Preparing for the future, especially from a financial standpoint, is critical for all businesses. That’s why all businesses need to forecast their revenue and expenses to ensure they remain profitable. The best way for many small business owners to do this is through budget planning.
With a monthly snapshot of your expected business expenses, you can manage your money and track your spending habits. This allows you to forecast for things like take-home pay, wages, bills, and payments for loans or other debts. It can even help you set up an emergency fund.
By creating a workable budget, you can track cash on hand, expenses, and the revenue you need to keep your business growing, according to Nick Kolbenschlag, managing partner and co-founder of Crown Wealth Group.
“When you take the time to put the numbers to paper, you increase your chances of tracking them to ensure your business succeeds, helping you anticipate future needs, spending habits, profits and cash flow,” Kolbenschlag told business.com. “Proper budgeting also allows you to identify problems before they become major issues, giving you the ability to course-correct in real time.”
Your budget process should include updating your expenses monthly, which allows you to verify that your business is on target to maintain profitability. Here’s everything you need to know about budget planning for your business.
What is budget planning?
Budget planning is the process of creating a plan to spend your money. It allows you to determine in advance whether you will have enough money to do the things you need or would like to do.
Budgeting helps you save money for the long term or for when your business needs it most. If your accounting software doesn’t have budgeting features, use a budget calculator – a tool meant to help you establish a budget, create a savings plan, and pay down debt.
“Budget planning involves looking at external (economy, regulations and laws, etc.) and internal factors (staff, revenue, expenses, etc.) and then estimating needs, incorporating unexpected things, developing future goals, and looking at historical information and trends,” said JeFreda Brown, CEO of Xaris Financial Enterprises.
How do you create a budget for a business?
Budgets indicate how much money is spent on aspects of the business like payroll, advertising, supplies and other necessities. To create a budget, small business owners should look at revenue and expenses for the entire calendar and fiscal year. Look at what you spent the previous year and project if you will spend the same, less or more moving forward.
The goal of budget planning is to lay out all necessary components and brainstorm your goals, according to Shahid Hanif, founder of Shufti Pro. Hanif named some steps the budgeting process should include:
- Examine your revenue. The first step in any budgeting process is to look backward at your existing business and find all your revenue (income) sources.
- Subtract fixed costs. The second step in creating a business budget is to add up all your fixed costs, like rent.
- Determine variable costs. Variable costs include the price of labor or raw materials.
- Set aside a contingency fund for unexpected costs. These expenses don’t arise only when it’s convenient.
- Create a profit and loss statement. Once you’ve collected all the above information, it’s time to put it all together to create your profit and loss statement, or P&L.
- Outline your forward-looking business budget. Whether you’re a new business or you’ve been doing this a while, projecting what will happen to your business in the future is educated guesswork.
It’s best to categorize your budget by fixed expenses, variable expenses and non-necessities. Fixed expenses stay constant, regardless of the number of sales, according to Axel DeAngelis, founder of NameBounce.
Tip: Categorize your budget by fixed expenses and variable expenses, as well as non-necessities.
“Generally, fixed costs are contractual,” DeAngelis said. “An example of a fixed cost is rent. Unless your business pays percentage rent based on sales, the rent is generally contractual, with fixed increases throughout the life of the lease.”
Variable expenses can include some bills or software, as business owners tend to have more control over these expenses, and they fluctuate based on sales. DeAngelis gave sales team commissions as an example: If your business were to sell 10,000 products, you would pay your sales team more in commissions than if you sold 100 products.
Non-necessities are expenses such as travel, entertainment or office perks like a flavored water cooler. This category usually does not include the monthly expenses your business needs.
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What information do you need to create a budget for a business?
Budgeting for your business should include anything and everything you will spend money on during the fiscal year. Failure to use a budget for your business is a missed opportunity to meet your financial goals.
According to Ken Wentworth, founder and “on-demand CFO” of Mr. Biz Solutions, it’s crucial for business owners to analyze and include four key pieces of information when creating a business budget.
- Revenue: For revenue, you must first establish your annual goal, then use your historical actuals to determine how to accurately distribute your annual amount across the next 12 months.
- Cost of goods sold (COGS): Once you’ve established your monthly revenue budget, use those numbers to drive your COGS budget. Again, use your recent historical percentages to determine each COGS line. Determine the average percentage for each line based on monthly revenue projections.
- Overhead costs: Review your most recent year and adjust as needed. For example, you can start with a baseline of last year’s actuals. From there, adjust reflected activity for the budget year – eliminate nonrecurring expenses from the baseline year, make additions for known one-time expenses in the budget year, make reductions for known savings, and so on.
- Margin review: To ensure your new budget will help you accomplish your goals, review your gross margin percentage and net margin percentage. What are your goals for those two measures? Make sure the new budget you created reflects those goals. For example, if you want to improve your gross margin from 52% to 55%, ensure your budget equates to a 55% gross margin. If not, tweak your COGS numbers to get there. This will set the budget baseline that you will use to measure your business’s performance.
Bottom line: When planning a budget, make sure you know your revenue, cost of goods sold, overhead and margins.
