Re-Imaging the Way We Budget in a Post-Covid World
Strategies to Rethink How We Forecast and Budget Logistics Costs During Uncertain Times
It’s not just a dramatic opening statement to say 2020 has been a unique year. In terms of transportation forecasting for the year ahead, in terms of the many operational hurdles and unexpected market impacts on logistics costs – and the budgets we all set last year to manage them. 2020 is also unique in another way – it’s singularly unhelpful for those of us used to forecasting the coming year’s operational expenses based on a model of what we’ve spent, what we’ve seen and the variances we have encountered along the way. So as we wrap up the year, and as we look forward to hopefully better times ahead, what should we take with us for 2021 as we begin the process of forecasting and setting new budgets? Plan and hedge for the unexpected? Of course. Set budget line items, but expect those lines to blur and shift? Absolutely. But we should also understand this coming year, more than ever, that budgeting - and management of that budget - in a changing and challenging environment requires a lot more.
The one thing we can predict about 2021, as we begin the budgeting and forecasting process, is that it won’t be a traditional year either. And maybe the one after, too. Covid-19 hasn’t just left it’s ugly mark on every aspect of society and business, it’s really given us a far more acute understanding that things around us, from daily life to the many ways in which we run our businesses day-to-day, can change quickly – and that some things, some ways of doing things, may never change back. The simple take away for every CFO, finance department and logistics executive this budgeting season, is that if ever there was a year to invest the time and resources to do a deeper dive into your operational and other data, and to invest in optimization strategies to counter the uncontrollable cost increases associated with freight - plus the generally higher cost of doing business amid Covid conditions - this is that year. It’s time to re-examine and reimagine the way we model budgets and bring a new mature, sophistication to predicting cost, mitigating risk and building a better budget that will ultimately make us resilient to unexpected change.
Budgeting Amid Turbulence – What Can Help?
Every shipper (and carrier too) wants accurate forecasting so that there are no surprises in actuals down the line. But accuracy in forecasting what likely expenses we’ll see in the coming year and which factors can influence operations, is critical, during turbulent, unpredictable times. And when it comes to turbulence, 2020 is the storm of the century: Covid-19 coming in multiple waves, challenges to markets and businesses, peaks and troughs in buying patterns, the surge in residential shipping and associated charges from March through July, not to mention the severe operating and financial conditions still faced by many companies around the globe. It’s no doubt tempting to think that, as pandemic vaccines roll out in Q1, conditions will reset again, the supply chain will stabilize and that we can return to “normal” or that budgets can again be no more complex than a couple of percentage points added to the previous year’s’ costs. But 2021, at least through Q2 and likely beyond, will continue to be a challenging year to plan for, that will require a more appropriate, mature budgeting approach.
We can’t predict or plan for the unpredictable in 2021, of course, so it’s important to control whatever is possible. The time for risk mitigation is now. The time for reducing costs across the bottom line is now. And doing both will have the biggest impact on ability to manage challenges and weather market change in the months ahead. To do all of that comprehensively and successfully, it’s essential to have access to, and a true analysis of, the data points across your operation. Rich data that can guide macro operational strategies but also enable predictive modelling and dramatically increase accuracy for best-in-class forecasting at the time it’s needed most.
Building an Accurate Budget Baseline
Every budget starts with a baseline – and this, typically, means looking back at, usually, the prior 12 months. 2020, of course, doesn’t offer any shipper anything close to a typical profile that can help accurately plan a go forward state for the coming year. Look at historical patterns in your cost centers and operations overall, assessing the past few years and try to determine whether those patterns are sustainable in the coming year(s). Another option is to build a budget baseline from 2019 so long as we understand that this translates to a pre-Covid execution strategy which doesn’t take into account the many variables we’ve seen play out in a volatile manner this year. If you do adopt this baseline approach, consider shifting the starting point to the end of Q1 or even Q2, a safer bet, when market conditions may be more reliable or somewhat predictable.
