While “top-down” or “bottom-up” sound like some lively toasts you might hear in an English pub, they are also two of the most common ways to prepare a financial forecast. In that area, there is great debate as to which method is “better.” As with most questions in life, the initial answer is usually, “it depends,” so let’s look at the pros and cons of each approach. At the end of the day, there is no single answer. As a global FP&A professional, you will have to determine the best approach for your organization.
Top-down is a process based on estimating the cost of higher-level tasks first and using these estimates to constrain estimates for lower-level tasks. A crucial factor for successfully implementing this method for estimating is the experience and judgment of those involved in producing the overall estimate.
The major characteristics of the top-down approach include the following:
There are many advantages to this methodology:
As with everything in life, there are many perceived disadvantages to implementing a top-down approach.
The bottom-up methodology is sometimes referred to as zero-based budgeting (ZBB). We will be addressing ZBB in a future article in much greater detail. But to start, bottom-up begins with identifying all the constituent tasks that are involved in implementing a project and working out the resources (time, people, technology) and funding required by each. It provides the opportunity to create organization-level budgets by rolling up project budgets and creates centralized project-level budgets from their sub-project budgets. It also provides project managers with the flexibility to define the project budgets independently, and FP&A managers can centrally review the total project budget(s). The main characteristics of the bottom-up approach include the following:
The advantages of this methodology include the following:
Of course, there are a number of potential disadvantages to a bottom-up process, as well. For example:
Budgeting can be a frustrating process, but both top-down and bottom-up processes can work well, without excessive effort. It should be an important resource allocation tool to help senior management prioritize the most important initiatives to invest in.
Brian is Founder and Principal at Kalish Consulting. He is Former Executive Director – Global FP&A Practice at AFP. He has over 20 years of experience in Finance, FP&A, Treasury and Investor Relations. He previously held a number of treasury and finance positions with the FHLB, Washington Mutual/JP Morgan, NRUCFC, Fifth Third and Fannie Mae. He has spoken all over the world to audiences both large and small hosting FP&A Roundtable meetings in North America, Europe, Asia and soon South America. Brian attended Georgia Tech, in Atlanta, GA for his undergraduate studies in Business and the Pamplin College of Business at Virginia Tech for his graduate work. In 2014, Brian was awarded the Global Certified Corporate FP&A Professional designation.