The Value of Budgeting
By Dave Costello, TCV Growth Partner - Many companies groan at the prospect of putting together a budget for their operations. I get that. Who knows what the future holds? And how do you make things happen if you can’t predict the future?
But on the other hand, I remember someone once told me that “Failing to plan is planning to fail!” And I believe it!
Let’s first talk about a couple concepts related to budgets.
Yes, its true, no one can predict the future. But if you have a company with a few employees you are planning to pay wages, including yourself, wouldn’t it be good to at least estimate how much your payroll for those employees is going to be on a monthly basis? It doesn’t have to be perfect and it will never be exact, but having an idea of what it will be on paper is much better than having an idea in your mind that payroll will be between $X and $Y a month.
Let’s say you have five employees including yourself on the payroll. Everybody is hourly except for you. Your payroll budget might look like this:
So having this information let’s you know you have an estimated monthly obligation of $15,340 for salaries and $1,534 for payroll taxes. It will never be exactly these amounts as the part timers may work more or less than average, but it let’s you know you will have expenses related to employee wages of around $17,000 a month. This translates into the kind of revenue your business needs to generate at a minimum on a monthly basis. With this information you have just started the budget process! It’s easy!
Once you have a good handle on salary and related payroll tax information, which is generally the largest monthly spend of a company, you can add in expenses for rent, insurance, benefits, consultants, professional services, transportation, marketing, supplies, etc. The total of all expenses is your best estimate of the monthly spend for your company and you should seek to generate revenue from the sales of your product or service that covers the monthly expenses plus provides a profit to the owner, you in many cases.
I recommend you prepare a monthly budget to give you a good feel for any seasonality of demand for your product or service and paint a picture for you of what you want the year to look like according to your plan. Let’s assume a budget for the first quarter that looks something like this.
What do you learn from looking at this budget?
A. Your company needs to generate about $20,000 a month in sales to cover expenses. How do you plan to do that? Is the marketing effort coordinated and effective? Do you have enough repeat business from existing customers?
B. You anticipate having some legal expenses in the first month that will cause the company to experience a loss. Are there options for deferring costs like scheduling part time staff to work less without impacting sales or customer experience?
C. Are your customers going to pay you in the month they are invoiced? If not you may need a line of credit to be able to access cash to pay your expenses.
So, do you now think having a budget is a good thing?
Here’s the value I see in preparing a budget and monitoring it monthly.
One, it provides goals for the business, much like a road map. Based on the above you have set a goal of having Sales/Revenues of $60,000 in the quarter and a net profit of about $3,000. Are you comfortable with that kind of performance? Can you, and the company, do better? Once you have the goals in place you can develop an action plan to achieve them. Consider your marketing efforts to achieve that goal of $60,000 in Sales/Revenues; what does it take and is it reasonable?
Second, if you share the budget with all your staff or just key members of your staff it provides the same road map or direction for them. It helps to ensure consistent direction of action within the company. They will better understand what you are trying to accomplish and their role in helping to achieve the goals. If they don’t know what they are supposed to do they lack the direction they need to effectively perform in their jobs.
Third, it provides for a measure of performance. It tells you how the business is doing on a periodic basis; I recommend this be done monthly. If you are not hitting your goals early on, like in January, you can make adjustments to try and get back on track. If you don’t know how you are doing until the end of the quarter or year there’s nothing you can do by then to improve performance if you are behind!
Fourth, it enhances accountability to self and others. You set the goal, you are working hard to achieve the goal, and you are taking action to make the company a success. We all need to be accountable for our actions and to adjust along the way if necessary. A budget can help us do that.
While this effort may seem insurmountable if you are not familiar with how to do it, don’t worry. It has been done by others countless times before. TCV Growth Partners has professionals who have been in this situation many times and can quickly and efficiently help you build the structure to gain the benefits of having a budget in place for your company. To contact TCV Growth Partners click here.