The blog below is a repeat, as were the previous two postings (September 4, 2019 and September 18, 2019). Combined, the three postings offer a template for developing a 2020 Plan. We are re-publishing these now because developing an Annual Plan is a critically important activity for any small business to undertake, and now is the right time to do it. If you don’t remember seeing these before, perhaps they will encourage you to get serious about creating an Annual Plan. If you do remember them, then maybe they serve as a good refresher. Either way, plan well.

We have been talking about an annual planning process.  It began two postings ago when we talked about laying out three to five strategic initiatives aimed at moving the company forward.  Then with our last posting, we began a 2-part discussion on what some call a “budget,” but what we prefer to call a “profit plan.”  Part 1 dealt with the revenue side of things.  How do we forecast what we expect to sell next year?  Now we’ll deal with the cost side of things.  We need a spending plan that anticipates what we expect our costs to be next near.  If you’re interested in our discussion about projecting costs, please continue reading Profit Plan (Part II) below.

Don’t produce a budget.  Map out a Profit Plan. (Part II)

The basic problem we see with forecasting the cost side of the business is people trying to take shortcuts in the name of being expedient.  Most shortcuts create two problems:

1. They can rob you of the level of detail you need to spot waste, inefficiency, or irregularities.
2. If your Plan starts to falter, they can make it difficult to analyze what’s going wrong, and even more difficult to figure out how to fix it.

Here are a few examples of shortcuts you should not take.

Bad shortcut #1

Breaking down all our sales and expense projections by month is a real pain.  Can’t we make do with just the annual numbers?

Nope.  You’ll want to break down everything by month so that when your actual financial statements are available each month, you’ll be able to compare them to your Profit Plan.  If your Plan is made up of only annual numbers, you may not realize it’s off target until it’s too late in the year to do much about it.

Bad shortcut #2

We know what our overall Cost of Goods is as a percentage of sales.  Can’t we just use that instead of calculating a separate Cost of Goods for each of our products or service lines?

If you’ve got multiple products or service lines, each with its own unique Cost of Goods structure, you’ll need to know how much of each you expect to sell, and then do a separate Cost of Goods calculation on each.  Otherwise, if your Cost of Goods starts going out of whack, how will you know which of your products or service lines is the culprit?

Bad shortcut #3

Do we really have to analyze our fixed costs.  After all, they are “fixed,” right?  Can’t we just use last year’s costs as a percent of sales and go with that?

No, we can’t.  Our fixed costs (usually referred to as SG&A or Overhead) are “fixed” only in the sense that we have to pay them no matter what.  Even if we’re having a dismal sales month, we still have to pay salaries, utilities, bank debt, etc.  But these so-called “fixed” costs do change.  We may hire new office people or grant salary increases to existing employees, the lease agreement for our office space may have a rent escalation clause, some of our vendors might put through price increases, etc.  Besides, if we just base our spending on historical trends, we eliminate opportunities to improve . . . to eliminate waste and improve efficiency.

Throughout this process, for both revenue and expenses, you should be recording assumptions for each line item, i.e. “We plan to put in an across-the-board 5% price increase in April,” or “We expect our energy costs to be flat.”  During the year, as you compare your actual results to the results you expected in your Profit Plan, you’ll be looking for variances or deviations.  When you find them, if they are significant, you’ll ask yourself, “What the heck were we thinking when we forecast that number?”  If you recorded your assumptions properly, they will remind you what you were thinking.  If the assumption is flawed in some way, then you may have to make a correction to your Profit Plan.  But if the assumption still seems valid, then we apparently failed to execute on that particular item and we’ll need to find out if there’s some corrective action we can take to get back on track.

Now for the tough part.  You’ve projected your sales and expenses for next year, so now you can see your projected profit.  If that number meets your expectations, then good, we’re done.  But if not, you have a choice to make: you can either accept the profit level the Plan projects (even though it’s lower than what you expected); or you can go back to the Plan, tweeking it here and there to produce the profit result you want.  The danger here is that your sound business judgement gets replaced by hope and unreasonable optimism, and the tweeks you make are nothing more than wishful thinking.  Obviously, you want to avoid that.

In summary of this posting and the previous two postings:

• Begin building your annual plan by laying out the three to five strategic initiatives you expect to implement to move the company forward during the coming year.
• Forecast sales and expenses for the coming year to produce a Profit Plan, noting all the assumptions you make during that process.
• As you set your strategic goals and build your Profit Plan, be as inclusive as possible.  The more people you are able to involve in the process, the more support you’ll have when the new year starts and it’s time to execute your plans.
• Throughout the process, immerse yourself in the details of your business, and avoid shortcuts that may undermine your annual plan’s usefulness as a valuable management tool.

