A couple week ago, I wrote a post about the benefits and misunderstood nature of personal budgeting. It pointed to the fact that, in the long-run, budgeting actually increases freedom and reduces restrictions.
While I’m not going to re-write that post here, let me simply reiterate that those same things are true about having an operating budget for your business, especially in the following ways:
It Doesn’t Have to Be Complicated
In my time working with businesses, I’ve found that there are generally a few major categories that should be tracked regularly and closely… and then there’s everything else.
The everything else details or line items can (and will) always require some of your time and attention. But, in the industries we specialize in serving, the big picture of your business can generally be seen and planned with focus on three major categories:
These items make up most of the spending in businesses we serve. More to the point, a good operating budget for your business would involve setting targeted maximum percentages (of sales/revenue) for your business to spend on each major category.
For example, a starter operating budget could be as simple as this (using hypothetical % figures that will not fit all businesses):
- 30% Labor
- 30% Materials
- 20% Overhead
- 20% Net Income
While this budget is simple and short, the more complex part is ensuring the right % targets are set for your business operating budget. And I will say ideal % figures do vary by industry, company size, location, and other factors.
Thus, it’s difficult to provide hard and fast targets for all to use, and your own experience plus input from like-kind competitors (perhaps from non-competing areas) will be more useful guides as to targets that are right for your business.
It Will Make You More Efficient as a Manager
By having an operating budget such as the one illustrated above, you should be able to quickly spot when your business is over/under spending in any of the major areas.
An owner who knows what their percentages should be, especially in these categories, should be very time-efficient in making performance evaluations of their business. All that is needed is the owner’s knowledge of the percentage targets and a P&L report with a % of Income column.
It Will Help You Make Decisions
When your business establishes targeted percentages, decision making becomes easier. For instance, if your targeted labor maximum is 30% but your business has been running at 28% and you need to hire more workers desperately… boom, your numbers are telling you you’ve got up to 2% of sales/revenue to spend on new hire(s)!
Likewise, if your overhead target is at 20% and it’s been consistently running at 22-23% but labor and materials are in line with target, that info is telling you some trimming may be needed in your overhead cost structure – to the tune of 2-3% of sales/revenue.
Or, if your overhead is coming in at or below its targeted percentage, but labor and materials are consistently too high, that info is telling you that production costs are the issue to focus upon.
If that’s the case (i.e. both labor and materials over budget %), I will first say that multiple issues could be the cause, including inefficient or poor work on the job site. Among them though is the possibility that when both persistently come in over budget, it is sometimes an indicator that pricing is being under- or mis-estimated.
It Will Force You to Make the Right Decisions
We all do it, don’t we? Over-spend on what we like? Under-spend on what we don’t like?
If that’s an issue for you in managing your business, the objective standard of set % targets should help you overcome that tendency.
For instance, if an owner likes paying their crew guys and wants them to have the best or the best materials all the time… but has no support staff or infrastructure, pretty soon a sizable and growing business will malfunction due to lack of a support.
An operating budget should warn you about such an imbalance and force you to even the scales and make the right decisions. Trim back a bit on crew pay or size and materials quality. With the cost savings, develop or expand your business’ administrative capabilities and infrastructure.
We’re Here to Help
If you need to set targets for your operating budget, I encourage you to utilize our free Annual Goals planning tool available for download here. And if you need any help from us setting your budget or generally planning and managing your business, we’re here to help and we encourage you to contact us here.
Long live small business! Long live small business owners!
Jim Smith, CFP, Founder, PERFORMIDABLE, LLC