Budgeting for Small Businesses

Budgeting for Small Businesses
Why budgeting is essential to your business successphoto
By: Michael Sanibel

Purpose

Every business, regardless of size, needs a budget. Before your business can make money, you need to determine how to wisely spend the money you have. Creating a detailed spending plan enables you to track and analyze your monthly expenses, cash flow, and the revenues needed to expand your business. It’s important to get this roadmap committed to paper so that you can gauge performance against financial parameters that you create. Your budget should reflect reality, not a set of unachievable objectives that are cast in stone.

Budgeting is important for one-person businesses since the tools available will help you run your business effectively, and save you time and money. Some of the advantages are:

• It will install discipline in how you do your job and manage your time
• Setting realistic goals will help you to focus on doing the right things to achieve them
• You will see how you are doing financially every month, and if you are turning a profit
• You will know if your expenses are higher or lower than expected, and use this information to control future expenses
• You can track your supplies and use the information to estimate reorder quantities and timing
• Helps you decide to raise or lower advertising expense, or if other investments are needed to sustain and grow the business
• Provides data for establishing next year’s goals
• Use the data to flag problems, find alternative courses of action, and head off bigger problems downstream
• Provides central source of information for income tax preparation

Budgets can range from the very simple to extremely complicated, but the important point is to devise one that works for you. For a one-person business, a spreadsheet may be all you really need.


The detailed forecast and budget

The forecast represents your projected receipts and income based on expected sales. It’s usually a good idea to create this first, since it will require you to prepare an assessment of the complete business picture. If you have historical data from previous income statements, that can be used to formulate your forecast. If this is the initial forecast and you already have a formal business plan, you can update the forecast information contained in that plan. If you are starting from scratch, the sales will be the estimated value of your retail product or services. It is the total price of goods sold and is commonly known as gross revenue. Spread the sales forecast by month and account for changes in demand caused by holidays and other events that will drive the actual amounts.

The budget is your estimated spending plan, and ideally this would be time-phased by month for at least the next year. You are essentially translating your business into finite numbers that represent the projected expenditures displayed in your income statement. The expenditures are a combination of your fixed and variable expenses.

Fixed expenses are often referred to as overhead and remain relatively stable over time. These include rent or mortgage expense, taxes, depreciation, insurance, loan interest, telephone, equipment rental, and building maintenance. Variable or operating expenses generally rise or fall as a function of sales volume, and include labor, commissions, payroll taxes, travel, materials, supplies, equipment maintenance, advertising, and shipping. Create a separate line item in the budget for each expense category.


Measuring actual performance

Once your forecast and budget are completed, the real work begins. At the end of each accounting month, compare your forecasted sales versus booked sales. Also compare your budget versus actual costs incurred. Analyze the variances, both positive and negative. If expenses are higher than expected, is there a valid reason for this? Are there ways to reduce expenses that exceed your budget? If the additional expenses produced greater sales volume, perhaps it’s time to revise your budget and plan for those additional costs. If you haven’t seen a corresponding increase in sales, why not? If your expenses exceed revenues, you are operating at a loss and you don’t want to wait until the end of the year to discover this.

Analyze every element of cost and determine the cause of each variance, and whether corrective action should be taken. This constructive analysis will be worth every minute of time spent doing this. The goal is to make adjustments in real time that can help improve your overall performance. The keys to successful implementation of this strategy are discipline and attention to detail. This is how you catch problems early and find ways to either solve or work around them before they grow into something unmanageable and detrimental to your business.


Budgeting tools

There are free tools available to assist you with this process such as those provided by Microsoft Office (http://office.microsoft.com/en-us/templates/TC011589561033.aspx). There are also more sophisticated computer programs available including Budget Maestro (http://centage.com/products-overview.htm), Cognos TM1 (http://www-01.ibm.com/software/data/cognos/products/tm1), and Microsoft Dynamics (http://www.microsoft.com/dynamics/en/us/products/forecaster.aspx). Programs like these will assist in developing and presenting the operating data needed to successfully manage your business.

The mention of these tools does not constitute an endorsement by the author or publisher of this article. The intent is to expose you to a few available options, but you are encouraged to do your own research to find the software that suits your specific business model. There is no point in paying for features that you don’t need, and many such programs offer a free trial.


Bottom Line

A budget is a critical element of successfully managing your business. It will tell you the amount of sales needed to meet your financial targets, how much money you need to spend to achieve those targets, and how much money you have to fund the business. A budget will help minimize risk by alerting you to changing demand and economic conditions.

While this may seem like extra work for the small business owner, today’s automated tools allow you to track your business performance with very little effort. Excel-based spreadsheets are free and easy to use, and the software programs can provide even more insight into financial indicators such as return on investment and cash flow. Once you have established your performance review routine, you will find it beneficial to analyze data trends and establish benchmarks for the future. It’s helpful to use a program that will automatically plot your monthly data on graphs so that you can see trends in real time and adapt to the changing economy. Use what works best for you and helps you run your business more efficiently and profitably.

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Michael Sanibel (http://www.michaelsanibel.com/) is a freelance writer specializing in business, finance, law, science, aviation, and political analysis. He graduated from the United States Air Force Academy and is also licensed to practice law in California and New Hampshire.