Budgeting will never be sexy, but it can still be lifechanging.

And today I'm hoping to change your life.

We'll talk:

1. Operating vs Capital Budgets
2. How to build a budget
3. Organizing your data

I drop a usable budget template below, so make sure you scroll to the bottom so you don't miss it.

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PlanningOS: The Budget

​Last week​ we talked about creating a strategic plan. We asked what your 5 to 10 year vision was and translated that into strategic objectives.

Today we’re going to look at two things: your operating and capital budget. This will not only incorporate your ongoing business, but the new strategic objectives you’ve set.

Since this will be a longer post, we’re going to dig right in.

OPERATING VS CAPITAL BUDGET

Last week’s strategic objectives will generally be long-term in nature. With that, you have investments that could take place over a number of years.

In evaluating these options, we need to understand what “bucket” those investments fall in.

A strategic objective that requires you to hire additional staff means you’re going to have an increased ongoing operating expense.

An objective that requires you buy big and expensive equipment could require an upfront investment that will require capital once every three to five years.

And because of those different requirements, we have to treat these two types of spend differently. So, you may be asking… what is the difference?

Review the image below for a bit of a summary.

THE CAPITAL BUDGET

When preparing a capital budget, there are a lot of variables to consider.

Much like with the operating budget, it’s best to give your staff say in the capital budget within their areas. Where it becomes more complicated is that you only have so much money to invest or reinvest.

So, while they may provide some ideas, the ultimate decision with the capital budget lies with you, the business owner.

In evaluating capital spending, we want to understand the cost today and in the future. Be thorough in exploring all your options and don’t get tunnel vision in looking at what you want versus what is right. Sometimes people want new equipment, but used could be a better long-term decision. But other times, new is the right decision because of reduced maintenance.

WHERE DOES THE MONEY COME FROM?

Money from capital spend comes from three places:

1. Profits/excess cash flow
2. External cash infusion (sometimes from the owner)
3. Taking on additional debt

Each of these has its plus and minus and you could choose to take on debt even if you have the excess cash flow. But with each, there are limits to what you can do.

Banks will only give you so much debt. There is only so much cash a business can generate. The owner only has so much cash in their pocket.

So each capital decision has to be taken while weighing ALL your capital options.

TYPES OF CAPITAL SPEND

There are 2 types of capital spend: new strategic objectives and growth or replacement of old equipment.

Growth or Replacement CapEx

Too many businesses don’t have a plan for asset replacement. And even for those who do, you could ask 10 companies in the same business what their policy for replacement is and they’d all have a different answer. So, I’ll say it upfront: there is no right or perfect answer.

Everyone has their preferences, which means the reality is I’m just sharing mine.

When looking at your current assets, ask the following questions:

1. What is old and breaking? If you’re hearing about it from employees, it’s definitely time to do a deeper dive.
2. What “new” could improve the business? New stuff comes out all the time, but keep your ear to the ground for big advancements. You don’t want to be the guinea pig for version one, but maybe version two.

We want to create an asset replacement schedule that takes into account these questions and spreads the spend out over a number of years.

Consider the long-term cost, too, not just the cost today.

New Strategic Objectives

The process ​we discussed last week​ is key to surfacing new strategic objectives. You can also do a SWOT analysis and there are some great templates online for this (​Image​ // ​PDF​​Fillable Document​).

With new strategic objectives, there is the desire and the actual likelihood/feasibility. Sometimes one objective is so expensive it’ll squeeze out the others along the way.

So, this process is where we determine the cost of the objectives we defined last week before finalizing the actual plan (which we’ll address next week).

In evaluating the strategic objectives, we want to understand: Do we have the necessary talent and skill to carry out this objective? If not, do we need to bring in a consultant, train current employees, or hire new staff?

THE OPERATING BUDGET

Now that we’ve set the foundation for what the budget should look like, we want to follow a set process to ensure it gets done.

STEP 1: REVIEW HISTORICAL DATA

We should never budget solely on historical data, but understanding historical data is key to understanding your numbers going forward.

When looking at historical data, we want to look at 3 things:

1. What to eliminate
2. What to repeat
3. What to add

Use the process of going through the expenses to correct previous coding errors so you can get more accurate budget numbers.

We want to categorize all spend into:

1. Departments: This will be based on the structure of the business. You could organize by departments, locations, reporting structure, etc.
2. Accounts: This should follow the account structure you see on the Income Statement and include sub-accounts where they exist. Accounts and sub-accounts can be budgeted separately or as one large group, depending on the complexity of each.
3. Line items: No, I’m not asking you to budget each different type of office supplies. But within accounts, you’ll have different types of expenses. For example, in Software, we want to have a line item for each software you have a subscription to.

When doing account, sub-account, and line item tracking, the specific accounting system you use will determine some of the specifics. Some will track via sub-account, some classes, some memos/notes/descriptions, and some in ways I’ve never considered.

A key word of warning: make sure you don’t get too complicated. After year one, you’ll come up with some fast and easy ways to group transactions.

For example, I won’t create sub-accounts for individual conferences a company attends, but I will create them for company events like Christmas parties, summer picnics, or volunteer days. If they’re repeating every year and something you’d want to watch the cost on, it’s a great opportunity to track a sub-account.

LINE-ITEM TRACKING

When doing line-item tracking, make sure that each line item has the following:

1. A responsible party: who is accountable? Often this is better if at the account level.
2. Cadence of spend: when do the charges happen during the year?
3. Types of spend: is it a variable, fixed, or one-time expense?

By identifying each of these variables, we make our budget more resilient.

By identifying spend cadence, we can build a great cash flow forecast, which we will talk about next week.

By identifying types of spend, we can scale variable expenses with the revenue forecast. We can also identify the “step” points in fixed costs.

DEEP BREATHS

Now, let me guess: you’re probably thinking on the inside “this dude is crazy… does he really think we’re going to do this?”

I do get it. It’s a lot and can be overwhelming. But I’ve now done this with all of my clients at Bison CFO and the consensus is that this is can be transformational.

At a certain size it becomes no longer practical, but that size is a lot bigger than you think. I’ve done this on businesses with $50 million + in revenue and was still able to limit leadership time to less than 5 total hours of meetings.

STEP 2: ANALYZE FOR CHANGES IN THE BUSINESS

Here we’re asking: what do we need to add to the operating budget?

We want to think in terms of:

1. Account/team needs
2. Strategic Objectives
3. SWOT Analysis

As we look at each account, we use the “what do we add?” question as well as “what will be different?” to identify potential new items.

The goal isn’t to figure out this budget yet. It’s to put a placeholder so you don’t forget the budget later on.

STEP 3: DRAFT THE BUDGET

We’ve spent much of the first two steps doing analysis and setting the foundation.

Next up is creating the budget in a digestible form that can be sent to all the responsible parties to fill out and update. When the responsible parties get their budget, this is how they’d make a budget request.

I’ve put together a budget template that you can swipe and use in your process. It implements all the elements above and will be a great starting point as you build your budget.

Even if it doesn’t work for your exact situation, it should help you visualize all that we talked about today.

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We’re going to end here today. Next week we’re going to go through Steps 4-7:

4. Build your revenue forecast

5. Compare, adjust, refine, and adjust again (CARAA)

6. Create a cash flow projection

7. Final review & approval

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If you have any questions based on this week's content (or next week's), reply to this email and I’d be glad to help.

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