As a leader with a vision for your business you need a budget to plot your financial progress towards it. Budgeting helps you understand whether your vision is feasible or not. And it helps you plan the steps you need to take towards achieving it.
A Budget Supports Your Vision
For most business owners budgeting can be at the top of the list of things they don’t like to do. For them, budgeting properly is a pain. But this is usually the result of many experiences of trying to balance it, or forecast, to the penny.
Yet, while accuracy matters, what’s far more important is getting in the habit of routinely thinking about what’s up ahead operationally that will affect your finances. Getting into the routine of forecasting, then reconciling your forecast to your actual results, will build the connection between your business finance and leadership dynamics.
The Two Types of Budgets
The most common budget is the operating budget. It is typically used to forecast and track a company’s operations and is used alongside the income statement with net profit as the budgeted bottom line. The operating budget should sync well with your income statement, and your accounting system is almost guaranteed to provide you with the financial information needed for tracking and reviewing your budget. The operational budget is what most people are familiar with.
A capital budget is probably less familiar, on the other hand. This type of budget is used to track spending and depreciation relative to large capital expenditures, such as equipment and real estate purchases. It helps businesses determine their return on investment for these purchases.
Because these types of non-operating expenses typically don’t show up on your P&L, you can use a capital budget to plan for the cash required for the expenses that only show up on your balance sheet.
Businesses that forecast losses can also use capital budgets to track negative cash flow requirements. And start-ups often use capital budgets since they typically make a number of major investments during the first few years of operation.
While your own company will need an operational budget, your CFO, controller or even an outsourced accountant can help you decide if you also need a capital budget.
Four Steps for an Effective Budget Process
Budgeting isn’t something you just do once a year – or, at least, it shouldn’t be. You should schedule planning and monitoring cycles on a regular basis. These four steps explain the process you can follow and suggests which position in your company should be responsible for each task:
- Set up the budget process. At the very beginning, you’ll have to decide on a budget schedule, categories, document formats, and who will be responsible for what. This is a management task that usually falls to the CFO, your controller – or both.
- Plan and forecast. The leadership team, which is the CEO, or owner, the CFO, and any key managers, should handle this step. In every budget cycle, you’ll begin by planning and forecasting to build and guide your business in the following months. Construct your business plans using the budget numbers against which you will track your progress. You should conduct formal planning, forecasting, and budgeting sessions regularly — preferably quarterly or at least annually. Keep in mind that your budget forecast will not reflect the realities of your business unless you continuously fine-tune and adjust it as part of your ongoing monthly reviews.
- Monitor and report. The controller will use your accounting system to gather and organize your actual results, and create monthly budget variance reports that indicate where actual results differ from your plan and by how much they differ.
- Review and manage. The leadership team studies the controller’s budget and variance reports for insights on how to improve the business, spot problems before they become serious, and maintain a strategic picture of your business. In addition, you should review and confirm your budget forecast assumptions and revise them as necessary. Review your budget and variance reports with your key employees, make management decisions based on those reviews, and then execute those decisions.
Budgeting With Your Future In Sight
Improving your business budgeting process to incorporate your vision is a smart strategic move. Money is not only the fuel for your business today; it is the building material of your company for the future. As your business grows, approaches that sufficed in the beginning may not be sufficient going forward.
Your budgeting and financial planning processes must grow with the needs of your business today, and for the vision you have for the future.