The blog below is a repeat, as was the previous posting (September 4, 2019), and as will be the next posting (October 2, 2019).  Combined, the three postings offer a template for developing a 2020  Plan.  We are re-publishing these now because developing an Annual Plan is a critically important activity for any small business to undertake, and now is the right time to do it.  If you don’t remember seeing these before, perhaps they will encourage you to get serious about creating an Annual Plan.  If you do remember them, then maybe they serve as a good refresher.  Either way, plan well.

In our last posting, we talked about building an annual plan around three to five strategic initiatives.  We also suggested that you open up your planning process to as many of your employees as possible . . . don’t restrict it to only you and your top managers.  Make your planning process as inclusive as you can.  However, these strategic initiatives are activity-based  . . . these are the things we’re going to be doing to move the company forward.  But the plan also needs a financial component.  It needs what many people call a budget, but what we prefer to call a “profit plan.”  A “budget” sounds restrictive, confining.  It sets the boundaries for what we can and cannot do.  A “profit plan” on the other hand, says “This is our target for profitability next year, and here’s how we intend to achieve it.”  The Profit Plan probably looks identical to a traditional budget, but instead of a document that sets up boundaries, it’s a road map to the financial outcomes we expect to achieve next year.  For a few thoughts on how to build your Profit Plan, please continue reading below.

Don’t produce a budget.  Map out a Profit Plan. (Part 1)

The starting point for a Profit Plan is also the most difficult part . . . that is, a sales projection for the year.  It’s difficult because in most cases, we don’t know with certainty who is going to buy from us, what they’re going to buy, or in what quantity they’re going to buy.  So it’s a lot of guesswork.  Educated guesswork perhaps, but guesswork nonetheless.  Still, we can’t have a Profit Plan without some sort of sales target.

The best, most reliable way to project sales is customer-by-customer.  If you’ve got thousands upon thousands of customers, this approach may not be practical, but for most small businesses, that’s not the case.  So take a look at each customer (probably with the help of your sales people) and ask yourself:

• What did they buy from us last year?
• Was there some event last year (one that won’t be repeated) that caused them to buy more or less from us than they normally would?
• Do we have any intelligence that would suggest they’ll do more or less business with us the coming year than they did this year?  That is, are they trying to acquire other businesses, open new locations, roll out new products or services, etc.?
• Thinking of our existing customer base, do we have opportunities to sell them more of what they’re already buying from us?  Do we have opportunities to sell them additional products or services that they are not currently buying from us?
• How many new customers are in our sales funnel and how many of those can we reasonably expect to start doing business with us this year?  For each of those that we think will be new customers for us, when will they start and at what volume?
• What about attrition?  Nobody keeps every customer forever . . . they retire, move away, close their doors, all sorts of stuff that may or may not have anything to do with us.  So how much business can we reasonably expect to fall off during the year?
• Are we anticipating any change in our pricing strategy that may cause our volume to go up or down?
• Do we expect the strategic goals (discussed in our previous post) to have an impact on sales.  If so, we need to build that into our projection.

Obviously, this is an exhaustive process, but one that forces us to closely examine our customers and understand their evolving needs.  It also takes our guesswork out of the realm of total speculation.  It’s still guesswork, but as noted earlier, it’s at least educated guesswork.

Some companies may try to avoid this customer-by-customer approach using some sort of trend analysis.  For instance, they may say, “Over the past three years, our sales have averaged an annual 10% increase, so we’ll just assume that trend will continue.”  While this approach is better than nothing, it doesn’t offer any insights into the dynamics of the company’s customer base or market segment.  But for some, it may be the only way to do it.  For instance, a divorce attorney may have a good referral network, but doesn’t really have a customer base that will produce reliable repeat business.  He or she can’t really count on the people who divorced last year, divorcing again this year.

At the risk of making this sales projection process even more burdensome, we need to footnote everything.  At some point in the year, it will become obvious that some of our assumptions are way off base.  We will say, “Wow!  ABC Company isn’t doing one tenth of the volume we expected it to do.  What we’re we thinking?”  It’s unlikely we’ll be able to remember what we were thinking when we came up with our projection for ABC Company, but if we footnoted why we projected what we did, we can determine whether or not there’s a way to get it back on track.  If not, we may have to revise our projection for that company. 

OK, so we’ve got the sales projection component of our Profit Plan complete, or at least our first swing at it.  In our next post, we’ll talk about the fixed and variable cost components of our Plan. 

The blog below is a repeat.  It was first published two years ago, along with two companion pieces that will also be re-published in the two postings following this one.  Combined, the three postings offer a template for developing a 2020  Plan.  We are re-publishing these now because developing an Annual Plan is a critically important activity for any small business to undertake, and now is the right time to do it.  If you don’t remember seeing these before, perhaps they will encourage you to get serious about creating an Annual Plan.  If you do remember them, then maybe they serve as a good refresher.  Either way, plan well.

