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5 Steps to set a budget for your business.

5 Steps to set a for your business.

A budget is a formal statement of estimated revenues and expenses of the business over a specific future financial year. Is considered as the guideline to allocate organizational resources. A budget helps the business to spend money more effectively and efficiently and reduces the wastage of resources. For every small and medium business, a proper budget is a must to reach success by managing business finances to achieve target profits.

By following some easy steps, any small business owners can set up and maintain an effective budget for the business.
Step-1: Strategic Planning

 The first step of preparing the budget is that every small business should assess business goals and objectives to prepare a budget based on business strategic plans. It should reflect the targets and goals of the business in terms of target revenues, cash flow, and target profits for the business in a financial period. The budget can be yearly, half-yearly quarterly, monthly, bi-monthly, and weekly. The business can choose the appropriate format of the budget based on their business strategic plans. The key components that the budget format should include are revenues, expenses, and profit for a specific future period. For a new business, the components of the budget can be estimated based on industry performance or business objectives. For an existing small business, the budget components can be estimated based on the previous period and new target performance.  

Step-2: Estimation of Revenue

The first key component of the budget is the estimated revenue from all revenue sources of the small business. If the business serves different products and services to its customers, all those sources of revenue should be included in the budget. The operating revenue is generated from core products and services of the business and the non-operating revenue is generated from outside sources other than day-to-day business activities. Revenue should be estimated based on historical performance and projected growth of the business. The projected growth is the estimated increase in business revenue according to the strategic planning of the business. For sales estimation, the small business should consider the best case scenario, the worst case scenario, and likely scenario of revenue growth and set up a growth rate for the next business period.

For example,

The historical revenue in January is $10,000. The business estimates on an average 5% increase in sales in any scenario. In this case, the forecast for revenue in February will be $10,000+($10,000×5%) =$10,500. An example of a budget for revenue is given here.

Monthly Budget
Operating Revenue  
Product 1$1,800  
Product 2$2,000  
Product 3$1,500  
Service 1$2,200  
Service 2$1,300  
Total Operating Revenue$8,800  
Non-Operating Revenue   
Interest Income$500  
Gain on sale of assets$1,200  
Total Non-Operating Revenue$1,700  
Total Revenue (Operating and Non-operating)$10,500  
Step-3: Estimation of Expenses

The key part of a budget is listing and estimating the expenses of the business. The two main types of expenses are fixed expenses and variable expenses. The fixed expenses are not related to business sales and must be paid regardless of income such as rent, employee salaries, utilities, loan payment, insurance, etc. The small businesses can divide the yearly fixed expenses on a quarterly, monthly, and weekly basis to include in the respective budgets. The variable costs are related to business production and sales such as raw materials, labor wages, packaging, shipping, etc. Variable costs increase or decrease based on the increase or decrease in production and sales.

Monthly Budget
Fixed Expenses   
Employee Salaries$1,000  
Loan Payments$500  
Office Supplies$200  
Total Fixed Expenses$2,700  
Variable Expenses   
Labor Wages$800  
Raw Material$1,000  
Credit card fees$300  
Total Variable Expenses$3,300  
Total Expenses (Fixed and Variable)$6,000  
Step-4: Monitoring Cash Flows

The budget largely depends on business cash flow. For this, any small business needs to track the cash inflows and outflows depending on the total cash collection from sales and the total cash expenses on fixed and variable expenses of the business. The monthly cash flow can be prepared like this:

Monthly Revenue$10,000
Cash collection$7,000
Total Fixed cost$2,000
Total Variable Cost$3,000
Monthly Cash Balance2,000
Step-5: Reviewing

The business needs to review the budget at the end of the period to assess the budget and actual sales and expenses. By calculating the difference between forecast and actual finances, the business can define whether there is under budget or over budget for each financial activity. Moreover, the business can estimate the growth of sales and expenses for the next financial period. The budget review should include the estimation of changes in budget variables such as emergency expenses and new sales opportunities. After combining all the forecast for sales and expenses and actual financial activities, the budget of a small business can be prepared like this:

Monthly Budget
Operating Revenue   
Product 1$1,800$2,000$200
Product 2$2,000$1,500($500)
Product 3$1,500$2,200$700
Service 1$2,200$3,200$1,000
Service 2$1,300$1,800$500
Total Operating Revenue$8,800$10,700$1,900
Non-Operating Revenue   
Interest Income$500$400($100)
Gain on sale of asset$1,200$1,500$300
Total Non-Operating Revenue$1,700$1,900$200
Total Revenue (Operating + Non-operating)$10,500$12,600$2,100
Fixed Expenses   
Employee Salaries$1,000$1,000$0
Loan Payments$500$500$0
Office Supplies$200$150($50)
Total Fixed Expenses$2,700$2,650($50)
Variable Expenses  
Labor Wages$800$700($100)
Raw Material$1,000$1,200$200
Credit card fees$300$250($50)
Total Variable Expenses$3,300$3,500$200
Total Expenses (Fixed cost + Variable cost)$6,000$6,150$150
Net Income (Total Revenue-Total Expenses)$4,500$6,450$1,950

In conclusion, a budget can help a small business to keep track of its targeted sales and profits and the actual

sales and profits. By preparing a budget following the easy steps mentioned above will help the small business to

understand how much money is collected and how much money is spent by conducting business activities

within a financial period. Moreover, by monitoring and assessing the budgeted cash flow with actual cash flow,

the business can find out whether there is any shortage in cash flow to meet short-term business expenses and

obligations. In this case, invoice financing is a great method of unlocking cash from account receivables and

using that fund to fulfill budget targets. Invoice financing can help to release funds tied up as accounts

receivables and make improvements in business cash flow. It will help the business to meet budgeted expenses and obligations without delay and thus, minimize differences between the forecast and the actual financial condition.

You can learn more about invoice financing here.

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