Three Steps To Effective Budgeting And Forecasting

Written by Joe Driscoll

November 22, 2009

Budgeting and forecasting have never ranked high on the list of favorite tasks for the small business owner or the major company executive. However, if planning and controlling are two of the basic tasks of management, budgeting and forecasting must be done.

The “three step method” is a procedure that will get the job done for the small business owner and give an overview to the major company executive. It will yield maximum results with minimal input.

Let’s begin with making a couple of assumptions. First, “facts is facts” so lets be realistic and use the information available to us. Second, although nobody can predict the future, nobody knows our business as well as we do so let’s not be reluctant to make a prediction. And finally, we are most concerned with directions, trends and relationships and not with decimal point accuracy. In fact , since we can’t foresee the future we know we won’t be accurate. So let’s not get hung up on accuracy, just ballpark the numbers and get the show on the road.

The three step method requires three pieces of paper. Make thirteen columns across the top of the first page. In the first twelve put your monthly sales figures for the last year and in the final column put the yearly total. Round off the numbers so they are easy to use. Do not get hung up by incomplete information and don’t waste time on excessive information retrieval. For example, if you are trying to forecast for the year beginning with January and its only October, what should you use for the last three months of the current year. Guess! That’s right, guess! You won’t be that far off.

Next, take no more than one hour and think of all the factors that effect the sales in your business. Choose the three factors that will have the greatest influence on your business in the coming year. List them under your previous years sales including a plus or minus number for the percent that you estimate each factor will impact your next years sales.

Below the three major factors list your three major customers. If your business doesn’t have distinct customers, improvise. If you are in the retail business, list your three big sales periods. For example, Christmas, Labor Day and July 4th. Next to each of the three major customers, estimate the percent change in their next year’s purchases.

Finally, list your three major competitors and the percent impact they may have on your business in the coming year. If your business doesn’t have direct competitors, list the major competitive factors such as new technologies, substitutable products or changing fashions.

You are now looking at one piece of paper with a row of numbers across the top and three lists, influencing factors, customers and competitors, with each list containing three items. Now reproduce the chart at the top of the page on the bottom of the page. Only this time, after reference to the top numbers and evaluation of your estimates in the three sets of three, write in your forecast for the coming year. Take less than one hour and adjust the numbers until you are comfortable. You should now be looking at the world’s best preview of your business for the coming year.

Take a second piece of paper and begin to examine the costs involved in the operation of your business. For different businesses, the emphasis will vary here, but remember to stay with the threes and keep it simple.

Divide the page into three equal segments. Label the top section cost of goods sold and make the thirteen columns as you did on the first page. Fill the columns in with your cost of goods sold for the current year. If the information is not easily available, estimate. If you don’t have access to monthly information, take the annual information and estimate the monthly allocation or just do an annual analysis.

Calculate what the cost of goods sold was as a percent of sales for the comparable period. Take the January cost number and divide it by the January sales number on the top of the preceding page to arrive at the percentage figure. List the three major components of cost of good sold. Briefly consider what is in store for each of these components in the year ahead, and estimate a plus or minus percent for each. At the bottom of the first third, reproduce the thirteen columns. Evaluate the current years experience and consider the three major elements for the coming year. Make your forecast for the year ahead and compute what the the cost of goods sold will be as a percent of sales for the coming year.

In the second and third sections, review your administrative expenses and miscellaneous expenses in the same manner. Make sure to identify the three major elements for both categories.

On the third and final page, use the forecasted numbers to create your projected income statement. If you like what you see, get about the business of making it happen. If you don’t like what you see, you’re lucky because there is still time to develop strategies and take action to influence the coming year. That’s the real payback. If you wait till next year, its to late.

The three step method will give you a realistic look at the future with minimal effort. Because it’s your business, you will be able to adapt the three step method to explore other areas of your business in greater depth.

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