Budgeting Example

Lucy's Beauty Shop illustrates the principals of budgeting in a business. The owner-manager is Mrs. Lucy Doe. The shop's income is from two sources: (1) from beauty services which are performed by three operators and (2) from cosmetics and perfumes which are sold by the receptionist. The receptionist also answers the telephone, keep's the shop's daily records, and prepares the checks for Mrs. Doe to sign.

Targeted Income. In making a budget, Mrs. Doe decided that she wanted to increase her net profit after taxes. She set the goals at 10,000 for net profit after taxes. This figure meant that the shop's profit before taxes had to be about 13,333 because she figured that her taxes would amount to about 3,333.

This goal was an ambitious one because her previous year's net profit before taxes was 8,390. For details on that year see: "Lucy's Beauty Shop - Profit and Loss Statement."

Determining Fixed Expenses. As shown in the table. "Lucy's Beauty Shop - Profit and Loss Statement," the shop's fixed expense items are: depreciation of equipment, receptionist's salary, insurance, rent, interest on equipment obligations, and utilities (heat and air conditioning.) In addition, about one half of the laundry and shop maintenance expense is fixed. In budgeting her fixed expenses for next year, Mrs. Doe took into account (1) the raise she intended to give the receptionist, (2) a change in amount of interest, and (3) a change in her insurance expense.

She estimated that her fixed expenses for next year would be 11,000

Determining Variable Expenses. In Mrs. Doe's beauty shop, the variable expenses - those that vary with sales - are cost of cosmetics sold, shop supplies, payroll taxes and costs, utilities (water and electricity), about one-half of laundry and shop maintenance, and operator's salaries. These salaries are variable because each operator receives one-half of the total price charged the customer.

When determining variable expenses, Mrs. Doe uses her trade journals for information on budgeted purposes, all costs are expressed as a percentage of the sales dollar. In her case, the percentages are: beauty shop supplies 10, laundry, including uniforms 3, water and variable utilities 1; and payroll costs 5.

She estimates her total payroll costs at 5 percent of gross revenue from service or 10 percent of salaries. Payroll taxes both - State and Federal - account for 7.9 percent of the 10 percent, and payments for workers' compensation and other employee insurance account for 2.1 percent.

Determining Expected Service Income. The next step in preparing a budget for Lucy's Beauty Shop is to determine the expected service income contribution. The basis for estimating this income for next year is the average revenue for each operator's appointment with one customer. This figure is 4. See following table., "Service Income Contribution."

One half of the 4 belongs to the operator. Other variable expenses take 76 cents. Thus, from each 4 unit of services sold, 1.24 is left for service income contribution.

The service revenue for 12 months is shown in the table, "Determination of Total Service Contribution".

1.  From the appointment book, she learned that each operator averages 15 appointments a day.

2.  The shop's income from each operator is 30 a day (15 times 2).

3.  Each operator works 5 days a week.

4.  Each operator contributes 630 a month to the shop's income (21 days times 30).

On this 630, the shop clears 390.60 because 76 cents of each 2 that the shop receives from an operator's work goes for variable expenses (see the table, "Service Income Contribution").

The shop's cosmetic sales contribute a net revenue of 50 cents on the sales dollar. Mrs. Doe estimated, based on past experience, that she could get a 50 percent increase in the sales of cosmetics without additional advertising.

Comparing Revenue and Cost. After Mrs. Doe determines her variable expenses, fixed expenses, and the service income contribution, she is ready to test her budget. She does this by adding her total fixed expenses of 11,000 and the desired gross profit of 13,333. This total comes to 24,333.

But her estimated service revenue (see the table, "Determination of Total Service Contribution,") is only 23,061. It will not cover her fixed expenses and desired profit. Resources will be about 1,300 short of the desired goal.

Where Can She Go?

Because resources are not enough to cover fixed expenses and the desired profit, Mrs. Doe has to adjust her budget. She can go in at least three directions. One possibility is to add another operator. Another is to try to increase cosmetic sales. A third solution is to reduce her expected profit. In order to decide what to do, Mrs. Doe needs answers to several questions about each possibility. She may have to work up several tentative budgets to determine what to do.

Add Another Operator. The possibility poses the following questions: Is the relationship between fixed expenses and revenue in line with industry trends? Is there space for an additional booth? What additional fixed expenses will be incurred? Can another operator be kept busy? If so, the additional revenue can help to offset Mrs. Doe's rent which is slightly higher than the average for her line of business. That average is 10 percent of gross beauty service income. The shop has sufficient space for another booth. However, if a booth is added, fixed expenses will increase because equipment for the new booth will mean additional financing costs.

