A typical budget lists your income and expenses over a period of time. Knowing how to make a budget is essential to the successful operation of your business.
A budget is a working document which anticipates future needs and helps ensure that you have the cash to meet those needs. Below we offer the basics of creating a useful, working budget.
How to Make a Budget in 6 Steps
1. Project Your Income Realistically
The first component on any business budget is the projected income or revenue. This is the gross amount of money that your business will generate over the course of a month/quarter/year. The figure must be as accurate and realistic as possible. Resist the urge to go with “Best Case Scenario” projections. You’ll need to revise them downward eventually and they may cause over spending in the short term. Start with your own monthly historical data to ensure you capture seasonality. Research market data for your industry, your geographical area.
2. Recurring Expenses
Projections for recurring expenses will be based on historical data plus known changes: your move to a new location, the pay off of a loan, increases in insurance premiums, and the like. The recurring expenses may include monthly rent or a mortgage payment, utilities, salaries, insurance expenses, production supplies, shipping, etc. Indirect (overhead expense) is easier for most businesses to accurately project than direct expenses, which vary with sales. Look at the article on Business Fuel : Cash Flow / Operating Cash Flow. You budget will closely follow the form and will include all cash expenses, some of which will not appear on your P & L (like loan payments) and it will not include non-cash expenses such as depreciation.
As soon as you get more accurate data for your recurring expenses each month, such as when an increased in utilities is announced, update your budget going forward so that accurate figures are used rather than estimates. Ideally, you will prorate your corporate tax liability on a monthly basis as well. This will ensure that you are never caught off-guard by a high tax bill that you cannot afford to pay. Remember to include all types of taxes in this project for thorough calculations.
3. Non-Recurring Expenses
If your business is like most, you will also have many non-recurring expenses. The one time repair, the replacement of a computer, any expense which will not likely continue is considered non-recurring. As you will not have historical data for these items, you will have to anticipate what they will be, how much they will cost and when they are likely to occur. If you plan on renovating a production machine, you will likely do it during your slow season whereas the acquisition of new office chairs can be scheduled for anytime. The key is to determine when and ensure you will have the cash to cove the expense.
4. Benefits of a Rolling Budget
A rolling budget is always 12 months (or whatever period you choose) out from the present. As you complete one month, you add a month to the end of the budget. This allows you to adjust for ongoing changes in income or expense into the future, account for unexpected profits or losses, and encourages you to work with this critical document. All of your planning, whether short term or long term, begins here, with your perception of how the financial end of the business will play out. A rolling budget takes you further into the future and facilitates solid planning.
5. Analyze Your Net Income
This is an invitation to budget backwards. Instead of the usual system of netting your expenses to income and praying for a positive outcome, start with Net Income that you want and budget your way to getting it. For instance, if your Net Income (EBIDTA – Earnings Before Interest, Taxes, Depreciation and Amortization) last year was $100,00 and you want to increase that number to $115,000, start with that number and begin “backing into” the income and expenses you will need to make it. Effectively, you could hold expenses at current levels and increase revenue by $15,000. You could assume sales will remain static and decrease expenses by $15,000. Or, most likely, you would decrease expenses and increase sales simultaneously to achieve the desired result.
Your Net Income is an important number for investment, loans, leases or mortgages and certainly, to you, the business owner. So plan for the outcome you want.
6. Plan for the Future
All planning has a financial component. Often it is the largest component. Budgeting is the basis for your future planning, whether it is short term or long. You must understand how the money will flow in and out in order to anticipate what you can, and cannot, do.
The budget also helps you smooth out the cash flow issues by alerting you to shortfalls well in advance. This means that you can pay bills on time and keep your business credit rating as high as possible. It will provide the basis for all decisions going forward.
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