Rethinking Budgeting for Business

Too many companies settle for the profit they make instead of working for the profit goal they have set. If 20% net profit is your goal, then write a budget that gets you there. Don’t compromise until you have reviewed all your options. That is true budget discipline.

Budgets: Are you the fly or the windshield?

Let me share an anecdote about a client who once had an epiphany about budgets. For some time we had been focusing on business results with the goal of developing a budget for the next year. We went through the usual exercise of tracking metrics and noting trends. Several key expense categories were steadily moving down – a sign of renewed discipline in the organization. We used these trends to set reasonable expense goals for 2013 and forecast a net profit that met the owner’s expectations.
We also identified which expenses were discretionary, such as supplies, payroll, bonuses, profit-sharing, capital purchases, and coffee. These items are All of this was discussed, evaluated, and agreed upon by management. However, I could tell that folks were not grasping how the budget was a tool. “The P&L just tells us the results. It doesn’t change what we do!” was heard at the table. That’s true I said, unless you compare the P&L to your budget.

Once we finished the budget and completed the first month of operation we found small errors in the original data. One manager had overlooked an ongoing expense obligation, another overlooked one person in his headcount, and an expected savings in insurance costs did not manifest in the final negotiation of benefits. Oh, and surprise – revenue was less than forecast. The net result was a reduction in the projected profit for the year. The results changed, but no one seemed prepared to do anything about it. This is when I turned to the owner and said, “After all you’ve accomplished, are you willing to sacrifice the profit you budgeted – already?”

“No.”

After just a few minutes, the budget was adjusted and the profit was preserved: A planned new hire was eliminated to compensate for the under-count on existing personnel. The employer contribution to healthcare was reduced slightly after consideration was given to reducing profit-sharing or reducing health benefits. A planned purchase of new equipment was delayed by one quarter, which reduced financing and depreciation expenses. All were minor, proactive decisions that preserved overall goals. The company moved from being the victim of circumstances to being the manager of its own destiny. All of a sudden, the budget was everyone’s new best friend. Bonuses and profit-sharing were untouched, which made the managers happy. And the sharing of healthcare expense was acceptable because it preserved the low deductible that employees valued. Profit became destiny instead of happenstance.

Without a budget, most companies would either suffer the results or make a knee-jerk reaction on cost reduction without considering the big picture. They might cut marketing or eliminate long overdue raises when better choices could have been identified. They might eliminate repainting the office because it seems frivolous (when it was really morale-boosting). Budgets also teach us to look at an entire year and not just one month. In a highly seasonal and reactive industry, it is critical that management sees the bigger picture!

Too many companies settle for the profit they make instead of working for the profit goal they have set. If 20% net profit is your goal, then write a budget that gets you there. Don’t compromise until you have reviewed all your options. That is true budget discipline.

The team in my example continues to match results to budget every month and make changes in planning to preserve its goals. At some point they may even experience “excess profit” so we can see how bonuses and profit-sharing can benefit.

Budgets help us set and keep goals provided we judiciously exercise the “No” prerogative.

Food for thought. Thanks for listening…

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