Despite the importance of crafting and following a workable budget, some CEOs and other operating owners of custom-design manufacturing companies opt not to use a budget to meet profit goals. Further, those who do draft a budget typically either do so incorrectly, or they use it as a suggestion and quickly discard it when it becomes a burden or inconvenience.
As noted by The Wall Street Journal, there are many reasons why managers get their budgets incorrect, whether it’s a disjointed process, a failure to account for major expenses or simply an indifference to the budget as a whole. It’s important for executives to keep in mind that budgets are more than just numbers on a page or a screen – they’re a numerical representation of a company’s priorities, strategic goals and immediate steps to reach them. This means even the least financially savvy executives have no excuse for not establishing and following a budget.
Consider these helpful tips for crafting workable budget:
“Budget plans have the potential to steer the operations of the enterprise.”
1. Don’t rush it
A solid budget doesn’t get created in a single day or even throughout the course of a week. Take the time to plan out every nuanced detail and the reason why it’s included. Because these plans have the potential to steer the operations of the enterprise, it’s important that every aspect is considered, with top management providing additional insight. Soliciting input from the different departments ensures everyone has a voice in the process and that critical projects or divisions are not getting underfunded.
2. Categorize costs
Divide the company’s expenses into distinct categories and then further break down these into subsections. According to AccountingTools, four of the main categories for manufacturing companies include costs for overhead, production, direct materials and labor.
Overhead costs cover items such as administrative salaries, depreciation, rent, supplies, utilities and other expenses necessary for regular business operations. The source noted that the overhead costs may potentially account for a large proportion of the company’s total amount of expenditures, so it’s important that these expenses are accurate and allocated for.
Direct material costs can be derived from a simple equation: Raw materials needed for production plus the planned ending inventory balance equals the total raw materials required. From this number, subtract the beginning raw materials inventory in stock, and it provides the raw materials to be purchased. This is, of course, a simplified version, but it is essentially the same format that will be followed.
Much like the direct materials, the production budget also includes a simple equation that covers the forecasted unit sales added to the planned finished goods ending inventory balance. The product of this equation is the total production required. Unlike iterative companies, custom-design manufacturers will not typically have any finished goods inventory to subtract from the total production required, which means this number will be the same as the products to be manufactured.
The labor budget involves the total hours of labor required to build the finished product. This helps manufacturing companies estimate how many employees will be needed, and provides a gauge for when layoffs might be necessary.
“It’s not necessary to budget to the very last penny.”
3. Precision is not a requirement
It’s not necessary to budget to the very last penny. The goal of the budget is not to accurately predict the exact number of sales or the amount of every expense. It is, however, supposed to be used as a guiding influence over the whole operation and the budget should give the company direction. Trying to predict precise costs and revenue will only bog down the process and potentially just give everyone headaches.
4. Compromises are key
Not every request will get funded and more often than not, creating a workable budget involves a series of trade-offs. A engineer-to-order manufacturing operation only has a limited amount of resources that need to be allocated accurately. This means if a new, necessary expense gets added to the budget, it might require removing another line item somewhere else. Compromising between many different factors and trying to find that balance can be tricky and it requires the discipline to know when to make cuts and when to shift resource allocation for a better chance at reaching strategic goals.
5. Implement an ERP solution
Keeping track of all of this critical budgeting information can be difficult without the right tools. Further, having all the data stored in a single location, or among several isolated systems can lead to errors, duplicated entries and miscommunication. Even the smallest mistake or wrong entry can throw off a company’s alignment with their budgeting strategy.
Questica ETO, an ERP solution, stores all this crucial budgeting data in a single repository. With real-time access to every expense and cost associated with the budget, managers can ensure that all orders, payments and costs align properly and that the strategic goals set forth are being met.