When it comes to business obstacles, what separates the companies that thrive from the ones that just barely get by? Knowing how to budget effectively. If you’re ready to make sure your business thrives under pressure, we can help!
Our advice? Start by using value proposition budgeting (VPB).
VPB is a method of analyzing and forecasting future outcomes and should be used when restructuring your financial procedures. The goal of VPB is to determine the areas of your business that offer the most return — whether you track it manually or with the help of business budgeting software. This way, you can restructure your financial practices and use your cash more wisely.💰
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With multiple budgeting methods to choose from, like zero-based and activity-based budgeting, it can be challenging to find the right system for your business. At Relay, our mission is to improve the rate of small business success by giving you full visibility into finances and control over your cash flow. That’s why we put together an entire series about business budgeting.
Ready to get started? Let’s dig into everything you need to know about value proposition budgeting.
What is value proposition budgeting?
Value proposition budgeting, otherwise known as priority-based budgeting, involves analyzing and explaining a business’ expenses for a given fiscal period. At its core, value proposition budgeting aims to find out where a business should spend money based on how much value each expense brings in.
But let’s take a minute to discuss what ‘value’ actually means. 🤔 Since value is subjective, it’s often measured in different ways. Consider the best way to achieve profitability for your business. Is it through product development? Customer service? Something else altogether?
Value proposition budgeting illustration: Amazon vs. Apple
Let’s look at how some of the most well-known companies prioritize their expenses based on their value. For example, Amazon offers competitive shipping options — a major advantage for its business — which means it likely places a lot of value on its shipping and logistics expenses. 🚚 On the other hand, the visual aesthetic of Amazon's website probably doesn't have as much of an impact on the company's bottom line — which is likely reflected in its design budget. However, design is a core brand pillar for a company like Apple. ✨ This likely means design is a key value for the business, and its budget undoubtedly reflects this.
So, what does this all suggest? Simply put, financial statements alone don’t always show how certain investments lead to higher profits. Instead, you need to figure out the highest value for your business holistically — beyond just studying your financial statement.
What a value proposition includes
Value-based budgeting should include revenue and expense estimates based on historical results. You can then use this data to make profitable decisions in the future. For example, if you know an expense brought it a lot of value previously, you may want to continue investing in it.
Since financial forecasting is a priority — or, at least, it should be — it’s essential to run accurate budgets to ensure consistent growth. Let's say your business is in a crisis. You’ll need to get strict about where to spend your money to ensure profitability. VPB is the perfect approach as it helps prioritize the most important expenses. It keeps you focused, helps you eliminate unnecessary spending and drives growth.
How value proposition budgeting works
Ever wish you could take back an expense that hurt your cash flow? 😓 Now you can prevent those incidents from happening in the first place! At a basic level, VPB works by prioritizing the expenses that bring in the most financial return and eliminating expenses that don’t provide significant value.
Within a value proposition budgeting process, there are three basic steps you’ll need to follow:
Determine your company’s vision, 👁 goals and ideal results
Identify the programs, products and services you spend capital on
Allocate resources to the programs that drive the highest value
Sounds simple, right? Of course, when you actually sit down to do this, you realize that determining the value of each expense is a challenge. To implement the three VPB steps, consider the what, why, and how of each expense. Ask yourself:
What value (monetary, customer-driven, or other) are we getting in return for this expense?
Why is our spending up in this category?
How will this expense contribute to our operating profit?
These questions emphasize how a given expense will result in value: hence the purpose of value proposition budgeting. But don’t forget to consider your business’ goals when measuring value! The importance of a given expense will be completely unique for each business.
Tip: To take your budgeting method one step further, learn how to use the envelope budgeting system to ensure you don't spend more than what you earn. 🙌
Value proposition budgeting example
Let’s walk through an example of value proposition budgeting in action to give you a better understanding.
For example: You own a product-based company that sells bicycles. This year, you decided that attracting new customers to your store is the most important measure of value to increase net profit. But, you recently ran a profit and loss report and noticed that your net profit was down.
You need to get to the bottom of the issue, so you use the value proposition budget method and list out all of the different expenses that you believe drove value in your business.