A third, and probably winning, approach involves building a shipping profile and corresponding budget by factoring into your budgeting both permanent changes to operations and practices reshaped by Covid, along with more temporary ones that will, at some point in 2021, return to pre-Covid patterns. The complicated part of doing this is predicting the timeline for correction, of course. We will likely see some market capacity and pricing conditions stabilize - truckload and LTL freight, followed by air cargo freight beyond the middle of the year, but parcel B2C and residential deliveries may continue to keep the general parcel market constrained. Shippers will probably continue to experience the impact of surcharges for residential deliveries, excessive size/weight or specific international lanes until we see a capacity improvement. The arrival of Amazon Logistics could have an impact but launch timing is still a question mark. Whatever the timeline of all of this, with the right tools and approach, it’s still possible to budget effectively and with greater accuracy. If you do adopt this approach, ensure you create your baseline from time periods and data from both 2020 and 2019.
Assessing an Ideal Future State
Nobody’s got a crystal ball, especially right now, but assessing an ideal future state – the expected conditions and desired status of your operation next year – is an important step in accurate forecasting and budgeting. Any change in the landscape, or how you operate your business, will impact your bottom line, so work through a comprehensive review across the operation, considering all “inputs” and asking what is likely to change in the coming 12 months in the landscape, and just as critically, what changes should be made to improve efficiencies, mitigate risk and protect the bottom line?
Network locations and potential changes are always a major consideration, but especially so in a Covid-impacted market. Where are you shipping to and from in 2021? Will there be possible change to your inbound supply, or major shifts in inventory, perhaps as more focus is moved to DTC strategies or adoption of omni-channel delivery of goods to customers. E-commerce skyrocketed in 2020, and while the temporary surcharges resulting from Covid market conditions are expected to end, the demand for e-commerce - and the higher costs to serve that demand - will not. In fact we should anticipate and factor in increased costs for e-commerce as all signs point to its role in sales generation only growing and diversifying. Gartner reports that by 2022, companies employing multiple go-to-market approaches for digital commerce will outperform non commerce organizations by 30 percentage points in sales growth. All of that has implications on customer service levels too. Consumers have been recalibrated to expect nothing less than two-day shipping on everything. As you plan long term budgets also plan long term service goals. Is it possible to maintain this Covid-era level of speed shipping? Fast costs more and those costs either must be absorbed into the budget or passed on to the customer, which is never easy.
GRI and other rate increases must be considered too. Covid-19 taught us rates can change suddenly but if you have contracted rates with carriers going into next year, you should understand any rate increase to enable better cost control management. Volatility in 2020 also meant a lot of spot quotes that impacted budget accuracy. This dynamic is unlikely to continue beyond Q2 of 2021, but it’s nevertheless an important consideration that requires hedging for risk at least in the first half of the year. Lastly, plan for business and shipping growth over 2020 – and budget accordingly. Analysts agree, particularly if the stimulus bill gets passed in D.C., the economic recovery will continue in 2021. According to Kiplinger’s latest report, “GDP grew by a phenomenal 33.1% in the third quarter, bringing the economy back to only 3.5 percentage points below its pre-pandemic level. Consumer spending on durable goods soared 82.9%, to a level that is now 11.9% above the pre-pandemic level.” That doesn’t mean every industry or business category of course. Hospitality and the food and beverage industries have all been hit hard and will rebound slower in 2021 compared to technology and retail industries, so budget appropriately.
Importance of Assumptions in Forecasting
Every forecast and every operational budget has assumptions baked in – which are usually a combination of the things we know and the hedges we make. We should hedge for things that could happen and plan as much as possible around changes we know are coming, or that we know, with a high degree of certainty, that we need to do. In terms of forecasting, 2021 will be a hybrid year with some Covid-imposed conditions in the first three to six months of the year, followed by probable stabilization. That requires a budget modeled with flexibility, evolving inputs and also one that factors in likely policy changes with the new administration or potential tariffs. This is also not the year to build a budget in a silo. We can help to mitigate potential risk by aligning all functions of the operation: finance, procurement, supply chain, distribution and sales and marketing – ensuring all have a chance to input and supply appropriate data into the budgeting process. Alignment up front, communications across departmental functions and ongoing sharing of data for course corrections throughout the year is the goal when it comes to creating best-in-class budgeting.
