54. Why marketers need to look beyond budgeting

PLEASE NOTE: This transcript has been created using fireflies.ai – a transcription service. It has not been edited by a human and therefore may contain mistakes 

00:03: Dom Hawes 

Welcome to Unicorny. This is a podcast about the business of marketing, how to create value, and how you can help your business win the future. And I'm your host, Dom Hawes. Okay, unicorners, have we got a treat for you today. We are welcoming doctor Steve Morlidge into the studio, and he is the budgeting economist, writer, and original thinker. I first came across Steve when I was researching more modern and emergent theories about organizational design. You may already know that I'm deeply irritated by hierarchies and by over bureaucratic structures that most businesses use to keep people in their place. What you may not know is that I've spent hundreds and hundreds of hours researching alternative ways of managing businesses, some of which, by the way, I am putting into practice in my day job now.  

00:53: Dom Hawes 

It was as part of that research that I read a book by Aaron Dignan called Brave New Work. And incidentally, he also produces a podcast of the same name. And I heartily recommend both the book and the podcast to any student of positive culture and agility. Anyhow, in chapter seven of the book, Brave New work, he looks at how resources are allocated in modern businesses, and he referenced Dr Steve Morlidge's little book of beyond budgeting. As marketers, our oxygen is the marketing budget. It's the resource we're allocated by the business through the budgeting process. A process that almost all of us probably recognize as being fatally flawed. So here I was researching emergent organizational design and a more positive approach to culture.  

01:39: Dom Hawes 

And it seemed to me that I'd stumbled on something that's fundamental both to organizational effectiveness, but also, which is why it's here. To every single one of us marketers, it's a different way of thinking about budgeting. So I went straight to Amazon, and I bought two books by doctor Steve Ready and the little Book of Beyond budgeting. I read them. I was so inspired, I wrote to him. He replied, we met, and I asked how I could help get his message out to a wider audience. And that's how we got to be in the studio today. Because basically, I think you need to know what Steve has to say. It's going to help you when you next have to put a budget together. Now, I want to get stuck straight in, but first, here's how Steve introduced himself when he arrived in the studio.  

02:23: Steve Morlidge 

So, I'm afraid to say my background is a finance person. So I'm a qualified accountant, and I worked in regular finance jobs in Unilever for nearly 20 years before I discovered this stuff. And it certainly changed the course of my career and has precipitated a change in the way I think about things as well. So as a result, doing a regular finance job became utterly intolerable. I left Unilever in 2006, and since then, I've basically built a second career around some of the ideas that we're going to be talking about today.  

03:04: Dom Hawes 

Interestingly, Steve was at Unilever at exactly the same time as Phil Barden, who spoke to us a couple of episodes ago. Now, Unilever is a really big organization, so I was a little taken aback to discover they actually know each other from back then. But listen to Steve talk about his time there, and you soon realize that his is a world where finance and marketing work hand in hand. And there's another reason for listening to the financier's point of view. Right. Let's go meet Steve. Hey, Steve. We are going to help marketers today find a new way of thinking about budgeting, but I guess we better start at the beginning before we try to go beyond what is budgeting.  

03:46: Steve Morlidge 

Budgeting is the process which creates budgets. That sounds pretty bleeding obvious, but it's worth saying so. The key characteristics are it's a process that we go through typically once a year. The output is a set of fixed single point targets or cost budgets. And another key characteristic is it's something that's negotiated. So it's, if you like, a contract that regulates what the business can do in the following year. I think it's also worth mentioning that it's really, as a process, is really quite old. It dated back at about 100 years. So where it all really came from was a book written by a chap you might have heard of called James O. McKinsey, who wrote the book on budgetary control in 1922. And if you went and read that book today, you would pretty much recognize almost everything in that book.  

04:43: Steve Morlidge 

It is a process which hasn't changed for 100 years, despite the fact the world completely changing around it, which is.  

04:49: Dom Hawes 

One of my beefs when we talk about design generally, and I think at least four or five times, maybe more. On this podcast, I've talked about how the organizations that we have in our businesses are identical to the ones that were there 50, 60, 70, 80 years ago, despite the technology revolution. We've got AI knocking at the door now. The Internet didn't change how we think about management at all. I don't know, maybe now is the time, but I don't see it.  

