It’s never easy to predict the future, especially when it comes to the budget of your small or medium-sized business. Unexpected challenges, cash flow issues and sudden increases in costs can all throw a small business for a loop at any point in the fiscal year.
Through top-down budgeting, the upper management of your business sets the stage for sound financial projections throughout the organization. From there, those numbers get passed down to mid-level managers, who in turn take the money allocated to them and create a budget for their particular areas or departments.
This approach comes with a number of advantages. For one, you do not need to depend on lower-level personnel within your organization to create their own budgets. They may not have the same level of expertise or experience as your upper-level managers, and so there are fewer pitfalls throughout the process.
It also saves time, as the people in charge of budgeting for the entire business do not need to wait for the various departments to get their respective numbers ready — they may begin the process right away.
Another important benefit is the fact that your leadership team is able to begin with a broad range of revenue sources and expenses, then whittle them down to narrower categories and eventually to line items. Your upper-level managers may then get a more cohesive look at the different areas of the business and where improvements or adjustments need to be made (if needed).
Collaboration leads to more accurate budgeting
Although the top-down approach is preferable for many types of business, there are a few notable drawbacks. As one might imagine, it is possible that the upper-level managers of your organization do not have the niche expertise of your department managers. This can make it difficult for them to know how much money to allocate and how much to project in expenses for each area of the business in any given year.
To that end, when using this approach, it is critically important for your upper-level executives to maintain good communication with mid-level managers throughout the organization. This will help ensure top-down budgets remain realistic and that your departments have the resources and flexibility they need to remain sustainable and efficient throughout the year.
Starting with sales projections, not expenses
Many small businesses make the mistake of first creating a budget based on their expenses. From there, they set sales goals for the year.
The problem with this method is that it tends to cause serious cash flow issues. A more conservative approach is to start by projecting sales numbers--typically based on the previous year--and then deciding what the company can afford in expenses on a monthly or quarterly basis. That way, the business can avoid getting overextended and remain on a steady path of growth.
Additionally, all companies should revisit their budgets each quarter (if not each month) to make sure they are on the right track.
As you implement a top-down approach to your business budgeting, be sure to consider the structure and size of your organization. For a smaller business, it might be easier for upper-level management to communicate and collaborate with lower-level personnel as it relates to budgetary issues. However, as your business grows, you may consider giving your department managers more control or input in the company’s budgeting process.
Patin & Associates offers sound financial and accounting services for businesses and organizations across a wide range of industries.