HELP! I KNOW I NEED A BUDGET BUT DON’T KNOW HOW TO GET STARTED!
Karen E. Felsted, CPA, MS, DVM, CVPM
FINANCE
Everyone talks about the importance of a budget, but very few people actually set one up. It seems like such a
daunting task. Budgeting, however dull or intimidating it may appear to be, is nonetheless an essential tool for
just about anything you plan to do within your hospital. And realistically, it’s not as hard as it sounds. A
budget, done well, forces a practice to plan and planning makes both medical/surgical and financial success
possible. No doubt you have heard these sayings: “If you don’t know where you’re going, how will you know
when you get there?” and “If you can’t measure it, you can’t manage it.” These are both overused clichés, but
things become clichés because they are true.
Budgeting is an essential planning tool for improving all aspects of hospital operations: the medical and surgical
services offered by a practice, increasing revenue, estimating cash flow, setting fees, purchasing equipment,
analyzing expenses, monitoring cash flows, and specifying operational changes.
Besides providing this very specific financial data, a budget forces planning which helps in the early
identification of problems, in determining why circumstances might be expected to change in the future,
and what could be done about it. Using a budget as part of the equipment purchase decision process also
helps see how this change will impact the practice as a whole. Budgeting is also an excellent way to
communicate goals to the entire hospital staff and to ensure that these goals are coordinated.
What Information Does the Practice Have Now?
The most common financial reports a practice receives are a profit and loss (P&L) statement and a tax return. The
bottom line “net income” in most practice P&L statements is a meaningless number; it doesn’t represent “operating
profits,” “net cash flow,” or “taxable income.” In a perfect world, this “net income” figure would be equal to the
profitability of the practice and the practice would also receive cash flow reports in addition to this P&L and the tax
return.
Budgets could be prepared in a similar fashion—using the P&L with its meaningless bottom line number, on a
profitability basis, a cash flow basis, and a taxable income basis. For most practices the most useful thing to do is
prepare the budget on a cash flow basis; this will capture not only revenue and operating expenses of the practice,
but other cash outflows such as loan payments and equipment purchases as well. The reports that a practice gets
now, even if imperfect, will form the basis for the cash flow budget. Any imperfections can be ironed out as part of
the process.
Even when we’re not in a recession, lack of cash is the primary reason businesses fail. And when times are good,
business owners forget that business is cyclical and times won’t always be good. When times are good, practices
need to be putting money aside for those rainy days. Understanding and managing cash flow decreases the
likelihood of a practice being harmed by a poor cash flow during good times or in challenging times. A practice
with a high level of taxable income or profitability may be lulled into thinking all is well without recognizing how
low the cash flow is because the practice is “using” the profits or taxable income to made debt payments or purchase
large amounts of equipment.
The basic steps to creating a budget are straightforward; each will be discussed in more detail below:
1. Gather the basic information
2. Input historical data into a spreadsheet program
3. Identify the financial changes expected in the practice next year
4. Identify the changes the practice would like to see in the practice next year, including equipment purchases
5. Determine the budget for next year
Step 1: Gather Basic Information
Start the budgeting process for the next year three to four months before the end of the current year. First, collect
the profit and loss statements (P&L) or tax returns from the past two full years as well as a year-to-date statement
from the current year.
Although the P&L statements from accounting software may provide more detail than the tax return, it is essential
that the P&L figures are reconciled to those in the tax return, which is the most reliable source of financial data for
most practices. This may require some work to determine how separate line items in the P&L were grouped
together to produce the figures in the tax return, but it is essential that this happens.
These reports need to be prepared on a “cash” basis rather than an “accrual” basis since the budget to be prepared is
a cash flow budget.
Key performance indicator data from the practice information management system can also be very helpful in
making estimates for the next year. Such data includes:
 The percentage of revenue that comes from doctor production
 Revenue/transactions/ATC for the practice as a whole
 Revenue/transactions/ATC for individual doctors (a measure of individual doctor performance)
 Revenue by category (dentistry, vaccinations, product sales, etc.)
 New client numbers
Step 2: Input Historical Data Into a Spreadsheet
A spreadsheet program is superior to a paper and pencil budget because it is faster, more accurate, and also
allows for “what if” scenarios. To enter a budget it is only necessary to know spreadsheet basics: how to
input data, how to sum data, and how to do simple arithmetic calculations. More and more people already
have these basic skills, but if training is necessary, the basics are easily obtained by courses on disk or from
a book, from instructor-led courses at local community colleges or computer stores, or from a ten-year-old
family member or friend. With these skills, it is easy to prepare the budget that is illustrated below.

Input the data from the last two year’s financial statements as well as the YTD information from
the current year.

Annualize the partial year data.

List revenue and expense categories down the side, and the dollar amounts and percentage of gross
revenues for each year across the top.

