Navigating financial horizons: business planning and budgeting essentials

As we dive into the next chapter of our blog series on crafting a sustainable finance function, we discuss the exciting processes of business planning and budgeting and how they are essential for charting the course of your organization’s success. Let's explore key areas of focus:

What is Budgeting?

Essentially, a budget is a plan of how your organization expects to earn and spend its financial resources for a given period. Growing businesses commonly prepare budgets for the annual periods and compare budgeted and actual results monthly. Budgeting is a process that lays the groundwork for financial stewardship and resource allocation through the creation of those budgets. It is important for a company to develop a comprehensive budgeting framework that aligns with their strategic objectives and operational priorities.

For growing companies, the three essential components of a good budget are:

1. Revenue Forecast: Revenue projections are a critical component of a budget because a company must know how much money it expects to make before determining how much money is needed to cover costs. Revenue forecasting not only provides organizations with a clear picture of expected income but can also serve as the starting point for discussions surrounding non-financial metrics such as headcount planning. In our experience, the most effective budgets include revenue projections that are easily adaptable to shifting performance expectations and are frequently updated throughout the year.

• Operating Expenses: Planning for andunderstanding operating expenses is an essential part of the budgeting process because in many cases it is easier to control costs than it is to increase revenue. For growing businesses, significant items to account for in an operating expense budget include payroll, rent, and other infrastructure costs like IT. Budgeting for operating expenses allows businesses to take the necessary steps to control costs, avoid overcommitting resources to lower-priority initiatives, and maintain profit margins that align with company or industry standards. If organizations fail to commit sufficient resources for operating expenses, it can disrupt operations, tighten cash flow, and lead to unexpected budget cuts that will negatively impact employees. 

• Cash Flow Projections: Cashis the lifeblood of a growing business, and therefore projecting cash flows is a critical component of the budgeting process. Cash flow projections go beyond ensuring a sufficient amount of cash is on hand at the end of a budget cycle; they chart out the timing of cash inflows and outflows throughout the budget cycle to meet various obligations. By forecasting cash flows, leadership can effectively manage liquidity, enabling organizations to meet debt and equity obligations, handle unforeseen expenses, make strategic investments, and cover routine operating costs.

Who Should Be Involved in the Budgeting Process?

A budget is a tool that is only as good as the information and assumptions used to create it, which is why it is critically important to involve the right people in the budgeting process. For a growing business, we recommend that the following key players are involved in the preparation or review of the budget and its underlying assumptions:

1. Executive Team: Top executives, including the CEO and CFO, play a crucial role in guiding the organization toward success by formulating growth strategies, establishing ambitious yet attainable profitability targets, and implementing risk management approaches to navigate economic headwinds. Given their responsibility for steering the company forward, their involvement in the budgeting process is essential, as the budget serves as a blueprint for the organization’s overall performance.

• Department Managers: Department managers possess a more detailed understanding of the specific areas they oversee compared to company executives. Their insights are crucial for accurately projecting the financial resources required to fund projects and expand their teams. They provide key input in evaluating the budget’s underlying assumptions, including ensuring the correct allocation of resources, assessing the attainability of departmental performance goals, and determining the reasonableness of investments in team initiatives.

• Finance Team: Finance teams are vital to the budgeting process, as they possess a comprehensive view of all divisions within the organization and maintain direct communication with leadership to understand the company's overarching profitability targets and financial objectives. Their responsibilities include conducting various levels of financial analysis, assessing cash flow, and calculating key financial health ratios. These skills make them essential for evaluating the feasibility of the company’s financial projections.

The inclusion of all of the above perspectives allows for a more balanced view of the business that considers both the day-to-day operations as well that long-term corporate goals.

What are Some Advanced Budgeting Considerations?

Beyond the fundamental financial statements and planning for operational cash inflows and outflows, it’s important to consider some higher-level areas of the business when creating the budget, such as:

Tax Strategy and Planning: Depending on you or your organization’s objectives, having a tax professional involved in the budgeting process could be a great way to save money. In the tax world, it’s true that a pound of cure is worth an ounce of prevention, and considering income taxes alongside the operational budget can provide you with significantly more options than cramming in some additional qualifying expenses before the end of the year. A tax professional that is well informed about your business will be able to help develop a tax strategy for the business and keep you one step ahead all year round!

Exit and Liquidity: Two of the most common sentiments among our business owner clients are wanting to make the next move of an exit or a liquidity event. Business owners that use their budgeting process to prepare for these events in advance have a significant advantage over those that don’t. Involving the right professionals early in the process allows for deliberate planning for transaction costs as well as operational spending to maximize the potential return on a sale.

Mergers and Acquisitions (M&A): When done properly, acquiring another business can be the best way for your business to grow quickly. However, if done improperly, it can quickly become a huge headache for everyone involved. When planning for M&A activity, a business should not only consider the price of the target business, but also the costs of professionals involved in the process, onboarding and transition costs, and any contingent payments that could come out of the transaction. If your business is contemplating purchasing another business, we strongly recommend proactively planning for those additional costs to ensure everything goes as smoothly as possible.

Effective business planning and budgeting are essential for steering your organization towards its desired financial future. By implementing a robust budgeting process and involving the right professionals proactively, our clients are empowered to seize opportunities, mitigate risks, and achieve sustainable growth. At Siegfried Advisory, we understand the importance of effective business planning and budgeting from the first real budget to the strategic exit. Please get in touch with our team to learn more about our unique perspective and individualized approach. We would be thrilled to help support your goals!

This article was contributed by John Peatross, Senior Manager and Kevin O’Leary, Manager in Financial Advisory Services at Siegfried Advisory. You can contact John or Kevin directly at [email protected] or [email protected].