Budgeting is a misunderstood practice. The word “budget” often elicits feelings of financial restriction, but in truth—especially when it comes to business—a successful budget can promote greater fiscal freedom. Planning for how you’ll make money and spend money empowers you to make better business decisions. On the other hand, operating without a budget often results in businesses just throwing cash at their business strategy, like a blindfolded game of darts. A budget is a roadmap to your business’ success. It shows month to month, quarter to quarter, and year to year how you’re going to get from Point A to Point B. It’s simple: a budget explains how much money you have, how much you need to spend, and what you need to make to reach and exceed your goals. Drafting your first small business budget isn’t easy. Creating your second and third budgets becomes much more straightforward because you have previous projections and actuals to base your estimates on—but the first one is tricky. If you’ve never created a budget for your business before, then read on to learn the step-by-step process. What Is A Budget? What is a Business Budget? A business budget is essentially a detailed spending plan for your company. It lays out the costs you expect to incur through your day-to-day operations and efforts to scale, plus how much cash you intend to allocate to each. Having a business budget is critical for creating measurable and achievable financial objectives. For example, you can use your yearly operating budget and expected annual revenues to calculate a target profit for the year. A budget also helps you assess whether or not you’re on track to reach your goals. When you notice that your actual expenses are higher than you expected, you know to work on reducing your spending levels. Failing that, you can revise your expectations and make better-informed business decisions. Types Of Budgets Types Of Budgets The more sophisticated your business becomes, the more types of budgets you’ll need to organize your spending. For example, some of the most common types of business budgets include the following: Operating budgets - These lay out a spending plan for the expenses you expect to incur in your day-to-day operations. They help make sure you’re on track to reach your net income goals. Cash budgets - Businesses can be profitable on paper and fail to pay their obligations due to a lack of cash. These budgets help you track your cash flows and avoid such shortfalls. Production budgets - Production budgets help product-based businesses track how much it costs to get their products ready for sale. That’s essential for several critical business functions, including price setting. Because every business’ expenses are unique, some budget types will be more or less relevant to your circumstances. If you need help figuring out which ones are worth creating for a new business, study the spending levels of comparable companies in your industry. How to Make a Business Budget How to Make a Business Budget The following steps will help you to create your business budget. 1. Know and Understand Your Organization’s Goals Before getting into the details of your business’ spending plan, check in with your short-term and long-term goals and consider their relative priority levels. These have a significant impact on how much you budget for each cost. For example, say that one of your goals for the upcoming year is to increase the number of monthly visitors to your ecommerce website. When you create your operations budget, that might encourage you to increase your allocation for marketing expenses. However, one of your other goals is to generate a 10% net profit margin for the year. If raising your marketing budget enough to boost your web traffic reduces your net profit margin to 7%, you must decide which goal is more important to finalize your budget. 2. Estimate Your Revenue The first step in creating a budget is to add up all of your income sources. How much money in sales do you think you’ll make? Remember, this is revenue, not profit, so don’t take into account your expenses just yet—that comes later. Calculating your revenue is simple. Take the number of products you estimate selling and multiply that by the price of the product (X number of products x price of product). If you sell multiple products, create separate revenue estimates for each item. Use your old sales records and financial statements to help—if you have a bookkeeping tool, like Lendio’s software, to track all your expenses, this process is easy-peasy. Don’t forget to include the money you’ll make from royalties, interest, equity, and investments in your revenue. 3. Predict Your Expenses When budgeting for your expenses, you’ll want to allocate funds to a few specific categories: Fixed costs - These are the charges you pay every month for the same price. Think of rent, software subscriptions, loan payments, insurance premiums, payroll, and other expenses you pay every month. Check your business’ transactions over the last few months to identify any additional fixed costs. Variable costs - These are the expenses that fluctuate month-to-month. Your “costs of goods sold” would be included here—more sales will result in higher variable costs. You’d also want to enter sales commissions, marketing costs, utilities, supplies, and costs to replace old equipment. One-off costs - These are unique, infrequent expenses. For example, if you predict having to relocate your office, purchase new software, or outfit a team with new hardware, these would be one-off costs. Though they’re often less predictable, do your best to predict your one-time costs to avoid unbalancing your budget with surprise line items. 4. Set Aside a Fund for Unexpected Costs There’s always some uncertainty to budgeting because no one can predict the future perfectly. Even with years of financial data to study, you’ll occasionally encounter unexpected expenses, and they can ruin your budget if you don’t account for them. Fortunately, it’s not difficult to do so. You might not know which unexpected expenses you’ll face, but you can still allocate a healthy budget for them. If you spend less than you budgeted, set the surplus funds aside to create an emergency reserve. Once the amount is large enough to pay any surprise costs you might face, feel free to remove the category from the budget. Then, when you inevitably tap into your fund, add the category back to your budget and rebuild your reserves. 5. Calculate Your Profit Subtract your estimated expenses from your predicted revenue to calculate your profit—this number is the money your business is actually making. If you crunch the numbers and find your expenses exceed your revenue, that’s a loss—but don’t panic! Small businesses don’t turn a profit every year, and it’s incredibly difficult in the early days. If you’re satisfied with your profit or loss, skip to step seven. If you’re unhappy with it, continue to step six. 6. Adjust Your Numbers Your revenue and expense estimates aren’t set in stone. If you’re not happy with your predicted profit or loss, rework the numbers. Could you cut costs by reducing overhead? Would you be able to bump up your revenue by hiring someone to help with sales or marketing? Remember, a loss isn’t the end of the world. Would it be better to mitigate your losses to make a profit for the year or accelerate your business’ growth by investing in your business? There’s no right answer. As the business owner, that decision is ultimately up to you—and you start making that decision when creating your first budget. 7. Revisit Your Budget Often Budgeting isn’t a one-and-done activity you do four times throughout the year. You should reference your budget often and make adjustments as circumstances change. For example, if an essential piece of equipment breaks down and slows production, you’re going to need to take into account the dip in revenue plus the repair costs—your current budget is now irrelevant. Revisit the plan and adjust the numbers to make them work for your new situation. With a budget in hand, you’ll already know where all your money is coming and going, so you’ll be in a better position to reallocate the funds without damaging your business. There is no one right way to create a business budget, but you should find a method or system that works best for you at your small business and stick to it. Remember, a business budget is dynamic and will change from month to month, so make sure you are constantly reassessing your budget and expectations. Once you’ve got a good system in place, keeping a budget will actually feel freeing rather than restrictive and will pave the way for a better future for your small business.