About this time every year . . . somewhere around the beginning of the 4^th quarter . . . is a good time to begin planning for next year.  Unfortunately, planning is not an activity that most small businesses engage in . . . at least, not in any meaningful way.  The owner may have in mind some sales and profit targets, but no real plan for how to achieve them.  The prevailing attitude seems to be, “We’ll just work real hard and hope we get there.”  But as they say, hope is a poor strategy.  Or, as author and explorer Jeff Rich tells us, “A goal without a plan is just a wish.”  Yet planning does have its detractors.  Mike Tyson has famously said, “Everybody’s got a plan   . . . until they get punched in the mouth.”  And Woody Allen weighs in with, “If you want to make God laugh, tell him about your plans.”  So if you’re in the same camp as Mike and Woody, and believe that planning is a waste of time, you should stop reading here.  But if you’re willing to be convinced that putting together an annual plan just might have some merit, please continue reading below.

 “The nicest thing about not planning is that failure always comes as a complete surprise and is not preceded by a period of worry and desperation.”     ~ Richard Palmer

If you truly have no expectations or goals for next year and are content to take whatever results fate chooses to give you, then fine, don’t plan.  Under those circumstances, what would be the point?  But if you do have aspirations and goals for next year (and of course, you do), then to claim that you can achieve those without at least a rudimentary plan is indefensible.

To be honest, it’s amazing that there’s any resistance at all to planning in a small business.  After all, we do plan for all sorts of other stuff.  We plan for vacations.  We plan for weddings (ugh, down to the last napkin).  We use financial planners to help us plan our future.  Yet, even though a business is usually the owner’s largest asset, many still resist the idea of an annual plan.  Yeah, it takes time and it takes effort, but done correctly, the result is a roadmap for where you’re going and how you’re going to get there.

The first step is to identify the major strategic goals you want to achieve next year.  Set SMART goals . . . goals that are Specific, Measurable, Achievable, Results-oriented, and Time-based. Vague goals that don’t include measurements or deadlines are doomed from the start.  Consider limiting yourself to three.  If you undertake more than three, you risk stretching yourself too thin.  It’s better to achieve the results you want with three goals than to achieve only so-so results with five.  And don’t set these goals all by yourself, locked away in your office.  Involve the managers on whom you will depend to implement these goals.  They probably have their own ideas about what the company should be undertaking next year, and you should hear those ideas.  Besides, they will be more supportive of goals they helped to set than they would be of goals in which they had no input.

Make sure your goals are focused on the outcomes or results that you expect.  For instance, “Buy and install a new computer system” is not a goal.  “Developing more detailed, timely business intelligence,” is a goal . . . it may be necessary to buy a new computer system to achieve this goal, but buying a new computer system is only the means to an end, not a goal.

Commit the goals to writing, taking care to word them clearly and concisely.  Confirm everyone has the same understanding of what we’re trying to achieve with each goal.

Next we have to do a little number crunching to make sure there’s an acceptable ROI for each goal.  That is, we need to identify a benefit to the company in terms of improved productivity, reduced cost, or higher profit.  If we can’t prove such a benefit (or if the benefit is significantly less than we hoped it would be), we either re-work the goal in a way that will achieve a better result, or we toss it out and substitute a different goal.

Now comes the hard part.

Each manager who has helped craft your goals must now present them to his or her direct reports and solicit their reactions/feedback.  Just as you needed your managers participation in the goal-setting process to secure their support, now you need the support of everyone else.  You can’t fake this.  You can’t go through the motions of being “inclusive” in this goal-setting process if you have no intention of listening to what anyone may have to say.  So you need to make an honest effort to get people to voice their questions, concerns, opinions, and suggestions.  We’re not running a democracy here, so you’re not obligated to act on what they say, but you are obligated to listen, to hear, and appreciate what they are telling you.  Besides, these are the folks who are immersed in the nitty-gritty details of your business every day, so it’s just possible they will spot something in your proposed goals that you and your managers overlooked.

Finally, we need to put metrics on each goal so they can be tracked and measured (remember the M in SMART goals?).  No question, some goals are easier to measure than others, but if a particular goal defies measurement of any kind, then it doesn’t really qualify as a goal.  After all, if we can’t measure it, we won’t know if or when we’ve achieved it. If you think all this planning stuff is a waste of time and would prefer to “just work real hard and hope for the best,” that’s your choice.  However, if building an annual plan makes sense to you but you haven’t done one before and don’t quite know where to start, email or call me.  I’ll be happy to help.