Taking budgeting to the next level: Integrating the strategic plan

Budgeting for colleges and universities is getting more and more challenging, especially for those institutions facing the most acute financial stress — namely, smaller regional private and public colleges and universities. Many have improved their budgeting practices, but many more must step up to not only survive but also to become more successful.

State of Higher Ed 2016While there are many permutations, just about every college and university uses incremental budgeting. Even for those institutions that take a performance or responsibility-center budgeting approach, incrementalism is the core of their process. Incremental budgeting involves deciding about relatively modest increases or decreases in revenue and expense lines to produce a balanced budget. Performance budgeting involves using metrics in deciding how much to increase or decrease, but it’s still incremental. Responsibility-center budgeting involves decentralizing by turning budgetary decisions over to deans, but those deans are themselves using incrementalism. Some institutions say they are using zero-based budgeting, but in reality they can’t effectively judge each program freshly every year because it would take too much time and effort.
Budgeting approaches — entirely combinable The overarching principle of budget planning is to start with the strategic plan, not the existing budget.  

Incremental: Changes are made at the margins as pluses to or minuses from the existing budget. What is being done now tends to take precedence over what might be done in the future. This is the most popular approach because it is the easiest and most conservative.

: Metrics (assessing performance) are usually at the core of this approach. Areas that can demonstrate improvement in their metrics are rewarded with new funding. Where metrics are poor or deteriorated, that part of the budget incurs funding reductions. This is nice in theory but hard to practice in reality.

Budgeting by substitution
: Revenue is identified, as are key new expense items, based on the strategic plan. Inevitably, the projected budget will be in deficit at that point. To balance it, items of low priority (for the most part, those not in the strategic plan) are deleted until the budget is balanced. This is the optimal approach — basing decisions on the strategic plan — but it doesn’t preclude incorporating the best of zero-based and performance approaches, as well.

: Putting all existing programs on the table to determine if they should continue to be funded is great in theory, but impossible in reality. A workable approach is a “rolling” zero-based process that puts some portion of the budget under the microscope each year.
Why is incremental budgeting the common practice? It is safe and requires less effort. It creates very little change and causes the least disruption. It is highly conservative — students and faculty like the college the way it is, and alumni want to remember the college as it was. The budget simply enshrines the current state of affairs, with modest changes responsive to the latest perceived internal needs and constituency pressures. Strategy plays no part, nor does long-term planning based on real-life market positioning.

Move from the old to the new and better There is a better way. Consider these key elements of budgeting to either adopt as new, or refine existing processes:

First and foremost, budgeting must be the short-term quantitative embodiment of the institution’s strategic plan. In the past, strategic plans were a set of lofty goals indicating how new resources (from tuition increases, debt and fundraising) would be used. They rarely challenged the existing expense base in a material way. Those days are over. Now, strategic plans are expected to represent notable departures from the status quo — to define ventures not previously conceived or significant redeployments of physical, financial and human resources. Effective strategic plans incorporate meaningful change in response to critical environmental changes. They require trade-offs and, potentially, risks. To make that kind of change, do not begin with the existing budget. Base your budget planning on your strategic plan. The first rough sketch of the budget should be a mirror of that plan.  

Second, your budgeting approach must be budgeting by substitution, in which every new program or initiative is funded by reducing or eliminating existing programs, rather than by finding a new source of funding. Incremental budgeting shaves a little from existing programs, adds a little to existing programs, and funds new programs with new revenue. Budgeting by substitution funds new programs by deleting old programs and takes a much harder look at existing programs as a result. There are fewer small reductions in existing programs (which often reduce quality). Further, a powerful incentive is introduced to force the examination of existing programs and make hard decisions.

Lastly, use zero-based budgeting as a phased discipline. Every year, select a set of programs to intensively evaluate and reconsider. Concentrate efforts on how consistent those programs are with the strategic plan and the institution’s mission, compared with other programs. This form of zero-based budgeting provides the funding for the new initiatives likely to be essential to institutional viability and success.

Ideally, an organization uses multiyear budgeting to plan several years ahead. That’s an ideal hardly ever realized. Next year’s budget is frequently perceived by participants as the “real” one, and that’s the one they focus on. The second and third years are usually an afterthought — prepared by staff at the last minute after the real one is put to bed — with the elegance of compound interest (e.g., revenue grows by 3%, expenses by 2.8%) as the fallback.

A good way to create realistic multiyear budgets is to start with the third year and work backward. Create a budget that represents an ideal but incorporates clear-eyed trade-offs, since the budget must be balanced. Then move backward through years two and one. Strategy and planning then take the forefront, with the top question being “How do we get to our ideal?” which generally isn’t the way budgets are now approached. It creates an incentive for decision-makers to remember that their ideal takes priority over their current state. It makes budgeting by substitution emotionally easier.

Follow overall best practices
  • Maintain a strong commitment from the top for integration of planning and budgeting. There will be many temptations to compromise to satisfy constituencies that don’t want change.
  • Rank the priorities as high or low, rather than the typical list of unranked priorities that inhibits decision-making. Make priorities clear and actionable. Have very few at the top of the list, and make sure the budget reflects those priorities.
  • Show courage in setting clear priorities. Leadership in these times requires courage in the face of opposition.
  • Identify all the resources required to achieve and implement the strategic plan — money, people, facilities, IT, etc. — so they can be translated into the final budget. Any plan must include all of the components needed for success. For instance, you can’t create a financial budget for a new program without identifying the space and IT resources that are required.
  • Use a budget projection as a component of the strategic plan; it can serve as the basis for the actual budget.
  • Ensure continuous conversation between the president and deans/vice presidents about plans and future budgets, so managers know what is likely to be approved or cut. This will speed the budget process.
  • Keep it simple — complex processes are a distraction from the actual work.
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The State of Higher Education in 2016