What are common mistakes in budgets and forecasts? I’ve compiled this list more than once during my four decades of writing, reading, and evaluating more than 100 business plans every year. This is my latest list.
A word about words: budget or forecast, you choose. They are essentially the same thing. Sales budget, expense budget, sales forecast, profitability forecast, cash budget, cash flow projection … whatever wording you prefer. I’m talking about running the numbers of what’s going to happen with your money, and regularly comparing what you expected to what actually happened (also called plan vs. actual analysis, or variance analysis).
Before I start my list, let me get this out: the worst mistake, by far, is where business owners don’t budget or forecast. You may know how this goes … busy selling, putting out fires, managing a team … who has time for forecasts? You check the bank balance and it seems okay.
The quickest path to peace of mind, for a business owner, is knowing your numbers. And those bank balances that seem okay may have looming threats like declining fundamentals, hidden problems, that don’t show up until it’s too late.
Run your numbers. You don’t have to be a CPA or have an MBA. You don’t have to do it all yourself. But whether you hire an expert or do it yourself, you need to know your numbers. And here are 4 common errors to avoid.
1. Type and category misalignment. Your budget should look like a spreadsheet, with months in columns and categories and types as rows. Make those categories and types match the information you get from your accounting as actual financial reports, such as accounting statements, sales reports, and so forth.
2. Ignorant guessing. Forecasting is guessing; but make educated guesses. Start next year’s forecast with last year’s numbers as a baseline. From there, estimate the differences between last year and next year. If you have a new business, find benchmarks and rules of thumb for your type of business. These are available online for free for some businesses or for less than $100 for most businesses.
3. Confusing profits with cash. This is especially dangerous for businesses that sell to other businesses (with sales on credit) and businesses that manage physical products and inventory. Sales on credit become accounts receivable, so sales in your Profit and Loss statements(P&L) aren’t actually money in the bank. Money spent on inventory doesn’t show up in the P & L, but it does cost you cash. Debt repayment and buying assets are other common spending items that don’t show up in the P & L.
4. Margins and delays. Too often I see sales forecasts that ignore the need to account for margins and delays. A business that sells products through retail channels will almost always have to deal with the standard margins that retail stores take. When my business sold packaged software through big box stores we had to sell to distributors for 60% of suggested retail price. Our sales forecast needed to reflect those margins through channels.