05:11: Steve Morlidge 

I think it is, but it's something that's sneaking up on us. So I don't think it's an accident. If you think of the ideas which are kind of current at the moment, things like Agile, things like lean, and I put beyond budgeting in the same category, all had their genesis around about the first part of the nineties. And I think what's driving it is fundamentally the same factors which are that fundamentally, you've got processes which are fixed and bureaucratic, and that demands a workforce which is compliance and basically has to operate according to a set of rules. And it doesn't work for the people and it doesn't work for the business either. So I think we're in probably that still in the first half of what will turn out to be quite a significant revolution in the way that organizations are run.  

06:17: Steve Morlidge 

But there is a hell of a lot of inertia in the system. That's, I think, what is holding us back.  

06:23: Dom Hawes 

I have to say also, as someone who has been trying to live by some of those rules for the last four or five or those laws, I should say for the last four or five years, it's quite painful to try and do if the people that you have with you don't subscribe to the same worldview.  

06:38: Steve Morlidge 

It took me 20 years. The reason it took me 20 years is because it requires you to rewire your brain. You have to, you acquire in business a set of intellectual reflexes that have grown up around practices that you have seen and you've been part of and have repeated and again and again. And you have to break out of that. And it's difficult for an individual to do, but it's much more difficult for a group of individuals to do. And there's always the chance that people are in different places on the journey. And so there is kind of perpetual miscommunication. You kind of think across each other and try to coordinate people's worldviews and make sure everybody's working on the same set of assumptions about the world, about the business and about their job.  

07:28: Steve Morlidge 

That is tough, and it just requires a lot of persistence apart from anything else.  

07:33: Dom Hawes 

Yeah. Now we're going to come onto one of the breakthroughs that was in your book for me, which was Ashby's law, we're going to come onto that a bit later. Cause for me, that was a breakthrough moment. It was a tool that allowed me to explain to some of my peers why an approach might be more appropriate. But it's very difficult. What were just talking about. It's very difficult when everybody is trained. It's an orthodoxy. We're trained to believe that you plan. What's your five year plan? What's your three year plan? Those are the first questions that, like the institutions that we all rely on, those people, the banks, the investors, all those people, they want to see fixed long term plans. But we know that in the military, you said, no plan survives contact with the enemy.  

08:15: Dom Hawes 

Mike Tyson had a more colorful version. Everyone has a plan until they get punched in the face, and then, like a rat, they stop in fear and freeze. And I feel sometimes that's what happens in business. You make a fixed plan, it doesn't go to plan. And then everyone starts running in circles going, hey, what happened? The plan didn't happen. And then investors start beating up executives, saying, you haven't followed the plan. And actually it was never going to happen in the first place. Talk to me a little bit about why that kind of rigidity and why that orthodoxy of following a three or five year plan as though such a thing is possible. What are the problems that it causes? Maybe let's start there.  

08:52: Steve Morlidge 

Before we go into that, I think what I just to pick up on what you're saying there is, there's nothing wrong with a plan. You need a plan because there are an almost infinite amount of things that you could do. And as an organization, you need to have some mechanism to help coordinate action, but also to coordinate people's perception of the world, to direct attention towards those things which you think are most important. A plan is essential. Planning is essential. What the problem is once you've created a plan is sticking to it when the assumptions upon which that plan have been based change. So that's the fundamental problem. And it manifests itself in real life problems that I'm sure everybody listening to this will recognize.  

09:40: Steve Morlidge 

So, number one, because you've got a plan which is extremely precise, where all the elements have to agree to each other, it's tightly coupled. That process of building that plan becomes incredibly costly and bureaucratic. I mean, typically it takes, I mean, back in the day when I was doing this, about six months to build a budget, and people used to reckon it took 10% of all managers times in large organizations, which would actually make it the most expensive process in a business. So it's costly and it's bureaucratic. And that's made worse by the fact that very often compensation is tied to it. So you're not really negotiating a plan, you're negotiating your pay. So that's the first thing. The second thing which flows from that is because it's such a heavy piece of engineering, it's very inflexible.  

10:32: Steve Morlidge 

So if the world changes, it's really difficult to change. In fact, the only thing that's easy to do in that world, speaking as somebody who used to work in a marketing company, is cut marketing budgets. I don't know whether that's ever happened to you.  

10:45: Dom Hawes 

All the time, of course.  

10:46: Steve Morlidge 

Yeah, that's the easiest thing to do. So we lose agility, we lose flexibility. The third thing is that it completely distorts your view of what represents good performance. The way that performance is measured is against a fixed target, which by definition will always be wrong. It'll always be ridiculously optimistic or ridiculously pessimistic, or somewhere in between the two. It will very rarely be right. So your view of what represents good performance and what you pay for is completely distorted. What really matters is, are you winning? Not have you hit an arbitrary number. That's the product of a politically motivated negotiation process. So it distorts view of performance. But in many ways, the most important thing is the way that it distorts and perverts behavior. Because when you negotiate a budget, you set up a zero sum game.  

