What is a budget?

A budget is a detailed financial plan for the year ahead.​

It is not the same as a forecast; a forecast predicts the financial results you expect to achieve. A budget is different because it's created before the year starts. It sets guidelines and expectations for both your spending and revenue.​

And it’s not really goal setting, although this is a crucial part. The goal could be achieving $250,000 in sales. This informs the budget, and should happen first. You should have a ‘big idea’ of what you want the business to achieve (sometimes called a top-down expectation). The budget then is built up (sometimes called a bottom-up budget) with things you know and see if they add up to the top-down expectation. This will include all the costs of the business and any planned changes you expect to make in the year to achieve your goals. You might find that your budget doesn’t match the goals - you might need to hire another person, or move to a bigger premises to hit your target, and by looking at the gaps you can help plan your year, think about what’s realistic and then update your budget and/or goals until they meet.​

Once built, the budget is then your reference point for financial performance throughout the year. If you are spending more money than you budgeted for software costs, why is that? If you are spending less money on employees than you budgeted, why is that? It may be that you’re spending money on an app that you don’t really need to achieve your goal. Or it may be that you weren’t able to employ the person you needed to make more products, and that is why you can’t reach your sales target.​

It can be a good idea to have an “anchor” for your budget and build it around that. This could be the goal you have set for the business. Typically that would be the revenue you want to achieve. So, you want to make $250,000 of sales? - you can then think about all the things you will need to spend money on to achieve that.​

Or it may be that you know your costs really well, and can work out what your sales will be. For example, you rent an office, which fits 3 people, who can each sell $5k a month, so you should make sales of $180,000 per annum.​

The approach will vary from business to business, so pick an approach which makes sense for you. A  good budget should be aspirational (to set expectations and drive productive behaviours) but realistic so people don’t ignore it or give up because it’s impossible.​

Are you starting out in business for the first time?​

Then you’re unlikely to have past costs or sales to use as a baseline. You’ll need to do some research and figure out what your costs are likely to be, as well as likely sales figures. If you’re in this boat, it’s important not to 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.​​

Sales​

Usually, income in a business is based on quantity. For example, income for a fruit and vege shop might be the quantity of produce sold. Revenue for a design agency might be the quantity of hours billed. When budgeting your revenue think about what is driving that figure. It is a good idea to break your revenue predictions down into their building blocks of number of items sold, because that gives you a clearer target to measure, rather than just total dollars per month. Remember to think about things like seasonality (when you will sell more or less in the year), 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?​​

Other income​

Think about any grants or subsidies you might be able to apply for. You’ll also want to include in this section any interest income if you have cash on deposit, or other income streams such as subletting office space or honorariums.​​

Direct costs​

Direct costs are those which are directly linked to each item (or hour of time) you sell. These costs are either fixed, such as the cost of freight to import a container of product, 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 (so until you fill that container completely with product) and then jump up (to having to pay the cost of importing 2 containers).​​

Overheads​

Overheads are those costs that 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. Generally, most if not all of a business’ overheads are fixed. That’s because they don’t usually change much depending on how many units you sell. ​​

Tax​

A company that is considered A Base Rate Entity* will be taxed at 25% of net profit. When preparing a budget it is good practice to include this in each month as a final expense. Perhaps some months in your budget show a loss – then you could budget your tax that month as a positive figure. Because this isn’t reflective of actual cashflow you can also just include it as a total of the year in the final month of your budget if that is clearer for you. It is important though that tax is included as part of your budget as it is a cost to your business.​​

*A company is a base rate entity for an income year if:​

Accountants are the best at actively working to make sure you’re not paying any more tax than you need to. So, often what you would budget in tax would be different to what you would end up paying once our team has completed their work.​

Other items – buying assets and paying back loans​

​It is important to remember that a budget is only looking at the income and expenses of your business. Items such as asset purchases and loan repayments don’t get included.​

The below examples will help to clarify this:​

Remember, cashflow is the most important thing, particularly for a small business. If you want to get a clear picture of your total business cashflow then you’ll need to prepare a cashflow forecast.​​​

Take a step back and look at this as a full picture. Does it make sense and look like how your business operates? Is there anything that looks glaringly wrong? This is the time to assess if your picture on paper actually reflects reality.​​

If you need another set of eyes, or just want someone to work through setting a budget with you, get in touch!​

A budget is your business’s Swiss Army Knife.​

For these reasons a budget is a really important tool for your business, but don’t do it for the sake of doing it. Make it useful and relevant to you and your business. You can make it more, or less complex: If you know your annual costs, you can divide each line by the number of month’s you’ve set it for to get average monthly figures. 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 (such as insurance), if you know them, 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. The closer it is to reality, the more useful it is likely to be.​

To really get the most out of your budget, you then need to use it during the year. Compare your results to your budget, whether you do this every month or once a year, look for the variance and try to understand why there are differences to the budget (i.e. your original expectations).​

It may be that you just got a part of the budget wrong, in which case learn from that for next year. But if there is a reason why your expenses are more (or less!) than your budget, try to understand why. This can help identify where you might be spending too much money, or places you aren’t spending enough!​

How is it linked to other parts of the business? If your advertising spend is lower than your budget, have your sales suffered?​

Are there decisions you now need to consider? Sales are soaring, is now the right time to invest in another employee, or new machinery? The financials can tell the story of what is going on in your business​

Again, think of your cash. Will you now have more or less money than you expected, and what does that mean for you and your business? Will you need to save more, or less, cash than you expected for your tax payments?​

 After building your budget, It’s helpful to enter your budget into a tool, like Xero. You can then easily track each month’s figures against your forecast.​ The more often you compare your numbers to the budget, the quicker you can identify any risks or opportunities and make changes.​

In addition, you can use the Goals section of my.Beany to see how your sales or net profit are tracking against your budget.​

We’re an online accounting firm that is always right here for you, your accounting pain relief. The most advanced technology lets us work way more closely with you than a normal accountant would.​

We have a dedicated team of certified accountants and a support team to take care of your business no matter where you are, so you can focus on growing your business. We take out the ‘fluff’, break down the barriers and get things done. Looking out for you is what we are all about. Get started for free today.​