Build Next Year's Budget With 3 Scenarios: Worst, Best, and Most Likely
Most businesses build one budget for the year. Then the year happens. A big customer slows down, costs go up, or a growth opportunity shows up out of nowhere, and the budget stops being useful by March.
The problem isn't budgeting. It's betting everything on a single version of the future.
There's a better way, and it's how we build budgets with our clients: three scenarios instead of one.
Worst case: can the business survive?
The worst case isn't a doomsday prediction. It's a stress test. It answers one question: if the year goes badly, can you still pay your people and your bills?
To build it, start from your most likely budget and make it hurt:
Cut expected sales by 15 to 20 percent (or lose your largest customer, if that's a real risk)
Keep fixed costs where they are, since rent, salaries, and loan payments don't shrink on their own
Assume customers pay two or three weeks slower than usual
Build in a cost increase on your biggest inputs
Then look at the lowest point your cash balance hits during the year. That number tells you how much cushion, or credit, you need.
Best case: what would growth require?
The best case is where your goals live. Everything goes right: you land the new contracts, sales grow faster than expected, and customers pay on time.
It sounds like the fun scenario, but it has its own risks. Growth costs money before it makes money. To handle a best-case year, you might need more people, more equipment, more inventory, and more cash to cover the gap between paying for all of it and getting paid.
The best case answers: if we hit our goals, what would we need to have in place, and when?
Most likely: the budget you manage to
The most likely scenario is your honest expectation for the year, not your hope and not your fear. Base it on this year's actual results, the customers and contracts you can see, and realistic changes in prices and costs.
This is the budget you use every month. You compare actual results against it, see where you're ahead or behind, and adjust.
A simple example
Here's how it might look for a hypothetical business with $6 million in sales this year, a 30 percent gross margin, and $1.7 million in overhead.
Worst case: sales drop 15 percent to $5.1 million. Gross profit is $1.53 million. With overhead unchanged at $1.7 million, the business loses $170,000.
Most likely: sales grow 8 percent to $6.48 million. Gross profit is about $1.94 million. After $1.7 million in overhead, the business earns about $244,000.
Best case: sales grow 20 percent to $7.2 million. Gross profit is $2.16 million. Adding two hires brings overhead to $1.85 million, and the business earns $310,000.
These numbers are for illustration only.
Notice two things. First, the worst case is a loss. That's not a reason to panic. It's a reason to plan: how much credit would you need, and which costs would you cut first, and at what point? Second, the best case earns only a little more than the most likely case, because growth adds cost. Knowing that ahead of time keeps you from being surprised when a great sales year doesn't feel like one in the bank account.
How to use all three during the year
A three-scenario budget isn't a one-time exercise. It works best when you use it every month:
Manage to the most likely budget. Review actual results against it monthly, once your financials are in.
Set early warning signs. Decide in advance what would tell you the year is trending toward the worst case, like two months of sales 10 percent below budget, and what you'll do if it happens.
Set growth triggers. Decide what would tell you the best case is happening, and when you'll add people or equipment to keep up.
Update the forecast. Roll your cash flow forecast forward each month so your next 13 weeks are always visible.
The point isn't to predict the future perfectly. It's to make your big decisions now, while you're calm, instead of in the middle of a cash crunch.
What to do next
Start with this year's actual numbers. Your budget is only as good as the books it's built on, so make sure your financials are accurate and current before you plan from them.
Want to see what it would cost to have a team close your books monthly and build your budget with you? Our Pricing Calculator gives you a monthly estimate in under a minute.
If you'd rather talk it through, schedule a no-pressure call with our Fractional Controller & CFO team. No obligation, just clarity.
This article is for general information only. Every business is different, so talk with a qualified professional about your specific situation.
