WOW! Planning is in hot demand these days. I’m floored by the interest in budgeting resources. I even had to hire this punk ass kid to deliver some paper copies.
His name is Dylan. Dylan has no idea what FP&A is. Dylan keeps asking for a raise. Get back to work, Dylan.
Don’t worry, you can still get on board and receive access to all the materials.
A quick recap:
Part III: Bottoms Up Budgeting (THIS WEEK!)
Part IV: How to Present your Annual Budget to your Board for Approval (NEXT WEEK)
Bottoms Up Budgeting
Finance works with each department leader to create a budget envelope, comprised of direct and indirect costs.
Direct costs are related to labor:
W2 Employees
Cost per Employee = Salary + On Target Variable Pay + Benefits based on location
Contractors
More on this nebulous category later in the post. There are many flavors, and some are essentially full time employees in contractor’s clothing
Indirect costs are all the other stuff employees need to do their jobs
Software / Tooling
Travel
Learning and Development
Shared Corporate Overhead
Rent, IT, Office expenses, etc.
During the Bottoms Up build process, leaders present a biz case for the:
New heads they need, phased by quarter, to achieve their priorities
New tools they need to be more productive
The flex capacity they’ll want to use for specialized work, via contractors or professional services
In order to get the department leaders going, the FP&A team is responsible for arming each department leader with baseline costs from the past 12 months.
Most of you will (or at least should) be using September through September data to account for seasonality and larger annual purchases.
I give each leader an excel workbook (or access to their department’s rollup in an FP&A planning tool) plus a quick summary slide of their costs across Software, Contractors, and Headcount.
Get access to the full set of templates in a link below
This should account for the majority of attributable costs, with the exception of Travel and Learning & Development.
I find that laying out EXISTING Software (or tooling) by vendor name is key
Not everyone thinks the same as FP&A folks, and they need to hear the name of the tool they’re using to bridge the gap between costs and use case.
Get access to the full set of templates in a link below
Remember this slide from the Tops Down newsletter last week? The CEO and CFO should have completed a post mortem together. Department leaders should complete the same exercise, as it relates to their domain.
Then we transition to outlining the new year’s priorities.
Each leader should write a corresponding functional priority that relates back to what the CEO has laid out for the larger company
Doing so drives home the point that there are only so many budget dollars to go around, and they need to be aimed at the same goals and initiatives
This is (drum roll, please!) followed by headcount planning
People make up ~75% of costs at most tech companies.
Leaders should present an org chart that takes into consideration:
Butts in seats today
Roles currently being recruited for
Roles budgeted for but not being recruited for in the current year plan
Future roles they need in the next year
This is the most important part of the bottoms up planning exercise. Here’s how you get it right:
Headcount Rules of Thumb
Max HC Phasing
Finance gives each department leader a max headcount per quarter
“Let’s work to stay at or below this max headcount figure per quarter”
Budgeting using “new” or “additional” headcount is always difficult to reconcile and report on. Why?
People transfer between departments and backfills create net new HC
People leave the org and sometimes the role that gets backfilled is different
Using a “max” per quarter contemplates both those onboard and those to be hired
It also gives the department leader freedom to operate more easily with a “max total” backstop in mind
Attrition
The industry annualized attrition rate in tech is ~20% (~30% for sales, ~15% for non sales)
You shouldn’t include attrition in your model because:
It’s unpredictable
You can use the “time to fill” a departing head as a buffer to hitting your OPEX spend target
This proves to be a saving grace for many budgets. I find that the reason we are saving costs in most quarter is due to the expectations vs reality of how fast it takes to hire or rehire positions
Cost per Head
Cost per head is sanity checked throughout the quarter on an offer to offer basis by recruiting and the CFO
Any major deviations are pointed out in the quarterly budget to actuals and course corrected - you should trend this over time in your quarterly reporting package
As a tip, I have my controller pull the total fully loaded compensation per department and the average labor cost per FTE, and compare the two figures month over month
2 for 1’s
Exchanging one expensive head for multiple, less-expensive heads rarely results in as “good” of savings as you thought
The fringe benefits chew up lot’s of cost savings (e.g., Sweden is +40% benefits)
Your productivity per head gets thrown off
You’re usually hiring them in a different country, creating an administrative and legal burden to localize if you don’t already have a hub there
And this part is hard to quantify - but I firmly believe it is true - you are adding another “node to the system”
More people is more communication that has to get done for things to get accomplished
Projects tend to include more people and updates need to cascade through more layers for information to travel
Contractors
Contractors are a hot point of contention because not all of them are functionally the same
If you are using a Professional Services Organization or an Employer of Record like a Papaya, Remote, Globalization Partners, or Deel, these, in my opinion, should be effectively treated as Headcount
If you are hiring flex capacity from Fiverr, Upwork, or an independent service like a creative agency, then I think this is truly a “contractor” that is not included in your headcount figure
To keep track of this, I work with my Controller to pull every contractor expense at the end of each month
If the Contractor is being used on a full time (40 hour) basis and ONLY works on our company’s stuff, we count them in the total effective headcount figure
For example, it’s common to have engineering talent or customer support talent overseas who are hired through a PEO or EOR. Although they are not W2 employees, they are in your company’s slack channels, attend the company’s all hand updates, and function as a full time employee.
