How to Setup a Business Budget

Budgeting: How to set up a budget

"What is a budget?"
by Cindy Torkelson

A budget is a planned schedule for estimating and recording the cost of operating during a certain time period. Time periods may vary, depending upon the size and scope of your company, but a 12 month period is the minimum time frame for projecting a budget.

Why is a budget necessary?
How many of us would plan a trip, say from the west coast to the east coast, without first considering details such as timeframe and expenses?  When it comes to a company's budget, things are a little more complicated but the principles are the same. Successful businesses have both a strategic plan as well as a financial plan with which to design and ensure their future destination.

A budget is one of the most fundamental and essential tools of starting, growing or maintaining a business, whether you are a sole proprietor or have 1000 employees. And the more detailed the budget, the better off you will be. In fact, a budget should be partnered with an extended cash flow system and BOTH should be MANUALLY updated/projected on a consistent basis.

How do you make a budget?
The purpose of the budget is to examine, as accurately as possible, if the business revenues will cover or exceed the expenses. Therefore, a proper budget should have, minimally, two main components:

1. The first section records and/or forecasts the company revenues (income from sales, investments, etc.). 
2. The second, and corresponding section, records and/or forecasts the company expenses. 

A. List separately your projected revenues and expenses based on a one month period.  Be as specific as possible -- break-out exactly how much revenue will come in and from where, as well as exactly what expenses are to be paid. 
B. Create separate subtotals, for both revenues and expenses, which records the combined amount of the individual entries for each section. 
C. At the bottom/end of each month, include a "Profit/Loss" section, which identifies the plus or negative number based on subtracting the total expenses from the total revenues.
D. Continue forecasting in the same manner for a total of at least twelve individual months. Each month should be considered singularly, taking into account variations in revenue expectations (i.e., seasonal fluctuations, product or service variances, etc.) as well as expenditures that are fixed, variable, and semi-variable.
E. At the end of the month, or corresponding with the arrival of a bank statement or some other verifying document, go back and reconcile the forecasted budget to an actual budget (i.e., what really happened). It is useful to compare the original projected numbers against the actual numbers in order to determine where the differences, if any, occurred. This will also assist you in becoming more realistic and accurate regarding your future months' projections.

Is a budget all that's needed?
A budget, if used and updated regularly, will certainly assist any business owner in recognizing if they are both profitable and stable. There is nothing more honest than black and white numbers! A budget also allows you to take action, sooner than later, if a future month or months appear unprofitable in the forecast. Similar to the gas gauge in a car, you can read a budget to accurately determine what your priorities should be at any given time -- can you make it to the next city or do you need to find a station and fill up the tank? One of the keys to any successful company is the owner's ability to make choices/decisions based on numbers.

As I mentioned previously, the budget is only one part of a comprehensive structure which allows you control over your company's stability.  The budget will give you a snapshot of what is needed to be profitable on a monthly basis. However, while it is very important to achieve profitability in this manner, it is also very important to create a corresponding weekly cash flow system which allows you to take into account, on a week-by-week basis, the exact monies flowing from one month to another.  This will give you a much more direct ability to both analyze and control where your money is going, as well as how much is really available, at any given time.

What could happen if I don't use a budget?
Without some system of accurately recording, analyzing, and projecting your company income and costs, you will either struggle unnecessarily for months, if not years, or you will find yourself "closing up shop" because you cannot afford to pay yourself, much less stay open.  Small and/or young businesses fail at a rate of 75% -> 80% in their first five years, and a lack of control/awareness of expenditures vs. income is one of the primary reasons for this high statistic.

A well-kept budget and cash flow system  -- structures that are utilized, updated, evolved and reconciled -- allows a business owner to better understand their company and ultimately, most importantly, feel in control of their destiny.
 

You will learn to determine and create accurate projections that are realistic to the ebbs and flows of your company.
You will make choices and recognize priorities that are timely as well as cost-effective.
You will take appropriate action before the problem is "in your lap" -- pump up sales or projects prior to an upcoming unprofitable month.
You will be able to analyze historical data and prepare for fluctuations in any given season or year.

Why not just use an accountant or an accounting software program?
Although accountants, financial advisors, and software programs are surely valuable as adjunct resources in a well-run business, the most powerful and useful training you can give yourself, as a business owner, is internally managing your own numbers, whether that is statistics concerning your production, sales or expenses. Budgets are the key to cost control, which is the key to your company's success and profitability. And who has the largest "stake" in that happening? Will an accountant fold their company if yours fails?  Will a software program shed tears because your business ceases to exist?

An accountant should be utilized only for documenting, assimilating and/or predicting company taxes.  However, the accountant should depend on YOU for the necessary data with which to make those final assessments and determinations. Also, when you do not "take on" generating and recording your own statistics, you are less likely to either fully understand the documents an accountant provides or recognize when an error, whether slight or dramatic, has been made.  And, trust me, mistakes happen.

An accounting software system, after initial data entry and set-up, usually generates forecast reports based on historical reference only. These structures should be used, but only in combination with a separate structure that you manipulate. Even the most comprehensive and expensive program will not give you hands-on control of what YOU SAY your costs should be now or in the future or explain to you why the budget it created for you last year wasn't accurate. When the numbers have not been generated, item-by-item, by YOU it is less likely you will refer back to it, "live" inside of it, or train you in how to have complete control over the success of your company.

When should I start?
Most of us didn't go into business to master statistics and live by numbers. But the truth is, you will BECOME a number -- one of those failure-rate statistics -- if you do not design and generate your business based on numbers as well as passion and vision.

So it doesn't matter when you begin to budget -- just begin! If this article doesn't help, go find a book that has samples you can examine and determine which kind of structure is best for your company. Also, I create spreadsheet budget and cash flow structures for my clients -- and can offer you templates or actual working documents to use.

Although a computer spreadsheet is surely the easiest method to use, you can create and maintain a budget, as well as a cash flow, on a pad of paper or in a notebook. There was a time, you know, when there were no such things as computers…