How to Create a Budget For a Small Business
As a small business owner, you have to juggle a dozen different concerns on any given day. Few matters, however, are more important than learning how to make a small business budget.
Although this may be intimidating for a business owner, especially if you’re doing it for the first time, the process isn’t difficult. It is a time investment, but one that will pay immediate dividends.
Want to know how to make a small business budget, and what should be included? We’ve collected a number of money saving ideas for businesses as well as budget planning suggestions that can help your small business. Let’s discuss 7 simple steps you can follow to create your very own budget plan.
Why Do I Need a Budget?
Your business’ operating budget plays a central role in helping you manage the company's finances. It serves as the financial plan for the firm’s future—projecting revenue and expenses and grouping those figures into specific categories.
But it’s not just a financial benchmark (or constraint). According to Harvard Business Review, a budget plan is a powerful tool that can help you:
- Plan for the year ahead
- Control spending
- Guide corporate operations
- Encourage accountability
- Extend the reach of top management via delegation
- Coordinate company activities
- Motivate employees with quantifiable goals
- Keep key stakeholders interests aligned and protected
From a business perspective, it’s critical that you’re always weighing the costs and benefits of an action before you invest resources into it. By leveraging previous and current financial data, you can make better informed decisions, thus ensuring that your business budget will be able to help you meet your goals. Such actions set you up for success in both the immediate future as well as the long term.
How to Create a Budget for Small Businesses
As you prepare to create your own budget, be sure that it’s optimistic about growth while staying realistic. You should only set budgets that you can feasibly meet; otherwise, what’s the point?
That said, follow these steps and you’ll be prepared for anything:
- List your goals
- List your income sources
- Determine fixed costs
- Determine variable costs
- Account for unexpected expenses
- Create a profit and loss (P&L) statement
- Use the budget as a roadmap
Step 1: List Your Goals
A budget is meaningless if it’s not tied into your financial goals for that period. By setting goals that you hope to achieve, you can build a realistic budget that helps you accurately forecast your financials.
Although it depends on your specific industry, there are a variety of common goals you may want to aim for, including:
- Increasing gross sales
- Reducing inventory
- Optimizing administrative costs
The goals you select should be attainable and aligned with your business’ strategic priorities. Once outlined, your team needs to determine how you’ll go about meeting your goals. A budget won’t tell you how to increase revenue. It’s up to you to find areas to either drive sales or cut business expenses.
As HBR warns, carefully consider the assumptions you’re making as you build the budget:
“At its simplest, a budget creates projections by adding assumptions to current data. Look hard at the assumptions you’re making. Let’s suppose you think sales will rise by 10% in the coming year if you add two more people to your unit. Explain what you’re basing that assumption on, and show a clear connection to at least one strategic goal.”
There needs to be a rhyme and reason undergirding all modeling and forecasting. A budget serves no purpose if it’s based on sheer speculation. It would be like following a map created by a cartographer who hadn’t visited the area. Make sure your budget is structured to drive your business toward achieving actionable, strategic business goals.
Step 2: List Your Income Sources
To plan properly, it’s important that you have a clear gauge on cash flow. You require real-time data on both money coming in and out of the business.
To begin, start with your revenue.
Whether you have a single income channel or multiple, your initial task is to add up those income sources and understand their historical performance and trends. That will help you see how much money is coming into the business on a monthly basis, and from where.
At this stage, don’t worry about profits (revenue – expenses). For now, focus on monthly revenue over the previous 12 month period. Doing so allows you to see whether there were income variations or seasonal patterns that you need to prepare for.
As you undergo budgeting for your small business, if you have multiple income channels, you’ll be able to discover which ones generate the most ROI. Some may cost more than they’re worth; others may be underutilized at the moment, but worth growing.
Step 3: Determine Your Fixed Costs
After you’ve thoroughly reviewed your cash coming into the business, it’s as important to determine the cash flowing out.
