Three Budgeting Mistakes to Avoid

Growing a business requires cash to fund inventories, accounts receivables, fixed assets and operating expenses. There are three basic budgeting mistakes all businesses should avoid when forecasting for a growth cycle.

1.     Underestimating Cash needs

Usually, the two biggest cash needs for a growing business are increases in accounts receivable and increases in inventory levels. You might be thinking that it is impossible for this to happen to you because it is Management 101, common knowledge. Things are not always so simple.  Business owners who have suffered a cash shortfall probably had the same thoughts. You are not likely to underestimate cash flow because you are unaware of the needs but because you make incorrect assumptions. As a business owner, however, you can make incorrect assumptions due to miscalculations. For instance: calculating for thirty days of receivables instead of forty. Many business owners may not think about the fact that an average thirty days’ term often requires three additional days to “make a check run” plus five days to account for mail delivery, and two more days for cash availability at your bank. Accounting for all these factors, it is important to consider that your clients will not always pay exactly at term. Realistically, how many of your clients pay before or exactly at the due date? Business owners should be realistic. Not having the right information is another source for incorrect assumptions that lead to longer delivery times or inspection delays at customs.

Read Case Study: Budgeting Business Case

2.     Wrong Timing Assumptions

Be aware of timing: a crucial assumption in your cash projections for the coming growth cycle.  Making the wrong assumptions with regards to timing of revenues and expenses could be as catastrophic as underestimating cash because the net effect on your business will lead to a shortfall in cash. During a growth cycle, some disbursements, such as marketing or selling expenses, have to be incurred well ahead of the new revenues, and it is not uncommon for revenues to take longer than expected. The additional time that your business needs to support the cash burn becomes a burden when your company is not well capitalized or well financed. To prepare for such circumstances, calculate how many months you can sustain the cash burn without any new sales? Then ask yourself, how many  days or months before your business runs out of cash?

3.     Ignoring additional investments

Information technology and operating systems upgrades are often ignored among small and midsize businesses. Do not make this mistake because it can stall your growth plans for a long period of time. When you commit cash to the growth of your business, you also need to commit cash to the growth of the infrastructure in order to support an expanding business. If you omit the cash requirements needed for capital expenditures, you will find yourself leading a highly inefficient business. Such inefficiencies lead to deterioration of profitability, further cash flow trouble, and decreased profitability.

Finally, go over your budget assumptions thoroughly because a couple of seemingly innocent tweaks on your assumptions could make the difference between a growing business and a face-to-face encounter with bankruptcy.