It's that time of year to build a budget for your business's upcoming year.
"What?!", you exclaim, "who needs a budget anyway?".
You do if you want to have an bustling business!
If you have business objectives, then budgeting your business is how you're going to achieve them. Budgeting is a practical method to be able to measure the results of what you are trying to do. It's the roadmap.
Most business owners' goal is to make more money, no bones about it. But how does someone create more cash flow? There are several different avenues to do this and it all starts with a budget.
In a prior article, I illustrated how to build a budget, so if you haven't looked at that yet, please do so before reading on.
Now that you understand how to create a budget, we need to look at what your goals are!
Increasing Profit Margin
One scenario may be that you want to increase your profit margin. Let's say that you manufacture widgets and your profit margin is currently running at 30%. In order to increase the margin, we have to develop a plan on how to do that, but also be able to measure the performance versus what we expected.
This is where the budget comes into play. To continue with the example, you want to increase the margin by 2% in 2024. If that's the objective, then your budget lines for your Cost of Goods Sold (COGS) and/or revenue line, need to reflect the change that increases the margin.
Once your first month of data is available, you measure your actual results against what you had budgeted for that period to see if you are optimizing the profit margin. If nothing has changed, then more operational action needs to be put into changing the actuals.
Again, this was all driven from the fact that you put in the work to finalize a budget.
Decreasing Tax Liabilities
Another scenario may be that you want to decrease your overall tax liability while keeping as much profit as possible. This is referred to as Tax Planning!
Just as in the profit margin objective, in order to plan a decrease in tax liabilities, we need to budget and mark out a plan of how to do that.
Let's assume that the business is a service based business and tends to have consistent revenue and expenses year over year.
In prior years, the owners paid hefty taxes because their profit margin was so high and there was way too much profit for the Government to chew on! In other words, not enough expenses to bring the taxes down.
The key to decreasing the tax liability of a business like this is to increase spending in exchange for increasing the cash you put in your pocket!
How do we do that? A good use of extra cash is to make sure your accounting is in the hands of someone capable of, not only having accurate books, but also helping you build the business further.
Seems like a good use of funds so let's budget in accounting and use the assumption that you will spend an extra $50k in accounting costs during 2024.
The accounting expenses, due to the nature of work, will reap an estimated $75k in added revenue and decreased expenses because an accountant is running the show.
Notice that you increased your expenses by $50k, which will decrease your initial tax liability, but also create an extra $75k in net profit, a total of a $25k swing. Your overall tax liability went up BUT you absorbed more profit than if you had not spent the money!
Accounting is only one area that you could increase spending in. When reviewing areas to push cash to, make certain that the expense you are going to incur, does some sort of good for the business, or others outside the business, such as charitable contributions.
Start Budgeting to Achieve Business Objectives!
These are two very simple examples, but what makes these two goals achievable is that there is a budget in place to determine if you are headed towards or away from your ambitions.
Budgeting is not just a way to measure results, it also helps to keep people accountable, in the company, to the laid out spending and revenue expectations. If you don't keep people honest, they will blow your money.
If, like many other business owners, you feel like you don't have the time to even think about budgeting, then, as suggested above, hire an accountant that will work along side you to accomplish those business objectives you have out in front of you. Just make sure to do it with a budget!
Blue Collar CFO