FP&A should use the same criteria when budgeting with leaders during this process. There are no freebies when it comes to contractors. You shouldn’t allow leaders to park real headcount here and not get counted
Examples of true contractors may include a temporary consultant for launching a new product, a web design agency for your website, SEO support, devops capacity, or part time book keepers when your company isn’t large enough to have a full time finance team yet
Non Headcount Costs
Software / Tooling
As we mentioned, start the process by pulling all the Subscriptions you’re currently paying from your ERP
Give the baseline to the department leaders and ask them to cross off what they think will go away (Ha! Good one!)
Then ask them to fill out a template for the new tools they think they’ll need
Organize your tools into categories that tell you what they do:
Infrastructure - critical to serve your customers
Security - important to safeguard the firm
Development - necessary to build your product
Sales - helpful to sell your product and keep the sales team organized
Productivity - nice to have
The relative cost per license per person should match up to the importance of the use case
You should not be paying the same relative amount per head on Asana as you are on Crowdstrike
Make sure you ask leaders two questions:
What’s the System’s Target Go Live?: It’s very difficult for an organization to implement two major tools at once; you can usually do one major implementation per quarter.
Are there any One Time Costs?: Implementation and professional services can be up to 3x higher than the first year costs for some major systems.
It’s helpful if they already know the vendor they will be ideally purchasing from, but you can organize the asks using more general descriptions on the job to be done
For example: FP&A planning tool, feature flagging tool, note taking app, etc
Travel
Break it into Internal and External buckets
External travel is to generate sales, meet partners, attend conferences
Internal travel is to visit colleagues, strategize, drink IPAs (All Hands, Small Hands)
By looking at travel from these two end goals, you should be able to come up with an average number of trips for each type of activity by role type
More senior people travel more (they like to get in conference rooms and talk about what everyone else should be working on) and some departments travel more (hint: your Engineering team should have little to no external travel)
Training
Apply a per head per quarter assumption here; work with your people ops team
If I was a betting man, which I am, I’d bet you come in under budget at the end of the year
Learning and development budgets historically go under utilized - people either don’t know what to spend it on, don’t want to go through the reimbursement process, don’t know it exists, or reading makes them sleepy
“I can’t do my job if you don’t do this”
If you want to go fast, go alone. If you want to go far, probably also go alone but pack extra snacks go together.
This part of the planning exercise requires leaders to identify areas of overlap between their department and others. It’s their chance to call out what they require from others in order to do their job well.
To take it a step further, Finance will orchestrate interlocks between functions with obvious dependent resources to compare asks
Product and Engineering: Staffing product and engineering pods for building
Sales and Marketing: Building pipeline to meet sales targets
Finance and Recruiting: Figuring out the capacity and cadence for hiring
Finance is there to ask the questions related to dependencies and point out blind spots
The Roll Up
This is where you marry the Bottoms Up with the Tops Down to determine the “Art of the Possible” (I can’t believe I just said that; I feel like a VC).
You take what each department submits, post interlocks with dependent departments, and Roll Up the required resources.
You’ll then have to compare that to the Tops Down that the CEO and CFO worked on to see if there’s a delta.
This is the proverbial “Come to Jesus” moment where you figure out if the company is trying to fit 10 pounds of shit in a 5 pound bag.
In most cases the costs will come in higher than expected, and the revenue will come in lower. And that’s when you have to broker resources between department heads and the powers that be to arrive at a logical middle ground.
What happens next? You gotta go get that budget approved, big dog!
That’s next week. Stay tuned. And get back to work, Dylan.
