The time you spend on the budget will be time and money saved.
Planning is essential for business success, and one of the crucial elements of a business plan is an annual budget. However, preparing a yearly budget takes time. And, when you have plenty of other things on your plate, spending hours crunching numbers may seem like a waste of valuable time. But a budget has more uses than you may realize. Here are eight reasons why preparing a budget will help you manage your business more effectively.
1. Keeps Spending Under Control
Controlling costs is crucial for business profitability. A budget will provide the figures to enable that control. For example, you can check if you have the available funds on a particular expense type before committing to a purchase. And a monthly review of budget variances will highlight any overspending. In some circumstances, overspending will be unavoidable. In this situation, a budget will help you identify other types of expenditure that could be cut back to stay within overall spending targets.
2. Highlights Slow Periods
Most businesses have seasonal fluctuations in sales, which can lead to short-term cash flow shortfalls. A budget will allow you to see when these slow periods will occur and their effect on finances. Consequently, you will be able to plan for slow periods, perhaps by building up a cash reserve to cover the shortfall.
3. Allows Goal Setting
Budgeting allows you to set targets across the entire business. For example, if you plan to increase sales by 50%, expenditure will be required to achieve that goal. Budgeting both the spending and the increased sales will reveal the monthly targets that must be met to achieve that goal. And the budget will provide a means of tracking progress towards the goal.
4. Required for Obtaining Finance
You will need a budget when you apply for loans or any other type of financing. A detailed budget demonstrates that the business is well-managed and there is a growth plan. Lenders will also use the budgeted figures to assess the business’s ability to repay a loan.
5. Allows Delegation of Budget Responsibility
As a business grows, it will become impossible for the business owner to manage everything. However, budget responsibility can be delegated to departmental managers if the budget is departmentalized. Delegating budget responsibility allows target-setting, enforces accountability, and provides a means to assess the performance of management.
6. Crucial for Decision Making
Almost every business decision has financial ramifications. A budget will enable you to assess the impact of every decision before the decision is made. If you have prepared your budget on a worksheet, it is relatively easy to calculate what-if projections. For example, you could calculate the effect on the bottom line of hiring a new employee. And, if that new hire were a salesperson, you would be able to project how many sales that individual would need to make to cover their costs.
7. Provides Base Figures for Cash Flow Forecasting
A budget will provide the base figures for another crucial management tool, a cash flow forecast. Budgets are usually prepared based on the accrual accounting principle. For example, sales are recognized when they are made rather than paid. And prepaid expenses, such as rent, are spread across the appropriate months. Consequently, some work will be required to convert a budget to a cash flow forecast. Nevertheless, the annual budget will provide the starting point for a cash flow forecast.
8. Allows Faster Reaction to Change
Budgets are usually prepared at the beginning of the year, but it’s never too late to start. The figures produced are then compared with the actuals for monthly variance analysis. A budget can also be a valuable management tool as the year progresses. Should there be a significant change in circumstances, you will have the figures at hand to assess that change’s impact. Consequently, you will be able to react faster and make decisions based upon the financial information at hand.
The Bottom Line
Preparing a detailed budget can seem like an unnecessary chore, especially for a smaller business. However, the points outlined above highlight the benefits of this financial projection. And the exercise will ultimately save you time when you need to calculate the impact of change or decisions.
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