How to avoid or escape from “the annual performance trap”
Given what Hope and Fraser perceive to be an obsolete core management model driven by the annual budgeting process, they offer an alternative to that model. It is based on “the decision-making needs of front-line managers [as well as] a coherent set of alternative processes that support relative targets and rewards, continuous planning, resources on demand, dynamic cross-company coordination, and a rich array of multilevel controls.”
In Part I, they explain how to break free from the annual “performance trap” and how this trap is sprung whenever managers are pressured to meet fixed targets by fixed dates. They provide an overview of two opportunities to think and act “beyond budgeting.”
In Part II, they examine the first opportunity and explain how a number of organizations have used beyond budgeting principles to implement more adaptive processes.
Then in Part III, they examine the second opportunity and explain how and why abandoning the traditional (and ineffective) budgeting process can help to achieve what they characterize as “radical decentralization.” In the last Part, Hope and Fraser examine how and why the adaptive and decentralized organization (as opposed to one with a traditional budgeting process) “meets the vision of business leaders in the 21st century.”
Of special interest to me is what Hope and Fraser have to say about the differences between the fixed performance contract (FPC) and the relative improvement contract (RIC). For example, here are two of the six cited:
In terms of targets, FPC: “Your [sales/profit] target is fixed at [$]” and RIC: “We trust you to maximize your profit potential to continuously improve against the agreed-upon benchmarked KPIs [key performance indicators] and to remain in the top [quartile] of your peer group.” In terms of resources, FPC: “The agreed resources to support the capital and operating budgets are set out in the attached budget statements” and RIC: “You trust us to provide the resources you need when you need them. We trust you to keep within agreed KPI boundaries.”
Note the references to “trust.” Hope and Fraser insist (and I wholly agree) that there must be mutual trust between and among everyone involved when making a commitment to beyond budgeting principles. It is important to emphasize that Hope and Fraser did not write this book solely for CFOs. On the contrary, what they propose requires all senior-level executives in a given organization to understand and actively support the beyond budgeting principles. Although CFOs and heads of HR have responsibility for the implementation of strategy, they are usually not centrally involved in the formulation of strategy. That is a serious mistake. Beyond budgeting initiatives will succeed only if a CFO can be trusted to make prudent and effective use of resources provided, and only if she or he trusts the given organization to make sufficient provision of them.