After the holiday shopping and celebrations of December, January often shines the cold light of reality on a new year—highlighting how prepared you feel for it. In the world of small business, that includes having a budget.
Last month, we looked at how your company defines mandatory and discretionary spending. Many of you replied that you had finished your homework and wanted the next budgeting assignment. Here goes.
#1: Get Started
In QuickBooks (QB), run the report called Profit and Loss (P&L) Standard for all of 2016. If you haven’t finished entering December, don’t worry. Tell QB to display your report by month. This will generate 12 monthly columns, plus one for the grand total. If you’re an Excel whiz, export the report there. Otherwise, print a copy.
a. You need to answer this basic question: should you use a cash or accrual approach? If your business is like mine and you perform services this month, send out invoices, and get paid the following month, then run your P&L on the accrual basis. If you get paid when you sell your products or deliver your services, then choose cash.
b. This 2016 P&L will be a measuring stick for your 2017 budget. You’ll want to constantly assess how your 2017 budget compares to your 2016 actual results. Do the differences make sense to you?
c. On your paper or Excel document, record your 2017 budget amounts. On paper, pencil in your amounts next to their 2016 counterparts. In Excel, I suggest you make two copies of the P&L. The first will remain unchanged. The second will have cells with your 2017 budget amounts.
#2: Money In
You have several options for projecting revenue. In all scenarios, note any assumptions you’re making that factor into your forecast. Pick the approach that makes the most sense for you:
a. Percentage increase – We’re going to grow by x% for the year, which translates to y amount of revenue each month.
b. Client specific – List all your clients (you’ll find this in the QB report called Sales by Customer Summary). Determine the results you expect in the coming year for each compared with 2016: up, down or flat.
c. Product specific – If you sell products, run the QB report called Sales by Item Summary. Again, decide how you will perform this year compared to last: up, down or flat.
#3: Money Out
Identify the movers and shakers. For each expense line item on the income statement, figure out what—if anything—influences how much you will spend this year. These ideas will help:
a. Sales – Cost of Goods Sold (COGS) typically will move up and down as revenue rises or falls. But sales might also drive postage expense, because of all the thank you letters you send to new clients or people who help you win the business. You want to identify the types of expenses that are directly linked to sales.
b. People – Some expenses are a function of headcount. Payroll taxes, for instance. But you could be looking at other expenses that move up and down as your number of employees changes. Perhaps the IT repair expense goes up as you add people. Maybe it’s the dollars spent on coffee. Whatever it is, these expenses typically increase with more staff.
c. The calendar – Some expenses are date specific, such as an annual insurance policy premium. Other expenses are seasonal. Perhaps electricity goes up in the summer because you’re paying for the AC.
d. Flat – Some expenses are independent of any other factor and will remain the same for the year.
e. Big changes – If 2017 includes a significant event or undertaking, put it in the budget. Maybe you’re moving your office. Perhaps you’re finally spiffing up your website. Whatever it is, figure out how much you expect to spend. Consider making this amount a unique line item in your budget.
#4: Add It All Up
When you’ve finished projecting money in and money out, what’s the bottom line? Do you see a profit or a loss?
a. If you don’t like what you see, ask what part(s) of the budget need to change. Keep in mind that it may be easier to make small modifications to a number of items rather than slashing the budget for an entire
b. Did you do last month’s homework with mandatory and discretionary spending? If so, use it to shape your 2017 budget. For the items you identified as worthy of extra monitoring: consider highlighting these or filling in the Excel cells with another color.
#5: Remember Your Balance Sheet
For many business owners, activity here should also be factored into the budget.
a. If you have a significant amount of debt, note when you need to make the principal pay downs. Perhaps you take a regular monthly Owners Draw.
b. Whatever these amounts are, list them below your net income number and adjust your net income accordingly. This will ensure that the budget produces enough cash to cover them.
Work with Your Budget
Finishing all this planning and budgeting is great, but it just gets you to the starting line for 2017. I suggest you put your budget into QB. (Call me if you need to know how.)
a. Once entered, you can run reports that compare your actual results against your budget. The goal is discovery. Learn where you forecast well—and not so well.
b. Explore your variances. Are they explainable? Were they foreseeable? Were they outside of your control? How can your variances help you plan better, operate more efficiently, and generate more profits? That’s what it’s really all about.
Wishing you lots of positive cash flow in the new year!
What Can I Learn Today to Improve Our Financial Performance?
You can hear when an engine is running smoothly—or racing or sputtering. The same is true for the financial drivers of your business.
You just need to know what to listen for. The good news is that your numbers are talking all the time!
Here are the best ideas we can find on how to ask your business for the information you need, to understand what it says, and take action on what you learn.
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What’s on Your Reading List?
- The E-Myth Revisited: Why Most Small Businesses Don't Work and What to Do About It, by Michael E. Gerber
- Profit First: A Simple System to Transform Any Business from a Cash-Eating Monster to a Money-Making Machine, by Mike Michalowicz
- Managing by the Numbers: A Commonsense Guide to Understanding and Using Your Company’s Financials, by Chuck Kremer, Ron Rizzuto and John Case