Corey Oates scores for Queensland | Photo Credit: NRL Photos
Everyone knows it – footy games can be won or lost by the way the captain organises his team on the field - keeping an eye on the whole field of play, adjusting tactics and players, and working with the coaches and refs to keep the upper hand all the way through to that victorious (Queenslander!) finish.
Business owners are essentially team captains – and you know that budgeting is a critical part of business planning, just as game planning is the first step to winning on the field. Here are three key budgeting tools that work together to give you the ability to make better informed decisions on your playing field:
- Your anticipated profit
- How much cash should be sitting in your bank account
- What the net worth of your business will be.
First and foremost, remember that what gets monitored gets managed. Budgeting is about preparing for what lies ahead. This is rarely steady and constant, so it needs to be consistently monitored and forecasts managed according to the reality.
Monitoring and forecasting really helps you gain an edge over the many businesses out there that are not so agile or prepared for what's around the corner.
Here's what your three-way budget should include:
1. Profit and Loss
Budgets should begin with a detailed look at profit and loss. Ask these questions –
- What are my costs and revenue-drivers?
- When any of these drivers change, what is the impact?
- How many existing customers do I have and what is the average account value?
Use past and present information from management accounts and financial statements to work out your anticipated profit for the next 12 months, and be aware of industry changes that might affect the business.
NOTE: Profitable businesses can go broke! When budgets are solely designed as profit and loss predictions, potential problems can be overlooked. Taken in isolation, the projected profitability of your business doesn't consider managing growth and it won't help you avoid cash flow problems.
There's a saying, "Profit is theory, cash is fact," which leads us to the second element of your three-way forecast…
2. Cashflow forecast
One of the main reasons that small businesses can get into trouble is poor cash flow management.
As we mentioned, it is possible to make a good profit but not have enough cash in the bank account to pay bills or repay loans.
Unless the profit is converted to cash in your bank account (eg. you are invoicing regularly, customers are paying you promptly for services delivered, and your money is not tied up in stock), you may be at risk of insolvency. After all, you pay staff and bills with cash-the money in your bank account-not with the profit figure that appears on a financial statement.
So cash really is the 'life blood' of a business. By adding a cash flow forecast element to your budget, you create more consistency in your business. You will make it more 'future-proof' and be better equipped to ride things out when cash flow hits harder times. You are prepared and can take corrective measures in the business before a full-blown crisis develops.
Planning ahead for the timing of your likely cash inflows and outflows allows you to identify the need for a capital injection, such as an increase in credit or a boost your cash flow in some other way.
3. Balance sheet
A balance sheet provides a projected statement of assets, liabilities and owners' or shareholders' equity and is the final piece of your three-way budget. A simple way of describing what your balance sheet shows you is:
- what does the business own (its assets)
- what does it owe (its liabilities)
- what's the difference in those amounts, which is the equity
You may have heard the phrase, 'a healthy balance sheet.' This means that assets well exceed the liabilities and the business is able to meet its obligations comfortably.
It's important to track the health of your balance sheet because looking only at your revenue and cash flow and not taking into account your level of liabilities would be like only caring about how many goals your team scores, and not keeping an eye on how many goals are scored against you. The 'for and against' ratio matters in business, just as it does in sport.
How often should you revisit your 3-way budget?
The purpose of your three-way budget is to try to realistically predict future numbers and to give you targets to work towards.
You may not get this right immediately. In fact, it's likely that you'll need to revisit it multiple times before you become adept at accurate forecasting. The best team captains know that each game is a chance to improve – no one expects perfection straight up.
Things change. So, it's a good idea to review the budget on a monthly or at least quarterly basis. You'll need to recognise and interpret differences between actual and forecast results and decide on actions to keep your business on track.
Does a second opinion help?
Just as any sport involves players, coaches and scorekeepers, so does business. You and your team are the players in the heat of the battle, and you need not just independent scorekeepers but also the support and guidance of an experienced coach. When you're busy 'playing the game', it's easy to lose sight of the bigger picture and how your business is travelling compared with expectations.
That's where it pays to have an independent advisor help you:
1. Create your three-way forecast
2. Monitor and update your three-way forecast with your actual results
3. Discuss with you ways of keeping your business' performance on track.
That's where we come in, as that support.
Are you prepared for the future?
Rather than simply estimating figures based on last year's numbers plus a few percent growth, put work into a three-way budget. This will help you take the necessary action and adjust your business practices according to actual results and future changes. You have to work with not only your players, but whatever tactics the opposition puts up as well.
Changing circumstances are a given in any business. While it's impossible to predict the future, it's how you react to change that will ultimately determine the success or failure of your business.
Because you'll have a full overview of the impact of change on your business, when change happens, you'll be in a position to make informed decisions based on a new 'reality'. It may even help you to receive financial backing from banks or investors.
You will be able to pre-empt any number of scenarios and assess where your business can improve, avert problems before they develop into crises, and take advantage of growth opportunities that arise.
This is the real power of the three-way budget. Implement it in your business and see what a difference it makes to your decision-making, motivation levels, performance, and ultimate success. Take your squad to the premiership!
Need a coach, a scorekeeper or sideline encouragement? Call our experienced team today to help with any aspect of your small business.
?Thanks to NRL Photos.com for image.