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How to avoid budget blowouts

Sunday, August 31, 2008   By Mike Reddy

 

A budget is an important management tool. Being a projection of your income against your expenses you can check it at any time to see how well or how poorly your business is doing.


The value of a budget is in direct proportion to the accuracy of the figures you use to create it. Here are some precautions to take to keep your budget figures accurate.

Use realistic projections

Since a budget is based on projections there's always an element of uncertainty involved in estimating inputs. It pays to be conservative regarding things such as sales forecasts. If they turn out to be better than estimated, that's great and provides the opportunity to distribute the extra around to advantage. But if they are worse than expected it means rethinking all your plans to match the budget shortfall. If your business provides a product or service for which the demand varies by season (retail takings over a holiday season, pool maintenance between seasons and so on), then factor that into your budget.

Don't underestimate costs

Petrol, travel, raw materials, rent - all costs increase over time. A projection of costs at current year value will result in budget blowouts. It's wiser to make a best estimate and then increase it a little. If the actuals do end up coming in under projection you will have provided a little bit of ‘fat' in the budget to cover the odd unanticipated contingency. You might even add a miscellaneous' line item to the budget to handle those unknowns.

Question every expense

Preparing a budget provides the perfect opportunity to consider what value for money you are getting from the costs you are incurring. Is it time to change the petrol powered work vehicle to a hybrid? Look at raw material substitutes? Move to a VoIP phone service? Also look for any expense items that could be eliminated. A penny saved is a penny earned!

Factor in cash flow

Incorrectly projecting cash flow will turn the best budget into a fiasco. In virtually every transaction there is a lag time between the finalisation of the deal and actual cash collection. This time lag has to be built in when preparing a budget - you may expect to sell goods to a certain value in Month X but that doesn't mean the value of those sales will be in your bank account in Month X. This doesn't present a problem if the budget allows for it. When it's not factored in you can run into serious cash flow problems through spending money you don't yet have.

Allow for your tax liability

Don't forget your likely obligations to the taxation department. Sales income will ultimately be depleted by GST, various other state and commonwealth taxes and employee withholdings. Fail to account for these and you run the risk of budgeting for future projects that you aren't going to be able to afford.

Keep the figures current

Budget preparation isn't a once a year operation. Things change - the price of petrol soars, sales are a lot better than expected. Budget lines need to be revised to reflect these events. The point of budgeting is to be able to compare actuals against projections to see how the business is going. If the actuals aren't actuals you'll be making decisions based on false assumptions. It's easy to let the budget become just another document gathering dust on the shelf. Plugging in the new figures each month, considering how actuals are tracking against projections and what that means in terms of what you need to do takes a lot of self discipline. But if you don't do it, you've not only wasted the time and effort you put into creating the budget, you open the path to fiscal irresponsibility and wasted opportunities as off-the-cuff purchase decisions send expenses out of control while unexpected income sits in a bank account when it could be put to use to improve operations.


Mike Reddy is a Chartered Accountant, business coach and advisor helping businesses in Sydney, Melbourne, Brisbane and Gold Coast to easily increase their profits and cash flow. He is currently President of the North Sydney Chamber of Commerce, a Regional Councillor for Sydney North East and a member of the Institute of Chartered Accountants Sydney leadership team. As well as advising businesses, Mike presents business development seminars and webinars and is regularly contacted by the media to comment on small business matters. You can connect with him on Facebook, Twitter and Google+.