As you settle into 2022, you are likely busy planning and setting goals for the months to come. As part of this process, teams need to build budgets, forecasts and a roadmap for how to scale the business. More specifically, forecasting future business performance allows key stakeholders to craft a reasonable budget.
This annual process is a whole-team effort. Keeping long-term performance in view, it’s important to strike a balance between being ambitious and being prudent. By understanding how your plans for the year may impact income and spending, you can better position the company to weather future storms that may arise over the next year.
Here are a few considerations that you should take into account to set your company up for success.
1. Identify your key drivers and metrics.
To effectively plan for the future, you need to understand what drives your outcomes. Working on your budget should prompt you to examine your key performance indicators, or KPIs, and how they affect results. Examples of revenue drivers might be website traffic or sales leads—as they go up, your revenue might go up along with them.
Also keep in mind some of the metrics that investors and stakeholders focus on when evaluating business performance. For example, investors may look at your gross margins. Because margins show how much you earn off every revenue dollar, your margins will tell the story of how sustainable and healthy the business model is, even if bottom-line earnings are low due to large marketing expenses or one-time expenses.
To do this, when creating a business budget, start by determining your target margins based off of benchmarks from companies that are similar in size, target similar customers or operate in similar industries. Afterward, examine your historical revenue growth and use that to project how much you expect to bring in next year. Then take out your expected costs, both fixed and variable, to reach your profits. Forecasting and budgeting is a mix of art and science—there's no formulaic way to do it, but be honest with yourself on what your KPIs are and where they should be to keep the business healthy.
2. Plan around your existing revenues and expenses.
Growing your business rapidly will take a lot of work, even if you have a massive budget.
Make it easier on yourself by planning according to your existing budget, while preparing multiple scenarios so you can nimbly readjust if things change. This will allow you and your team to appropriately hire and resource projects along the way without burning through too much cash or not knowing how much you can invest in a particular campaign.
There’s certainly nothing wrong with setting ambitious revenue goals, but it’s better—and sometimes less costly in the long run—to err on the side of caution and work with what you have, rather than what you hope to attain in the year to come.
3. Consider your burn rate and runway.
You want to make sure that you have sufficient runway—how long you have until your business runs out of money—to continually build a product that customers are excited about. Calculating your burn rate—or how quickly your company is spending money—is a great first step.
It’s a delicate balancing act: You want to grow as fast as you can, but you also want to ensure that you don’t run out of money. Not knowing your burn rate can put you in a tough spot later, especially if big moves are on the table.
For example, if you have enough cash on hand to last only until the second quarter of next year, you simply can't plan to launch a new product in the middle of the third quarter since the business will not be able to make it to launch. This scenario, however, assumes that you're keeping your cash burn in line with forecasts and have no new cash injection. In this case, the company's time and focus would be better spent on fundraising or managing burn instead of planning for a new product.
However, having higher levels of burn and limited runway isn't always a bad sign for the company. If you had a heavy investment year and accelerated hiring or just released a new product, these would have increased your burn. You can offset these investments by securing a new round of funding or monitoring how the new product is gaining traction. In these cases, you can probably pursue more aggressive growth strategies and create more ambitious plans for next year.
The bottom line is that there’s no single way to interpret your runway and burn rate—the insights you glean and what you do with them will depend on your business’s unique circumstances. Just make sure you are comfortable with your business’s runway (typically 12-18 months) to weather any incoming storms and line up additional funding.
4. Think about how changes over the next year will impact your budget.
A lot can happen in a year, and although there’s no definitive way to determine what challenges may pop up, there’s probably a list of initiatives that you want to roll out in the coming months.
Whether you’re launching a new product, hiring more employees or opening a new office, any initiatives that you plan to carry out will have some sort of impact on your budget. For example, launching a new product may bring in more revenue over time, but it may also require you to spend more on marketing than last year.
Regardless of what plans may be in the cards, your annual budget plans should account for any anticipated impacts to your business.
It’s also worth noting that your annual budget shouldn’t only anticipate how money may be spent in the upcoming year.
Raising capital or securing a business loan will have a significant impact on your organization as a whole. With more money at your disposal, you can hire more people, breathe new life into dormant plans or provide some long-requested resources to specific teams.
Incorporating plans to raise or borrow money into the annual budgeting and forecasting process will help you figure out how to distribute funds throughout your organization. You and other key stakeholders can also analyze what spending may look throughout the year, such as if it takes longer than expected for your business to obtain a loan or secure additional capital.
All entrepreneurs want their business to grow and succeed. However, planning for realistic growth involves the intersection of prudent and aspirational thinking—businesses must figure out what they can realistically achieve in the following year with their finite resources. You need to figure out what plan works for you.
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