Running a small business requires a great deal of effort, ongoing dedication and a clear business plan. However, if there is one secret to success you can’t forget, it is budgeting. You have to create the right small business budget to ensure that you don’t fall behind, that you manage your business expenses wisely, and that you reach your business goals year after year.
Although it can seem intimidating at first, it is easier than you think. You need to know what to include in your budget and what to leave out. Since many small business owners fail to create a budget, it will help provide you with a competitive edge. To help point you in the right direction, we have created this informative post just for you. Let’s get into it right now.
Why Do Small Businesses Need a Budget?
Before we look at how you can create a small business budget, it is important that you understand why you need one in the first place. The fact is that preparing a budget allows you to make an educated guess about the future of your organization. It involves examining past performance to get an idea about what lies ahead. Then, you can use that information to make the right financial decisions both today and in the future. Preparing for the uncertainty allows you to minimize expenses and focus on how you can get more done. It also reduces risk and ensures that you continue to do what you do best, month to month, and year after year.
Even though the budget would not be entirely accurate, it would ensure that you have an idea about how to run operations smoothly in the coming months or even years. If it is your first time creating a budget, you will need to put in extra effort, after which you will have an easier time preparing it.
Every successful business understands the importance of a budget, just as much as they understand how vital it is to grasp cash flow, monthly costs, bank statements, business revenue, advertising costs and other common financial aspects of their business. It enables you to identify leftover funds which you can reinvest into your company, predict slow months, reduce debt, and keep operations in order.
5 Steps to Creating a Small Business Budget
Here’s how you can prepare a budget for your small business.
1. Examine Sales Revenue
The first thing that you need to do to get started with creating a budget is to examine your sales revenue. You have to look back if you want to move forward. Take a close look at all your income sources and add them together to ensure that you have an idea about how much your business can generate every month.
When determining your income, you have to focus on revenue instead of profit. For those of you that don’t know what revenue is, it is all the money your business generates before expenses have been deducted. The remaining amount after expenses have been deducted is profit. However, you need to focus on income and not profit.
After identifying all your income streams, you just need to calculate your monthly income. You will have to do so for multiple months. Generally, you have to consider the last 12 months and put all available data to good use. Keep in mind that your company will often experience a drop in revenue right after the holidays, depending on the nature of your business. Therefore, you will have to manage your finances accordingly.
2. Remove Fixed Costs
When creating a budget for your small business, you need to subtract the fixed costs. This is why you will have to add all the fixed costs and then remove them from the budget. Fixed cost refers to any cost that is incurred on a recurring basis by a business. It is possible for fixed costs to occur yearly, monthly, weekly, or daily. Some of the fixed costs that your business might incur include rent, debt repayment, supplies, payroll, insurance, taxes, and depreciation of fixed assets.
It is worth keeping in mind that every business is unique and will incur different fixed costs. It is due to this reason that you should take some time to evaluate all the expenses that you do incur. It will allow you to identify all the fixed costs and remove them from the budget.
3. Determine the Variable Expenses
Next, you have to go through your data to find out all your variable expenses. It will make it a lot easier for you to create a cost saving budget for your small business. Chances are, you might have already identified the variable expenses while you were working out the fixed costs. Unlike fixed costs that remain mostly unchanged, variable expenses are incurred depending on usage and are usually essential for every business. These are apart from unexpected expenses and include things like raw materials, packaging supplies, shipping costs, credit card fees, commissions and more, which are expected but vary from week to week and month to month because of shifting market demand, availability, production costs, shipping, and a host of other factors.
There are also some expenses that might not be necessary but allow you to boost profitability like extras. These are known as discretionary expenses and are included in variable expenses. Other examples include marketing costs to build your customer base, professional development, office supplies, replacement of equipment, and owner’s salary.
During months where you are likely to generate less revenue, you will have to reduce your variable expenses. You will first have to minimize discretionary spending. On the other hand, you can increase variable expenses during more profitable months if needed. Hence, you have to classify your expenses and rely on them to create your budget.
4. Prepare a Contingency Fund
No matter how careful you are, your business is likely to incur unexpected costs. In order to keep your business afloat, you will have to set aside a contingency fund. There are onetime costs that may occur periodically. Therefore, it is in your best interest to be prepared. You never know when your equipment might stop working and require repairs. Similarly, you might need to invest in a newer software application.
Since costs can arise when you least expect them, you could use your contingency fund. This backup plan will ease your stress and allow you to keep functioning successfully during leaner seasons. This will help you with smart financial planning, as your emergency fund will enable you to avoid taking out an expensive loan. Planning for contingencies will allow your business to keep running when the going gets tough. It is simply smart budget planning.
Now, you might be tempted to spend any additional income you generate. But it is vital that you have an emergency fund. It will allow you to pay for repairs and hire a professional to avoid unnecessary closure. If you think that a business loan could help you out, you could not be more wrong. It would affect your ability to keep operations afloat. By budgeting for an emergency, you would be best prepared for it. Thus, you will have no trouble handling it even if it appears.
5. Make a Profit-and-Loss Statement
After you have collected all the information, you have to make a profit-and-loss statement. It is quite easy to make. As you have already done everything, the entire process should take minimal time. Simply add the income and subtract the expenses for the month. If you get a positive value, you will generate a profit. Making a profit-and-loss statement is vital, as it will help you with strategy and better decision-making. This form, as with all financial statements, has various purposes and needs to be analyzed from time to time.
Conclusion
Creating a budget for your small business is something you simply can’t ignore if you want to experience consistent growth. It enables you to get your finances in order and prepares you for the future. No matter which industry you might be in, budgeting and financial planning remain at the top of a long list of practices every high-level business owner needs to master.
By following the steps mentioned above, you should be able to create a business budget in no time. The more you familiarize yourself with budgeting and bookkeeping concepts, the easier the process and management of your budget will become. Work with an experienced bookkeeping service provider to help you master sound financial practices and keep your books in order so that your money can fuel your continued growth indefinitely.
Sound Accounts helps business owners achieve greater control over their business and strategic growth with individually tailored bookkeeping service solutions and sound financial advice. Contact us today to learn more and find out if you qualify for 6 months of free QuickBooks.
FAQ
How Do I Create a Budget for My Small Business?
Creating a small business budget is easier than you think. An important initial step is to go through your accounts and identify all your income sources. Then, add these up and subtract the value from all the expenses that you are likely to incur. Other steps to tackle are determining fixed costs, including variable expenses and predicting one-time costs, and putting it all together to create a budget that works not only today, but can adapt as your business changes.
What Is the first step in setting up a budget?
The first step to creating a budget is going through your sales revenue. It will allow you to get an idea about how much money you can generate in a certain period. Then, you can identify your expenses and calculate how much cash you will have left by the end of each month.
What are the 3 types of business budgets?
The 3 main types of business budgets include a master budget, an operating budget, and a cash budget. A master budget includes other lower-level budgets created by different functional areas of a business. Every business creates a master budget to ensure that everything is taken into account. On the other hand, an operating budget focuses on subtracting operational expenses from the revenue generated during a given period. As for the cash budget, it only includes cash transactions and removes debts.
