It’s the CFO’s favourite time of year – budget time. The time when you build the most important tool for managing your business for the coming 12 months. Your budget shows the financial results you want to achieve, but more than that – it is your means to motivate, coordinate, and ultimately succeed. In this article we’ll explain the budgeting process in human terms, because budgets ultimately guide staff behaviour.
Budgeting success depends on the person in charge
There are many ways to build an annual budget (top-down, bottom-up, zero-based, incremental, activity-based, and more). No matter which method is used, just remember is that budgets are designed by people for people. The head of the business (Owner, CEO, MD, or whatever the title is) needs to make sure that staff within the business understand aspects of the financial budget that are relevant to them. They also need to understand exactly how their work is reflected in those financial targets. The reason for this is simple – measurement drives performance.
The art of setting targets
Targets are set for two main reasons:
- Coordination – making sure the different parts of the business are synchronised with each other. For example, planning for your sales target to grow 50% while keeping production/supply chain at the current year’s level will result in product shortages and poor sales performance.
- Motivation – targets will only motivate staff when they are challenging, which means there is also a risk that they can’t be met. Easy targets demotivate because there’s no feeling of achievement from beating them.
What if some targets are not met? That’s ok. The risk of failure needs to be there so that success feels rewarding. This means the outcome will be that some will succeed and some will fail. This keeps everybody motivated and on average overall business targets are met.
Communication, communication, communication
We mentioned above that staff need to understand how their work can help achieve budgets. Budget assumptions become performance targets for managers, team leaders, and staff. Your assumptions might be similar to these examples:
- Number of sales orders x average order value
- % purchase price reductions negotiated during the year
- % chargeable time for direct labour
- Sales Activity KPI’s
- Sales conversion rates
- Marketing plan
- Project milestones
Performance targets should be well understood by the teams they relate to. Make sure they are clear, measurable, and reported regularly. This helps these KPI’s become part of the culture of your business.
No business is too small to have a budget
We all know that each business needs a plan, no matter how big or small it is. Your plan contains the goals that you strive towards. Budgeting helps clarify how to allocate your resources to achieve your desired financial results. It also identifies when additional funding is needed. If you’re not sure how to build your business’s budget, just ask us!