There seems to be a lot of confusion out there about how to create a budget. Specifically, a lot of business owners have trouble knowing how much money to allocate to the many initiatives of the company.
I recently talked with the owner of a financial services agency who mentioned he was really struggling putting together a budget for his company. I was a little confused by this (understandably, I think… because it’s March…) and pointed out that the budget for the year probably should have been done before the end of last year. He smiled sheepishly and admitted that budgeting hadn’t made it very high on his priority list. But he’s paying the price for it now; one of his employees asked him what the budget was for a project he had assigned, and he had to admit that he didn’t know.
It’s a very bad situation when a business owner assigns a project but can’t define the financial parameters. First of all, it’s unprofessional and sends a message to the employees that the company isn’t being managed very well. Second, it actually DOES mean that the company isn’t being managed very well!
So, to help my friend and anyone else who may be facing similar issues as we approach the end of the first quarter, I’m going to share the five steps to creating a realistic and reasonable budget.
Before we go there, though, allow me to describe the principle in general terms.
The process of creating your budget is, first of all, a collaborative one. I’m sure you’ve been in the uncomfortable situation of receiving a project from a supervisor, seeing the budget, and being absolutely dumbfounded as to how they expect you to accomplish your goals with that limited funding.
We’d like to avoid that if possible, right?
The budget creation process is like the motion of a pendulum. It starts at one end (the business owner), swings down through the middle of its arc (the project supervisor), continues on to the far end (the project team or individual) and then makes the return journey back to where it started.
Let’s look at each step in detail:
- Determine the Big Picture. This strategic step is the foundation of your business. From the very top of the company, decisions must be made about the goals for the year. How can you know where to spend money if there are no goals? (I’ve talked about setting goals before, if you need a reminder). In analyzing these goals, the organization’s leadership should be able to drill a level deeper to define the necessary initiatives to achieve the defined goals.
- Involve Managers. Once the individual initiatives are defined, those who will be developing and implementing specific projects should have the responsibility for outlining the detailed budget surrounding the project. Managers have an overall knowledge of what their teams can accomplish and can guide the budget process with the individuals and teams. Looking at each initiative separately is key to this process.
- Ask the People on the Front Lines. This is the big one! Involving the people that will actually be working on the project creates an additional level of both responsibility and accountability with employees.
I have found that when employees are initially asked to put together a budget for a specific project, they really are lost. The manager has the responsibility to help guide them through the process but ultimately those who are responsible for implementing need to be the ones who determine what is actually needed to get it done!
There is one core rule of thumb I use when I ask someone to put a project budget together: “Would you spend the money if it were yours?” And it’s usually a hard question for people to answer because no one has ever asked them before.
Once I had a team put together a plan and a budget for a specific project. They told me it would take $25,000 of external resources and would be done in 3 months. I honestly felt that the budget was a little bit low. I then gave the team a $30,000 budget and told them that once the project was done to the agreed timeline and specifications that any dollars not spent would be shared by the team. Do you think that this project was delivered on time and under budget? Yes, it was. And they did it with $2500 left over – an amount that was split among the team.
What was achieved by this? The downside – I spent more than the $25000 originally requested (which hardly counts as a downside, because my experience told me it wouldn’t be enough). The upside was that my project was done on time, and the team became part of the solution and benefitted from their own work.
Certainly this tool cannot be used frequently to create budgets or motivate a team but it does help to make them accountable for the budget that they submitted for their specific initiative.
- Approve Project Budgets. Once each team has finished their individual project budgets, the manager has the responsibility of reviewing them for reasonability. This is also the opportunity to find redundancies between multiple projects, places where economies of scale can be achieved, and to challenge assumptions. Each team is accountable for the project budgets but the manager must be responsible for making sure that overall and together, they are reasonable, cost effective and timely.
Once each initiative has a reasonable budget associated with it, it rolls back up to the top of the pendulum and comes together as a budget for the entire organization.
- Review the Big Picture. Once each manager has reviewed and honed the budgets for their teams, the owner or top-level management must roll all the budgets up into an overall company budget. At this point, with some negotiating, the individual and departmental budgets come together as a budget for the entire organization.
This paradigm is a great example of how to create win-win situations for your entire business. Not only will you have the assurance that your budget is a good one, your employees at every level feel empowered and take some ownership of the process.
…And you’ll never have to explain to your employees why you don’t know what their budget is.