Surely you have heard the importance of having a budget. Whether for your personal finance or your farm’s operation, consultants and advisers pound on the budget drum. The beat of “budget, budget, budget” surely rings in your ears. But does it yet stir in your soul or get your toes tapping? There is a good chance that the budget beat is more annoying than it is your favorite song.
We believe that budgeting is a source of competitive advantage both in life and in the market. Therefore, this article attempts to address the gap between budgeting being something everyone obviously needs to do for their own benefit and the reality that few actually do it.
Two factors contribute to any value proposition. At its most simple representation, the value equation is simply the ratio of benefit and cost (value = benefit / cost). You could make this equation more complicated by teasing the numerator into real and perceived benefits and the denominator into real and perceived costs, but that just benefits the author and not the reader. The reader wants it simple. Just think of value as the relationship between what you perceive you will get out of it and what you perceive it will cost you.
The gap between wisdom and practice as it relates to budgeting is a gap between feeling like we get a real benefit and the disdain we have for the budgeting process. If we are to close this gap (i.e., change the value proposition of budgeting), we will have to feel like we are getting more benefits and make the budgeting process less painful. The rest of this article addresses these two aspects in turn.
First, to reduce the pain of budgeting, reduce the complexity.
- Recognize that no one knows the future and that close enough is often good enough.
- Implement Pareto concepts (a.k.a, the 80/20 rule). This can help simplify your accounting chart of accounts as well. Think of a vertical bar chart with the tallest bars to the left and the bars getting smaller as you move to the right. The height of the bars is the total expenditure. Each bar is an expense category (an account in your chart of accounts). When your small bars get down to 1/10th of your largest bar, consider aggregating your small bars (simplifying your chart of accounts) and save yourself all that effort associated with maintaining immaterial levels of detail.
- Budget at the consolidated entity level and optimize the structure of your farm business.
- Separate Operating Budgets from Capital Budgets. Mixing these two concepts not only makes a hard job more challenging, but it also muddles your thinking. There is an Operations Management aspect to what you do as a farmer, and there is a Capital Management aspect to what you do as a business owner. Do not conflate the two; rather, strive to appreciate and master both managerial and strategic aspects of each. The four quadrants defined by these dimensions are a beautiful construct for understanding your owner-operator responsibilities more fully: Operations Management, Capital Management, Capital Strategy, and Operations Strategy.
- Use a tool with which you are comfortable. Ideally, you would use your accounting system's budgeting capability to be prepared to run budget to actual reports throughout the year. However, if that means a learning curve that proves a stumbling block, then use a spreadsheet. Maybe even pencil and paper is your best option.
Second, to increase the benefit you get out of your budgeting process, consider these steps:
- Pursue stability. Practice makes perfect teaches that mastery takes time. If you operate a relatively stable business, your intuition will soon get you mostly there. People make decisions through a set of decision heuristics that shorten response time, process a wider field of inputs, and factor in probabilities better than fancy computer models. However, when decision-makers fail to acknowledge that there are a new set of rules to the game, fail to seek information that would contradict the decision they emotionally prefer or fail to include the full scope of the decision, bad outcomes follow.
- Include the full scope of the budget decision. The full scope includes all the entities of the business, the capital projects as well as the operation (budgeted separately but analyzed together), the current financial reality for the business (i.e., financial health as seen in the consolidated balance sheet), and the risk. Perhaps the risk is the biggest miss among owner-operators. People tend to way underestimate the probability of bad stuff. Expect at least one of the many things that could go wrong will go wrong (someone dies, a crop fails, the market punishes, the employee performs poorly, the equipment fails, a natural disaster, et cetera). ALWAYS take steps to mitigate risk. Stay in the game; the real money is made over time.
- Do the budget yourself. Certainly, you can include others and get help. We provide budget services and want your business, but you have to do your own budget. The reason for this is from paragraph one (1) above. As the owner-operator, you make decisions from your gut. It is imperative that your gut be loaded with the right information. Doing the operations and capital budgets yourself ensures that you have the right “feel” for where you are at, where you are going, and how things are progressing. You cannot make good decisions with insufficient information. Setting attainable financial goals backed by informed decision-making is what will make your farm operation successful.
- Close the feedback loop. Perhaps this means joining a group that will force accountability and discipline. Do not change your budget throughout the year. A budget is not a record-keeping system – it is a form of biofeedback to your gut. However, it is critical that once the crops are out, you sit down with your budget and see how you did. Look at it, learn from it. It is telling you something about yourself. Are you a pessimist or an optimist? Are you too aggressive or too passive? Are you a poor manager or a good manager? Is your marketing the problem or your preventative maintenance?
Understand that 99% of what is written about budgeting is written from the perspective of controlling groups of people. As the owner-operator of a farm or small business, you are in the other 1%. The benefit of the budgeting discipline is that it gives you feedback. It loads your gut with good information upfront and, when you close the feedback loop at year-end, it tells you about your strengths and weaknesses. If you are savvy, you will use this feedback to accentuate your strengths and backfill your shortcomings. Do this through time. You may just find yourself moving into the 99% world where the budgeting discipline helps you manage a team of people as part of your more significant, more successful, more profitable enterprise with the stability and sophistication to compete into the next generation.
At Family Farms Group, we strive to “Keep Families on the Farm.” This means that we strive for a future where there are tens of thousands of owner-operator farmers. If you would like help in budgeting or any aspect of our mission, consider joining our group. We are owned by our farmer-members and strive together to protect the legacy of North American farmer heritage.