When business is robust and your cash flow is positive, there is a tendency for some entrepreneurs to put financial analysis on the back burner. After all, there’s more money coming in than going out, and there are more than enough funds to cover payroll; so why spend all that time in the weeds scrutinizing every expenditure and every sale?
As a business owner, your long-term survival and growth are dependent upon your accurate understanding the finances that govern your business. And the first step in achieving this understanding is to put pencil to paper and prepare the two basic documents that will serve as your roadmap going forward: Your operating budget and your sales forecast.
Starting with the Basics
Your operating budget is an estimate of expenses that can be expected over a specific period of time – usually one year. This figure can then be broken down into smaller increments, such as months or quarters.
Your sales forecast is a projection of anticipated revenue that will be generated over that same time period. Preparing an accurate forecast involves assessing historical sales data, business drivers, industry trends, and anticipated changes in the market to develop an understanding of the sales volume your company will generate. Good forecasts also take into account planned changes in your company’s product or service line, competitive activity, and economic trends that may impact your industry.
Forecasts can get complicated, as sales cycles vary for every industry. As a new year starts, your company may benefit from sales opportunities that originated months ago, but are just now coming to fruition. Conversely, you may have devoted considerable time, expenses, and resources on a proposal or project in a previous period, but may not see a bulk of the revenue until the following year.
The benefits of creating and monitoring your budget and forecast are both numerous and substantial. In general, they lead to better decision making regarding the financial health of your company. Let’s explore some of the benefits of budgeting and forecasting:
Balanced Cash Flow
When drawing insights from your sales forecast, you can make necessary adjustments to your budget, which will lead to a more balanced cash flow all year round. Instead of celebrating your extra income during peak season, you will set aside a rainy-day fund for your regular expenses like rent and loan payments even when sales are slow.
Knowing when your sales are generated can help you plan your staffing requirements. Perhaps you are in a business that sees a spike in sales between Memorial Day and Labor Day with a slow run up before and a drop off after the summer season. Armed with that data, your budget may include payroll for more staff during the summer months. Even non-seasonally driven businesses will have ebbs and flows. Understanding when your money is made will help you plan better.
With a clear understanding of peak and slow months, you will know when you will likely enjoy the best ROI on your marketing campaigns. Instead of running the same ads and promotions throughout the year, you can focus your efforts and dollars on running campaigns when you are most likely to get the greatest number of clicks, website and store visits, conversions, and sales.
Preparing a formal budget can be quite eye-opening. When you see the actual amounts your business is spending on fixed and variable expenses, it may spark changes in your spending habits. Where can you cut costs while not significantly impacting your sales and service? Where can you consolidate expenses to capitalize on volume discounts? Examining your expenses line by line will lead to more prudent decisions, lower costs, and greater profits.
Accurate Business Valuation
Whether you’re looking to secure a loan, bring on a partner or investor, or sell your business, being able to share a well-informed forecast and a realistic budget makes your business a safer bet for anyone considering taking on a financial stake in it. Budgets and forecasts are essential to help determine your company’s worth.
If you have a CFO or Accounting Manager on your staff, chances are that you already have a budgeting and forecasting process in place. If not, we will be happy to talk with you and explain how our financial autopsies and assessments might help you get the process started.