Business budget planning includes planning for when you have no incoming revenue. Here are some budget planning tips to stress-test your budget.
Many businesses make the mistake of skipping a budget. This can create a cash flow problem for the business and ultimately lead to failure. In fact, 82% of business failures are due to cash flow problems. Budgeting helps your business ensure good cash flow and also enables you to test situations where your business may be under financial strain.
According to McKinsey, “financial stress testing, or scenario-based forecasting, is a corporate planning tool that helps executives manage under pervasive uncertainty.” Once you stress test your budget, you can plan for unexpected financial expenses or economic slumps.
The following steps for business budget planning can help ensure your business can weather a financial downturn.
1) Review Your Annual Budget
The first step is to review the annual business budget. This ensures you’re on track with your spending. You want to have enough cash to take on important projects and run essential campaigns.
The easiest way to monitor your business budget is with accounting software, such as Quickbooks, that can track your sales and expenses. This makes tax filings and budget reviews much easier. Once you know your actual spending, compare that to what you have budgeted.
2) Determine Your Burn Rate
How much cash do you spend each month? It’s important to know how quickly you burn through cash to determine how much you need to have on hand in case of an emergency. A “burn rate” is the rate at which a new company spends its venture capital to finance overhead prior to creating a positive cash flow. Burn rate is the measurement of negative cash flow.
To determine your burn rate, subtract your monthly expenses from your income. For example, if you bring in $6,000 per month and spend $8,000 each month, your net burn rate is $2,000.
If you need a business loan, your burn rate helps you understand how much you need to ask for. A quick review of your accounting can let you know if you’re on track.
3) Identify Macroeconomic and Microeconomic Risks
What future occurrences could threaten your business? A loss in revenue can happen at any time. It could be due to increased cost of supplies, economic downturn, restrictions on business, and changes in the market.
Knowing as many potential risks as possible can help you prepare for them. Macroeconomic risks can include the GDP and unemployment. Unemployment affects certain businesses that rely on consumer spending, like entertainment and travel, because of reduced demand.
Some risks affect the supply of inventory in your business. For example, the cost of lumber is increasing because of a reduced supply in the market. This will raise the price of construction for homes and home improvement projects.
You can calculate the effect higher supply costs will have on your profit. Increasing what you charge your customers may improve your profit, but it could also cut into the demand for the items. Routinely testing out pricing structures can help you maximize profit while keeping demand high.
4) Identify Emergency Expenses
What would happen to your cash flow if you had to repair or replace equipment because of a flood or hurricane? What would happen if there was an earthquake that ruined your flooring? If your business ran deliveries, would you be able to survive if your delivery truck had an accident? Some potential emergency expenses that can arise include:
- Damage from a storm
- Automobile accidents
- Broken appliances
- Computer viruses
- Damaged computer hardware
Make a list of potential emergencies that you may face in your area. Find out how much money you may need to recover from each type of expense. Ensure that you have insurance to cover these emergencies and cash on hand to take care of any additional expenses.
5) Prepare for a Bad Month
Think of scenarios that could cause a reduction in business. Review your previous months and find your worst month for sales. What was the income that you had that month? What happened that month that caused the slowdown?
The following are some items to consider as you plan for a month with reduced business:
- Where can you cut expenses without affecting service?
- What resources could help you stay afloat?
- Can you get a line of credit or an additional business credit card to cover mandatory expenses?
6) Plan For An Extended Economic Downturn
Your business could face an extended period of poor cash flow, as evidenced by the downturn that began in 2020. This puts businesses at risk. Consider preparing a projected budget for three months, six months, or even an entire year. Analyze your current financial statements. Examine the profit, loss, and cash flow to uncover sales trends.
The recent pandemic is a good example of an unexpected economic downturn. In this instance, you likely evaluated what products or services your customers needed most or shifted your business model to incorporate online sales, curbside pickup, or home delivery. In the future, you may need to shift how you do business again. According to McKinsey, most businesses experienced over 10% growth in their online customer base because of the pandemic.
It may be wise to offer a unique service to ensure that your customers return. For example, restaurants that have survived the pandemic shifted from offering in-person dining to more takeout services. Grocery stores increased their delivery and pickup services during the pandemic to cater to customers’ changing demands.
7) Identify Your Loyal Customers
When your business is in a slump, your loyal customers are the ones that may pull you through it. It is important to identify your best customers and create a relationship with them. Nurture those relationships and those customers will be there for you during your worst months.
Build brand loyalty with loyalty cards and gift cards. Make sure that it’s easy for customers to do business with you by providing convenient payment options. Loyal customers are less price-sensitive and will stick with you even when you need to raise your prices. They may also refer their friends, which boosts your bottom line.
8) Create a Financial Cushion
Experts recommend having a six-month cash reserve on hand. Your burn rate can help you determine how much you need to get through a year when cash flow is poor. You can create a cushion by setting aside money each month and having an emergency line of credit on hand to help you out with emergency expenses.
9) Choose the Right Business Partners
The companies that you do business with can help identify your weaknesses and strengths. Partnering with great accountants and financial professionals is highly beneficial. They can help you evaluate expenses and identify where you can save money. National Merchants Association provides merchant accounts tailored to your specific business. We offer quarterly reviews of your account to ensure that you pay the lowest amount possible. Visit NMA today to see if our services are right for your business. At NMA, We Work for You™.