Small business tips - how to budget
Running a small business is fraught with risk, from financial risk to strategic risk, and compliance risk to reputational risk - and, as a small business owner, you’ll want to do everything in your power to reduce these risks, so you can operate with a sense of security. A rigorous budget can help you anticipate any surprises with confidence, which makes it one of the most powerful tools you have to keep your business in order.
What are the main types of business risk?
Broadly speaking, there are five main types of risk your business will face:
A successful business needs a well-thought-out, and flexible business plan – things change quickly in business, and your venture needs to be agile enough to move with any changes, whether because of technological innovations, shifts in consumer behaviour, an increase in material costs, or any number of other large-scale changes.
Strategic risk is the risk that your company’s strategy becomes less effective and your company struggles to reach its goals as a result.
If your business isn’t complying with all relevant laws and regulations it could leave itself wide open to legal proceedings which could cripple it financially.
Laws and legislation changes all the time, and there’s always a risk that you’ll face additional regulations in the future, and your business may need to comply with new rules that didn’t apply to you before.
Operational risk refers to an unexpected failure in your company’s day-to-day operations. It could be a technical failure, like a server outage, or it could be caused by your people or processes.
No matter what your line of business, your reputation is everything - if your reputation is damaged, customers may become wary of doing business with you, which can lead to an immediate loss of revenue.
Social media and online feedback forums are one of the biggest threats to business reputation, and it’s vital to respond to any criticism or complaints swiftly.
There are all types of risk in business, but what they all have in common is that they all lead to a financial risk. But financial risk also refers specifically to the money flowing in and out of your business, and the possibility of a sudden financial loss. And one of the most effective ways to mitigate against financial risk is to set a robust budget, here's how...
Why does your business need to budget?
At home, if you’re spending more than you bring in, then you need to know where to tighten your belt. The same is true for businesses, whether you’re a cottage industry start-up, or a market leader. But a good budget won’t just help you weather any potential storms. It will also leave you well placed to make those discerning investments when the time is right, and help you identify ways to make sure your small business is running competitively.
There’s a good chance that if your business is up and running, you have already set out a budget of some form. If you’re at the stage where you’re planning to set up a small business, this will be one of the first and most important parts of the process. Here are a few things you need to remember to ensure your budget is both accurate and effective.
How to create an effective budget for your business
Calculate revenue projections
The most obvious starting point will be your sales and revenue projections. First, remember that these are just projections. Even the most in depth market research and industry knowledge will not provide 100% accuracy. As such, slightly underestimating your projected income is a sensible strategy to provide a buffer against any unforeseen cash flow issues.
Separate your costs
Mortgage payments or rent, insurance, and utilities are generally independent of output and sales figures. Any staff that do not directly contribute to generating revenue will also fall into this category. It’s not always easy, but in the early stages of your business it’s important to keep these costs as low as possible.
Other costs such as raw materials, shipping, and direct labour costs, will vary depending on how much you produce – which makes them slightly harder to budget for. This is where it becomes important to update your budget regularly. Being able to flag any potential cash flow issues as they occur, means you can rectify them before they become problems. Again, give yourself some room to breathe. Overestimating your costs will provide a further buffer against nasty surprises.
Question every expense
Being able to keep an eye on your costs is imperative if you want to remain competitive. Not all costs are essential or even necessary, especially in the early stages of building your small business. Evaluating every expense will enable you to separate the essentials from discretionary expenses, which accumulate and eat into your all-important profit margin.
Get back in black
The chances are, in setting up a small business you will accrue some debt, and that debt will usually have interest. Often the interest paid will exceed the original amount borrowed. Reducing this debt as quickly as possible will go a long way to future-proofing your small business. Getting back in the black will reduce a large overhead, and make you far more competitive.
Build up a rainy day fund
There is no better way to fortify your business against unforeseen challenges, than to have capital in reserve. This will provide a safety net if revenues unexpectedly fall and it will also take the strain if cost prices increase. Most importantly it will mean that your business will be in the position to capitalize on opportunities as they arise, without having to rely so heavily on outside investment of further bank loans.
Take the time to plan
Taking time to carefully plan a budget will pay off. The cultural enterprise office suggests a 3-budget system. Start with an ideal scenario that allows you to achieve all of your goals to the highest standards. Draw up a second budget in which costs are evaluated and cut, without compromising your original goals. A third budget should detail how you can just manage to get by without forfeiting any of your original vision.
A reflective analysis of your budget is always time well spent. Set yourself regular goals tied to your budget. Constant and incremental improvements will decrease costs and increase competitiveness. In short, the more time you spend reflecting on your budget, the better the budget will work for your small business.
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