The Financial Forecast - Developing A Budget - Part I

In the last posting, I talked about the importance of knowing the score. If you don't know the score, you don't have enough information to make the right decision. Without a budget, you can't know the score.

Most people, whether in their personal lives or business lives, don't have a budget. They don't want to take the time and effort to create one. Why? The most common excuse I hear is, "I can't predict the future." They feel that budgeting or developing a financial forecast for their business is a waste of time because things change. .......and they are right - things do change. You get new competitors, new products are developed, new government regulations come into play, the economy changes, etc., etc., etc. Nevertheless, you have to plan. What most people miss are two very important factors. The first factor is that your plan is a means of measurement, not an absolute. The plan is there for analysis -so you can ask the "why" questions concerning your variance from the plan. Those "why" questions are vital to your success. The second factor is that the process of developing your financial forecast forces you to think and analyze BEFORE you make your decisions. Let me explain the second factor first.

There are two financial forecasts that every business should have. You should forecast cash flow and you should forecast P&L. I strongly recommend that you do both but if you only do one, do cash flow. Why? CASH IS KING. Businesses - large, medium, or small - don't survive without cash. You can't pay your employees or your suppliers with receivables or inventory. You need cash. So many new entrepreneurs focus on the P&L statement instead of on CASH FLOW. Profit is great but keep in mind that the P&L statement does not reflect what your cash position is.

OK, let's get back to the forecasting process and how the process itself helps you. No matter which part of the process you are working on, you need to think and analyze your business. If you are working on the cash in side you are analyzing how your cash comes in with questions such as:

• Which sales are cash sales and which sales are on credit?
• How many of the receivables will become cash in 30 days, 60 days, 90 days?
• Can I get more cash sales and less credit sales?
• Do I need a line of credit from my bank because of the amount of credit sales I have?
• How high should that line of credit be?
• How do I collect from deadbeats?
• Should I charge a late fee for people who take more than 30 days to pay?
• What percentage should that be?
• When do I turn over deadbeats to a collection agency?
• How many accounts will never pay?
• What dollar amount and percentage will the collection agency collect for me?
• What will my collection costs be?

If you think about your particular business, you can probably add another 10 to 20 questions to my list. The important factor is to THINK AND ANALYZE. Don't just put numbers into a spreadsheet.

The same is true on the cash out side of your cash flow forecast. Think about the money you are spending. The first question is, "Do I really need to spend money on that item?" If so, then you need to consider the following list of questions:

• Is it better to pay less and pay cash or is it better to pay more and get 30 day terms? (Hint: There is no right or wrong answer. What is best in YOUR situation?)
• Should I pay cash to get a lower price and pay for it with my line of credit?
• What is happening with prices on particular items I need? Are they stable, going up or going down? You need to consider that when forecasting.
• Do I have multiple suppliers or do I have just one supplier - and am I at the mercy of that supplier for price increases?
• Can I get competitive bids?
• Should I buy volume to get volume discounts or will I then have too much cash tied up in inventory?
• How should I pay my employees - weekly, bi-weekly, monthly?
• Should I pay all employees at the same time or can I have different positions on different pay schedules?
• Is my rent (or property taxes if you own) likely to increase soon? Is there anything I can do about it?
• Do I really NEED to be spending this much on rent?
• What equipment will most likely need to be replaced soon?
• Have I considered maintenance costs, breakdowns, etc.?

Once again, I am sure that you can add many more questions depending on your business. The point, once again, is that the process itself, regardless of the numbers, causes you to THINK IN ADVANCE.

In the next posting, we will discuss the best ways of developing the financial forecast for your business. As always, we invite you to post your comments about this blog and to make suggestions about any future topic.