11:40: Steve Morlidge 

So I'm negotiating with you, so my victory is your loss and vice versa. And the way you win in this game is to negotiate the highest possible cost budget you can and then always spend it. Because if you don't spend it, your cost budget next year is going to be lower. So there's an incentive for you to lie and to exaggerate if you're negotiating a revenue budget or a profit target. The way to win is to negotiate the lowest possible number you can and then never to beat it. So it's ironic that a process which people feel is essential to generating performance actually creates a set of perverse incentives, which leads to the opposite happening. You systematically underperform as a result of the budgeting process.  

12:34: Dom Hawes 

So the budgeting process itself is basically breeding dysfunction into business.  

12:39: Steve Morlidge 

Yeah, Jack Welsh, who's not necessarily somebody who, I haven't got a poster of him up on my bedroom wall. Let's put it like that said, it's an exercise in minimalization, and it's absolutely right. I mean, his recipe for the cure is slightly different to ours, but yes, in terms of the diagnosis, I think that's right.  

12:57: Dom Hawes 

Yes. Some pretty draconian ways of working.  

13:00: Steve Morlidge 

Nice, man.  

13:02: Dom Hawes 

Let's just pause there, unicorns, and reflect on that insight, because it's pretty ear popping stuff. The budget, that thing that you and I spend so much time creating, negotiating working to in order to get stuff done, the real stuff. Well, it seems it's having the opposite effect on our outcomes. As Steve points out, it either leads to a lower productivity goal that unless we've negotiated an incentive to surpass it doesn't even make sense to achieve. Because if we hit the target, all we're going to do is make a rod for our own backs, because next year's target's going to be bigger. Or it leads to a lower revenue or profit goal that suffers the same fate. In both cases, the smart plan Steves negotiation win is to aim low and land even lower. Isn't this institutionalized madness?  

13:54: Dom Hawes 

How are we supposed to grow our businesses when we're actually budgeting them to shrink? This is a really big problem. So where do we begin? I think we better rejoin the master to find out. Now, in your little book of beyond budgeting, you introduced the law, which I mentioned earlier, Ashby's law of requisite variety, which points the way to a better way of doing things, which I think later on we're going to look at. It explains how systems should evolve to deal with complexity and volatility. That is like the world we're living in, the Vuca world we're living in. Could you maybe explain the basics? We can put some more online without going into too much detail, because it is something that's quite difficult to get your head around.  

14:37: Steve Morlidge 

It's odd, it's difficult to get your head around, but it's incredibly simple. The reason why I find it important is one has a set of common sense intuitions about the world, that if the world is very volatile, you need to be more flexible. And if you've got a set of very tightly defined goals and you've got lots of them, it's more difficult to achieve than if you've just got one, which is defined in loose terms. So those are all common sense things. And for many years, I was trying to find out why. Is it common sense? Is it common sense in the sense of something that we think which is wrong, or is there something more fundamental behind it? And I came across Ashby's law of requisite variety about 20 years ago, and it explained why things are the way they are.  

15:30: Dom Hawes 

Yeah, nails it completely.  

15:32: Steve Morlidge 

It nails it. And it's a very simple law, a bit like the law gravity, which is simplistic simple if you express it, but its implications are incredibly profound. I mean, apart from the fact that it gives some sort of scientific validity to what we do, it helps to guide interventions in the real world. So it says, if you've got a volatile environment, you need a flexible process, and if you define tight goals, you need a flexible process. So if you're in a volatile environment, which we are now, and you've got an inflexible process and thousands of targets, it's not going to work. It can't work.  

16:14: Dom Hawes 

Something's going to give. Right. Something's going to give the targets, and.  

16:17: Steve Morlidge 

It'S probably the targets. All people will cheat.  

16:19: Dom Hawes 

Yeah, okay.  

16:21: Steve Morlidge 

And cheating, you know, manipulating numbers, cooking the books, is a scientifically justified act in the face of a stupid system, because you're introducing flexibility illegally. But it's the only way that you can conform with Ashby's law. So it tells you something about processes, but it also tells you something about organizations as well, because trying to build flexible processes is really difficult. That very easily becomes incredibly bureaucratic. Instead of budgeting once a year, you budget twelve times a year. So the only way that you can generate flexibility is to empower people to take decisions locally, that is to give them more flexibility, and in the process, give your organization more flexibility. Now, that creates a new set of problems for Ashby's law, which is, how do you stop that flexibility becoming chaotic? How do you make sure that you've got cohesion in the business?  

