Jeremy Lang, regional general manager of Business Partners Limited, offers six tips on better budgeting that will help business owners survive the straitened times ahead:
1. Get your budget out of your head and onto paper:
While many business owners keep themselves going through informal gut-feel budgeting, they don’t realise how hobbled they are. The certainty that comes with a formal budgeting process leads to better and faster decision making, faster growth, and much greater chances of survival.
Informal, intuitive budgeting is possible only when the business is really tiny, and a growth spurt without formal budgets can actually be dangerous when the business finds itself with a big order book but no cash to fulfill its promises. It is better to do adopt formal budgeting no matter how small the business is.
Professionals hired to help you set up your first formal budget and review system is money well spent, especially those with industry expertise who can tell you whether your ratios and forecasts are realistic and in line with businesses similar to yours.
2. Keep the budget alive:
Drawing up a formal budget is only half the job. Putting it away in a drawer is a waste of time and opportunity. A formal annual budget must be reviewed at least once a month against what has been spent and what revenue has come in. It tells you where the business is deviating from the plan, which expenses are creeping up, how the sales function of the business is performing, what needs to be investigated and fixed, what plans need to be made and resources need to be gathered. A budget adjusted monthly in this way becomes an invaluable business management tool – a set of headlights that enables the business owner to drive forward in the dark.
3. Get your cash-flow projections right:
There are many aspects to a proper set of budgets such as sales projections, income-and-expenditure forecasts and capital expenditure plans. They are all important, but mean little if the business does not have the cash to implement them. Your cash-flow forecast can only be accurate if it takes into account how long your debtors are likely to take to pay, and makes provision for the replacement of equipment and the payment of taxes.
Crucially, a sound budgeting process predicts upcoming cash-flow shortages, giving the business owner enough warning to make sure that finance is ready to bridge the shortfalls.
It is much easier to convince financiers to give you finance if they can see that you are proactive and can see shortfalls coming through sound budgeting processes.
4. Set a challenging budget, but keep it realistic:
A business won’t thrive if its sales targets are not aspirational, so it is good to build in some growth into your forecasts. Very often, though, business owners are much too optimistic, and end up with substantially less revenue than they predicted. Forecast for growth, but keep it realistic. An industry expert can be very helpful to benchmark your figures with what can realistically be expected in your sector.
5. Understand the macro environment in which your business operates:
In today’s global economy, what happens in China or the US will have an influence on your business. In South Africa, a basic budget line item like fuel is directly linked to macro factors like the world oil price and the strength of the rand. Businesses that rely on imported materials, for example, need to have plans in place when to absorb exchange-rate fluctuations, when to pass it on to their clients and even when to start sourcing locally rather than importing. A good budget is plugged into the macro environment.
6. Understand the difference between fixed and variable costs:
Fixed costs are those that stay the same no matter how many sales are made by a business in a month, such as rent, salaries and loan repayments. Variable costs, as the name implies, vary as the level of sales vary. These include raw materials and commissions. Failure to understand this simple difference means that a business owner is not able to use crucial business management tools such as gross profit ratios and break-even analysis.
Good budgeting is not rocket science. You do not have to be an accountant to understand and use a budgeting system in your business. It is a habit that allows business owners to grow their businesses in good years, and to survive the bad ones.