dollars of cash on your balance sheet. Companies must allocate their resources effectively to ensure it is put used where the chance of creating value is the highest. They must also use the allocated resources efficiently to ensure maximum output. In fact, we’d argue that resource allocation is one of the most important drivers of value creation which is why it’s a critical component of Business Acumen. This is the topic of James O’Brien’s and my on-going series about how CXOs can develop Business Acumen in their organizations and how business partners in support functions can drive value creation through increasing their Business Acumen. The article series is built on the research that has laid the groundwork for developing the Business Acumen Gauge.
Why is resource allocation important?
Well, that’s simple, isn’t it? If you look at the first sentence in this article i.e. the fact that resources are scarce and we never have enough to do everything we want we need to be smart about allocating resources. That’s why companies make strategic plans to decide what to do and what not to do. That’s why we have NPV models to determine which projects or investments will yield the highest returns. That’s why owners of companies and lenders to same have set minimum requirements on their returns. And, that’s why we do performance management of everything from investments to people to ensure that the resources we have allocated are used efficiently. Does it need further explaining? No, right!
Now, let’s talk resource allocation
Now that you’ve gotten the importance of this let’s discuss what it is, why so many companies and get it wrong and most importantly how you can help make sure they get it right. Resource allocation in a broad sense pertains primarily to the following elements.
These resources must be allocated to run the business on a continuous basis and is the key link between a company’s strategic and tactical plans and the operations planning and execution of same. Clearly, strategic and tactical plans aren’t worth much if the operations planning is poor and execution suffers as a result. That would lead to inefficient use of resources despite on paper being allocated very effectively. As a general principle resources should be allocated to the products, projects, departments etc. that yield or are expected to yield the highest returns. If this is done on a continuous basis and the performance follow-up confirms that where you allocate resources you get the highest returns then you have a sound business. The problem is in many companies this is not what’s happening and it’s due to one thing mainly. THE BUDGET! In many companies, the budget is the target for the year, the financial forecast, and the resource allocation. Unfortunately, it’s simply not possible for one number to satisfy all three purposes. For resource allocation, it means that resource allocation becomes a politically negotiated process done once a year where you will frequently hear comments like:
- “If it’s not in the budget you can’t spend it.”
- “If we don’t hurry and spend our budget for the year it will be smaller next year.”
Clearly, none of these statements and the actions following them are productive for value creation. Actually, they’re more likely to destroy value than create value. Now, there are many other processes than the budget that you can use to get a better resource allocation like Zero Based Budgeting or Beyond Budgeting but simply adhering to two simple principles will get you far.
- Keep resource allocation open all throughout the year
- Allocate resources to the areas of your business that are expected to deliver the highest returns
Yes, it is that simple we also know that you need many sounds processes around these principles to make it work like a solid forecasting process that you can rely on for predicting where the highest returns will be and a transparent business case template and process that enables you to make data-based decisions and to follow up on the decisions you make later on.
How do I know if my company has a good resource allocation process?
Regardless of how you allocate resources, you could still be making it work for you. To understand if you have a good resource allocation or not below are some of the questions you should be asking and answering.
- Is there alignment between strategic, tactical and operational plans?
- Are there clearly defined goals including appropriate performance measures?
- Is there a comprehensive understanding of the activities required to achieve the desired business outcomes?
- Are there are clearly documented assumptions upon which resources are allocated?
- Do you have statistical evidence of past activity that relates to similar future activity?
- Is there a formal audit process of the underlying data used for decision making?
- Are there regular reviews of activity comparing actuals to targets and forecasts?
If you don’t have good answers to these questions you have work to do to create a better resource allocation as likely it’s not supporting value creation to the extent you would like. You can help your CXO design it around the two simple principles and by answering the above questions with a future desired state and process. Now it’s up to you and the leadership team to create a plan and execute it to optimize your resource allocation to truly drive value creation. Are you going to get started? If you have good examples of a well-functioning resource allocation why don’t you share it with our readers in the comments section?
Identify your path to CFO success by taking our CFO Readiness Assessmentᵀᴹ.
Become a Member today and get 30% off on-demand courses, tools and coaching!
For the most up to date and relevant accounting, finance, treasury and leadership headlines all in one place subscribe to The Balanced Digest.
Follow us on Linkedin!