To increase your startup’s odds of achieving skyrocketing growth, you should compose a sustainable budget for it. In this article, we’ll explain what a business startup budget is and how to make the most of it.
Reasons to create a business budget
A startup budget is a document that resembles a financial roadmap and reveals how much funds your company needs during its first months of operation. A survey conducted in 2018 showed that 61% of small businesses didn’t plan their budgets. Meanwhile, lack of financing is one of the top six reasons why startups fail. Without a budget, you risk losing your funds or running out of cash prematurely.
Once your startup has taken off, the budget will turn into a powerful analytical tool. A well-crafted document will help you achieve the following goals:
- Track your expenses and predict cash shortfalls
- Detect which costs to optimize
- Plan your scaling
- Assess your team’s productivity, decide when to hire new staff
- Determine how much investments you’ll need, when, and from which sources
- Avoid fundraising too early or over-borrowing
- Identify retained earnings ahead of time and develop a plan for them
- Estimate your break-even point and adjust variables as needed
- Generate accurate financial statements to share with lenders and investors
- Allocate extra cash to create an emergency fund
Proper budgeting doesn’t guarantee that you will avoid all potential mistakes, but it will enable you to improve your startup business management in the long run.
Two time frames for startup budgets
When starting a business, you can compile a one-year budget for it. Within a short time frame, you’ll be able to plan and analyze your incomes and expenses realistically.
Investors might require you to compile a business plan that includes a budget of a longer duration, such as five years. This document will enable them to visualize your long-term financial goals. Instead of indicating exact figures, you can outline the overall objectives against appropriate references. For instance, you can check your industry growth forecasts for the next five years and adjust your financial predictions accordingly. Besides, you can take into account expected percentage rises and inflations.
A step-by-step guide on creating a startup budget
To compile your budget, you need to
- conduct market research,
- carry out competitor analysis,
- rely on vendor quotes.
It’s better to underestimate revenue and overestimate expenses than the reverse.
Over 60% of startups are launched with a budget of less than $50,000. Only 12% require a budget of more than $250,000.
Now, let’s focus on the step-by-step guide on creating a budget for your small business.
1. Gather your tools and set a target budget
You can create a business budget using a pen and a sheet of paper. But it won’t be convenient for you to edit this document and share it with your team members and investors.
Alternatively, you can install dedicated software to calculate your business startup costs. This way, you might be able to integrate other financial tools, such as your business bank account, to automate and accelerate workflow processes. But using professional apps involves extra expenses, which few startups can afford at the initial development stage. Do you seriously need to pay more if you can get the basic functionality for free?
The wisest way out would be to use Google Sheets or Microsoft Excel. You can find a handy template to add to a spreadsheet program at no cost. When choosing templates, pay primary attention to their timeline (so that it suits your business cycles) and layout (it should be intuitive). Before you integrate a spreadsheet program into your everyday business processes, it would be wise to enter sample numbers into it to test the formulas.
It’s easier to predict expenses rather than income. Nevertheless, you should try to set up an upfront budget goal. It will identify which purchases are a must and which ones should be postponed or canceled.
A well-built budget shows how you’ll be able to cover both planned and unexpected costs. To cope with the latter, set up an emergency fund. It should include your expenses for at least three months.
2. List your essential expenses
Your priority purchases are those that you need to get your business going. Without them, you won’t be able to make your product.
Startups costs can be classified into two categories:
- Startup assets. You purchase a startup asset when you buy property, vehicles, furniture, computers, inventory, and security deposits. Such assets can be either liquid or non-liquid. You need to get them only once and they aren’t tax-deductible. These assets are also known as capital expenditures.
- Startup expenses. Payroll and rent belong to this category. Such expenses are tax-deductible. They can be either variable or fixed.
You might also need to pay for patents, fees, and trademarks.
