Last blog I wrote about comparing your business’ actual performance to your budget – called variance analysis.  Once you have this information you should ask your self – so what?  What does this tell me about my business?

The answer to “so what” should be your forecast.  Your forecasts represent predictions of future performance (and achievement of budget targets) based on current information.  You might ask – why do forecasts if you’ve done a budget – what’s the difference?

Here’s a non-business example to illustrate.  Suppose you plan a 4-day road trip from New York to Los Angeles, you plan to make the following stops: Chicago, IL; Lincoln, NE; Grand Junction, CO; Los Angeles, CA.  To be safe you won’t drive more than 12 hours per day.  To relate this example to financial monitoring, the overall objective is to make it to Los Angeles in 4 days, and reaching each destination within a 12 hour driving day represents individual budgets.

Assume on the first day your car gets a flat tire outside of Cleveland and have to spend the night there.  To relate this to financial monitoring, your variance analysis would show that after 12 hours of driving you expected to be in Chicago, but you are in Cleveland.

If you continue your 12 hour driving days from Cleveland, your forecast could be represented by a new stop plan: Cleveland, OH; Omaha, NE; Moab, UT; Los Angeles, CA.  Or if, you the overnight stop in Chicago was mandatory, then you may have to postpone your eventual arrival in Los Angeles by one day with a new stop plan: Cleveland, OH; Chicago, IL; Wichita, KS; Albuquerque, NM; Los Angeles, CA.  This represents a different forecast.

Your ability to forecast will allow you to make a decision (whether or not to stop in Chicago) and take an action (let your counterpart in Los Angeles know your new plan) on your trip.

For your business, the forecast does the same thing.  It is the “so what” answer to your variance analysis – it tells you the impact of continuing your current performance will have on achieving your target, and allows you to make new plans to achieve or exceed your targets.  Businesses that are forecasting to be behind budget targets can make changes to achieve the annual budgets, and those that are forecasting to be ahead of budget targets can decide to increase the budget targets or invest for the future.

Your business forecasts should be based on the same drivers as your budget and variance analysis and should be done on all of the key elements of your business (demand or sales, costs, capital investments, cash flow, etc.).

To pull financial information together and use it to drive your business

–          Once you’ve completed your variance analysis, ask “so what?”

–          To answer this question, create forecasts of key elements of your business, based on current information

–          Use forecasts to develop new action plans to achieve or exceed your business targets

Copyright 2013 Ryan Luke.  All rights reserved.


Last blog post I talked about using drivers (measures used to assess business performance) to build budgets for your business.  Once you’ve developed your budget, it shouldn’t just sit on a shelf (or in a hard drive folder) until the next budget cycle.

Again, the real value is the use the budget to drive your business.

An annual budget represents one step in the progress in your financial goals.  A regular review of actual performance against budget (variance analysis) helps you determine whether you are making the right steps or whether you need to make changes in order to meet your goals.

When a budget is built using business drivers, then comparing actual performance to budget (called variance analysis) becomes a much more valuable exercise.  A simple over or under budget for revenues or expenses does not provide much insight into what is happening in the business, or what needs to be done next.  Variance analysis using drivers allows business owners to identify weaknesses or strengths in the operations, customer base or supply chain, and helps them quickly develop a plan to correct weaknesses or take advantage of strengths.

Last post I introduced an example of a restaurant with a sales budget for September of $375,000.  It looked like this:

# days (30) x average # hours per day (10) x expected average guests / hour (50) x expected average spend / guest ($25) = sales $375,000

In this example, if at the end of September, the restaurant had actual sales of $405,000, the owner would see a positive sales variance to budget of $30,000.  This information does not offer much insight as to what has worked well during the month.  If actual results were broken out as follows:

# days (30) x # hours per day (10) x average guests / hour (45) x average spend / guest ($30) = sales of $405,000

The owner would see that the number of customers was lower than budget, resulting in a negative variance of ($37,500) (30 x 10 x 5 x $25).  Also, the sales gap was more than made up by higher spend by those customers, resulting in a positive variance of (30 x 10 x 45 x $5) = $67,500.  This information is more valuable, in that it suggests that although fewer customers are coming in, they are spending more when they do, and that information can help the owner make decisions to help increase sales in the future.

In the example from the last post, I suggested that the owner could make this assessment during the month (e.g., Sept 16) rather than waiting until the end of the month.  Working with drivers allows you to monitor and assess business performance as frequently as you need, rather than having to base your assessment on accounting cycles.

After you have built your budget using business drivers, the next steps are:

–          track actual performance of your company’s business drivers and compare this to what was assumed in the budget,

–          calculate the financial impact of each business driver variance (and determine what that variance tells you about business performance), and

–          use this information to develop a plan to correct business weaknesses or exploit strengths.

Copyright 2013 Ryan Luke.  All rights reserved.

We’ve heard that budgeting is an important process to managing your business, but the real value is not in preparing the budget(or forecast) but to use it to manage your business.

A budget can be used to:

1) Map the financial milestones on your way to your ultimate goals,

2) Give you checkpoints to measure your progress,

3) Highlight roadblocks to your progress and give you alternative paths to your goals,

4) Provide a framework when making business decisions.

How can you build a budget that will provide the above benefits?  Over the next few weeks I will provide some tips to help you do that easily and effectively

Tip #1.  Use business drivers to build your budget.

“Business Drivers” are measures that you use to monitor your business on a regular (at least monthly) basis to assess sales, operational or financial performance.  For example, a restaurant may use number of guests per hour or total $ per guest check; a consultant may measure number of hours per project, or utilization %; a real estate agent may monitor commission dollars per transaction or number of signed contracts per prospect.

If these metrics are important enough to monitor frequently, then they should be used in building the budget.  When this is done you can more easily create a budget that makes sense to the way you look at your business.

As an example, suppose a restaurant was preparing a sales budget for September.  The owner might take the following approach:

# days open (30);  average # hours per day (10);  expected average guests / hour = 50;  expected average spend / guest = $25.00

sales = # days open x average # hours per day x expected average guests / hour x expected average spend / guest = 30 x 10 x 50 x $25.00 = $375,000

Building a budget this way allows you to more easily track progress against the budget, determine why sales and expenses differ from the budget, and what to do to compensate for shortcomings, if any.

In the restaurant example, if on September 16, the owner saw the following actual results:

Actual average guests per hour = 40;  Actual average spend / guest = $27.00

The owner could estimate that at that rate, the restaurant would achieve the following sales in September – 30 days x 10 hours/day x 40 guests/hour x $27.00 / guest = $324,000, or $51,000 short of forecast.  The owner could then decide to hold a special promotional to increase guest count (to achieve the sales objective), or decrease costs to compensate for lower sales (to achieve the profit or cash objective).  By using consistent drivers in the budget business owners can anticipate the shortfall early and make a decision to help them meet their financial objectives.

So to make a budget that helps you manage your business or practice:

–          identify the metrics that you use to monitor your company’s performance (drivers),

–          use expected or targeted levels of these drivers to build your budget, and

–          compare actual performance of these drivers to the targeted levels to assess your progress and make necessary changes.

Copyright 2013 Ryan Luke.  All rights reserved.