8 Simple | How to Create a Business Budget for Your Small Business

How to Create a Business Budget for Your Small Business

According to a study done by CBinsights, a few of the top reasons why small businesses fail include pricing and cost issues, losing focus and running out of cash. These issues can be prevented by having a realistic budget in place.

Before you can focus on the budget, however, you need to identify what aspects of your business you'd like to improve. This will allow you to decide what can be done with your funds. Based on that list, you can set up short-term and long-term goals.

These goals will be directly affected by your incoming and outgoing cash. A short-term goal can be paying off debt or purchasing new equipment. Long-term goals, like keeping aside marketing expenses, are crucial because they are connected to the overall growth of your business.

You should be practical about the goals you set. They should be purely based on your business' capacity to spend and save. Once you have your goals in place, you can create an effective, foolproof budget by following these steps.

1. Analyze Costs

Before you start drafting a budget, you have to research the operating costs involved in your business. Knowing your costs inside and out gives you the basic knowledge needed to craft an effective spending plan.

If you create a rough budget and later find that you need more money for your business activities, this will jeopardize your goals. Your budget should be such that you can increase your revenue and profit sufficiently as your business expands to handle your growing expenses.

Your budget should factor in fixed, variable, one time and unexpected costs. Some examples of fixed expenses are rent, mortgages, salaries, internet, accounting services and insurance. Examples of variable costs include costs of goods sold and commissions for labor.

There is not much harm in overestimating the costs involved since you will need enough cash to handle your future expenses. If your business is new, then you have to include start-up costs as well. Planning the budget in this way will help you make informed decisions and deal with any unwanted financial surprises.

2. Negotiate Costs With Suppliers

This step will be useful for those businesses that have been functional for more than a year and are dependent on suppliers to sell products. Before you get started on your yearly budget, have a chat with your suppliers and try getting discounted rates for the materials, products, or services you need before you make your payments.

Negotiations allow you to create trusted relationships with your suppliers. This will help when incoming cash is thin. For example, you might have a seasonal business. When you have saved enough cash, you can pay advance amounts to your suppliers as compensation for the times when you are unable to make payments. The main objective here is to find efficient ways to reduce the cost of doing business.

3. Estimate Your Revenue

Many businesses have failed in the past by overestimating revenue and borrowing more cash to meet their operational needs. This defeats the very objective of creating a budget. In order to keep things realistic, it's a good idea to analyze previously recorded revenue. Businesses must track revenue regularly on a monthly, quarterly and annual basis.

Your previous year's revenue figures can act as a reference point for the coming year. It's important to rely exclusively on this empirical data. This will help you set realistic goals for your team, leading to eventual growth of your business.

4. Know Your Gross Profit Margin

The gross profit margin is the cash you are left with once your business has dealt with all the expenses at the end of the year. It provides insight into the financial health of your business. Here's an example of why you need to understand these parameters while creating a budget.

Suppose your business made $5,000,000 in revenue and yet there are debts to be paid. At the end of the year, your expenses will be more than your revenue, which is not a good sign for growing business. This tells you that you have to identify the expenses that are not benefiting the business in any way and eliminate them. The best way to do this is to list out the cost of goods sold for all materials and deduct them from the overall sales revenue. This information is needed to get a real picture on how your business is faring, allowing you to increase profit and reduce costs.

5. Project Cash Flow

There are two components for cash flow: customer payments and vendor payments. You need to balance these two components in order to keep the cash flowing in your organization.

To do your best to ensure customer payments timely, it's important to have flexible payment terms and the ability to receive payments through common payment channels. Unfortunately, you will need to deal with customers who may not comply with the stated terms. This may affect your cash flow forecast due to missing payments.

You can encourage payment by giving customers a grace period and creating a strict business policy for paying late. Beyond this, you must have some money allocated in your budget for "bad debt," in case the customer never pays.

When you know your incoming cash flow, you can fix an amount for your salary and travel expenses. You can also allocate some cash to pay off your fixed vendor expenses. If you are still left with cash, then you can spend on business initiatives such as professional development or new equipment.

6. Factor in Seasonal and Industry Trends

It's unrealistic to expect that you will achieve every business goal and achieve your estimates every month. In an annual cycle, there will be months where your business will boom, and there may be a few months where sales are slow. Due to seasonal inconsistencies and industry trends, you will have to spend cash effectively so that the business is not at risk of shutting down during slower periods.

In order to overcome this challenge while creating a budget, gather insights as to when your business performs better. The goal should be to generate enough revenue during peak months to sustain the business during off seasons.

For example, let's assume that you are the owner of a winter clothing company. Your products are only on demand during that season, so most of your revenue comes during that period. For the rest of the year, you can use earnings to keep the business going and market to specific target groups, such as hikers or travelers. This will help you gauge how successful your products are during the off seasons, what revenue to expect, and how much to save during your peak periods.

7. Set Spending Goals

Creating a budget is more than just adding your costs and subtracting them from your earnings. How wisely you spend your money determines how well your business will charge. Goals provide a system to check if your money is being spent on the right areas to avoid unwanted expenses.

For example, if you are spending money on stationary that is going unused for operational or marketing efforts, it may take time to cut those costs. This money can be applied better to your marketing campaigns, bringing in more leads and revenue. Measure and invest in those expenses that will benefit your business in the long run.

8. Bring it All Together

Once you have gathered all of the information from the previous steps, it's time to create your budget. Once you have subtracted your fixed and variable expenses from your income, you will get an idea of the amount you can work with. Be prepared to deal with the unexpected one-time expenses that come your way. You can then find ways to use the money effectively in order to achieve your short-term and long-term goals.

Role of Accounting Software in Budgeting

Budgeting for a business is a big task, which is why you might need help. Creating a budget will involve analyzing costs, estimating revenues, and projecting cash flows. Having an accounting system in place will provide you with real-time information about your finances, helping you to create a feasible budget.

The key to creating a good budget is to evaluate the prior years' data and draw realistic projections. An accounting system can provide you with access to all this information in one place, no matter when you need it.

The effectiveness of a budget also depends on how well any projected goals have been accomplished by your business. To check this, an accounting system generates financial reports that record your actuals, and those which can then be compared with the budget. Comparing your budget with your actuals is an important step to measure the effectiveness of a budget.

Conclusion

Budgeting is an essential process, particularly for small businesses, as it allows business owners to estimate and allocate money for different business activities. Preparing a budget also gives you a clear idea of the money that can be used to achieve business goals and ensures that there is enough in hand to deal with a crisis. For small businesses, it might be a bit difficult to make estimates for the whole year as the initial stages of growing an organization are often volatile. In such cases, you can create a smaller budget estimate for a duration of two or three months and keep reviewing it for better results. When an accounting system is introduced, the process becomes more manageable even. You can easily handle tasks like projecting cash flows or estimating costs, and you can set realistic goals for your business.

Share this post