5 B’s of Budget

September 7, 2018

By Ryan Parker

“It’s clearly a budget. It’s got a lot of numbers in it.”

– George W. Bush

Companies don’t make money by planning, they make money by executing. This is something you may have heard from a mid-level manager, a front-line operator, or even an entrepreneur founder who has become impatient with long and boring planning and budgeting sessions. And they’re right! Company success is a direct result of execution: making the sale, delivering to your customers, hiring the right people, and operating effectively. However, planning is a crucial part of that execution. The plan defines what success means to the company and lays out a framework for how it intends to succeed. Central to the overall company plan or strategy is the exercise perhaps most dreaded by managers: the financial plan or the budget.

The budget doesn’t have to be a source of frustration and angst in an organization. When done correctly, it can lead not only to better financial performance but to improved employee morale and even to more satisfied customers. There are five key factors in creating a successful budget:

  1. Benefits – How is the budget going to benefit us? Why bother with this exercise?
  2. Barometers – What are the metrics or key performance indicators (KPIs) that are important for our business?
  3. Build it – What tools, inputs, and processes will help us build a successful budget?
  4. Benchmark it – How do our metrics and financial barometers stack up against our peers?
  5. Make it Better – How can we gather live data and results to inform our next go-round?


When considering how a budget might benefit your company, start by thinking about the business processes that affect your profit and loss (P&L) statement. Budgets are often recognized as a way of controlling expenses, but keep in mind that your budget may also be used as a tool to drive revenue. For example, pricing decisions should be made after a thorough analysis of what the market will bear, as well as what resources are required to offer the product or service to the market. These are questions your budget should answer.

Consider also the possible benefits to your balance sheet. Are you purchasing and deploying the right capital resources (Assets); are you using leverage appropriately (Liabilities); or do you need to take on a new partner (Owners’ Equity). Often in capital resource planning, decisions are made using a return on investment (ROI) analysis. Consider extending this ROI mindset to other areas of your business. For example, what hiring practices, employee perks, training or other internal activities are going to provide the biggest return on investment of time, money or other resources?

Finally, the benefits of a budget are more than just quantitative. The budget can be an effective tool to implement effective internal controls. The Committee of Sponsoring Organizations of the Treadway Commission (COSO) publishes the most widely adopted framework and guidance on enterprise risk management. The budget-to-actual review is often a primary control and management tool used by companies to comply with the control activities and monitoring components of the COSO framework.

Benefits – Summary:

  • P&L – drive revenue and control expenses
  • Balance sheet – capital resource allocation, debt and long-term investor planning
  • Other – ROI mindset across the business
  • Baseline for internal controls


Successful “budgeteers” distill high-level company strategies into bite-size tactical activities that can be modeled and planned for. What are the metrics or key performance indicators (KPIs) that are important for your business or in your industry?

One of the most important set of metrics of any company relates to unit economics or gross margin. How much do you make for every unit of product or service delivered? Anything short of a fully burdened cost of goods sold may lull you into a false sense that when you achieve scale, your gross margins will be able to cover the large fixed expenses required in your business. For questions on what types of items should be included in your cost of goods sold, refer to the accounting policies in the 10-Ks of your public company competitors for some ideas. EBITDA (earnings before interest, taxes, depreciation and amortization) and EBITDA margin are also important metrics that may be calculated at a unit level.

Other traditional metrics for building your P&L budget include sales growth, annual recurring revenue (ARR), customer lifetime value (LTV), customer acquisition costs (CAC), and operating expense ratio. Key balance sheet metrics include the current ratio and debt-to-equity ratio.

In his book, The Startup Way, Eric Ries recommends extending the focus beyond traditional trailing indicators of success, such as those mentioned above, to leading indicators for success, such as customer engagement, unit economics and repeat usage. Customer engagement and loyalty can be measured using retention rates, the number of customers who continue using your product over an extended period of time and make repeat purchases, or the Net Promoter Score (NPS), which reflects how likely your customers are to recommend your product or service to a friend.

For help in identifying important barometers in your industry, refer once again to the 10-Ks of your public company competitors. Many companies list non-GAAP measures or other KPIs they consider important to their business in the management discussion and analysis (MD&A).

