Optimize Spend Using Purchase Budgeting

It’s been said that a budget is used to tell your money where to go rather than wondering where it went. One of the most important components of a budget — and one that’s often overlooked — is establishing firm budgets for purchasing. This area of spending represents a considerable portion of company expenses, so controlling it is key to financial optimization.

This guide covers the basics of purchase budgeting and how to establish a strong, scalable budget process. Order.co’s Sr. Manager of Demand, Mark Saltarelli, shares some insight from his experiences helping customers fine-tune their budget process, think creatively about spending, and ultimately create better outcomes for their organizations.

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What is purchase budgeting?

Purchase budgeting is an important part of financial planning in which businesses allocate funds to items they need while also anticipating purchases to be made in the coming months or years.

Purchase budgeting is a component of the larger process of indirect spending budgeting, and it includes things like supplies, equipment, and administrative items. Some reports estimate that indirect spend can consume as much as 20 to 30 percent of revenue, so allocating budget to it is imperative to financial health. The finance team plans for this category of expenditures by forecasting based on previous expense trends and predicting how much money should be dedicated to purchasing certain items or services.

The purpose of setting a purchase budget is to help organizations better manage their spending and stay on track to meet financial goals. Accountants and finance professionals monitor economic changes, market trends, and company growth to ensure that the purchase budget accurately reflects current conditions.

Why is purchase budgeting important?

Purchase budgeting sets expectations for every department regarding acceptable spending. It helps team leads determine project scope and decide which spending requests fall within the budget. By creating and adhering to a purchasing budget, organizations realize many benefits.

Long-term planning: Strong, strategically aligned budgeting improves long-term planning and ensures company objectives remain at the forefront of spending decisions. A well-developed purchase budget plays a significant role in overall budgeting and is directly tied to achieving organizational goals.

Resource optimization: A budget is as much about what you don’t spend as what you do. Fine-tuning budget allocations creates better resource utilization, freeing extra funds to invest in other impactful ways. While a budget surplus isn’t a bad thing, fully optimized budgets are detailed enough that they don’t become commonplace.

“When someone is under budget, you may ask why the department is under budget and what those funds could be used for,” explains Mark.

This ensures each dollar can make the biggest possible impact on business outcomes. With a system like Order.co, you can access spending data to better determine where resources should go.

Cost savings: The purchase budgeting process combines sets of historical data to help analysts spot procurement savings opportunities. Analysts (or spend platforms) use the business's existing data to identify spending trends, category-specific spend data, and opportunities to save money through techniques like bulk buying, SKU consolidation, and negotiating with preferred or high-volume vendors for better terms and pricing.

Business resilience: Accurate procurement budgeting allows businesses to maintain resilience in uncertain economic times. Reliable, up-to-date information empowers the business to react quickly and adjust tactics or spending as economic changes occur, and including contingency funds helps managers make better decisions to navigate lean periods.

Procurement budgeting also sets expectations for spending on specific projects or line items, which becomes more important when prices fluctuate. Pricing that exceeds established budgets serves as a guideline for buyers. It allows them to explore alternatives and make contract decisions that align with pre-defined spending limits. In the current economic climate, 40 percent of businesses plan to keep spending at levels consistent with last year. Thus, purchase budgeting becomes a competitive advantage, allowing the business to get more for its investment, even in light of neutral budget movement.

7 Steps to creating a budget strategy

To build a budget that fully supports the business, adopt a repeatable process that considers company spending from many angles. Use these simple steps to create your first strategic budget or improve your current budget process.

1. Choose a budgeting approach

Choosing the right budgeting approach is key to creating a successful budget strategy. When examining the budget, try looking outside the general approaches, says Mark. “Consider different ways to set budgets and drill down — by location, department, cost centers, or other parameters to identify spending trends and savings opportunities.”

Mark says location-based budgets are often ripe for adjustment. “Consider the variants and outliers across locations and ask how different locations spend and why.” This creative exercise can shed light on opportunities to optimize.

2. Outline organizational goals

Short-term and long-term goals form the basis for every budgeting exercise. These goals should be specific enough to guide budgeting decisions, as well as measurable and time-bound. Documented organizational goals ensure that budgets are targeted in the right areas and are likely to produce the desired results. They also aid allocation decisions for individual departments and projects.

3. Calculate current income

Calculating the current period’s income provides a key piece of information to the budget process. This calculation allows the finance team to monitor cash flow through a balance sheet and income statement. The balance sheet shows assets, liabilities, and equity, giving a snapshot of financial position. This information lets the finance team know what income will be available for paying expenses and investing in projects. From here, the team can extrapolate future income forecasts.

4. Identify fixed and variable expenses

To calculate fixed and variable expenses and budget for upcoming purchases, the finance team must first identify such expenses. Fixed expenses, like rent or loan payments, tend to stay the same each month, while variable costs may change from period to period depending on certain business activities. Variable costs can include labor, marketing, and travel expenses. Once identified, the team can estimate fixed and variable costs based on historical records or budgeted amounts set by higher-level leadership, thus developing a clearer picture of anticipated expenses during a given period.

5. Gather historical data

To ensure the budget strategy is accurate, the team must review historical data from financial statements and finance reports. This helps identify potential patterns or relevant variances when budgeting for future expenses. By examining past costs, the finance team determines funds allocation for future purchasing and similar activities. Anomalies or trends in spending can alert them to potential issues with the numbers. Historical data also enables spend analysis that highlights spending trends and opportunities to save.

6. Identify contingency needs

Once the team identifies fixed and variable expenses, they must set aside contingency funds for unexpected costs. This is essential to ensure resilience in cases of unexpected expenses or market shifts. The size of the contingency fund is determined based on data, experience, and internal standards. It should also reflect the current economic environment and known potential risks.

7. Set budget pools and allocation

Once the finance team completes its review, they assemble a preliminary budget. Finance collaborates with the organization’s leadership to determine funding for each area, such as marketing, operations, research and development, legal services, etc. This ensures proper funding across all business functions.

Although fine-tuning a budget each year might produce friction for managers seeing smaller figures, Mark suggests that communication and cultural alignment can make right-sizing easier. “It should be a point of pride for a department. If you can get the same results with a smaller budget, it’s a sign that you’re an effective leader.” Focusing on making the business more effective also means more success in the long term.

How Order.co helps simplify buying for business

Order.co streamlines and centralizes many processes and data sets that help businesses save money and identify opportunities. With Order.co, users can buy the items they need to run daily operations, build savings and resilience into every purchase, and analyze their historical data to understand their spending better. This visibility and data access helps finance teams more accurately budget for future spend to create the most value within the business.

To learn more about the benefits of using software to plan spend, start with a demo of Order.co today.

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