17:22: Steve Morlidge 

And therefore, what that then drives is a requirement for a organizational model which achieves coordination by different means other than bureaucratic and process means. So it's a very simple law, but once you work it through, it has profound consequences and explains a lot of stuff.  

17:47: Dom Hawes 

It's also an invaluable tool, I reckon, for marketers. So I was looking at it this morning. Fun off we had just before you came in the office, I was talking about Ashby's law to the team downstairs, and one of them said, oh, that's common sense. In fact, it was Nicola, our producer, said, oh, that's common sense. And it is, on the face of it, as you say, when you start digging into it, actually, from a marketing strategy point of view, one of the ways that you can try and balance things is by reducing volatility and complexity in the external environment. That is, by focusing. If you focus on a narrower, tighter market, you're reducing complexity.  

18:23: Dom Hawes 

And it could be that this is exactly the tool that marketers need to persuade their other peers that a tighter market focus not only makes sense, but has more chance of success.  

18:34: Steve Morlidge 

Absolutely. There are three parts to the equation. There's the volatility of the environment, there's the flexibility of the process. And there's the tightness of your goals. And in order to build something which works, and you can apply it to all kinds of things, you can apply to engineering systems as well as social systems, economic systems, everything, you have to make sure those things are in relative balance. And changing the volatility of your environment by changing your focus of attention is one way, or you can do. There are many other ways that companies do it. Like you place intermediaries between you and the complex external world. There are lots of different ways you can do it, but fundamentally they're all different ways of achieving a balance according to Ashby's law.  

19:23: Dom Hawes 

So I reckon Ashby's law is pretty important. The best way to understand it is to buy the little book of beyond budgeting which you can find on Amazon. We'll put a link on the show notes. We will also produce a blog on this, which I'll run past Steve just to make sure we're getting this right, but we'll produce a blog which will accompany this podcast when it goes out. Now, we mentioned that Ashby's law could be a great tool for marketers. Let's now swing what we're just talking about the problems of budgeting and look at how it affects marketing. Because one of the biggest and most stressful part of any marketer's job is trying to work out what the budget is and then making sure it performs. They say marketing is with a canary in the coal mine.  

19:59: Dom Hawes 

It's the first thing to get hit. And we started feeling the auction get thin here in probably the summer of 22, I would think. Now, how does budgeting not just contribute, but cause the type of brand damaging behavior that we've seen, like the stop start marketing?  

20:16: Steve Morlidge 

I mean, I probably would say this because I work for a marketing company. Unilever is a marketing company. I don't think this is peripheral to marketing at all. I think this is central because fundamentally, what budgeting does is a resource allocation system. One of the most important places that resources go is into marketing, because that helps maintain the brands and stuff you've currently got and helps you build new propositions for the future. So let me see if I can kind of map the four problems that we talked about at a conceptual level to marketing problems. First of all, in terms of the stop start thing, budgeting, as I've defined it, is a process whereby you come up with a set of tightly defined single point targets for the year ahead. What that does is it focuses people's attention on hitting the numbers.  

21:06: Steve Morlidge 

So hitting the numbers becomes the way that the organization works. And if you're not going to hit the numbers, how do you hit the numbers? In a marketing company, there are two very common ways. One is you cut marketing budgets because in the short term you reduce costs, which means you can hit your cost budgets and hit your profit numbers. You don't have to deal with the consequences, which is lost future growth until later. That's pretty short term. The other way you hit the numbers is by running promotions, which basically just is a way of dragging revenue from one period into an earlier period. And that does nothing for the brand and it costs you money and you hit the numbers.  

21:46: Steve Morlidge 

But what you do is you waste money on things which are purely tactical and which don't actually help build the business and build the brand longer term. And also what it does is it induces a kind of like a heart arrhythmia. You introduce this kind of wave, this artificial disruption into the system, and that makes people's lives more complicated. It drives costs into supply chains, it drives noise into performance management systems. It just throws sand into the face of the business. Instead of running the business as a smooth, continuous flow, you've got this series of stop, as you say, stop. It's built into the budgeting process. So that's the first thing. The negotiation process drives a wedge between the consumers of resources and marketing, and the people are the stewards of that. And it also fundamentally makes the business less flexible.  

