Budget

What it means

A budget is an approved plan of revenue and cost for a period, usually a year, broken down by month and by owner. It is a commitment to yourself: performance is measured against it.

It differs from a forecast in that it does not change during the year. That stability is what makes it a yardstick - adjust it monthly and there is nothing left to compare against.

A cost budget and a cash budget are not the same thing: a cost appears in the books when it is incurred, a payment when the money leaves the account. Buying a machine hits cash at once but the profit statement gradually through depreciation; so a budget can show a profit while the company still runs out of cash in some month.

How it works in practice

It is built bottom-up: expected volumes times prices, direct costs, fixed costs from contracts, payroll from planned headcount, and investment. A useful budget includes a cash flow plan, not just a profit statement.

It is reviewed monthly against actuals from the books. A variance is explained by cause rather than by a percentage: different volume, different price, different consumption - that is what leads to a decision.

So that the budget can be compared with actuals without retyping anything, we set up the books in the same structure: analytical accounts or cost centres matching budget lines and owners. The monthly close then shows plan, actual and variance line by line, and the variance meeting does not open with a hunt for where a cost was posted.

What to watch out for

A budget resting on one scenario is fragile. The minimum is working out what happens at a quarter less revenue, and knowing the break-even point. Equally, a budget with no link to KPIs or ownership is just a spreadsheet.

Spreading the annual budget evenly over twelve months is convenient, but in a seasonal business it manufactures false variances: January looks like a loss, summer like an unexpected profit. The monthly split should follow the real seasonality of revenue and the dates of large payments, such as annual insurance or tax advances.