budget report only shows revenues and expenses, not cash receipts and disbursements.
The cash flow report is discussed in more detail in Chapter 5.
The monthly budget report is a useful tool for predicting when sales will be high and when they will be low so that you can plan for those events. For example, if your sales are always at a low point in March, it may make sense to target your advertising during that period.
Where Do the Numbers Come From?
Go to www.numbers101.com for a free downloadable template.
The starting point for your budget plan is to know what happened in the past. Of course, if you are a start-up business, you won’t have any financial history to examine. We will discuss startups later in the chapter.
If you work on a computerized accounting program like MYOB or Simply Accounting, you most likely have historical information at your fingertips. Run your monthly income statement for the previous 12 months. This will give you an overview of your business’s financial performance for the past year. You should be able to note the seasonality of your sales and be able to explain the dips and peaks. If you can’t explain them, take some time to analyze the sales.
Find out who you sold to during those periods. This knowledge is the foundation of your planning, as knowing why and when customers buy from you helps you to plan the future.
Case Study
“You actually did very well last month in comparison to the budget on the expense side.” Vivian reviewed the figures with both Becky and Joe looking over her shoulder. “Your office supplies are down and so are your meals and entertainment expenses.”
Becky smiled at Joe. “When we first started to look at our numbers, I realized that we were buying our office supplies from the most expensive store in the city. I also saw that many of the clients we were taking out for dinner and buying hockey tickets for weren’t our good clients. We’ve become more selective in how to use that budget.”
Vivian said, “Well, you’re reigning in your expenses and it sure shows in your operating performance last month. Now, let’s project how much increased business you can expect from doing that mail-out and build it into your budget.”
Revenues
Let’s take a look at the revenue side of the monthly budget report first. Okay, so now you know what you did last year. How does it impact what you are going to sell next year? If you’re in a stable business, you should be able to expect that you will at least sell the same amount as you did last year. So that’s a start. However, it makes sense to always have your sales trending upwards. If you have planned special advertising and promotional events in the upcoming year, you should expect your sales to increase.
If you are a young and rapidly expanding business, look at your rate of growth over the past two or three years. If you are growing at an average of 20 percent per year, for example, budget a 20 percent increase in sales for the upcoming year. To measure your rate of growth from one year to the next, take the difference between the sales figures for both years and divide that difference by the total sales for the first year. For example, if your 2002 sales are $50,000 and your 2003 sales are $67,000, your rate of growth is ($67,000 – $50,000) ÷ 50,000 or 34 percent.
Once you have mapped out your revenues, it’s time to look at your expenses.
Expenses
Again, looking over your business’s monthly income statement for the past year will yield important information about your expenses. You will find certain expenses that never fluctuate, like equipment lease payments and office rent. There will also be expenses that vary, either in step with sales levels or because of other factors. Examples would be office supplies and postage.
Start mapping those expenses that you know for certain. If you are locked into a three-year office lease, you know exactly what your payments will be for the next year. Then start filling in the other expenses. You will need to think about each one as you map it out. For example, if you know that you will be sending out 5,000 flyers in May, make sure that the projected cost is in youradvertising budget figure for May. If you are projecting a 20 percent increase in sales, you will probably want to increase your office supply budget.
Your wage cost deserves special attention. It’s important to make sure that you are including the full cost of your employees, not just the net checks paid to them. Depending on the regulatory environment in which you operate, you would also have to pay out things for your employee like pension, employment insurance, or health care premiums. These are all costs of having employees and should be included as a projected expense. Also, if you are projecting a big jump in sales, make sure that you can do it with the employees you have. If not, include the wage costs of new employees in your plan.
Chapter Summary
• Budgeting is a critical process for all businesses that want to last.
• Review your monthly performance from last year and make sure that you can tell the story of the numbers.
• Make sure your budget numbers are consistent with your operating strategy.
• Review your 12-month budget every month, dropping off the old month and adding one on at the end.
3
Variable versus Fixed Costs: Why You Need to Know the Difference
In this chapter, you will learn —
• How to classify your business’s expenses into fixed or variable expenses
• How costs behave when your production volume changes
• Why “losing money on every unit but making it up on volume” doesn’t work
• How to determine your business’s capacity
Let’s take a look at cost behavior, that is, finding out how particular costs are affected by events such as changing sales levels, increases or decreases in other costs, and the purchase of new assets.
At first glance, it may appear that this kind of analysis of your financials is time consuming and boring, but all successful and long-lasting businesses understand cost behavior. This will help you better understand the mechanics of your business and will allow you to plan for growth with confidence.
Case Study
Becky frowned and rubbed her temples. “Vivian, how can I tell when we need to hire an employee? Shouldn’t I be able to see how much work the new employee has to bill out to be able to afford him?”
Vivian smiled. “Absolutely. Do you know what your break-even point and capacity are right now in the company?”
“Not only don’t I know those things, I don’t even know what they mean!”
“Your
