As the old proverb goes, if you fail to prepare, prepare to fail. In business, budgeting is crucial for growth and security, providing visibility over whether there's enough revenue to pay expenses, re-invest for growth and weather downturns.
For Laura Beales, Co-Founder of Tally Workspace, budgets support every decision she makes. "Whether we're hiring, raising money or investing in new software, we try to understand via our budgets when we can expect to receive payback and the consequences of any investment on the rest of the business," she shares.
There are many different types of budgets you can create that support decision-making in specific parts of the business. Here's a look at what they are and how to choose the right budgets for your business.
The importance of budgeting for small businesses
Budgeting is crucial for understanding how much money a business has, how much it has spent and how much it needs in the future. It allows business owners to plan for expenses and sales, new equipment and property, marketing, hiring and production.
In the first quarter of the year, Beales' budgets showed that her business had generated more cash than expected. This meant there was additional money available to allocate elsewhere in the company. She said the decision was taken to invest this surplus cash in customer acquisition. The budgets were then updated to include this additional revenue and the new investment in customer acquisition.
In addition to supporting investment decisions, budgets also mitigate short-term financial risks, for example by highlighting when costs may exceed revenue. Without this visibility, a business could spend more than it should, leading to problems with meeting obligations and potentially, the accumulation of debt.
Monitoring incomings and outgoings through a budget is crucial for helping business owners plan for growth and mitigate risk. The American Express® Business Gold Card gives greater flexibility to those spending plans with payment periods of up to 54 days (and no interest charges), meaning your money stays with you for longer giving you greater control over your cash flow¹.
5 different types of budgets for businesses
Master budget
This is a central budget that aggregates all lower-level budgets from elsewhere in the business, for example, labour budgets and cash flow budgets. It includes all business finances, such as cash flow forecasts, financial statements and financial plans and is typically completed over a one-year period.
"We have a master budget in place that covers our overall plan for the year," says Beales. "We use this to track spend and performance on a monthly budget compared to our plan," she says. "We update our master budget quarterly, which is unusual, but given the fast-paced nature of an early-stage start-up, we believe this is necessary to ensure that we are investing in the right things, at the right time."
Operating budget
This forecasts costs associated with operations - like manufacturing and labour costs - and revenues. It includes fixed and variable costs, as well as capital costs. It is often created at the start of each year and should be regularly updated to ensure that spending aligns with business plans, explains Prashant Ganti, Head of Product Management for Zoho Finance and Operations Suite.
Cash flow budget
A cash flow budget allows you to track the timing of your revenue and expenses, so you can make sure you have enough money week-on-week to meet obligations such as utility bills, salaries and office rent. It specifically looks at the flow of cash into and out of your business over a given period of time.
"A cash flow budget is key to ensuring we know when cash will land in our bank versus when we have committed to making payouts," says Beales. "I've seen other small businesses not planning for significant cash impacts like VAT payments, with disastrous consequences," she adds. "I would argue at the early stages of starting a company, this budget is crucial."
Financial budget
This supports business owners in understanding how much capital is needed to run the company and at when. It can be particularly important for businesses that are scaling since it considers assets, such as cash, vehicles and equipment; liabilities, like debt; and stakeholder's equity.
When planning a financial budget, you may include the following steps:
- Set realistic financial aims and objectives
- Forecast your expected income for the budget period
- Forecast your expected expenses for the budget period
- Allocate funds to different areas of your business
- Monitor your spending regularly to ensure you stay on track
- Adjust your budget as necessary, based on your actual income and expenses
Labour budget
A labour budget details the costs involved in producing your products or services. It includes information such as the number of employees you need to run the business, the hours each employee must work and salaries, explains Ganti.
For example, Sarah manages a coffee shop in Manchester. In a typical week, she needs two baristas working 30 hours each at £10 an hour. She also needs a supervisor to work a 40-hour week for £12 an hour. By including this information in an overall labour budget, she knows a typical week's labour will cost her business £1080, which she can then use to inform broader financial planning.
What type of budget is best for you?
Choosing the right budget depends on a range of factors, such as the nature of your business, its size and current stage of growth, says Ganti. For example, seasonal businesses with peaks and troughs in sales may benefit from a cash flow budget. And businesses that rely heavily on staff may benefit from labour budgets.
"Labour is our biggest cost so we also have a labour budget where we consider the cost of hires and sub-contractors, as well as future pay, rises and bonuses," says Beales.
Budgets should also reflect your business and financial goals, supporting you in deciding how best to achieve them and then enabling you to track progress. For example, if you're planning to hire more staff, purchase large equipment or service debt.
"Our company's key performance indicators (KPIs) and goals are linked to the budget, so each team will know the revenue goals they are required to meet and will have targets on client acquisition costs, and payback, which will tie back to the approved spending budget," adds Beales.
Ganti notes that in addition to specific budgets, best practice means all small businesses should consider using a master budget that includes both an operating budget and a financial budget. These are crucial for supporting the direction of travel, such as the ability of a business to invest in growth or withstand unexpected financial hurdles.
Whatever budgets you choose, it's important to monitor them regularly. "Budgets are based on predictions," Ganti says, which means unexpected expenses such as higher utility bills, are likely to arise. "Small businesses should re-assess budgets continuously, at least quarterly, to help drive success," Ganti adds. "Consulting budgets can help to give businesses insights into their performance, so they can adjust their strategy to further grow."
1. The maximum payment period on purchases is 54 calendar days and is obtained only if you spend on the first day of the new statement period and repay the balance in full on the due date. If you'd prefer a Card with no annual fee, rewards or other features, an alternative option is available – the Business Basic Card.
