Creating a budget for your startup is a lot like mapping your route on a GPS before you set out on a road trip. Like a GPS, your budget provides some quick navigational data of your business.
As you make an intentional effort to drive cash flow in your business, the budget provides data-driven accountability for:
- What you want to accomplish
- When you want to achieve it
- What has to happen to get there
Without a budget, your business is just a series of activities, then hoping for a good result.
Your budget, combined with detailed, timely reporting provides a map to build the business you want (and make adjustments when you’re off track).
Start with Goals and Assumptions
Say you want to hit $500k in monthly recurring revenue (MRR) before the end of the year while maintaining a 15% margin. To achieve this goal, you’ll want to outline a budget for making that happen. During the budget process you and your team will define assumptions for:
- Sales and Revenue
- Cost of Goods Sold (COGS) or Cost of Service
- Research and Development
- Administrative Expenses
- Other Miscellaneous Assumptions
The list can go on and on, as granular as you wish and as is helpful to you. Critical is your plan for achieving the targets and outlining the milestones you’ll need to hit along the way.
However, during the course of the year, you’ll inevitably slide off track. We’ve all heard the line about how airplanes are off track >95% of the time. But because the pilots are constantly checking and correcting for small deviations, we get to our destination as planned.
Running a startup is similar.
Budget variance helps you achieve your goals by letting you regularly measure your performance vs. your targets, and course-correct wherever necessary.
Track Budget Variance
Let’s assume that your startup created a robust budget with challenging, yet achievable, goals at the start of the year.
First, you’ll need consistent, reliable actual figures delivered in a regular and timely manner. This allows you to accurately track variance to budget. For most companies that means monthly reporting of the P&L and cash flow statements.
A good budget variance report will show both the current month on its own and your year-to-date (YTD) progress, always compared to the budget. The variance, of course, is the difference between the goals set in the budget and your team’s actual performance.
Seeing the progress allows your team to quickly identify topics that are getting off track. It could be anything from marketing spend going over budget to sales not growing as fast as desired.
When variances are identified, the critical step is identifying corrective actions and ensuring they are implemented.
Improved Variance Creates Better Cash Flow
The best part about budget variance reporting is that it becomes motivating. With your budget variance, you are getting a crystal clear vision of how cash is moving through your business.
The closer you are to your budget, the healthier your cash flow will be (assuming you’re not knocking it out of the park in terms of sales). You planned a budget with the right amount of cash flow necessary to maintain your operations and fund your growth.
As you get better at controlling costs and delivering goods and services on time, so too will your cash flow improve. Furthermore, monitoring your budget variance and steering against negative trends helps you make sure you’ve got enough cash coming in.
Improve Budget Accuracy (Over Time)
Regular review will mean your expenses become more predictable and accurate. After a while, you’ll start to notice trends in certain areas.
Some departments might require far more resources than originally planned, and others will never consume their allotted budgets.
This helps you budget better in the following year. More accurate planning allows you to improve resource allocation and do more with less. The need to create smaller buffers and less slack in the system allows your operation to function more efficiently.
Also, if you’re a younger company, it might make sense to reevaluate your budget every three to six months. Many major corporations consider the annual budget as set in stone. But in the fast-growing, constantly changing environment of a startup, assumptions you made half a year ago may no longer be reasonable or valid.
Include as Part of a Financial System
Your budget should include more than sales values and margins.
A useful financial system needs to quickly and easily show you budget variance for all key drivers, not limited to sales and margins. A good system can also include forecast budget variances or other metrics like payroll or and sales & marketing metrics.
These KPIs should be budgeted as well, and your team’s progress based on these critical metrics can be tracked and improved.
Use a Detailed Accounting Solution
As with any goal setting, defining a target and regularly measuring your progress is the best way to ensure you achieve your goals.
Budget variance allows you to do just that. Timely tracking of where your team is performing well and which areas need a little bit more attention can help ensure you’re meeting your targets.
If this sounds intriguing and you’re interested in hearing more about how you can use budget variance to achieve goals, set up a free consultation with Founder’s CPA. We specialize in setting up finance and accounting systems for startups.