An operating plan is your complete financial forecast of where your business is going, including the income statement AND the balance sheet. It is more than just the typical budget I see at most of the companies I help.  Your operating plan helps drive and predict profit and cash flow. It shows your business leverage improvements and valuation changes.

When you own a business, it’s essential to know where you want to go financially. If you don’t know where you are going, any road will take you there. The better your forecast results, the more easily you can see the bumps in the road (hopefully avoiding them), the better you will perform, and the better you can predict the future. (And the better you will sleep at night!)

Your operating plan consists of these elements. For most small businesses, it’s about five pages:

• Income statement (sales, operating margins, expenses.)
• Balance sheet (what you own and what you owe)
• Cash flow records.

Creating an effective operating plan is part art and part science.  The “science” is your historical results and the overall process to develop the document.  The “art” is everyone’s ability to predict anything. Face the fact that your forecasted numbers are going to be, by definition, wrong. Still, that doesn’t mean you don’t do them.

To build your plan, take these steps:

1. Forecast the income statement. Do this on a somewhat granular level on a monthly basis.  Understand the revenue drivers and measure critical success factors; average sale per customer, transactions per service sector, inventory turnover, capital assumptions, etc.  Develop the sales plan we discussed before.  Understand product cost, gross margins, and production capacities. Estimate personnel needs to develop the personnel plan; know capital expenditure needs and timing.
2. Forecast operating expenses.  This is generally a straightforward exercise, but be specific by month. We have a tendency to flat line expenses on the P&L which looks good on paper, it’s not the best way to accurately forecast.
3. Reference your cash flow. The income statement with cash flow drivers and balance sheet assumptions auto-populate the forecasted balance sheet and cash flow statement.  Another mistake many business owners, entrepreneurs, and medical practices business offices make is they don’t understand the three basic financial statements.  Again I recommend looking at Dick Purcell’s book Understanding a Company’s Finances with the Financial Picture. Develop your ability to accurately track and foresee your cash flow.  (Click here for my resource page, with other helpful tools.)

Once you have built your plan, prepare a two-page summary of significant assumptions to prompt conversations with your team about strategies to improve these assumptions.

Don’t forget to compare your actual results with the operating plan. Compare the actual results to the plan’s income statement and balance sheet and the assumptions, analyzing all significant variances.  We use this instant feedback loop and what we learn to improve the forecast assumptions going forward and work on improvements.

Let’s be realistic, the better you can forecast, the better you see things coming; the better you will sleep at night.

This is a living and breathing process.

TIP: Remember small gains over time can lead to awesome results. A potentially simple idea to improve accounts receivable turn over can increase cash flow remarkably.  Here’s a spreadsheet that shows a $1.2mm improvement in cash with a 6 day accounts receivable turnover improvement.

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