Top 10 Reasons Businesses Fail: Number 4 – No or Poor Budgeting
Some would argue that this step is the most critical to the success of the business. According to several studies, 65-75% of businesses do not have a written budget. Considering 85% all businesses are small businesses, it is easy to infer that very few small businesses actually budget. It’s not only that you have to have a budget, but most businesses don’t budget correctly. There is a concept that I use called “reverse engineering” your budget. Let’s explore how I put together a budget for a business.
If you ask most owners what profit is, they will tell you it’s what they have left over after expenses. While this is true, it is fatal thinking. When I set up a budget, the first thing I am going to ask an owner is, “how much money do you want in your pocket after expenses at the end of the year?” Now this number needs to be realistic. If the business only did a million dollars a year in total sales for the last 3 years, it is probably unrealistic for the owner to say they want 2 million dollars in net profit this year. But, let’s assume that there is a random goal of $200,000. I take the following steps to set up the budget:
1. I am going to find financial data on several businesses in the U.S. that are of similar size and in the same industry as my client. You can do this with online searches and there are sites that will allow you to pay for the information.
2. From this information, you should turn the average dollars they are spending in each expense category into percentages of revenues (e.g. office supplies 2.0% of revenue)
3. Input these percentages to your budget and work backwards (reverse engineer) up to your revenue line.
Once you have a revenue amount, this becomes your sales goal and you should make your sales plan (remember from the earlier post) to meet this goal. If your business performs as well as the average business in your industry you will reach your financial goal, but you have got to stick to the budget you set. No exceptions.
This is not the end of the budgeting though. What happens if you set up 2.0% office supplies on a one million dollar revenue budget, but you buy $1,850 worth of products, and only do $600,000 in actual revenue? You will be over your actual budget. This is where your accounting program comes in so check back tomorrow…
Written By Ameen Walker