Budget planning tools
Accounting software is a simple solution for budget planning. The main benefit of using accounting software is that it already has the formulas you’ll need within its programs. All that’s left is to add or transfer over the numbers specific to your business. An optimal accounting software program is affordable, accessible and easy to integrate with other platforms your business uses. Here are a few highly rated accounting software solutions to leverage in your budget planning.
- Intuit QuickBooks Online: This is perfect for small businesses because it provides access to a live accountant and integrations with many popular platforms like Salesforce and Bill.com. Learn more in our review of QuickBooks Online.
- FreshBooks: This accounting software provides invoice capabilities and double-entry accounting capabilities to create a chart of accounts and run new balance sheets. Learn more in our FreshBooks review.
- Oracle NetSuite: You can use the cash management feature to easily manage your cash flow and monitor your business’s bank accounts. There’s also a budgeting and planning feature directly in the program, making forecasting and budgeting a breeze. Learn more in our review of Oracle NetSuite.
- Zoho Books: This software is specifically designed for microbusinesses that can run weekly, monthly and quarterly reports to track performance income and expenses. Learn more in our Zoho Books review.
Spreadsheets and formulas
A spreadsheet is one of the most common and versatile ways to budget for businesses. A spreadsheet can organize and catalog your expenses in charts and graphics. Many computers come with spreadsheet software, and there are also online programs such as Quip that integrate with other software, such as Salesforce. Spreadsheets use various formulas, depending on the report you’d like to create. You can create these formulas yourself or you can use premade templates, such as those found in Excel.
For those who haven’t used a spreadsheet to track expenses before, start with creating a monthly average formula. This gives you a better picture of your spending over the course of the year by creating annual projections. In the final formula, you’ll see where your spending and expenses will be at the end of the year if you continue with your current budget plan.
Cash flow statements
A cash flow statement is an often-neglected budget tool that is vital to long-term success. While an annual budget statement shows the total amount of sales and retained debt, it doesn’t show the individual transactions. Keeping track of these transactions could be the difference in your business losing money or retaining an overflow of debt.
A cash flow statement gives you the exact timeframe when a sale will be completed and when you’ve acquired debt. Keeping track of these details ensures you’re maintaining an accurate depiction of your credit and have enough cash reserves on hand to pay bills and expenses.
What are the three basic budget categories?
A business budget should include all of your business’s current revenue and expenses. This budget should also include estimated or projected revenue and expenses. Brown listed three basic budget categories.
- Operating budget: This is the annual budget that the company will follow to meet its financial goals.
- Capital budget: This is a budget developed when the company plans to invest in fixed assets, like new machinery.
- Cash budget: This is a budget developed to help company leaders estimate future cash needs and plan for emergencies and future investment opportunities.
Bottom line: There are three budget categories to track – your operating budget, capital budget and cash budget.
Business budget templates
Business budgeting is more complicated than balancing your personal checkbook. There are a lot of aspects to consider. It can be difficult to know where to begin. You may be afraid you’ll overlook an important component. A business budget template gives you a blueprint you can work with when designing your budget. This can save a lot of time and frustration.
Choosing a business budget template might seem daunting as well. However, there are some key features that will help you narrow your search.
First, you want a budget template that is easy to use. If you don’t interact with your budget regularly, it won’t be effective. Online templates allow you to access your budget anywhere and make edits. If the process is inconvenient, you’ll be tempted to do the budget once and forget about it.
According to the Corporate Finance Institute, customization is also important. You want a template that allows you to add items if you need to, and even change formulas if necessary. Every business is different. While budgets across businesses have many similarities, each one has its own nuances as well.
- Budget template by business.com: This Excel template includes a full resource page in addition to annual and monthly business budget templates.
- Excel template by the Corporate Finance Institute: This operating budget includes revenue, variable and fixed costs, non-cash expenses, non-operating expenses and capital costs.
- Google Docs annual business budget: Simple and customizable, Google makes it easy to create the budget you need.
- Microsoft Office business expense budget: This budget is solely for expenses. It allows you to easily compare projected and actual expenses.
- Excel profit and loss statement template: This template is designed to create profit and loss statements.
- Marketing budget template: Track your marketing expenses and determine which marketing strategies are worthwhile.
How is planning different from budgeting?
Business planning and creating a budget for your business are closely related, but they have different goals. Hanif said that planning is usually the first step in setting up a small business and continues to be used as a workflow progresses.
“Planning could be something simple, like building your daily agenda, or long-range enough to envision where you want to see your business in five or 10 years, whereas budgeting determines how existing financial resources are allocated. Budgets are usually set by how previous money was spent and expected income.”
Preparing a budget can be a difficult task, but once you do it, you’ll have a much better understanding of your business and how to plan for the profitability you’re looking for. If you regularly update your monthly budget, your annual budget will become easier to create and more accurate. When you know where your company stands financially, you can make better decisions to help your business be profitable and successful.
Joshua Stowers contributed to the writing and reporting in this article. Source interviews were conducted for a previous version of this article.