Increase Cosmetic Sales. This possibility seems to be a logical way to increase income because each dollar of sales will increase the revenue by 50 cents. The first question is how much of an increase in cosmetic sales will be needed? Mrs. Doe calculated that these sales must be increased by about 95 percent rather than by 50 percent as she originally planned. Other questions to answer here are: By what method will sales be increased? By what additional advertising? By offering the receptionist and operators a commission on cosmetic sales? By reducing prices? What effect will these methods have on revenue? How much additional inventory will be needed? How will it be financed? Is storage and display space sufficient to accommodate increased sales?

Reduce Expectations. Sometimes the only practical solution is to reduce the expected profit. Mrs. Doe decided that 10,000 net profit after taxes was not in the picture next year. Based on her knowledge of the beauty shop business, she felt that her shop was not quite ready to add another operator. For one thing, she foresaw the possibility of personnel trouble if a new operator was not kept busy.

Compare your budget occasionally with real operations statistics. With powerful records you can accomplish this. Then, where
discrepancies show up it is possible to take corrective actions before it's too late. The proper choices for the ideal corrective
action depends upon your knowledge of management techniques in buying, pricing, selling, selecting and training staff, and
handling other management problems.

You probably are thinking you can employ a bookkeeper or a Accountant to deal with the record keeping for you. Yes, you can. But
remember two very important details:

1. Supply the accountant with accurate input. If You Purchase something And do not record the amount in your organization
checkbook, the accountant can not enter it. If you sell something for money and don't record it, then the accountant won't
understand about it. The records the accountant prepares will probably be no greater than the information you provide.

2. Utilize the documents to make decisions. If you moved to a physician And he told you you were sick and wanted certain
medication to get well, you'd follow his advice. Should you pay an accountant and he tells you your earnings are down this season,
do not hide your head in the sand and pretend that the issue will go off. It won't.

Business Management Roll in Personnel Selection. If your business Will be large enough to require external help, an important duty
will be the selection and coaching of one or more employees. You may start out with family members or business partners to assist
you. But when the business grows - as you hope it will - the time will come when you must select and train employees.

Careful choice of personnel is essential. To Pick the right Employees decide beforehand what you want each one to do.

Then look for applicants to fill these specific needs. In a small Business you will need flexible employees who can shift from
task to task as required. Include this in the description of all the jobs you wish to fill. At the exact same time, look ahead and
plan your hiring to guarantee an organization of people capable of performing every essential function. In a retail store, a
salesperson may likewise do stock-keeping or accounting at the outset, but as the company grows you'll need sales people,
stock-keepers and bookkeepers.

Once the project descriptions are written, line up applicants whom To make a choice. Don't be swayed by clients who may suggest
relatives. If the applicant does not succeed, you may lose a client in addition to an employee. Some sources of potential new
employees are:

1. Recommendations by friends, business acquaintances. 2. Employment agencies. 3. Placement bureaus of high schools, business
schools, and schools. 4. Trade and industrial institutions. 5. Help-wanted ads in local newspapers.

Your next task is to screen want ad responses and/or program Forms delivered by employment agencies. Some applicants will be
eliminated sight unseen. For each of the other people, the application form or letter will serve as a basis for the interview that
ought to be conducted privately. Put the applicant at ease by describing your company generally and the occupation in particular.
Once you have done this, encourage the applicant to talk. Selecting the right individual is very important. Ask your questions
carefully to find out everything about the applicant that's pertinent to this job.

References are crucial, and should be assessed before making a final decision. Check through an individual visit or a phone call
directly to the applicant's immediate former supervisor, whenever at all possible. Confirm that the information given you is
correct. Consider, with judgment, any negative comments you hear and what is not said.

Checking references can bring to light significant information Which may help save you money and potential inconvenience.

Personnel Training. A well-selected worker is only a possible Asset to your organization. Whether or not he or she becomes a real
advantage depends upon your training. Recall:

To allow adequate time for training. Not to anticipate too much from The trainee in too brief a time. To let the employee learn by
doing under actual working conditions, together with close supervision. To follow up on your training.

Check the worker's performance after he or she has been in work For a moment. Re-explain key points and short cuts; bring the
employee current on new developments and encourage questions. Training is a continuous process which becomes excruciating
oversight.

Personnel Supervision. Supervision is the next essential of employees control. Good supervision will reduce the expense of
operating your business by cutting down on the amount of worker mistakes. If errors are corrected early, workers will get more
satisfaction from their tasks and perform much better.

Motivating Employees. Small businesses sometimes face special Issues in motivating employees. In a large company, a Fantastic
employee can see An opportunity to progress into management. In a small company, You're the management. One thing you Might Wish
to consider is to give good workers a Small share of the profits, either via part-ownership or a profit-sharing plan. Somebody Who
has a"share of this activity" is going to be more Concerned about helping to make a success of the business.

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