On Budgets

We're now five months into the year and if you don't have a Plan for Profit (less glamorously known as a budget), let's get it done. If you do have a budget, you may be able to take it to the next level and find it even more useful. A budget is not just a piece of paper to develop, check off that it's done, and stick in a file. It is the way to achieve the desired results for your business and deal with the ups and downs of a given year.

Build your budget. Your aim is to replicate the Profit and Loss statement that at the end of the year will show the outcome you desire, while at the same time using realistic projections. What production volume can realistically be achieved given your company setup and your economy?

Next, figure what your job costs or costs of goods sold will take from that volume. Here we meld the answers to two questions: What gross profit percentage should your markup produce? And what gross profit do you typically produce?

If your job costs typically overrun your projections, you'll want to make allowances for that. For instance, you may be marking up 57% for a 36% gross profit but actually coming out with only a 31% gross profit. You'll want to have a plan for stemming job cost erosion, and if you feel you can do that, you might choose to figure a 33% or 34% gross profit.

Out of that gross profit you now figure each and every line item of overhead precisely. Also, what new expenditures might you be planning that you didn't have in 2004? Maybe you plan to add a clerical person and they will need a desk, computer, software, etc. Be sure to include your salary as overhead or job cost. You are a company expense.

Now, do the math to see what will be left as net profit. Oops, none left? You'll need to go back and raise volume or markup or cut overhead or all three.

Keep reworking the budget until it all fits and you feel you can achieve the targets. Now you have your plan for profit!

Monitor your budget on a monthly basis. Many companies just divide every expense by 12, but that's the unsophisticated and least helpful way to look at all this. Instead, break your volume (revenue) down by your typical seasonal swings. Maybe January and December are weak months for volume. Look at the past couple of years by month and attempt to project how your volume will come in. That will also give you the typical job costs for those months.

Now, break down monthly overhead, which tends to be steadier. But still, don't go to the divide-by-12 rule here. Your rent may be the same each month, but if you pay payroll every week, some months will have four pay periods and some five. You may pay insurance in chunks rather than monthly. Your new clerical person won't be hired until July, so their expense won't hit until then.

Put this extra work into your budget and now you have a much more useful budget that will predict when you will have negative net profit months — even if the year ends with a profit. Now you can have a monthly Budget to Actual report that is much more accurate.

Some companies take this a step further and develop a “waterfall” budget that drops the actual P&L into each month as it occurs and then redistributes the variances that result over the remaining months. Do this and you'll have reached Budgeting Nirvana!

So even though May is upon us, if you're going bare (without a budget), please cover up now! —Linda Case, CRA, is founder of Remodelers Advantage Inc. in Fulton, Md., a company providing business solutions through a network of experts and peers. 301.490.5620; linda@remodelersadvantage.com;www.remodelersadvantage.com.