Simple budgeting practices save time, but hidden assumptions can come back to bite you
Our recent energy survey revealed that straightline projections are the most common energy budgeting technique in commercial real estate. To create a straightline projection, managers simply copy last year’s actual bills over to next year, optionally applying an adjustment for anticipated rate increases or other factors.
Straightline budgets have some problems, but they also have some virtues, and before getting too deeply in the weeds of budgeting practices, it’s important to establish one principle up front: all energy budgets are wrong from day one. Energy is inherently variable due to factors that are both unpredictable and beyond the building’s control, including such well-known issues as weather and occupancy.
If that’s the case, why bother budgeting at all? Two reasons:
First, all energy budgets may be wrong, but some are less wrong. Better budgets will tend to have lower variances from actual; not always, but most of the time, just as better poker players don’t always win, but do tend to win enough to come out ahead. As every facility manager knows, large variances, both positive and negative, can cause headaches for tenants, accountants, and building staff.
Second, good budgets provide a meaningful baseline against which to measure performance. Variances are annoying, but they are also instructive — provided that they don’t simply reflect sloppy forecasting.
Sources of budget variance
Budget variance can be measured in various ways. At heart, it’s the difference between actual and expected costs. At Gridium, we typically divide budget variance into four buckets:
- Calendar effects. Billing cycles vary in length and also in the number of workdays covered. Some months contain four weekends, some five, etc. Such issues might seem trivial, but in fact the potential swings in energy use due to calendar effects can be much larger than the threshold most organizations use to trigger a variance investigation.
- Rate effects. Everyone knows that rates tend to climb. But Gridium thinks about rate effects a bit differently than most facility managers. Even though tariffs consist of complex time-of-use charges covering both use and demand, for budgeting purposes most managers boil rate changes down to a simple percentage increase. We think it’s more important to track the effective rate you pay, which depends heavily on the exact shape of your load curve.
- Weather effects. Record heat or record rain? You’ll see the difference in your energy bills.
- Operational effects. This last category is the one that soaks up all the variance left over. Occupancy changes, capital upgrades, controls updates, production schedules — the way you use your building changes over time in innumerable ways, large and small.
Not all categories of variance are created equal. Calendar effects, for example, can drive large month-by-month swings, but these are guaranteed to average out over the course of the year. After all, every year, with only very minor variations, contains 365 days.
Weather effects are a bit of an in-betweener. Over the long-term, we do expect weather fluctuations to mostly average out. Climate is relatively stable. However, the long term is much longer than your budgeting cycle. You should expect to see large monthly weather variance and smaller but still significant yearly weather variance.
Operational and rate effects are wildcards. Variances in these categories will almost certainly not average out over time, but rather persist and grow.
Benefits of straightline budgets
Straightline budgeting is simple, the numbers are easy to understand, and resulting projection is likely to be neither especially good nor especially terrible. If someone asks you what the weather will be like in Tulsa next August, you probably won’t go too far wrong telling them it will be exactly like the weather last August. This forecast won’t be good enough to plan a picnic around, but it’s better than predicting snow.
Weaknesses of straightline budgets
Straightline budgeting interacts with each of the four variance categories in different ways. Calendar effects can be quite large from month to month, but they will average out over the course of the year. So you might get some panicked phone calls from your accounting department when bills come in, but your quarterly roll-ups probably won’t show much effect from calendar variance.
Weather variance can be a killer in straightline budgets. An especially cold or especially hot year will move your forecast significantly, but such weather is by definition an outlier, and next year you are likely to see a reversion to mean. Expect ongoing headaches from weather-driven variance if you use straightline budgets.
Rate variance can be handled decently well in straightline budgets, particularly if you add in an adjustment. As noted, such adjustments are quite crude — utility bills can easily consist of over a dozen energy charges, each of which varies individually — but the variances here are both smaller and more predictable than for weather, so a simple estimation will yield decent enough results.
Operational variance is the toughest category to model. Some facilities try to, most often by adjusting their straightline projection for predicted occupancy. The problem is that this is a case where questionable input data combines with overly simplistic rules of thumb to lead forecasts astray. Buildings are highly complex, and it’s hard to guess in advance how operational changes will affect total energy use. Straightline budgets are almost guaranteed to get this category wrong.
Where to go from here
Whatever its weaknesses, straightline budgeting has one major advantage over competing techniques: there are no competing techniques. Modeling future energy use is inherently difficult, so facility managers will continue to muddle through in the absence of better forecasting methods. In future posts, we will outline the ways that access to much better building data might start to change this equation.