Part 3: Budgeting
You have undoubtedly heard it before, but I really cannot stress it enough. Successful businesses budget!
There are countless benefits to budgeting including being able to monitor your performance and manage your costs. Let’s use our example from Part 1 and Part 2 of this series – opening a restaurant. Imagine your restaurant business is now up and running, you believe it is doing well and you know revenue is growing. Without a budget to measure against, how do you know if your expenses are reasonable? Is spending $800 per week on cleaning outrageous, or is it in line with expectations? Without knowing, you may discover a problem far too late, possibly one that could have been rectified easily had you known earlier.
The same is true for monitoring your revenue. Is last week’s $12,500 in drink sales amazing, average or poor? Do you need to put more pressure on your staff to suggest a drink when a guest orders a meal? Or should your staff be rewarded for an awesome effort in the previous period?
The process of setting a budget can be time consuming, but it will force you to analyse what your revenue and expenses should be for a given period. This usually starts with last year’s performance and can involve considering industry benchmarks, observing what your competitors are doing, as well as incorporating your own estimates. Once you have set your budget, you have a benchmark that you can strive to meet.
Measuring against this benchmark, known as variance analysis, allows you to track your progress each period against the budget you set at the beginning of the year. This can be a valuable tool as it will flag any items that are significantly under or over budget, prompting additional analysis.
A budget is not to be confused with a forecast, which is continually updated once new information becomes apparent. Both however, are best utilised as a three way model, being a profit & loss statement, balance sheet and cash flow statement. These allow you to monitor your profitability, cash flow, assets and liabilities, giving you an advanced warning if, for instance, you are running out of money.
Budgeting is also an important tool for obtaining finance, especially for a business that does not have any historic results. If you can present a lender with a sound budget, they will be far more likely to consider your proposal, whether that be to start a new business or to purchase an existing one.
This leads us to the final part of this series, financing.