Business Budgets, Projections or Forecasts, without Spreadsheets
If you are interested in using budgets, projections or forecasts for your business, without spreadsheets, then this article will help you. To be upfront, I am not in favor of using spreadsheets when developing budgets, projections or forecasts for your business, I prefer an integrated approach that uses simple financial modeling for developing and preparing a balanced projected income statement, projected balance sheet, projected cash flows and detail schedules. Spreadsheets are error prone and often to complicated to use either specific scenarios or in general.
Why Budget ? Taking the time to develop a budget is useful because it allows you to determine how much money you will receive, how much you’ll spend in the coming months, how much income you need to meet your financial goals and how much you can save. A business budget is always part of a business plan. If you’re applying for loan, want to refinance, or looking for investors, or want to be proactive as you run your business then a monthly budget, balance sheet and statement of cashflows will be helpful, if not critical. Business owners should always refer to their budget before making large expenditures. For instance, purchasing new machinery or expanding into a new location or acquiring another company should only be made after reviewing your budget and considering the incremental financial benefits of the new machine or the acquired business. Budgeting is critical for a startup business. Many new business owners underestimate business start-up costs.
Two Important Considerations for Budgeting-Most small businesses, that budget, do not consider the seasonal aspect of their business or the concept of budgeting monthly as compared to an annual budget. Almost every business is seasonable, whether you sell food, real estate, equipment or anything else. Therefore, incorporating the seasonality aspects of your business into a budget on a monthly basis is important. For purposes of this discussion, the terms budget, projection or forecast are used interchangeability, since they all represent different names for prospective financial statements. For a small business with one department, some quick tips to obtain the information to determine the seasonality and to budgeting monthly is to use the same cash flows as last year or the average last five years(if you have them) and choosing the most relevant measurement base. After you obtain the average, then you must consider any changes or unusual one offs that could or will affect the average. Assuming you don't have correct financial statements, or any books, or you have exponentially grown, go to your bank statement and you can track your monthly cash flows in order to budget monthly. Then hire an accountant or bookkeeper to set up your books. The other option is to sit down and brainstorm with your CPA. If you are budgeting your cashflows(cash ins and cash outs) then you need to make sure you are on the cash basis of accounting of accounting(no receivables and no payables). If you are budgeting on the accrual basis you will need to consider receivables, payables and other adjustments resulting from the use of Generally Accepted Accounting Principles(GAAP). To budgeting monthly, either use a spreadsheet, or use the budgeting component of your accounting software . Unfortunately, the budgeting functionality of QuickBooks is simple and does allow for Financial Modeling, the same is for an Excel worksheet, unless you know how to use and build complex formulae, etc. Even then, spreadsheets are cumbersome and often result in three unbalanced and incorrect budgeted financial statements
What is Financial Modeling ?-Financial modeling is the process of estimating the financial performance of a business by taking into account all relevant factors, growth and risk assumptions, to understand and forecast their impact. It helps you to develop knowledge of the variables involved in financial forecasting. A financial model is simply a tool that’s used to build in spreadsheet form or in proprietary software to forecast a business’ financial performance in the future under specific scenarios. The forecast is typically based on the company’s historical performance, assumptions about the future, and requires preparing a projected income statement, projected balance sheet, projected cash flows with supporting schedules (known as a 3 statement model). For this discussion, we will consider a small or midsized business. For a less complex business, the most important model pertains to predicting your sales, units sold and dollars, your cost of goods sold, cost of services, and gross profit and to identify your fixed and variable costs. From there, more advance models can be built such as discounted cash flow analysis, mergers and acquisitions and sensitivity analysis.
Within QuickBooks you can prepare profit and loss statements to compare your monthly and annual actual sales and expenses with your budget. Regarding QuickBooks, one of my favorite tools, QuickBooks has primitive budgeting software and the new feature in their QuickBooks Cash roll out called "Envelopes is not a financial modeling tool. Envelopes allow business owners to set aside money for specific planned or unexpected expenditures, helping to ensure that their future financial expenditures will be available when needed. This means that small businesses can budget and directly partition funds into categories they will need to pay — for example, for taxes, bonuses or supplies, equipment and materials. Instead of using white paper envelopes, electronic envelopes are used. Both of these QuickBooks tools do not allow for any type of financial modeling, even on the most simplistic level. Perhaps, after you do the financial modeling, then QuickBooks's Envelopes may make sense.
Forecast all Three(3) Financial Statements-As mentioned above, it's critical that the prospective financials be in sync with respect to the income statement, balance sheet, and cash flow statement. I call this the three way match, since all three statements depend on or feed off each and must be in agreement.
Create an Analysis Quickly-If your business is large and you have hundreds of transactions, the input is most likely voluminous and you may need to import your historical information to a general ledger with import utilities. In other words you should be able to import historical results. This importing capability will save time for historical vs projected monthly analysis. If your business software does not warrant importing then its sometimes easier to manually enter the historical information. However, when you need a monthly budget, this will require monthly historical information, then importing becomes more important. The software you use should be able to from QBO, Xero and Excel.
Make Better Decisions with Scenario Analysis-A good forecasting tool that can interpret the likely financial impact of specific events with greater precision. With proper analysis you can make the important investments and strategic decisions with confidence that you’ve done your due diligence.
Next Step-Meeting financial goals can be challenging for anyone. If you have any budgeting, projection or forecast questions, feel free to contact me to learn about your budgeting software options.
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