How to properly budget and use a Forecaster in home health

Introduction

Budgeting is a basic business/financial fundamental that just about everyone is somewhat familiar with.  Forecasting, much less so.

Budgeting is where an organization projects out what its estimated revenues and expenses are expected to be for the upcoming operating period; generally, a fiscal year.  From that perspective, it seems a rather simple and easy to perform task for any organization.  And budgeting is a high-level management tool to help an organization better manage, analyze, and understand what is happening during the budgeted year.  And most organizations of any material significance in any industry prepare an annual budget. 

So why don’t all Home Health Agencies (HHAs) prepare an annual budget?

More on that later!

The Difference Between a Budget and a Forecaster

A budget is a static document that once completed and approved should not be changed and the metrics identified therein are what are compared to the actual results for the budgeted period.  Most operating budgets are monthly, so that you can compare your month-by-month budgeted values and Key Performance Indicators (KPIs) to your actual results on a month-by-month basis; and that Budget-to-Actual Comparison should occur very shortly after you have closed the books for that month.  Again, a budget is a static document that does not change once approved.

A Forecaster is a dynamic tool and is also known as a ‘Living Budget’, in that as the year goes by, your actual monthly results are entered into the Forecaster, while the remainder of the year still retains the budgeted values; but you also have the ability to change those budgeted values based on any new assumptions not previously identified/recognized in the original budget.  The Forecaster does just that, it forecasts.  The further you are into your operating/budgeted year, the more precisely the Forecaster can project out what your year-end results will likely be!

Budgeting and Forecasting in Home Health

A Brief History

Historically, less than 50% of all HHAs prepare an annual budget (and this pre-dates PPS).  And I would venture that 80+% of all those HHAs that actually prepare a budget, create a budget that is not used to help manage the business during the budgeted period!  These 80+% (of the less than 50%) prepare their budget and get it approved by management only to toss it into to a drawer to remain there until they need to look at it to prepare the following year’s budget.  So, although a budget was prepared, it provides little to no value to the agency. 

Personally, I have never seen an agency using a Forecaster before I worked with them.  There may be some agencies that use a Forecaster as part of their budgeting process, but I would believe that the number of those that do is very low. 

Why Budget?

A proper budget helps an agency to better understand and manage its financial and operational results.  It enables an agency to do this via the preparing of a Budget-to-Actual Comparison/Analysis each month.  The better, more appropriate your budget is, the more value/benefit it will provide.  The highest-level budgets will not only identify the variances between what was budgeted and your actual results but can also answer (or at least lead you to) why the variance occurred; and this is where most budget problems arise, answering the question: Why does the variance occur? 

Knowing that a variance occurred is one thing but understanding why the variance occurred is what you need to know to be able to address (and hopefully rectify) the issue.  The vast majority of budgets utilized in the home health industry do not have the foundational detail to easily (if at all) identify the “Why?”.  Yet, it is the “Why” that we need to know to be able to best manage our agency and position it to succeed; regardless of how stable or turbulent the operating environment is at the time. 

How to Budget

The first, and arguably one of the most important aspects of the budgeting process are the assumptions.  Although all budgets are built on assumptions, most gloss over the importance and value of the assumptions.  Where many budgets fail is in their lack of identifying and/or chronicling the budget assumptions.  If you have not properly recorder all the (somewhat) significant budget assumptions, questions posed in the future about how you came up with something may be very problematic, if not impossible to answer.  Unfortunately, this is one of the most common shortcomings in budgets; yet it is one that is so easily avoided. 

Most budgets in the home health industry use revenues as their starting point.  This is why most budgets in the home health industry have little to no benefit to the agency preparing the budget.  You can use revenues as a starting point for your budget, and build from there, but you will be greatly limiting to potential value the budget could provide your organization.  With a budget built starting with revenues, when you do the budget-to actual analysis during the budgeted period you will be able to identify your revenue variance, but you will likely never know the “Why?” those variances occurred.  Why not?  Because you used revenues as the driver of revenues and your budget, when revenues are actually a by-product of your operations; they are not a driver in and of themselves!

Drivers of Revenues and Expenses

To prepare the best, high-level budget for your agency, you should budget (i.e., project) by the “drivers” of revenues and expenses to the extent that you can.  This is what enables you to take the Budget-to-Actual comparisons beyond just identifying variances but helps identify the “Why?” of why the variance occurred.  This is the holy grail of budgeting.  When you can timely identify the “Why?”, you can then take timely action to address the variance.    And keep in mind that not all variances are operational issues.  There could be variances because one or more of your budget assumptions were faulty.  Knowing whether the variance is due to an operational issue (whether positive or a shortcoming) or a budget assumption is key in being able to address the issue in a timely fashion. 

One activity that helps with identifying drivers and trends for your budget would be from any financial-operational analyses that you do on a monthly basis (something everyone should do each month as they close their books).  This financial-operational analysis should identify all of your key operating results (statistical & financial), so as to identify the KPIs on a month-by-month basis to assist with building your budget.  Once you have two or three years of these trends, your budgeting process moves more quickly and the quality of your budget increases immensely. 

Using the drivers of revenues and expenses is a bit more detailed and complex, but it helps create budgets that are infinitely more valuable to the end-user of the budget, and each year’s budget is even better than the prior year’s budget.  And although the concept of the drivers for the budget will be universal throughout the industry, the specificity of those drivers will be unique to each agency and must be recognized as such.  Using the drivers that properly reflect your agency’s operations will greatly improve your budgeting activities and results. 

Forecasting

As previously noted, the Forecaster is your living budget.  It is based on your budget but is updated as each month’s financials are closed.  Therefore, after five months into your budgeted year, the Forecaster would have the actual results for those five months and have the budget projections for the remainder of the year.  So, unlike the budget, which is a static document that does not change once completed and approved, the Forecaster is changed/updated each month.  Additionally, you have the ability to change any of the budget assumptions for the remainder of the year as new and/or clarifying information is identified: for example, maybe in April (month 4) you become affiliated with a new referral group which will change the number and make-up of the agency’s census for the remainder of the year. 

The better your budget, the better your Forecaster can be.  And, as you move further and further into your budgeted year, your Forecaster’s projections for your expected year-end results become more and more precise.  Meaning, that the year-end results projected by the forecaster will be more accurate in June than in May (i.e., month 6 vs month 5), and more precise in Sept (month 9) than in Aug (month 8), and barring any aberrant events occurring in Dec, its Nov projection should be spot-on. 

Wrap-up

Now this is a big-picture perspective of budgeting and forecasting for home health.  There obviously is a lot more to it than what I’ve described here, but I’ve given you a skeletal overview of budgeting and forecasting in home health, hopefully highlighting some of the benefits that could be derived from this utilizing this business/financial fundamental.  If you can do this well on your own, you should.  But if you’d like to do this but need assistance, please feel free to contact us at your earliest convenience to discuss how we could help you utilize budgeting and forecasting to benefit your management capabilities for your organization.