Doesn’t that sound like fun? “Let’s budget!” Well, if you are an accounting or finance geek, which I am, budgeting IS fun!
We are getting close to the end of 2020; can you feel it? I sure can and I could not be happier! While we do not know what 2021 will bring, I am hopeful that next year will be better than this past year! Please be better! Please be better!
At this point during the year, many businesses are finishing plans for next year. What does that mean? Typically, there is some strategic planning that includes a marketing plan, any operating changes (including personnel changes), and financial projections (a.k.a. budgeting). Let’s be clear, not all financial projections are budgets.
Why? Let’s review the definition of a budget.
According to Google, a budget is defined as “an estimate of income and expenditure for a set period of time.” Merriam-Webster has several definitions of budget, with three falling under the finance category. The most concise definition states that a budget is “a plan for the coordination of resources and expenditures.” Better yet, found on the website accountingcoach.com, started by Mr. Harold Averkamp, CPA, MBA in 2003, the definition of a budget is “a financial plan for future activities.” Suffice it to say that a budget will measure money coming in and money going out, or as accountants like to say “revenues” and “expenses.”
It is important for a business owner to measure and account for both revenues and expenses. Why?
In addition to reporting income and expenses on annual tax return documents, measuring such allows the business to prepare for the next financial period. If you have a business loan, you know that your banker prefers that you have a budget as well. So, enter… the budget!
The Holiday Season is a time to enjoy friends and family, reflect on all of this past year’s accomplishments (or lack thereof), and finalize next year’s budget. That’s right. It is the right time to confirm that you are all set for the next year and part of the preparation is finalizing the budget for your business.
There are many ways to accomplish this objective. First, you can start with a whiteboard. Meaning, you develop the budget without any history and each expenditure must be justified. Otherwise known as zero-based budgeting, as explained on the website Investopedia.com, as well as a slew of other accounting websites and sources. When using this budgeting methodology, you need to look at each line item and carefully project what you anticipate happening during the next year and the reasons for such. Zero-based budgeting is time-consuming but often is the most meaningful because you are unbiased regarding any history associated with each line item.
The second budgeting methodology, as defined by the Corporate Finance Institute is Incremental Budgeting, which states using the previous year’s outcomes and either add or subtract based on your expectations for business in the next financial period. For example, if your business realized $100,000 in Gross Revenues this past year and you anticipate substantial growth in sales volume, you may add 10% to next year’s Gross Revenue budget. Therefore, you would budget Gross Revenues at $110,000. This is a simple method and less time consuming because you are using historical figures to project, or budget, future outcomes.
There are other budgeting methodologies as well, such as activity-based budgeting, customer value-based budgeting, rolling budgets, and flex budgets. All are worthy of further investigation to determine the methodology that is right for you and your business, but the emphasis here is simply to develop a budget.
The last time you needed to drive to a distant location and had no idea how to get there, what did you do? I suspect you used Google Maps or Apple Maps and retrieved directions on your phone or on your car’s navigation system. A strategic plan for a business is akin to using maps to reach your location. Further, the budget is like the gas in your tank that will give you the fuel needed to reach your destination. The gas gauge indicates the resources remaining, just like a budget. Without fuel, reaching your destination is uncertain. Without a budget, how do you know what resources you need to achieve your plan? You don’t know. It’s “guesswork.” I am not a big fan of guesswork.
In this post, I presented two worthwhile budgeting methodologies: zero-based budgeting and incremental budgeting. There were several other methodologies mentioned as well. Use the budgeting methodology that works best for you and your business. The key is to use one of them. Develop a budget. Do not ignore this important financial requirement for your business. If you need help, reach out. A business coach can help you!
Make 2021 the best year possible for your business. Start off right by developing a meaningful budget.
Need help? Take my FREE Understandable Solutions Assessment: How well do you know your business? Are there any areas of your business that you need to work on? “Understandable Solutions” will provide you with easy to understand solutions that will help you move your business forward!