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Budgeting: Doing the Math Part 2

To make money, you must manage effectively. To manage effectively, you need to employ a cascading reporting structure that starts at the top of your company (big picture) and drills down to the bottom (little picture). There is no other way to maximize visibility and accountability.

Drill-Down

BIG PICTURE: Rolling Budget

Business KPI’s (Key Productivity Indicators)

Functional Reports (Sales, Client, Production, Finances)

LITTLE PICTURE: Process Dashboards

There is a right way to do this. Let’s start with the big picture – the budget – in this post and move down the cascade in future discussions.

The budget is a working management tool that operates at the biggest picture level. Once you create it, you need to use the budget by “rolling” it monthly. This reporting process forces you to identify variances (problems) and identify/re-forecast your plan (solutions) to ensure you make the budget or make the necessary adjustments to secure your net profit.

Make the Budget (The Original)

Build your budget from the bottom up: Start with net profit, add overhead expenses, determine cost of goods (labor, materials and sub-contracts) and labor costs. Then, calculate the revenue required to get you the gross profit dollars you need. You always keep this original as your standard of comparison. It is your goal. See an example of a simple condensed budget below:

Starting Budget

 

 

Roll the Budget (Re-Forecast)

Rolling the budget simply means “dropping in” actual results monthly where the original budget numbers were. Then, conduct a detailed review of the variances from the original budget. You do this to identify problems and define solutions – to make sure you make the budget. See an example of the rolling budget below:

Rolling Budget

 

 

Variability vs. Control

There are typically three key areas that vary in any budget year. These are overhead expenses, labor and revenue. There are usually two numbers that really matter – those you can control in the short term: labor and revenue. I am not suggesting that overhead is not important, only that it is harder to control in the short term. You don’t budget “fat” into the overhead, and most of those expenses (rent, equipment, insurance, etc.) are fixed. This leaves only staffing cuts to reduce overhead. Ouch!

Problems and Solutions

When you look at this rolling budget above, is there a problem? There certainly seems to be...

Revenues are running behind - that seems pretty important. So, here are the questions: Is it possible to catch up and close the revenue gap? If so, how?

Labor may not be over budget dollar-wise, but it is over budget as a percentage of revenue. The average wage rate is higher than planned. Is it possible to bring this cost back into line?  If so, how?

The answer to these questions requires a system of cascading reports that allows readers to “drill down” into the variances - because from the rolling budget view alone, it is hard to pinpoint the causes. Cascading, expandable reports provide an understanding of the source of the problem, allowing for the development of a solution. What are these reports? The first level is called Business Key Productivity Indicators (KPIs)…

…and I will discuss those in the next post.

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