7 Things to Consider When Creating an Annual Budget for your Business

By Ryan Selhorn, an Overdrive contributor and vice president of operations at Signature Analytics

Budgeting is not always a key focus of small and mid-size businesses, but it should be. And with the year-end quickly approaching, now is the time to begin the process (if you haven’t already).

If you are overwhelmed by the budgeting process, or just don’t know where to begin, here are some tips to help you get started:

1. Consult All Departments

The budget should not be created solely by the accounting or finance team. Every department should be consulted on their expectations for the upcoming fiscal year; this includes the sales department who can provide realistic revenue assessments, the manufacturing department who can advise on costs of delivery and any large purchases required, the R&D department who can discuss expected costs and timing of new products anticipated, among others.

Compared to creating a budget that estimates an overall percentage increase over the prior year’s results – which is far too common in small and mid-size businesses – incorporating inputs from each department will result in more accurate and complete projections for the upcoming fiscal year.

2. Estimate Revenues

Expected sales numbers will significantly influence costs, but can be challenging to accurately project. Consider the following to come up with the best estimate:

• What is your recent monthly growth rate? Can that rate be continued?
• What can you expect sales to be? As mentioned above, consult your sales team for an estimate.
• What products or services will your current customers expect next year? Talk to them and find out.
• Are customers recurring or is there a known attrition rate?
• Will any new product lines or services be introduced?

3. Determine Expenses

Once the expected revenue figures are estimated, the focus can move towards expenses. Here are some considerations:

• Identify expenses tied directly to revenue (e.g., inventory, employee services). Your gross margins are not likely to fluctuate substantially year over year; however, this is a good time to review your margins and find ways to improve them. Consider challenging your employees to identify cost savings opportunities related to the manufacturing and/or delivery of your products or services.
• Fixed costs (e.g., rent, insurance, leases) may be easier to estimate; however, use this time to identify cost savings. For example, review insurance coverage and determine if better rates are available.
• Estimating employee headcount is critical to the budgeting process. Determine when you’ll need to hire, what experience level those new hires should have to optimize operations and how long the hiring process will take.

4. Identify Capital Expenditures

Large or expensive purchases vital to the success of the business are sometimes overlooked during the budgeting process. This can include new computers, systems, machinery, furniture, etc. Identify new equipment purchases your company may need and old equipment that may need to be updated and account for those expenditures in the budget. Remember that new hires typically require a certain amount of capital expenditure as well.

5. Be Conservative

Of course investors like to see significant company growth, but eventually actual results may disappoint. Or worse, business decisions may have been made using such projections. When in doubt, it’s a good idea to be conservative and leave some “slack” in the projections in case sales goals are not reached or are delayed.

6. Start Early

Businesses should begin the annual budgeting process by October; however, an annual budget should be monitored and updated on an ongoing basis (but I’m getting to that), so it’s really never too late to get started.

7. Monitor, Evaluate & Re-forecast

After all the time and effort you put into creating the budget, the absolute worst thing you can do next is file it away only to pull it out again at the end of the following year. A budget needs to be monitored on a regular basis. Budgets should be edited if circumstances change. Furthermore, budgets should always be compared to actual results to understand why there are differences. This will help monitor spending throughout the year and help management make key decisions for the business.