The net income or taxable income line should be a formula subtracting all the expenses from the
revenue. This allows you to compare the bottom line figure in the spreadsheet to that in the
original source document to make sure the figures were entered correctly.
Actual
results
2013
%
Annualized
results
2014
%
Fees for services
$852,339
100.00%
$912,675
100.00%
Total Revenues
Budget
amounts
2015
%
Revenue
852,339
100.00%
912,675
100.00%
Cost of Professional
Services
Animal disposal
4,673
0.55%
5,788
0.63%
Drugs and medical supplies
70,344
8.25%
75,222
8.24%
Laboratory costs
27,466
3.22%
32,175
3.53%
Obviously, the above example is only a partial budget—all of the other expense items should be included
too. The percentage category calculation is the revenue or expense line item divided by the total gross
revenues.
As discussed above, the most useful budget is one that is based on cash flow. To convert the initial budget
input to cash flow:

Add back depreciation

Subtract principle payments on loans and capital leases

Adjust other non-cash revenue and expense items
Step 3: Identify Expected Practice Changes
The next step is to identify practice financial changes that are fairly certain to happen in the budget year
such as rent or utilities increases or new hires not fully represented in the current year financials and raises.
Step 4: Identify Desired Practice Changes
After identifying financial changes that must be accounted for, the management team next should look at
desired changes. These are generally things the practice wants to spend money on. Common goals are as
follows:

Purchase of new equipment

Attend a particular CE conference

Hire more staff

Hire a new veterinarian

Give the staff a raise and more benefits

Provide more training for the staff

Renovate the practice facility

Build a new building
Some goals are personal to the owner but require changes to the practice in the form of higher
compensation or reduced hours spent at the practice:

Take an exotic vacation

Send your kids to private school

Spend less time at work and more time at home
It is important to quantify the financial aspect of each goal. Most goals are about spending more money.
To achieve these new goals, the practice needs to make more money or spend less money in other areas.
However, even some more intangible goals are really about money. For example, if the owner wants to
reduce their work hours, this generally means their production will decline and either another doctor (either
currently in the practice or one that will be hired) will have to pick up the slack or the practice may have to
reduce spending in other areas.
Step 5: Determine the Budget for Next Year
Now it’s time to combine the information gathered in the previous steps into an actual budget. The starting
point for next year’s budget is the actual costs incurred in the previous year and entered into the budget
spreadsheet. The costs incurred in the prior year should be rolled forward into the next year at their
estimated amounts. For example, estimate next year’s revenue by multiplying the current year’s revenue
by any planned fee increases.
Next, look at expenses; enter fixed expenses as the dollars you expect them to be. For example, the practice
has three doctors who will each be paid $1,500 in CE expenses so doctor CE expense is budgeted at
$4,500. Variable costs such as the cost of medical services or credit card fees are best estimated as a
percent of the revenue, using prior year percentages of revenue as a guide. Add in the known budget
changes identified in step three such as raises that have been promised or anticipated utilities increases.
This is the first version of the next year’s budgets—it includes all the realistically anticipated revenue and
expenses for the year.
The next step is to add in the “desired” goals identified in step four. After doing this, look at the
anticipated cash flow. Is it positive? Negative? Breakeven?
If the cash flow is negative, the management team will need to rethink their objective for the next year.
The first place to look is revenue. Although the revenue figure for the next year’s budget discussed above
was estimated by multiplying current year’s revenue by a percentage fee increases, is it possible there will
be more revenue growth? Are there things the practice can do to attract more new clients? Or to educate
the current clients in how to take better care of their pets? It is harder to increase revenue now than it used
to be; just putting more dollars on paper doesn’t mean it will happen. Any revenue increases included in
the budget need to be thoroughly thought through and the practice needs to be fairly confident they are
achievable before counting on that cash flow. If additional revenue isn’t possible to move the negative
cash flow into a breakeven position, the practice will have to decide which expense items will need to be
cut.
Creating a viable budget is an iterative process; there will generally be multiple changes before deciding on a final
choice of goals. Critical to the process is an understanding of the net cash flow desired next year and the importance
and viability of individual goals. Budgets are generally first prepared on an annual basis and then the figures are
spread out by month. Preparation of the monthly budget indicates when cash shortages are expected so that they can
be planned for in advance.
Hints for a Successful Budget

Be conservative. Overestimate cash outflows and underestimate inflows. It is better to be pleasantly
surprised with excess cash than not enough. Use common sense. If the revenue hasn’t grown more than
5% a year in the last five years, is it reasonable to expect a 20% growth simply from the offering of a new
service?

Look at current economic and business conditions and consider how they may affect the practice.

Run a reality check on the figures. If the majority of small animal practices have staff costs between 18–
22% of gross revenue, is it reasonable to think the practice’s can be reduced to 14% without causing harm
to the practice?

Leave room for surprises.

Start with a simple budget and then use it to calculate the effect of more complicated plans.

Significant changes generally don’t occur month to month. A significant change usually occurs stepwise.
Make sure any dramatic changes in cash inflows (primarily revenues) or cash outflows (primarily
expenditures) are realistic. One exception to this will be when the practice borrows money and has a
significant cash increase or pays off a loan and sees a reduction in debt payments.

Get help when needed.

Give yourself the time needed for the process.

Be sure that the practice has an accurate in-house accounting system.

Compare revenue and expense ratios to industry revenue and expense ratios.

Be sure to get staff input.
Cash flow budgets are not magical glimpses into the future and the act of preparing one doesn’t mean the future will
play out this way. A budget is an educated guess based on an understanding of the business and a thoughtful
assessment of the future. The budget allows the practice to significantly improve the quality of operating decisions.
Even though a budget isn’t a magic ball, the practice’s decisions will be better than if they didn’t have a budget.