Part of being an effective leader of your small business is to be able to make sense of the numbers and to avoid profitability pitfalls! Understanding budgeting is important because your business must be able to understand how to properly budget in order for your business to remain competitive and grow in an ever-changing business environment.
Budgeting is important as a small business so that you can get a better pulse on where your cash flow will be in the future. The budget is the guide that helps to navigate your business through the year.
Here are some budgeting pitfalls to avoid:
- Forgetting expenses – One can easily forget to include expenses on your budget that are not mainstream. Items that do not fall into the category of salaries, maintenance, transport, utility bills and connection costs may go by the wayside. You will need to perform some of your own research to identify all costs that you incur. A good place to start will be to look at what items you have paid for in the past. The success of a budget being your roadmap is ensuring that you have included all the expenses that your business experiences. Take extra care to ensure the completeness of your expenses.
- Sales projections not realistic – Sales are the driving force of your business. Without it, your business would be unable to sustain itself. Therefore, I stress that the increase in revenue for the coming year be analysed with extreme scrutiny. Too often, the sales figure for the budget is estimated at a flat increase of for example 10% from the prior year. Yet this figure is not sufficiently backed up. This is especially true if the prior year increase was a mere 2.5% considering the trying economic environment. Whatever increase is used in your budget; you must be able to back it up. Here are some tools you can use to determine what increase in sales you should use in your budget. Don’t be afraid to be too detailed in your analysis of sales because this figure is so important. While you cannot possibly be 100% accurate, you could try to get pretty close if you pay attention and put in the effort.
- Blanket increases for expenses – It is dangerous to apply a blanket increase to the expenses in your budget. A blanket increase can apply to a certain group of expenses – those that will increase in line with inflation for example. However, most expenses will need due attention if you want your budget to be realistic. Each expense should be increased in line with that that which drives the expense. Let’s look at a simplistic example. If you expect sales to decrease by 5% in the coming year, the costs driven by sales would also decrease by a similar percentage. If you drive to your clients daily as part of your service to them – your petrol expenses would go down. Cost of paper used for new client contracts would go down. If you are a manufacturer, your manufacturing costs would go down. Expenses should be increased or decreased in line with the drivers of that expense. Do not opt for a flat blanket increase/decrease to expenses when preparing your budget.
- Not using the budget to benchmark against – Your budget serves as your plan for the next 12 months. It should thus be used as a template for your income and expenses for that period. Each month, you should assess the actual amounts as compared to the budgeted and identify any variances. Variances should be explained since you have accounted for the most likely scenario in your budget. If you are achieving less sales than expected, you may be falling short of the competition. Or you could be the first to identify a contraction in the economy’s demand for your service. You could draft a perfect budget but if you do not use it for its intended purpose, it’s for naught.
- Prior period errors not re-visited – Your prior period budget errors in estimation should be used in the current year. It tells you where you have fallen short. You could have been overoptimistic of sales figures in the prior year. Or you could have used an incorrect driver in estimation of a specific expense. Use your prior year budget as a base to improve your estimation in the current year budget. Instead of making the same mistake again, use your prior year budget to make your current year budget better. In this way, each year will be an improvement of the year before. Budgets help you to manage your business better. It tells you when your sales are off the mark and when an expense if going out of control.
The effective use of accounting software can help you to budget your cash flow. Programs such as Quickbooks and Quickbooks Online have apps that can be added in to allow you to budget based on your bookkeeping numbers. If you are looking for help with budgeting your business financials, we are here to help.
Here are some things to budget for:
- Marketing – Reduce marketing costs. Invest in methods proven to increase profits, and stop using methods that show minimal results. There are two cost-efficient ways to do this:
- Keep in touch with your customers through email instead of post mail.
- Use social media as a way of contact.
- Operating Costs – Reviewing operating costs is an essential component to ensure that you are not wasting money. Some things that startups waste money on is:
- Expensive subscription based services – Marketing automation and accounting software/services can be necessary spends. However, just because it’s a necessary spend doesn’t mean you should jump at the most popular service.
- Expensive Office Space – You want your clients to feel comfortable about doing business with you, and you want a comfortable space for the team to operate in. Unfortunately, the cost of creating that operational paradise can get steep. Focus on a positive revenue stream and business growth first. The cushy office can always come later. If you can work in a shared office space, or even out of a residential space like your home or garage, then do that. Keep your funds directed toward business growth until absolutely necessary.
- Overstaffing – It can be exciting to watch your business grow and provide employment in your community. Unfortunately, if your business isn’t ready to handle the overhead in the early startup stage, you could drain your funds quickly. Extra employees just become a waste of money. Instead of hiring full-time employees from the start, try outsourcing. Use freelance or contract employees on a per-project basis.
- Expensive Office Equipment – You shouldn’t buy anything that’s expensive unless your business cannot operate without it. Find ways to do the work without the need for costly equipment. It might be tempting to purchase the latest and greatest technology, but a high price doesn’t really mean it’s useful to your business, or that it’s a smart business expense. Spend money only on the equipment you need to operate your business right now, and purchase that equipment as economically as possible.
- Non-Measurable Marketing – Every marketing effort has a cost, be it time or money. Since your time is a limited commodity, it has its own price tag. When you’re marketing your startup, you want to avoid any kind of marketing that can’t be easily measured. If you can’t measure the results of your efforts, don’t spend time or money there.
- Branding “Goodies” – As a new business, you’ll want to focus on meeting the needs of your customers. This is your highest priority. Printing your logo on letterhead and promotional products like shirts and hats is a feel-good activity that doesn’t really bring any value to your business.