Previous Month | Current Month |
|---|---|
Rent: $2,500 | Rent: $2,500 |
Payroll: $3,500 | Payroll: $3,500 |
Supplies: $500 | Supplies: $500 |
Marketing: $2,500 | Marketing: $500 |
Equipment: $1,000 | Equipment: $1,000 |
Total Profit: $30,000 | Total Profit: $20,000 |
NET Profit: $20,000 | NET Profit: $12,000 |
After looking into this month’s expenses, you realize that profit and marketing spend were both down. Since you know that you just ended a marketing campaign that saw a high return, 👏🏽 you realize that you’ll need to continue investing in marketing expenses to see growth.
In this example, you can see that you were able to identify the importance of marketing expenses because you decided that attracting new customers to your store was the best way to measure value. Without analyzing the value and priority of the expense, you may have continued to see a decline in profit.
Revenue vs. Profit: The Difference in Plain English
The advantages and disadvantages of value proposition budgeting
Value proposition budgeting is best suited for businesses that need to restructure their finances and reduce excess spending. To determine if value proposition budgeting is right for you, you’ll need to consider the top pros and cons of VPB:
Pros of value proposition budgeting:
You can quickly eliminate excess spending.
VPB makes it easy to see where your cash flow is going.
It allows you to focus spending on areas that you find have the highest value.
When performed frequently, it provides greater clarity around expenses.
Since you have greater clarity, you can more easily prioritize future expenses.
Cons of value proposition budgeting:
Expense value can be challenging to gauge as you can’t quantify everything by a dollar amount.
The value of an expense could change depending on industry trends.
Only focusing on existing expenses could cause you to miss out on valuable opportunities you’re not currently executing.
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Learn moreHow to stick to your value proposition budget 📝
With today’s competitive landscape and fast-paced markets, it’s essential for business owners to develop more intelligent 🧠 ways to budget and forecast for the future. Having a baseline budgeting plan in place is an excellent start to do just that. But sticking to it? Now, that’s an entirely different story.
As your business grows, you’ll also grow—incredibly busy, that is! It’s not enough to set it and forget it. Instead, you’ll need a money management platform in place to continually reevaluate and prioritize your business expenses to ensure you're sticking to your budget and maintaining adequate cash flow. You can streamline this process by:
Determining a budgeting schedule: To keep up with your value proposition budget, you’ll need to continually re-evaluate your expenses. How often you do this will depend on the type of business you own, such as service-based vs. product-based, your expense list, and your goals. When in doubt, it’s better to be on top of your expenses and budget more frequently rather than wait too long. Try monthly or quarterly budgeting to start. From there, you can adjust the frequency as you find what works for you.
Tracking where your cash flow is going: One of the best ways to simplify the budgeting process is to keep track of your transactions. You can do this by setting up a bank feed that automatically imports transactions from your bank account 🔀 to your accounting software. When using the VPB method, having an organized list of your transactions at your fingertips at any given moment can make the budget process much quicker.
Understanding your transactions: It’s not enough to just track your transactions; it’s also essential to understand and interpret those transactions. Expenses can stack up, and it can become increasingly difficult to manage cash flow. Using a tool that auto-categorizes your expenses can create visibility into the different types of expenses your business has—allowing you to see spending trends more easily. 📈
By following these steps, you’ll be able to not just set up a value proposition budget, but ensure that you stick to it. As you get used to your budgeting process (and we promise you will!), you can make adjustments to fit your business’ needs and accurately plan for the future.
Creating a budget that works for you
Ultimately, the right budgeting method for your business is up to you and the goals you set for your business. As your business grows and changes, so will your goals and objectives. There is no one-size-fits-all approach, but with a solid understanding of the different budgeting methods, you’ll be able to find one that’s unique to your pain points.
At Relay, we strive to educate and support business owners when it comes to the complexities of business banking. With a banking and money management platform like Relay's, you can better categorize expenses with separate checking accounts (like one for taxes and one for payroll) and better stick to your budget.
Don’t wait to start budgeting. If you’re looking for an online banking and money management platform that helps you implement a value proposition budget, try Relay today.