22:55: Steve Morlidge 

And why that is important for marketing people is that in an ideal world, because you don't know for sure in advance whether something's going to work or is not going to work, what it means is because it's so difficult to reallocate resources, you don't get the opportunity to learn from what's happening in the marketplace. So there's a lot of talk about agile, and I've listened to some podcasts in this series where people have talked about agile and marketing, but all of that conversation takes place within the context of an individual defined project. And that's great, and I'm all for that. And the idea of having fast feedback loops and all of that kind of stuff is all absolutely great and systemically very sound. But what it ignores is the lack of agility in the overall distribution of resources.  

23:46: Steve Morlidge 

I mean, it's like having a bank that's only open once a year. Okay, so you have to go to your bank in October, get a loan from the bank manager, and if you don't, you're stuffed until next October. Worse, if you get money in that funding round, you have to spend it, even if what you're spending it on is a way, you know, is a waste of money. So it fundamentally compromises the agility of the business. So it's not just about the flexibility. The process is at a conceptual level, it's about your ability to allocate resources to those parts of the business and to those activities, which is going to have the biggest impact.  

24:24: Dom Hawes 

Yeah, it's funny the question, isn't it? What's your budget for this? That's the question you always get asked as an executive. You're trying to do something. The first question anyone asks is, what's your budget? And if you say, actually, we don't have one, we allocate our resources to things we see value in or that can deliver value for us. They look at you like you're mat. And as marketers or sales and marketing people, we are also selling into a budget for something. And if you don't hit that budget or you don't tick the box to that budget, the business probably isn't going to buy from you, even if it makes great sense for them to do that. This is endemic, isn't it? The system?  

25:00: Steve Morlidge 

Yeah, yeah. One of the things we trip over here is the semantics.  

25:05: Dom Hawes 

Okay?  

25:05: Steve Morlidge 

Yeah. So there's budgeting and then there are budgets. And sometimes people hear what we say beyond budgeting as saying no budgets equals no constraints, which is not true. So you have to have constraints. It's not a free for all. The question is, what's the best form of constraint? If you are dealing with something which is very well defined so you know what you're doing, you know how to do it, you understand the technology, then a traditional budget is absolutely fine. Perhaps the only thing I kind of quibble with is why does it have to start and stop it? Start and January 1 and end on December 31? Yep. But that's absolutely fine.  

25:49: Steve Morlidge 

So if you're building a bridge, you don't want somebody to say, we're going to build this in an agile manner, so we'll have a standard every day and work out what we're going to do next. That's absolutely fine. But most of the really important kind of innovation interventions, we don't know for sure. So it makes much more sense to say this is the amount of money which is potentially available, given our current assumptions, without committing yourself to spending all of it, and without committing yourself to limiting your spend. If you find out that you've done something which is much more impactful than you thought so. It's not about getting rid of constraints, it's about framing your constraints in a different way.  

26:37: Dom Hawes 

And that unicornist frames our problem rather well. I think Steve makes a good distinction there. It would be chaos anarchy, even if we didn't have at least an agreed process of identifying what creates value and what doesn't. And the regulars amongst you will. You probably know me well enough to agree that while I like to approach old problems with fresh thinking, I'm really not anarchist. Unless I'm sleep deprived, of course, when I'm completely mad as a box of frogs. Anyway, I like Steve's point about the constraints. Yeah, we do. We need them, but it's how we apply them that's what really counts. And that gets us close to a familiar theme on this pod, a problem that many of our speakers have identified and, by the way, actively combat.  

27:19: Dom Hawes 

And it's when an organization places too much emphasis on numbers, whether that's the revenue target or a marketing KPI, that act of short term focus actually throws us wildly off course. We get so obsessed by steering the ship towards an immediate goal that we lose sight of where we're actually going. Now, people that work with me might be surprised to hear me saying this, because I'm always talking about targets and KPI's. But you'll also notice, if you know me, that I'm very relaxed about the time scales of achieving them. That's because the long is always more important than the short. Now, I like Steve's heart arrhythmia analogy, because we create a stop start culture in which we're trading wins now for problems later, unless we're very careful. And with that, we come to the end of part one.  

28:08: Dom Hawes 

In part two, we're going to try and unravel this unholy mess. Basically, we're going to talk about how to solve it. You have been listening to Unicorny, the antidote to post rationalized business books. I'm your host, Dom Hawes. Nicola Fairle is the series producer. Laura Taylor Macallister is the production assistant, Pete Allen is the editor, Peter Powell is our scriptwriter and editor. Unicorny is a Selby Anderson production.