If you are a small business owner, it’s likely that cash flow keeps you up at night — having a budget can help. Think of it as a roadmap that you create to decide where your business is going.
Many business owners don’t plan a budget; they think they’re too small, too new, they don’t have the knowledge or the time, or they believe that they must follow it to the penny to be successful. At Officeheads we believe that every business, no matter how small or how new, needs to have a financial plan to guide how you run your business, and this is the time of year to do it.
Take Your Profit First
Since we subscribe to the Profit First philosophy, rather than follow the typical model of Sales – Expenses = Profit, we use the formula of Sales – Profit = Expenses. By flipping the standard equation on its head, you get the honor of selecting your profit margin that works for your company (and including it in your budget plan), then tailor your operational expenses to what is left over. This means you force your business to buy only what it needs, instead of what would be nice, and you prevent expenses from eating away at your profit.
Entrepreneurs may be tempted to use a standard budget template that they find online because it is quick and easy, but every business is unique. While you can look at market data, it won’t necessarily give you an accurate idea of how you’re spending (or can spend) your money. That’s why it’s often helpful to find a professional who can lead you through planning for the coming year.
The Importance of Budgeting & Forecasting
When building your budget, start with the previous 12 months of actual data to set a baseline that is a realistic forecast of how the business will perform — how you want the business to perform. I once heard, “If you fail to set goals, you will surely never reach them.” As a business owner, why would you roll the dice of chance regarding your success? Forecasting and budgeting set formal goals that give you long-term vision and short-term motivation to drive you to organize your time and resources to make the very most of your life as an entrepreneur.
Tracking actual spending against your budget shows when unexpected income or expenditures pop up throughout the year. Those can influence the following year’s budget, and you can ask when and why did that happen? Will it happen again? Is it a trend? If so, you can avoid surprises, plan for the expected so the unexpected doesn’t hurt as much. Remember, you should always know the story behind the numbers.
Referencing each prior year and tracking progress each month can make each annual budget more accurate. A budget based on historic figures will allow you to understand the peaks and valleys of your business and to make better choices before unfortunate things begin to happen. For example, your revenue is trending on budget, yet you choose to implement a pricey marketing campaign that will increase revenue in the next 6 months. If you don’t understand how this increase in short term expenses impacts your mid-term revenue, you’ll likely run into a cash flow crunch and imminent entrepreneurial pain.
The Benefits of Budgeting
If there ever comes time when you need an investment or to get a loan for capital expenditures, you will need to present a combination of actual numbers plus a forecasted budget. Rather than having to burn the midnight oil, you will have it at the ready – and can tell the story of your numbers and how it was created. And speaking of loans, a forecast will identify any low months when you might need help. Solid financial planning will give you the information you need to prepare and weather the storm.
Preparing a budget can also help you to better understand your business model. Let’s say that you’re looking to hire a salesperson. Many businesses often make the mistake of viewing that new hire as a cost only, when in fact at some point you will recoup that investment as your revenue will (or should) increase via higher sales. Solid planning that results in a realistic budget will pinpoint that shift.
Lastly, a budget can also be used to influence company morale. When business owners share the budget with their staff, it provides a greater transparency as to how the business is faring and where it is headed. This will often result in employees taking a vested interest in the growth and success of the company. And what business wouldn’t want that?
In our next blog post, we’ll delve into the mechanics of how Officeheads builds a budget for their small business clients.