Budget

How To Set A Budget & Stick To It

Kurt GraverBusiness Development

Setting a budget is one of the most important business tasks in running a business as it sets expectations and parameters for your business to operate.  If you do not set a budget, it increases the risk of risk failure and closure. Most companies that set a budget see it as just another administrative task and do not stick to it because they do not see its value.  

In this article, I will explain how to set and stick to a budget.

The first thing you need to clarify is that setting a budget is not a waste of time. A good budget helps you to prepare for the future and foresee problems before they occur.

The next task is defining your strategic objectives, and you need to understand where you want your business to be in the next 1,2 or 3 years. For example, if you plan to grow your business by 20% next year, your budget should reflect this.  Too many small business budgets are based on past performance, not strategic objectives.

The next stage is deciding how you will collate all the information. Budgeting should be a collaborative effort. You should get input from your managers about income, expenditure and staffing in their respective departments.  Department managers should also submit a “wish list” of expenses or new stuff that they would like to be included in the budget and the benefits of this.

Key elements of a budget

Sales & Marketing

The Sales and Marketing departments should work closely to give you a sales budget aligning with the marketing plan.

Staff

All staff-related costs should be budgeted, including allowances, taxes and their maximum bonus.  Include any more staff as part of the wish list.

Overheads

For small businesses, it’s best to analyse overheads for the whole business and then apportion the costs to other cost centres afterwards if required.  Analyse what was spent in previous years and estimate how much you will consume next year for variable expenses. Agree on fixed costs such as rent, insurance and leases before you commence your budget.

Capital

Ensure you capture your capital expenditure (equipment, property, fixtures and technology) in your budgeting process. This should be captured as part of your cash budget.

Cash

This is probably the most important part of your budget.  You need to know if you have enough money to sustain your business over the next year.

A cash budget takes information from the budgeted P&L and the Capital Budget to calculate your cash requirements for the next year.  To improve the accuracy of the cash budget, you will have to make assumptions on how quickly your customers will pay you after you have made a sale and how quickly you will pay your suppliers.

Once all the information has been collated, you need to analyse the entire budget and ensure that this reflects the business’s strategic objectives. As a business owner, you may need to make some difficult decisions that may affect how your business operates.

How To Stick To Your Budget

Setting a budget is easy. Sticking to it is the hard part.  There is no point in going through the budgeting process if you don’t follow it. A budget is a roadmap to a business’s future. To ignore it means your business is at risk of going off course. Many business owners do not realise that budgets can be flexible; you do not have to follow them rigidly if circumstances change. Adding a level of business analysis and performance metrics is the key to adding flexibility to your budget.

Key metrics to add to your budget

Staff Cost

How much are your staff costs about your revenue? Or relation to your total expenditure?

Revenue Formula: [Staff Costs / Revenue]
Expenditure
 Formula: [Staff Costs / Total Expenditure]

Cost Per Unit/Sale 

How much does it cost you for every unit you sell?

Formula: [Total Expenditure / Unit or Sales]

Marketing cost per new customer 

Every business needs new customers. Therefore, you must budget how much you spend to get new business.

Formula: [Marketing Expenditure / New Customers]

Overhead %

How much are your overheads (running costs) about your revenue?

Formula: [overheads / total expenditure]

Gross Margin %

To calculate your Gross Margin, you must understand how much of your expenditure is directly related to making, delivering or selling your product/service.

Formula: [(Sales-Cost of Sales)/Sales]

Net Margin %

This is similar to Gross Margin %, but you should replace the cost of the sales with total expenditure.

Formula: [(Sales-Total Expenditure)/Sales]

Using Budget Metrics to Control Your Business

Budgeting for these metrics helps you to rationalise the changes within your budget. For instance, if you win a new contract not included in the budget and require additional staff to fulfil the contract, you should proceed to recruit the additional staff. Still, you should ensure that your actual staff cost % remains at the budgeted level.

Your budget will also allow you to find and rectify problems in your business.  By analysing the P&L against the budget, you can analyse variances and rectify and overspend.  Variance analysis should also pick up underspends that can cover overspending, thus allowing you to stay within your gross margin % or net margin %.

This technique can also work for revenue also for instance, if revenue is down on a particular product, you can check your marketing activity is at the required level by analysing the marketing cost per new customer,

Use variance analysis against the budget metrics to investigate potential problems in your business. For example, if your overhead spending % varies significantly from what is budgeted, it should be investigated.

You should review the actual performance against the budget every month.  Any changes in your budget should be recorded separately from your forecast.

Each time you update your forecast, you should note the reasons for the variance in the budget.  This will improve your budgeting process next year and ensure you keep good control over your business.

Make Your Business A Success

The key to a successful business can be found in our Business Success Formula. If you structure your business using the Business Success Formula as your blueprint, you will significantly decrease your chance of failure.

We assess your business and implement our business success formula in our business assessment service The Business 360. It provides you with all the information to 10x your business in weeks. You can check it out here.

 

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