There are two different approaches to budgeting that both start with the same principle: measuring progress and success against agreed targets and goals. The first of these, is based on earnings and revenue expectations in which budgets, and operational strategies, are created with the primary goal of meeting revenue growth targets within the fiscal year. Shippers will set an average revenue per item cost allocation within their various business segments and use this to create a Demand Planning and Inventory Management Strategy. This, in turn, will create a unit/product based forecast in which the Supply Chain Team is given a baseline of the coming year’s expectations for product distribution and delivery across all domestic and international channels.
Measuring actual progress against revenue goals across multiple channels, markets, countries and thousands of touch points becomes very complex in typical market conditions, but with Covid, it’s remarkably challenging – and really demands access to real-time data. Leveraging FAP (Freight Audit & Payment) data across all channels, global regions and by time period will ensure all transportation costs are being captured and recognized to give a clear, visible picture of spend by shipping mode, enabling smart, data-driven decisions when it comes to making changes that can impact efficiency and profitability. Data capture and analysis of this kind also means end to end total visibility, enabling better management and planning for what’s ahead. Capturing FAP data at the product category – or even SKU level, which is difficult – is even more useful to forecasting/budgeting and enables actual cost capture and other performance variable monitoring at a granular level. This means a shipper can make micro adjustments and direct different strategies by product line, category or SKU. In other words, best in class budget management.
A second budgeting/forecasting approach pits the cost of manufacturing and selling goods against operational performance management targets. In other words, it’s about efficiency – maintaining an efficient, resilient supply chain that enables a shipper to maintain a constant cost-per (product). In this model, a shipper sets an SGA (selling, general and administrative) and CGS (cost of goods) budget based on current needs: things like personnel expenses, operating costs and equipment. Performance management targets are set and operationally, a shipper will then measure the progress and success of projects and initiatives against those targets. The real value of this budgeting approach lies in its ability to set initial benchmarks, that when measured against on a monthly or quarterly basis, can provide timely direction on meeting targets or help identify the variables that are impacting success. If margins are being suppressed over time, what’s the cause? Does it come from lower revenue, higher costs or a combination of both factors? For shippers who use this budget and forecasting model there are a few key principles to keep in mind: hitting performance targets comes from proper planning of resources in the SGA budgets; it is essential to develop a long term strategy (LTS) based around best practices that, at least includes the current fiscal year, but may extend beyond; and it’s a good practice to bring operational partners into the planning cycle early to align on goals and objectives.
Review and Revision Cycles
Imagine we’re in 2021, months ahead of where we are now. The question we are all asking is, or should be, how am I doing? What are my actuals against forecast? If the budgeting and forecasting process was done well, if we accounted accurately for certain changes and hedged acceptably for unknown downsides, actuals should be tracking well with forecast. But if they’re not, we need to understand the variances and the influencers, ideally in as close to real time as possible. Discovering you’re 10 percent off budget months after something happened to cause it is no good. But having ongoing access to the data, being able to monitor KPI’s – things like cost per unit, containerization metrics, or utilization metrics by business unit – across business segments and product categories, can make a timely discovery of variances incredibly helpful. It also allows speedy course correction without further damage to the budget and spotlights issues and concerns for next cycle budgeting and forecasting.
The Road Ahead: Budgeting Takeaways
2021 will present further challenges in the supply chain – to shippers and carriers alike. But unpredictable market conditions won’t last forever. While we await a stabilization in the second half of the year, as well as a reset in surcharges, if not rates – as well as all of the other variables that have made 2020 uniquely challenging – we should work on continuing to build a resilient supply chain, mitigating risk and maintaining a constant grip on operational costs.
On the financial side, forecasting for the year ahead starts with accurate predictive modeling for a realistic go forward state, budgeting that allows for change and alignment across all of the functions of our businesses. Success in 2021 may begin with the budgeting process we’re starting now – but ultimately rests in several things. Firstly, our ability to monitor, manage and adapt to the many variables of the day to day; and just as importantly, the adoption of new optimization strategies that will help to offset uncontrollable cost factors like rising transportation costs. Doing both of these well will put you in the best possible to position to weather the remainder of the storm and avoid both blowing out budgets and reacting to the many external influences that the market throws at us.