Davis & Bellomo

A new year often brings optimism and a fresh outlook. Between the passage of the extension of the Bush tax cuts and the recent generally positive economic news, entrepreneurs are looking forward to 2011. In anticipation of growth, many small-business owners turn their focus toward investments. With all this in mind, it is important to remain cognizant of core business principles and to examine both growth plans and finances with the same forward-looking eye.

Budget
Too often, financial information merely records the past, offering little utility beyond recapping a company’s financial history. Resolve this year to leverage forward-looking financial information as well as recording the operations of the enterprise. First and foremost, develop a budget. A budget is commonly viewed as an "accounting" function, but it should serve as a guide to determine whether a company is performing up to the expectations set forth in the budgeting process. For a budget to be most useful, it should include both the balance sheet and income statement. To illustrate why these related components are equally important, consider the following: The income statement may show that sales have met or exceeded expectation, while the balance sheet might indicate that accounts receivables are higher than expected, thus rendering cash levels below expectation. This would reveal a high-performing sales team, but a weakness in the collection process. Whenever significant variances from the budget exist, action must be taken to determine the cause of the variance. For instance, the example above calls for a review of the collection process to identify the cause of slow collections.

 Cash
The saying "cash is king" is prevalent, and with good reason, as it’s the lifeblood of any organization. Proper cash management is tantamount to running any business, and especially a small business. With a thoughtfully prepared budget as a predictive, forward-looking tool, cash management can be more effective. Along with budgeting, it's important to know when cash outlays are forthcoming, not only for regularly occurring or monthly items, but also for those that occur only annually. To understand how the budget and the cash management overlap, consider a physician whose liability insurance is due in June. In looking at last year's financial data, the premium of $24,000 might be budgeted as $2,000 per month, yet the total is due in full in June. The annual budget may be accurate, but the cash outflow of $24,000 will occur just once, in June. The budget should show the liability premium due in June, and the physician should plan for and be in a position to pay the full premium in June. Many businesses experience cash flow challenges throughout the year. With proper anticipation via the budget, action can be taken to smooth out these challenges, perhaps with a line of credit, as these challenges are very real, but short-lived. Thanks to proper planning, the small business owner can remain focused on running the business with the peace of mind that comes from an under-control cash flow situation.

Now to put this into practice when considering growth. Say a company decides to hire a salesperson. This salesperson will be charged to generate X dollars of revenue in a 12-month period. The cost of this sales person is the combination of the cash compensation, the cost of his or her benefits, and the payroll taxes paid by the company. It might be easy to update the budget to indicate that the expected sales revenue goals and the costs of the new employee will be incurred equally each month. But in reality, the salesperson may not produce as much revenue in the first few months as they acclimate to their new job, but the payroll costs will definitely be incurred and will require cash. Therefore, even if the salesperson meets or exceeds their sales goals for the year, there may be a greater need for cash in the first few months. This is important to take into account.

All companies would benefit from the use of a forward-looking budget and employing proper cash management. For those companies anticipating a more robust economy in 2011, the budget and the current cash flow provide a starting point for setting expectations for expansion plans and the financial impact of those plans. It's critical to remember that while the budget and the cash flow are important, they are both tools for measuring the company’s overall performance with respect to expectations.