Budgeting for Project Based Organizations
One of the most challenging activities performed by a company is budgeting. Every year there is a large investment made to create annual budgets. So, what is the role of a budget? It should represent what the business believes is achievable and what it intends to accomplish. The organization establishes a budget that becomes the baseline for performance management. A large investment is made by many within the organization, so there are a lot of moving parts. Follow the 8 tips below to create a budget that is a useful tool for your business:
- Kick-off the budgeting cycle, providing a timeline, parameters, and overall goals. Include all stakeholders.
- Establish clear guidelines for the budget process. Below are just a few examples:
- What is the horizon of the forecast?
- What are the due dates?
- How to handle proposals in the forecast?
- What is the growth rate expected?
- Make sure your organization has a tool that provides all stakeholders with the visibility and control they need over the budget.
- The budget should be time-phased and align to the timing of the work.
- Scenario modeling is critical to understanding the best case, most likely, and worst case scenarios. A tool that allows for what-iffing or modeling is a necessity.
- Account for rate differences whether they be OH, G&A, COM, or Labor Rates. Make sure your tool is flexible enough to account for project specific rates, ceilings, and budget as well as forecasting rates.
- Throughout the year hold monthly reviews where the budget is reviewed, and course corrections are made via a forecast.
- Understand that the budget is a living and breathing document…not a static metric that is put on the shelf. Update it for changes in your business environment.
Budgeting revenue is crucial as it drives many other metrics (profit, growth rates, etc). The revenue plans are the barometer of your company health. The revenue plan will contain awarded contracts and opportunities that are still in the pipeline so make sure both are included.
Tips for revenue budgeting are below:
- Look closely at your pipeline for new opportunities.
- Understand how your profit is trending.
- Labor vs Subcontractor – examine closely.
- Examine backlog, breaking it out between opportunities and awarded work.
- Benchmark your expenditures with prior years.
Look Closely at Your Resources
People are by far the biggest investment and in turn it is the largest revenue generator for services-based companies. Resources should be managed during the entire project lifecycle including proposal, project initiation, execution, and closeout. Measuring the utilization of resources is critical and below are a couple of questions you should be able to answer.
- What utilization do you need to be profitable?
- What utilization should you aim for to avoid burnout?
- Understanding billable and non-billable utilization?
- Project probability in people forecasting to more accurately understand both billable revenue and utilization?
Indirect Rates are Pivotal
The management of indirect rates can be the difference between winning a bid, losing a bid, making profit, and the ability to grow. It is critical to have the ability to look both at the actual rates being charged as well as bid rates to determine profit by resource. Often proposed rates will be different than actual rates, budget rates different than forecast rates, forecast rates are different year over year, and having the ability to apply multiple rate scenarios to your direct cost is very valuable in helping you create your forecast.
Rates play a big role in revenue baseline assumptions. For instance, if your overhead rates are less than you predicted on Cost Plus projects, the actual revenue recognized will be less. On Fixed Price projects, higher than anticipated rates will eat into planned profit. Having revenue forecasts for the 1-5 year horizon will help the finance team more accurately predict corporate or forward pricing rates. Managing rate forecasts is important for all contract types and communication of rate changes to project and proposal teams will help eliminate a rate impact surprise. Below are a couple of pointers for indirect budgeting:
- Don’t forget to budget your indirect costs.
- Look at labor utilization to better understand the indirect component.
- Do you have a system that will handle cost pools and allocations?
- Understand your sales forecast and demand for resources.
Hope these tips helped spark new ideas for your budgeting process and gave you some new things to think about!