Formalized long-range business planning, in particular that taught as a discipline in business schools or just reported in business books, has a history that goes back to the mid 20th century.
Contents
History
The post-1945 boom in business theory led, in the 1950s and 1960s, to a focus on forecasting as a major component of planning. The principle then adopted was that existing trends could be extrapolated into the medium- and long-term future. The techniques were mainly numerical, and largely based on time-series analysis; though regression analysis, for investigating historical trends, eventually also emerged as a much reported technique. The seemingly mathematical accuracy of the techniques was seductive and, in the relatively stable decade of the 1960s, it often appeared that they worked well, even in the longer term.
The 1970s brought an end to this stability, most notably in the repercussions of the ending of the Bretton Woods agreement on currency stability closely followed by the oil shock of 1973. The emphasis moved to the development of alternative forecasts. The attempt then was to see what the possible range of alternative futures might be, so that contingency plans could be laid to handle whatever occurred in practice. It was the decade of the futurologists, led by the group at SRI (Stanford Research Institute) and, in particular, publicized by Herman Kahn (of the Hudson Institute).
The optimism of these futurologists, even if just in their focus on the future, was overtaken by the pessimism of the 1980s. Even during the 1970s the Club of Rome's report (forecasting the problems posed by population growth at the same time as the depletion of natural resources) was already offering a very pessimistic, indeed alarmist alternative.
The Organisation for Economic Co-operation and Development (OECD), reporting at the end of the 1980s, described the international scene in terms of:
The result was that many organizations reverted to planning only for the relatively short term, if at all. The optimism of the futurologists was judged to be out of step with the gloomier mood of the times. Planning horizons, even for some of the more sophisticated organizations, shrank from ten years to five to three. Most concentrated once more on the one-year (budgetary) planning cycle they knew and understood.
Indeed, there are practical limits to the resources which can be devoted to long-range planning. It can be a time-consuming process absorbing large resources of money and people, which many organizations do not have (or are unwilling to make available). In too many organizations, however, it is also constrained by ignorance or indifference. With very few exceptions, both long-term and short-term planning are needed for successful corporate management.
Proactive management
As the experiences of the 1970s and 1980s showed, unpredictable changes can be very disorienting. These major changes, usually discontinuities referred to as fractures in the environment rather than trends, will largely determine the long-term future of the organization. They need to be handled, as opportunities, as positively as possible.
While horizons of many corporations have grown shorter, some industries still require long term decision-making by the nature of their work. Examples include energy companies which need to take a view about energy prices over two decades ahead in calculating the potential returns from investing in a new oil field, and the pharmaceutical industry where it can take up to fifteen years to bring a drug to market, requiring a view about what health service demand will be for such a treatment some twenty years hence, and whether governments will be likely to pay for it.
Proactive management is fundamental to leadership. Take hold of the future or the future will take hold of you.
Types of uncertainty
In looking to the future managers have to deal with uncertainty. Indeed, the processes involved largely aim to identify these uncertainties and manage their impact on the organization. In this context, there are (using the terminology of Kees van der Heijden) three main types of uncertainty:
- Risks – where historical evidence of similar events allows us to estimate the probabilities of future outcomes.
- Structural uncertainties – where the event is unique enough not to offer evidence of such probabilities.
- Unknowables – where we cannot even imagine the event.
Managers are well used to handling 'ordinary' risks and regularly come into contact with such risks and, indeed, this is one aspect of entrepreneurial activity managers are supposed to even relish. Where no probable pattern of outcomes can be derived from previous experience the decisions involved become much more a matter of judgement; and this is the area where scenario planning can make a major contribution.
Unknowables are, by definition, unknown, so nothing can be done about them in advance; except develop the ability to react rapidly to them.
Forecasting, budgeting and organizational dynamics
In the shorter term, there is often confusion between budgeting and forecasting. They are sometimes used interchangeably, but should be distinguished as shown below:
- Forecasting is the activity of predicting what will happen in the future (usually expressed, in the short and medium term, in terms of statistics – and especially the organization's own key figures). The important element is that it is based upon certain general assumptions (typically that all other things are equal, without any special action being taken on the part of the organization making the forecast). These assumptions may or (usually) may not be explicit.
- Budgeting expresses what the organization believes is specifically achievable and intends will be achieved, by its planned actions. The budget is a target which the organization sets for itself, so that the budget becomes management's commitment to action.
In theory, if not in practice, the unbiased forecast (albeit usually based upon hidden assumptions) should be an input into the subsequent budget, which is then a measure of where the organization intends to go – and indeed is targeted to go! Many so-called forecasts prepared by organizations should, therefore, more correctly be called budgets.
This represents not just a dispute about terminology, but a major problem of confused attitudes. The forecast is the basis for planning, and has to be as accurate and unbiased as possible. The budget is directly linked to implementation and to accountability by management: it has to be practical and achievable. The requirements of the two are, therefore, very different; to confuse them weakens both processes. As soon as the organization introduces a bias resulting from this budgeting element the subsequent forecasts become less independent – the relationships between the elements more complex, the assumptions more clouded, and the figures less easily understood by the participants.
A further problem with the organizational dynamics of forecasting is the adaptation of forecasts to changed circumstances in the external environment. It is often assumed that forecasts are immutable: the annual forecast is to be renewed in 12 months' time, and not a moment earlier; the five-year plan will only be replaced in five years' time. It is felt an admission of failure if such forecasts have to be changed. This is understandable where these so-called forecasts are actually targets to which the organization is committed.
But clearly true forecasts (as opposed to budgets or targets) should be amended as and when the environment changes. The best managed organizations probably have a quarterly review of their annual forecast (and associated budgets), so that forecasts for the remaining quarters can be based on the latest information. The most sophisticated indulge in rolling forecasts whereby at each quarter a full year ahead is forecast – in other words a new fourth quarter is added to the plan. This takes much of the drama out of the annual planning cycle, and means that there is not a period in the year when the forecast may only cover a matter of days. This can happen, and often does, if the new annual forecast is only agreed in December, to cover January onwards!
Even five-year forecasts may need to change quite dramatically each time they are reviewed, in this case typically on an annual basis. Over the preceding year it is more than likely that the external environment, as well as the organization's own internal environment, will have changed significantly – and in ways that were not predicted. The overall economy will have changed direction, competitors will have changed strategies, consumers will have changed their tastes. The new five-year plan has to take all this into account.
The position may be different in the case of long-range planning, since it may look decades ahead. The effort involved in such a process may mean that such forecasts are repeated less frequently; typically every three to four years, rather than three to four times a year. This is acceptable when the time horizon is two decades or more – since any interim changes are unlikely to have direct impact on the shorter-term budgets – though any major changes detected should, even so, prompt an immediate review.