Bottom-up vs top-down budgeting: understanding both approaches

Let’s review the following two approaches and how they impact your organization. We don’t have to forget about the importance of new technologies, which can be used to balance and combine both planning approaches. Using systems and different categories, we can do both planning methods simultaneously as top-down and bottom-up and then run the analytics and comparisons to support the discussions and alignment. Businesses may also consider detaching the incentive plans from budgeting data or keeping them very high level.

Choose the model that works for you, and keep it flexible

Once the budget is decided, the finance department compares the numbers with company objectives, ensuring that the proposed budget is realistic and promotes growth. Regardless of which process a company chooses, there are some crucial tips to consider when implementing a formal budgeting process. top-down vs bottom-up budgeting Once all of the budgets are finalized, they are loaded into a financial system to track monthly expenditures and other metrics via variance analysis. The departments receive monthly or periodic reports to show the amount of revenues and expenses compared to the allocated budget. Leaders must monitor any variances and understand how actual results differ from expectations. The bottom-up approach is usually better suited for decentralized organizations, where decision-making is spread across various business units.

• Then group your remaining 400 SKUs by category or channel and forecast them in aggregate.
• Both approaches offer unique advantages and challenges, so it’s essential to evaluate which method aligns best with your financial strategy.
• Departments subsequently construct their budgets, based on the resources allocated to them.
• Each department, guided by its manager, is responsible for creating a budget that accurately reflects its operational needs and goals.
• Bottom-up costing estimates costs starting from individual units or components rather than the whole project.

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Bottom-up budgeting is known for producing accurate and detailed budgets, as employees are responsible for estimating their own expenses and revenue projections. This can lead to more realistic budget targets and better cost control, as employees have a vested interest in ensuring the accuracy of their estimates. On the other hand, top-down budgeting may result in less detailed budgets, as decisions are made at a higher level and then allocated to individual departments. This can lead to discrepancies between budget targets and actual expenses, as departments may not have had the opportunity to provide input on their specific needs.

Balance the Control and Flexibility

Make sure that when you build this budget at a detailed level, that it’s going to be a budget that actually hits. For example, when I was the CFO for a company we took public, we attempted to set targets for the next budget year. And the CEO said, no, let’s just see what everybody comes back with — typical a bottom-up budgeting method.

May overlook specific resource needs of departments due to a lack of detailed insight. Let’s not forget the coordination role of the CFO and their financial team. They facilitate the petty cash dialogue between what the executives have in mind and what the reality is on an operational level.

Bottom-Up Budgeting for Corporate Finance

Finally, the specific needs and objectives of individual departments play a crucial role in determining how resources are allocated within the organization. Bottom-up budgeting, on the other hand, involves individual departments or team members creating their budgets, which are then aggregated to form the entire company’s budget. This method allows for more input from lower levels of management, who are closer to the Cash Flow Statement day-to-day operations of their departments. Each approach has its pros and cons and may be more or less effective depending on the organization’s structure, culture, and market conditions. They set the overall budget based on high-level goals and past performance metrics. This method centralizes decision-making at the top, ensuring that the budget reflects the company’s strategic vision.

• This process begins when the executive team meets to discuss year-ahead expectations, budgeting decisions, and the big picture of company plans.
• Thus, leadership can strategize and negotiate which headcount and resource requests get filled and what objectives are most important.
• By using historical data, departments can create budgets that reflect their actual needs and align with past performance trends.
• Conversely, it may create confusion and inconsistency, compromising the direction and alignment of the organisation’s vision, mission, and goals.
• Equally important is grasping the advantages and drawbacks of each model before making a selection.

Once the department sends their budgets for approval, the company’s financial department reviews them. The best way for a company to organize its spending is to allocate a budget to various sectors. We mentioned that two ways companies can do that are through the top-down or bottom-up budgeting methods. While we will explain both, you need to understand that both budgeting methods approach and finish the issue differently. In summary, while bottom-up budgeting offers a detailed perspective built from the ground up, top-down budgeting provides a broader, strategic view directed by organizational leadership.

• Here are the steps you can follow to create a bottom-up budget for your business.
• Bottom-up budgeting is ideal for companies who want to give employees ownership of their budget and the department’s direction.
• This method provides a streamlined process, reducing the time spent on budget preparation and allowing for swift execution.
• To succeed, organizations must strike a balance between allowing input from various levels and keeping overall financial goals on track.
• Real-time updates and scenario planning keep every team on the same page.
• The actionable plan can incorporate the executive leadership’s parameters in combination with bottom-up expertise.

Her passion for equitable compensation and efficient systems led her to create and launch Pequity, built on the principles of fair pay and opportunity for all. Top-down planning should be combined with extended, intensive and clear communication within the organisation, including sharing the purpose and details behind the targets. If a business is small, operates in a very predictable industry, or doesn’t have a mature finance department, a top-down approach may be more suitable. At this stage, they can compare this year’s budget against last year, ask questions of department heads, and ask units to make changes if needed. Once all iterations are complete and approved, you have a bottom-up budget.