Creating a budget is one of the most important, yet underutilized forecasts for a business. It can allow you to weather an economic downturn or strike at an opportunity.
When you’re creating a personal budget often times there are tangible remains of your spending, whether it was a new pair of jeans or dinner out to that fancy restaurant you’ve always wanted to visit. Business expenses are different. Costs can be sneaky and often times there isn’t any credible evidence where the money has gone. That is why keeping and sticking to a budget can help you invest wisely in your business.
100% of Business Fail Because of Bad Cash Flow
I once asked a successful business owner what his best advice was for owning a business. Without a seconds hesitation he told me “have cash.”
That may seem like a simple answer but all a business needs to function is cash. It is the blood of business. Failure to accurately track expenses and make proper revenue projections can force you to cut costs in areas that bring in revenue, such as marketing, or leave you unable to achieve growth.
Budgeting allows you to be protected from unforeseen setbacks or economic forces out of your control.
How to Create a Budget for Your Business
Creating a budget for a business only has two fundamental areas: Revenue and Expenses
The biggest mistake I see business owners make is to only look at how much money their business has made during tax time. You should review your profit and loss statement on a monthly basis to gauge the health of your business. Next I would look at my budget to make sure that my expenses are in line.
When you create a budget follow these general steps:
- Estimate your revenue for the coming year
- Create a profit and loss statement (Income Statement)
- Figure out what your businesses fixed and variable costs are
- Allow a operating cash cushion for unforeseen events and unplanned expenses
Businesses that are leaner in their operations are far more likely to succeed. Make sure that when you’re creating a business budget you apply a minimalist mentality.
Over or underestimating certain expenses can draw unnecessary resources to certain spending categories. That is why understanding your fixed and variable costs is pivotal.
- Fixed Costs: Expenses that DO NOT rise as sales volume increases
- Variable Costs: Expenses that DO rise as sales volume increases
Important Note on Marketing
Marketing is an area for a business that can be in the grey area between fixed and variable costs. While you can spend a fixed amount every month you also have the ability to increase or decrease your marketing expenses based on your sales volume. For that reason accurately monitoring your marketing expenses can better your cash flow or increase your sales.
Estimating Variable and Fixed Cost Business Expenses
What are the expenses you need to pay each month to keep the operations of your business going? Common costs are payroll, Rent/Mortgage, Travel Expenses, and debt payments. These fixed costs are usually easier to find and more predictable. They’re the bedrock of a successful budget.
Fixed cost expenses are most often unavoidable and often times if they’re missed they can lead to repercussions (for example missing a debt payment).
Variable expenses are often much more difficult to budget for. They include expenses such as credit card fees and utilities.
Variable expenses can often be scaled up or down based on how your business is doing. For example if you’re having a good month or quarter you can increase your marketing and sales expense to grow your sales.
Have a Sufficient Cash Cushion
A cash flow projection allows you to find patterns and plan for larger one time expenses. Making a 12-Month forecast will allow you to see snap shots of your business and allow you to notice seasonal trends.
Having sufficient operating capital will allow you to ride economic downturns and changes to industry trends. More importantly if a good opportunity presents itself that requires capital you will be in a stronger position to do so.
As someone once told me the most important business tip is to have cash.
Unforeseen Problems
A large problem you may encounter and want to avoid is unreliable payers or defaulting accounts.
I have personal experience with customers who have been late on paying, defaulted, or are unreliable. It is difficult to handle and almost brought down my business.
Dealing with and monitoring your accounts receivable is pivotal to a healthy business. It cannot be ignored. Your sales number doesn’t matter if your customers aren’t paying you on a consistent basis.
For larger accounts that your business relies on it can be difficult to cut them off or put them on cash. What I recommend is give them a couple chances to pay on time. However, you can’t think of yourself as a bank. At some point you have to drop the hammer and either create a payment plan, scheduled payments or worse case move them to cash.
For smaller accounts that aren’t paying or paying late you have to think of it as stealing. You’re giving your product away for free and no business can survive doing that.
Accounting and Preparing for Seasonal Changes
Almost every business is affected by seasonal changes. There are peak seasons and leaner seasons. Failing to adjust your expenses for these times can significantly impact your cash flow.
Knowing when or if you need to hire seasonal employees can affect your variable expenses. Know when you have excess cashflow to make larger purchases or increase marketing expenses. A large part of any businesses expenses are variable and knowing when and how to control those expenses can significantly impact your cash flow.
The business sector I am in is highly seasonal. Equally dividing out your expenses across a 12-Month period sounds good on paper but in application it can make your weaker months a large cash drain on your business.
Final Takeaways for Creating a Budget
Most small business owners do not create a budget. It seems daunting and time consuming. However, no start up or existing business has ever succeeded by ignoring their cash flow. In order to grow you need operating capital.
Running a lean business doesn’t mean you need to cut corners and be cheap. You must think of every expense your business has as an investment in its future growth. You have to think to yourself, “are my expenses increasing my sales.” A business with a budget and cash flow projection is far more likely to succeed. In the end growing your business is the ultimate goal.