Barometers – Summary:

  • Identify the barometers or indicators of success that are important for your business
  • P&L indicators – unit economics (gross margin), EBITDA, sales growth, annual recurring revenue (ARR), customer lifetime value (LTV), customer acquisition costs (CAC), operating expense ratio.
  • Balance sheet indicators – current ratio, the debt-to-equity ratio
  • ‘Leading’ indicators for success – customer engagement, unit economics, repeat usage

Build It

Building a financial model or budget involves several steps: deciding on the scope and level of precision required; selecting the right time-period and budget frequency; selecting the right software or other tools, and getting participation and buy-in from across the organization.


The level of precision and tolerance for variance will dictate whether you need a detailed, bottoms-up model or a summarized top-down model. Bottoms-up models begin at a tactical level and involve an assessment of every resource that will be required to produce the strategic level of output. KPIs are an important part of a bottoms-up model. Where possible, isolate KPIs, unit economics, and output level assumptions in a convenient place in your model to toggle and control your budget as needed. Top-down models often start with total revenue (for P&L) and total assets (for balance sheet) and are constructed using common-size financial statements benchmarked against prior years or against your public company peer group.

Time Periods

A common practice is to kick off an annual budget near the end of a fiscal year, with full rollout early in the subsequent year. An annual process makes sense for many businesses, but it may not make sense for yours. High-growth companies may require more frequent budget cycles, such as semi-annual or quarterly. Annual budgets for these types of companies become stale and useless as the year progresses.

In addition to the operating budget, it is important to prepare a long-term financial model (LTFM) of 3-5 years, or whatever length of time is expected to reach steady growth rates and long-term profitability. The LTFM will be a critical part of your strategic vision and company goals.


Did you know that your general ledger software probably already comes with a budgeting module? This is true of most enterprise resource planning or general ledger software programs (including Quickbooks). Business intelligence tools, such as Domo, can also integrate with your GL to provide dashboard results to facilitate ongoing monitoring. Spreadsheets are going to play an integral role in your process, but where possible, look for other more stable and automated software tools to house portions of your model.


The budget will not be successful if prepared and announced unilaterally. It needs buy-in and engagement throughout the organization. One way to accomplish this is by involving as much of the team in the build as possible. Subdivide the budget and allow teams to participate in their own portions of the budget. Make sure to hold them accountable for their results.

Build It – Summary

  • Scope your budget and determine the level of precision needed
  • Select the operating rhythm (annual or more frequent) that is best for your business
  • Prepare an LTFM that demonstrates your path to steady-state growth and long-term profitability
  • Leverage software, including what you already have and may not be utilizing
  • Get buy-in from your organization through a collaborative build process

Benchmark It

You’ve done it! You have built your budget! But how do you know whether it passes the smell test? Is there something you’ve forgotten or an assumption you’ve made that is unreasonable? To ensure you are on the right track, compare your results against public company peers in your industry or vertical market.

For an apples-to-apples comparison against other companies, you’ll need to prepare your financial results using commonly used line-items and metrics. For example, suggested summary P&L and balance sheet frameworks are listed below:

P&L, Blance Sheet

Benchmark it – Summary

  • Prepare financial results using commonly used metrics and financial statement line items
  • Compare P&L and balance sheet results to public company peers

Make it Better

Don’t let the momentum of the budget slow down after it is rolled out. Set up tracking mechanisms to ensure metrics and data are captured at the right levels of detail to measure success. See that teams that have ownership for portions of the budget are accountable for their results. Establish recurring meetings, such as budget-to-actual reviews, with each team and discuss progress against goals.

As the year progresses and real data becomes available, the temptation will be to update the budget and create a more realistic view of the year. In certain cases, this updated parallel budget, or pacing, may be necessary for management to make more informed resource allocation decisions later in the year. However, avoid the temptation to roll out an entirely new budget to the organization as it may undermine accountability and create unnecessary time demands on your teams.

Make it Better – Summary

  • Capture real data and measure success
  • Hold teams accountable
  • Create parallel budgets, or pacings, when necessary for specific needs

Finally, a few words of caution as you embark on your budgeting exercise. While the budget can offer many benefits, there are a few pitfalls to be aware of. For example:

  • Over-reliance. Understand the limitations of your process and keep perspective about what it was intended for.
  • Separating the planning from the execution.
  • Use it or lose it. Don’t set a tone that suggests budgeted amounts are minimums when the intention was maximums.
  • Cost reduction at the expense of value creation.
  • Analysis paralysis.

So the next time your colleagues tell you that execution is the blueprint for success, remind them that the budget is the blueprint for execution!


Ryan Parker is the CFO at Mercato Partners

You can reach him at


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