Has your company ever been in the position where the budget you put together in the fall seems less and less relevant as each month goes on? If so, read on.
Revenue-related variances:
If the products you sell are of a monthly recurring charge nature (MRCs), your monthly revenue on your accrual-based financial statements are more impacted by what you sold in the months to date than they are the current month. For example, if you planned to sell, turn up and recognize $10,000 of new MRCs each month of the year, you would have added $780,000 of additional revenue for the entire year. However, if you only sold $5000/mo in the first six months of the year, can you hit your annual budget by selling $15,000/mo July – December? Even though you would have still sold $120,000 of new MRCs in the year, you’re only going to see $600,000 on your year-end P&L leaving you $180,000 under budget.
Getting to your original goal of $10,000 of new MRCs per month may be possible—maybe even $15k/mo. But can you get to $24,000/mo of new MRCs July to Dec? That’s about what you need to do to hit your annual revenue goal of $780,000 new revenue on the P&L.
Let’s assume you can’t. Should you continue to use your original budget and continuously be way under (or over budget) or re-budget? I say keep comparing your actual performance on the P&L to your original monthly and YTD budget. To ignore the original budget is equivalent to ignoring your goal for the year, and ignoring one goal makes future goal-setting, for you and your team, less and less important and effective.
So, what should you do? In addition to continuing to compare your actual performance to your original budget, I recommend creating an updated plan or forecast for the balance of the year. Using the example above, if you’ve righted the sales ship and can establish $15,000/mo in new MRCs as the stretch goal, then create that goal and measure performance against it. When you do a monthly financial review, you will see that you’re $XX,XXX under budgeted revenue for the month and YTD but at revised goal for new sales.
The same concept works if you’re significantly over budget. Let’s say the company sold $15,000 in new MRCs each month during the first six months of the year. Those sales are going to add $855,000 to your P&L by the end of the year, but you certainly don’t want to stop selling. If you set a revised sales goal of $15k/mo for the rest of the year (or of course more if that’s appropriate), then measure sales performance against that new goal in addition to comparing actual P&L performance against the original budget.
Expense-related variances:
Whether your variances from budget are revenue- or expense-related, continuing to compare performance to your original budget is almost always the best thing to do. If your expenses have changed significantly and by design, I would also create an updated forecast of your whole P&L so that you can compare actual P&L performance to the planned changes you’ve made and captured in the forecast.
Here’s an example. Let’s say you start the year with 5 sales people and all the associated costs for each one (salaries, payroll taxes, benefits, memberships, travel and entertainment, etc,) and you decide to add five more to increase sales even further. Comparisons of actual to budget for sales expenses will always show you over budget. While it’s easy to say “it’s over budget because of the new salespeople,” it’s also easy to miss that sales expenses are also higher due to other non-planned reasons. A comparison of actual to forecasted sales expenses will highlight those items in excess of the designed changes.
The same also applies to planned reductions in expenses. You might see expenses under budget, but without a comparison to forecast, will you be able to see how much more is being spent then you planned?
One final thought: keep the significance of your changes to sales or expenses in perspective. You don’t need to reforecast or do additional analyses each month for small changes.
If you’d like to discuss this further, please reach out to me at llevy@CFOoptionsinc.com.