What is a budget
A budget is the best estimate of future performance over a period of time. It’s a plan of how you might meet your goals, and gives you a way to measure your actual performance against your plan.
How to set a budget
It’s as simple as planning the coming year based on your history of income and expenditure. From here, you can review each month’s performance against your historical results – spotting improvements and causes for concern.
You’ll have to think about the historical information you’re basing your budget on:
Are you starting out in business for the first time?
You won’t have past costs or sales so will need to do some research and figure out what your costs are likely to be, as well as likely sales figures. Don’t give yourself arbitrary, hard-to-reach targets. You’ll likely feel disappointed if you don’t reach them.
Is the year ahead likely to be “business as usual”?
If so, you may be able to safely assume your income and expenses will mirror last year. You can use them to make estimations, while slightly increasing your costs to reflect inflation.
Do you have big changes on the way?
If you’re planning to introduce a new product line or shift your premises to a new location, your costs are certainly going to change and maybe your income will too. Factor in these new costs or income adjustments.
Your budget strictly focuses on income and expenses. It doesn’t include all of the items going in and out of your bank account (that’s what a cash flow forecast is for).
Here are some example:
- Any intentions to buy assets like vehicles in the coming year, don’t make it into your budget
- Your GST payments aren’t in your budget
- Repaying the principle on your loan doesn’t go in, but interest repayments do
Budgeting your income
Usually income in a business is based on quantity. For example, the number of units sold for a product-based business or the quantity of hours billed for a service-based business.
When budgeting your revenue, think about what is driving that figure. Break your revenue predictions down into the number of items sold as that gives a clearer target to measure rather than just total dollars per month. Consider things like seasonality, holidays, annual closedowns and such. If you’re going to budget for an increase in revenue you’ll also need to think about what effect that will have on your costs. Will you need to pay staff more hours to get more sales? Or will you need to purchase more stock to sell to increase your sales?
This could include grants or subsidies you may be able to apply for, interest income if you have cash on deposit or other streams such as subletting office space.
Budgeting your costs
Those which are directly linked to each item you sell or hour of time you bill. These are either fixed such as the cost of freight to import a container of products and those that are variable such as the cost to purchase each individual item you sell.
If you’ve looked at an increase in your sales, then you need to consider the increase that will make to your variable costs. Fixed costs usually are fixed at a level and then jump up (e.g. paying to fill a container completely then jumping to the cost of paying to import 2 containers).
These are costs which don’t directly relate to each unit of sales such as the electricity cost of running your premises, rent for your building, or subscription costs for industry memberships.
When preparing a budget it is good practice to include company tax in each month as a final expense.
Other items – buying assets and paying back loans
Items such as asset purchases and loan repayment don’t get included in a budget. If you want to get a clear picture of your total business cashflow then you’ll need to prepare a cashflow forecast.
Once you’ve figured out your annual budget, you can divide each line by 12, or if you know the pattern of income or expenses you can put this in (for example if your income follows a seasonal trend). You can also add in one-off annual expenses if you know them, such as insurance to the month in which you expect to pay. Don’t forget budgets are GST exclusive so any figures you enter need to be without GST.
Reporting against your budget
After building your budget, it’s helpful to enter it into a tool like Xero. You can then track each month’s figures against your forecast.
Take a step back and look at the full picture. Does it make sense and look like how your business operates? Is there anything that looks wrong? This is the time to assess if your picture on paper actually reflects reality.
For assistance with putting together a budget, talk to an accountant. The team at Beany can help you with this. In addition, the Wealth section of Beany can help to see how your sales or net profit are tracking against your budget.
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