Why Budgeting in Businesses Is So Important

Successful small businesses depend on the effectiveness of a business owner’s planning process. One of the most critical elements of the planning process is business budget planning, which is also one of the final stages. To begin, you must gather company financial data, forecasts, and industry analysis to help you build your business budget.

Along with valuable financial information and analytics, however, you also need to keep the company’s general business and strategic plans in mind to build your budget.

What Is a Business Budget?

A business budget is a dynamic financial plan used to estimate a company’s anticipated revenue and expenses for an upcoming time period. It is essentially a financial plan a business makes for a month, quarter, or year. It should be dynamic and flexible to adjust as business plans and the market environment change.

A detailed and realistic budget is one of the most important tools for guiding your business. A budget provides essential information for operating within your means, managing unexpected challenges, and turning a profit. A proper budget will identify available capital, estimate expenditures, and anticipated revenues. Business owners must continually refer to their budget to measure forecasted budget figures against actual budgetary results to know where to make adjustments.

Planning should account for long-term needs as well. For example, if you anticipate a large expenditure one or two years down the road for computer upgrades or equipment maintenance, it’s a good idea to start budgeting in advance.

Business Budget Planning Steps
A budget is a foundational framework for your business finances, detailing past performance and providing a tool for forecasting the fiscal year, or another time period, with a view of assets, revenue, and expenses. Here is an overview of the budgetary process:

Budget Preparation
Budgets enable a business to accurately set goals, priorities and spending caps and detail where funding originates and where new strategies might bring revenue into the company coffers. The line items that command the most budget are high-priority items like the sources of revenue and the different types of expenses. These items demand precise bookkeeping and serve as overall business strategy performance indicators.

An adequate budget should break down revenue and anticipated expenses by month, by quarter, or fiscal year. Depending on the size of your business, it should include separate budgets for each department. These departmental budgets should also be broken down by month or quarter; collectively, they will come together to form your master budget.

Note
The master budget is a comprehensive financial plan based on the strategic plan of the business firm. It comprises two sub-budgets—the operating budget and the financial budget. Each of these includes several more specific budgets.

Businesses that rely heavily on seasonal sales revenue are an excellent example of why a budget is so important. If June, July, August, and December typically generate 75% of your business’s revenue, your budget will allow you to plan ahead. A strategy for distributing your revenue most effectively over a full fiscal year will help maximize profits.

Budget to Evaluate Company Performance
In addition to being an essential part of the planning process, budgets are necessary for evaluating your company’s performance over the course of each fiscal year. Common types of budgeting in business are:

Static budgets: Static budgets are operating budgets that use historical financial data to budget for revenue and expenses expected in the following time period. Typically used by tiny businesses, these budgets require taking each line item and adding a percentage increase or decrease to reflect the next budget.
Performance-based budgeting: This budget considers the inputs and outputs per unit of product or service to achieve maximum efficiency.
Zero-based budgeting: A zero-based budget starts from scratch every time period and builds a new budget based on the conditions at that time. In other words, it starts from zero for each line item and uses internal and industry financial data to build the budget.1
Variance analysis: A variance-based budget is one where actual and expected values for every revenue and expense item is calculated. The results are used to try to bring the budget items back within a specific range and achieve improved efficiency2
Using one of these types of company budgets can be another tool for the firm’s financial analysis.

For example, if sales in the first quarter are lower than what you budgeted, you’ll know to find expenses to cut later in the fiscal year to stay profitable. A more positive example might be sales of a new product that exceeds expectations. By tracking this trend and comparing it to what was budgeted, you will see that you have the additional revenue to perhaps revise the budget with plans to increase production or hire other staff to handle the extra business.

Budget to Obtain Financing
A history of writing sound, detailed budgets and sticking to them can help show lenders or potential investors that you can develop a business plan and make it work.

Note
Lenders and investors want to dig deeply into your finances and history. If they don’t see evidence of solid budgeting practices, it might be a red flag that would turn them away.

If you’re opening a new business with little or no history, you must make up for that lack of a track record with detailed support for your budget. This means researching the marketplace and showing how past trends or, perhaps, a void in the industry supports the numbers you present. This kind of attention to detail can help you gain serious consideration from lenders or investors.

Staffing for Budgeting
Even small businesses with only a few employees must ensure they’re adequately staffed for writing and maintaining a budget. If, for example, you own and operate a small cafe, you might have a unique menu and a reputation for quality customer service, but that doesn’t mean you’re a financial professional.

If hiring a full-time person to handle your budget and other financial affairs is not realistic, consider part-time help or working with an outside consulting firm, especially early on and annually when it comes time to write a new budget for the next fiscal year. SCORE, a business mentorship organization, affiliated with the U.S. Small Business Administration (SBA), is made up largely of volunteers with backgrounds in business and finance who provide guidance and advice to small businesses. This can be a valuable resource when you’re just getting started or when you’re confronted with a significant challenge. In addition to helping with budgeting or other problems, organizations like SCORE can put you in touch with other resources in your community.

Budgeting Software
Some of the best tools for writing a detailed budget and sticking to it are software programs that go beyond just Microsoft Excel or other spreadsheet programs. Some of the most useful budget software programs are:

  • QuickBooks: One of the most user-friendly and inexpensive software programs, including budgeting.
  • Budgyt: A user-friendly budget software program allowing for more than one profit and loss statement.
  • NIZU Cloud: A cloud-based budgeting software program for small and medium-sized businesses, including forecasting.