What are your expenses that stay the same month-to-month? Perform a review to see which ones remain consistent. Common fixed costs include:
- Certain utilities
- Debt repayment
- Depreciation of assets
Every business is unique. They all have different fixed costs. Conduct a thorough analysis of your own, ideally using automated software, to see which costs should be accounted for. After all of these costs have been identified, add them together to calculate your total monthly fixed costs.
What do you do if you're just starting a business?
If you lack the historical financial data to state your fixed costs, you’ll need to carefully project what you expect to pay. For instance, if you’ve recently rented office space or purchased business insurance, include those monthly costs in this section.
Step 4: Determine Your Variable Costs
Similarly, it’s also important to know the costs that you can expect to pay, but are subject to change on a monthly basis. Examples include:
- Replacing equipment
- Certain utilities
Often, variable costs are more closely tied to the volume of business you’re doing. Higher sales tend to lead to higher variable expenses; however, when sales drop, variable expenses tend to be the places you go for cuts.
Although the variable costs may be harder to get an accurate estimate for, by reviewing them over time, you can gain a better picture of the fluctuation within your business. This makes it easier to produce a realistic financial projection.
Step 5: Account for Unexpected Costs
Even with all proper precautions, there will inevitably be unexpected costs that crop up—a machine might malfunction, inventory could be damaged. You never know. There’s a reason why the phrase “saving for a rainy day,” became so popular.
To prepare for the worst, you need to create a contingency fund. This makes room in the budget for the unexpected disasters or costs that could surprise you. By having cash on hand, you prepare your business to weather a financial storm that otherwise might blow you off course, especially when your budget is tight.
Note: As the year goes by and you discover surplus revenue, you may be tempted to automatically throw it into your variable expenses. Avoid this immediate temptation. Or at least don’t allocate all of it. Instead, set some of that money aside to help stock your emergency fund. If and when disaster strikes, you’ll be happy that you did.
Step 6: Create a Profit & Loss Statement
Once you’ve categorized and tallied your financials, you can create a profit & loss statement.
Add up your total monthly income, as well as your total expenses. Once that’s done, subtract expenses from income to find whether you’re operating at a profit or a loss.
If your number is positive, that’s great. If not, don’t worry—there are likely places where you can make adjustments to either increase revenue or decrease costs. Regardless, remember that few businesses are profitable every single month. But the road towards profitability starts with your budget.
Step 7: Use the Budget as a Roadmap
After you spend the time building a budget, you don’t simply store it away until next year. Rather, it should be the roadmap you consult regularly to stay on track with your revenue and expenses.
How do you accomplish this? There are three actions you can take:
- Perform frequent audits – As your business changes so too will your revenue and expenses. You may have up or down months, or unforeseeable shifts. The only way to price those in is by performing periodic audits of your budget. Doing so will allow you to see whether or not the budget is accurate, and then make adjustments accordingly.
- Use automated expense management software – If you want to have a clear picture of your books, it’s ideal if all your company’s purchases are automatically tracked and logged with your accountant’s ledger. Only work with a platform that integrates with major accounting platforms such as Quickbooks or Xero.
- Track real-time spending – Instead of waiting until the end of the month to see where your money is going, leverage technology that can help you see where your team is spending, who is spending, and how much. All of this helps managers and executives track performance against the budget and make the best decision possible at all times.
Ramp: The Only Card That Helps You Stick To Your Budget
Now that you know what should be included in a budget, be sure to work closely with your team as you follow the seven steps. By fine tuning and then adhering to it, you’ll be able to hold your team accountable and align the business with your financial goals.
Need help with that?
Ramp is the corporate card that helps you stick to your budget. It’s the only card that comes with automated expense management software, allowing you to manage and monitor your finances in real-time.
With Ramp in your wallet, you’ll be set to build and then stick to your budget easily.
Harvard Business Review. Budget Choice: Planning Versus Control. https://hbr.org/1984/07/budget-choice-planning-versus-control
Harvard Business Review. The Right Way to Prepare Your Budget. https://hbr.org/2015/07/the-right-way-to-prepare-your-budget