Budgeting Part III: How to use your budget to manage your business

The question that I often receive from small businesses regarding creating a budget is “What’s the point?” Underlying that question is the real question, “How do I use a budget to help me manage my business?” So let’s attempt to address that question.


First of all, when we talk about creating a budget, we usually mean a Pro Forma Profit and Loss Statement. In essence, if everything goes as planned, this is what our profit (we will only think positively here) will look like. I recommend taking this one step further and also creating a Pro Forma Cash Budget, budgeting for when you actually expect to receive and spend your cash. This will allow you to anticipate when you are going to have an abundance of cash and when you are going to have some cash needs so that you can plan for them. For example, if you run a retail business you can expect to do most of your business in November and December so you will end the year with a large cash balance. Before you spend it all or hand out large bonuses, look at your Cash Budget for January through April to see how much you money you need to keep in cash to get through those tough sales months.

Once you have your budgets prepared and you have finished your first month in the new year, do a comparison between your actual amounts and your budgeted amounts. Most importantly, be sure that you can explain the variances. If your Cost of Goods Sold is higher than expected you might want to be sure that it is because your Sales are higher than expected as well. If your labor expense was higher than anticipated can it be explained by an unanticipated order or have you not been watching your overtime closely enough? If you are a restaurant and your food purchases have increased but your sales have not, you may need to make sure that someone is not stealing food from you.

For each of the explained variances you will also want to consider whether it is a one-time anomaly or if this is something that you expect to continue. If it is a one-time event and you have overspent your budget then you know that you will need to adjust your spending down in a different month. If it is an event that you expect to continue, then you will want to adjust your budget to take the change into account. The favorable adjustments are easy. It is the negative variances that require some decisions on the owner’s part. Just remember that you developed your budget based upon your company’s strategy, which means that you need to make sure that all adjustments to your budget are also in line with your strategy.

The point of a budget and a good financial management policy is that you have planned for what you expect to happen and you are now analyzing the data and reacting quickly to your business needs.

A strong grasp of your business finances is essential to running a successful business. As with all things financial, if you find that this is not one of your strengths, then don’t just push it aside and ignore it. Get the help that you need.

Focus Your Business With An Effective Budget: Part II

So how do you create a budget for your small business?

In these challenging times, it is more important than ever to put together a comprehensive budget for your business to use in the next year. We recommend creating both a budget for your Profit & Loss and a budget for your Cash Flow needs. For those of you who are new to the budgeting process, here are a few pointers:

Pull out your prior years’ income statements and look at your historical data. Which income streams have been most successful for you and have provided you with the highest margins and therefore the most money? Which products or services have not performed as well as expected? Consider whether they can be improved and if not, eliminate them.

Look for patterns in your income stream and expenditures. If your money coming in from sales doesn’t match with timing of your major expenses such as seasonal inventory purchases, real estate tax payments or insurance premiums, setting a budget can help you make sure you are saving enough money to pay for these items.

Think about using zero based budgeting. Don’t just take last year’s budget and add an arbitrary increase in sales and expenses. Do some research and consider what a reasonable sales figure will be. Figure out what your staffing needs will be based on this sales figure. Talk to your major suppliers and your utility providers and see what price increases may be in your future. Consider what items are necessities and which expenditures are really luxuries. Evaluate every item in your budget and consider whether it is in line with your strategy for your business. With the economy still recovering, you need to maintain a lean approach to both your budgeting and the actual managing of your business. There is a wealth of information available to help you with the creation of your budget if you do a little research.

A well planned budget process can take some of the stress and fear out of managing your cash flow throughout lean times and allow you to spend your money wisely and avoid running up credit card balances.