The blog below is a repeat, as were the\nprevious two postings (September 4, 2019 and September 18, 2019). Combined, the\nthree postings offer a template for developing a 2020 Plan. We are\nre-publishing these now because developing an Annual Plan is a critically\nimportant activity for any small business to undertake, and now is the right\ntime to do it. If you don’t remember seeing these before, perhaps they will\nencourage you to get serious about creating an Annual Plan. If you do remember\nthem, then maybe they serve as a good refresher. Either way, plan well.<\/p>\n\n\n\n
We\nhave been talking about an annual planning process. It began two postings ago when we talked\nabout laying out three to five strategic initiatives aimed at moving the\ncompany forward. Then with our last\nposting, we began a 2-part discussion on what some call a \u201cbudget,\u201d but what we\nprefer to call a \u201cprofit plan.\u201d Part 1\ndealt with the revenue side of things. \nHow do we forecast what we expect to sell next year? Now we\u2019ll deal with the cost side of things. We need a spending plan that anticipates what\nwe expect our costs to be next near. If\nyou\u2019re interested in our discussion about projecting costs, please continue\nreading Profit Plan (Part II) below.<\/p>\n\n\n\n
Don\u2019t produce a budget. Map out a Profit Plan. (Part II)<\/strong><\/p>\n\n\n\n The\nbasic problem we see with forecasting the cost side of the business is people\ntrying to take shortcuts in the name of being expedient. Most shortcuts create two problems:<\/p>\n\n\n\n Here\nare a few examples of shortcuts you should not<\/em>\ntake.<\/p>\n\n\n\n Bad shortcut #1<\/strong><\/p>\n\n\n\n Breaking down all our sales and expense projections by month is a real pain. Can\u2019t we make do with just the annual numbers?<\/p>\n\n\n\n Nope. You\u2019ll want to break down everything by month so that when your actual financial statements are available each month, you\u2019ll be able to compare them to your Profit Plan. If your Plan is made up of only annual numbers, you may not realize it\u2019s off target until it\u2019s too late in the year to do much about it.<\/p>\n\n\n\n Bad shortcut #2<\/strong><\/p>\n\n\n\n We\nknow what our overall Cost of Goods is as a percentage of sales. Can\u2019t we just use that instead of calculating\na separate Cost of Goods for each of our products or service lines?<\/p>\n\n\n\n If\nyou\u2019ve got multiple products or service lines, each with its own unique Cost of\nGoods structure, you\u2019ll need to know how much of each you expect to sell, and\nthen do a separate Cost of Goods calculation on each. Otherwise, if your Cost of Goods starts going\nout of whack, how will you know which of your products or service lines is the\nculprit?<\/p>\n\n\n\n Bad shortcut #3<\/strong><\/p>\n\n\n\n Do\nwe really have to analyze our fixed costs. \nAfter all, they are \u201cfixed,\u201d right? \nCan\u2019t we just use last year\u2019s costs as a percent of sales and go with\nthat?<\/p>\n\n\n\n No,\nwe can\u2019t. Our fixed costs (usually\nreferred to as SG&A or Overhead) are \u201cfixed\u201d only in the sense that we have\nto pay them no matter what. Even if\nwe\u2019re having a dismal sales month, we still have to pay salaries, utilities,\nbank debt, etc. But these so-called\n\u201cfixed\u201d costs do change. We may hire new\noffice people or grant salary increases to existing employees, the lease\nagreement for our office space may have a rent escalation clause, some of our\nvendors might put through price increases, etc. \nBesides, if we just base our spending on historical trends, we eliminate\nopportunities to improve . . . to eliminate waste and improve efficiency.<\/p>\n\n\n\n Throughout\nthis process, for both revenue and expenses, you should be recording\nassumptions for each line item, i.e. \u201cWe plan to put in an across-the-board 5%\nprice increase in April,\u201d or \u201cWe expect our energy costs to be flat.\u201d During the year, as you compare your actual\nresults to the results you expected in your Profit Plan, you\u2019ll be looking for\nvariances or deviations. When you find\nthem, if they are significant, you\u2019ll ask yourself, \u201cWhat the heck were we\nthinking when we forecast that number?\u201d \nIf you recorded your assumptions properly, they will remind you what you\nwere thinking. If the assumption is\nflawed in some way, then you may have to make a correction to your Profit\nPlan. But if the assumption still seems\nvalid, then we apparently failed to execute on that particular item and we\u2019ll\nneed to find out if there\u2019s some corrective action we can take to get back on\ntrack.<\/p>\n\n\n\n Now\nfor the tough part. You\u2019ve projected\nyour sales and expenses for next year, so now you can see your projected\nprofit. If that number meets your expectations,\nthen good, we\u2019re done. But if not, you\nhave a choice to make: you can either accept the profit level the Plan projects\n(even though it\u2019s lower than what you expected); or you can go back to the\nPlan, tweeking it here and there to produce the profit result you want. The danger here is that your sound business\njudgement gets replaced by hope and unreasonable optimism, and the tweeks you\nmake are nothing more than wishful thinking. \nObviously, you want to avoid that.<\/p>\n\n\n\n In\nsummary of this posting and the previous two postings:<\/p>\n\n\n\n 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<\/p>\n