Budgeting Through Unpredictable Times - A Guide
April 6, 2022
COVID has underlined the value of flexibility. As a small business, you need to stay nimble, ready to react to the next emergency or to any surprise opportunity. But how can you add this necessary elasticity to something as structured as your budget?
The call for additional wiggle room in the budgeting process has become more pronounced in corporate C-Suites. One study showed that 72% of CFOs want to improve flexibility in their budgeting and forecasting activities in 2022. This becomes even more important for startups, where a sudden change in economic conditions can threaten the future of your business.
72% of CFOs want to improve flexibility in their budgeting and forecasting activities in 2022.
Adding flexibility to your budget requires structural changes and an ongoing commitment to the strategy. As such, you need to take a thoughtful approach to the situation. Here, you'll learn a few techniques that can add flex to your budget and give your small business the responsiveness it needs to succeed in 2022 and beyond.
The benefits of flexible budgeting
The uncertain economic times we've lived through in the last two years have spotlighted the need for flexibility. As you plan your startup's spending, it’s important to heed the lessons we’ve learned during this time.
A quick review of the events since 2020 brings this message home. First, COVID changed the business landscape almost overnight. As a result, overall demand plunged, and lockdowns put a premium on companies with digital operations.
Even as the threat from the virus began to pass, the reopening of the economy triggered new challenges. From supply chain disruptions to rising prices to the recent Russian invasion of Ukraine, 2022 looks like it will present a volatile, unpredictable year.
Given the economic situation, you need to stay reactive to changes. That means increasing the flexibility of your budget. Here are a few benefits you gain from adopting an elastic approach to your spending plans:
- Quicker Response to Evolving Conditions
- Protect Profit Margins
- React to Input Price Changes, Like Inflation
- Reduce Wasteful Spending
- Better Positioned to Attack Market Opportunities
Budgeting strategies that improve flexibility
It's one thing to determine that your budgeting requires more elasticity. But how can you put this into practice? Here are a few specific strategies you can use to increase flexibility in your planning process:
Typically, budgeting starts with a copy-paste approach. If you want to plan for 2022, you start with your 2021 budget and build from there. You assume that the pattern of spending will repeat in the broad strokes -- you'll just make changes along the margins.
In zero-based budgeting, you essentially start each budgeting period from scratch. Managers are forced to build their budgets from the ground up -- from zero, as the name implies -- to justify every expense.
Under this structure, you and your managers will need to take a hard look at the current economic environment. There's no assumption that things will remain steady over time. Each budget is like starting over.
Regulators require banks to undergo regular "stress testing." Under strict procedures, the institutions look at their resources and run nightmare scenarios. The goal is to make sure the financial firms can withstand a major economic crisis.
You should do the same with your startup. Do you have a sufficient emergency fund? How long could you survive with zero revenue? What steps would you take in an emergency?
By considering various scenarios and making contingency plans, you'll be better positioned to respond to an unexpected event. Rather than calling an emergency meeting and debating budget decisions under panic conditions, you'll have a procedure mapped out. When trouble hits, you can put your emergency plans into effect quickly and confidently.
In a traditional budget, expenses are usually planned in dollar amounts. This assumes that overall conditions -- things like inflation and customer spending levels -- will remain constant through the foreseeable future. As we've seen in the last couple of years, you can't always make this assumption.
A flexible budget ties expenses to certain conditions. Often, this means that planned expenditures are given as a percentage of revenue or income. The planned expense amounts change as the incoming funds vary with market activity.
You can think of it as building algorithms into your budget. Your projected spending levels automatically respond to changes in conditions. It still requires clever management to determine how to apply the updated budget requirements. But the process makes sure your budget takes its cues from your overall prospects for that period of time.
Tips for creating and maintaining flexible budgets
Whatever method you choose to add flexibility to your budgeting process, the strategy requires some general accommodations on your part. You'll need to integrate the mindset into your corporate culture and update your operations accordingly. Here are a few tips to keep in mind:
Have a Regular Review Process
A year can become an excruciatingly long time. In complex economic periods, annual budgets quickly lose their relevance. To prevent this from happening, shorten the time period for budget reviews. A routine review of your assumptions will let you keep up with fast-changing times.
In complex economic periods, annual budgets quickly lose their relevance. To prevent this from happening, shorten the time period for budget reviews.
Set Short-Term Benchmarks
Becoming more near-sighted in your business goals will help you stay in the flow of economic activity. While you want your startup to grow for decades to come, that won't happen if you can't stay operational over the next six months. As such, establish achievable near-term targets and reassess your position frequently.
Understand Current Conditions
As you make budget considerations a more frequent event, learn as much as you can about present circumstances. At the same time, understand your pressure points. An intricate knowledge of your place in the overall market will let you determine what changes require a response and which ones will have little impact on your planning.
You aren't alone in this process. A wide variety of budgeting and other financial software exists to help you improve your budget process. Find the tools that serve you best and implement them.
Limit Your Fixed Costs
In budgeting, a crucial concern involves the difference between variable and fixed costs. You have some say over variable expenses, allowing you to make changes as necessary when conditions evolve. However, you're locked into your fixed costs, making it difficult to respond to events with the necessary adjustments.
Given these dynamics, do what you can to avoid fixed costs. By limiting your long-term obligations, you increase your ability to remain nimble in the face of roiling economic conditions.
Don't Forget about Long-Term Goals
So far, we've looked at the benefits of taking a shorter-term approach. Even so, you can't ignore your longer-term goals. You'll never launch a new product or build a state-of-the-art factory if you don't have a grander vision.
Don't let volatile economic times scare you away from ambitious projects. Rather, you should find ways to build flexibility in your plans by still holding onto your ability to plot aggressive future success.
Flexible budgeting: are you ready for anything?
Unpredictable times call for budgets that can handle anything. Don't leave yourself vulnerable to sudden economic shifts. Rather, create procedures that allow you to remain nimble and responsive to market changes.
This commitment to adaptability starts with your planning process. Use the tips and strategies presented here to begin creating a more flexible budget system. That way, you know you have a process that is ready for whatever lies ahead.