All expenditure items need a clear break-down (where possible). For instance, instead of writing “marketing budget”, you can list all the expenditure items of your startup marketing: cost of ads on every platform, agency’s fees, designer’s fees, and so on.
3. Determine your fixed costs
They are also known as overhead costs. They don’t fluctuate from one month to another. Here are the most common examples of such expenses:
- Mortgage or rent
- Payroll and benefits
- Business insurance
- Website hosting
- Internet and phone services
- Professional services
- Bank fees
Most fixed costs involve related spendings. For instance, you might decide to hire an in-house IT team instead of outsourcing it. In addition to paying their salaries and benefits, you should prepare office space for them and buy new furniture, if needed. It is possible that you would also be expected to pay for their hardware and software.
4. Estimate your variable costs
Costs of this type might decrease or increase depending on the fluctuations in supply and demand. The smaller the business, the higher its variable costs. Here are the most common examples of such expenses:
- Raw materials
- Business income taxes
- Travel and events
- Freelance services
To estimate these costs in advance, you can either rely on industry averages or request quotes from manufacturers, contract workers, and third-party logistics providers. If your business is seasonal, you should factor in the regular fluctuations in demand.
5. Forecast your monthly revenue
You should forecast your earnings for each type of revenue and funding source:
- Sales of your goods or services
- Business or corporate credit cards
- Investment income
As soon as you collect the statistics of your past sales, it will get easier for you to make such predictions. If you have no sales record yet, compile two revenue projections: pessimistic and optimistic.
To forecast your monthly revenue more precisely, it would be wise to compose a portrait of your target consumer. How often do they need to buy your products? How much are they willing to spend? How large is the market share that you can address? How favorable are the current market conditions to your business? This data should help you get more realistic numbers.
6. Calculate your total costs, then review and adjust
At this stage, you will figure out how much funds you need to launch your business. If you face a deficit in the first months of your startup’s work, you shouldn’t get worried — it’s a common thing. If you realize that you need more funds, you might want to find ways of cutting down expenses or, alternatively, review your budget before borrowing more capital.
Once your budget is ready, you are welcome to integrate it with all departments. Make sure that all the professionals who are involved in decision-making can see the budget and voice their opinions on it.
An alternative way of setting up a budget
The step-by-step guide is not the only possible approach to startup budgeting. You might be following a slightly different logic and perform an alternate sequence of actions, for example:
- Define your goal and timeline. Choose a tool that you’ll be using to work with your budget (such as Google Sheets). List the targets that you’d like to meet and the prerequisites for achieving them.
- List income sources. Count your already existing customers. Check how often they make purchases and how much they tend to pay on average. Estimate your break-even results. Consult with your sales and marketing teams.
- Categorize capital and operational costs. Capital costs are investments into assets that can give you great returns. Analyze your current and future expenditure including all financial information associated with each project phase.
- Determine variable costs (see step 4 of the budgeting guide).
- Accommodate interest and taxes. You don’t need to factor in any interest if you don’t have debts.
- Create estimates for financial statements. At this stage, you should be able to realistically estimate how much funds you need for business development.
You might come across other approaches to startup budgeting. When you pick one, be sure to stick to it for a few years. If you start testing a new approach each month, your budgeting process will turn into a complete mess.
Handling challenges of startup budgeting
As your business develops, you’ll be likely to face three types of challenges: reduced cash flow, deviations from budget, and unforeseen expenses. Below, you will find recommendations on how to tackle them.
Reduced cash flow
A business can’t survive without cash. You need it to pay rent, taxes, and salaries. To stay afloat, you can streamline your payment processes. For example, encourage your customers to follow your payment schedule by sending them automated payment reminders. If some clients systematically fail their payments, try to incentivize them with small discounts if they act quicker. Plus, it would be reasonable to begin accepting payments through GooglePay or Paytm.
Deviation from budget
Review your budget every month to check which of your financial predictions came true and which failed. Is everything included in your budget, or maybe you missed something? How realistic are you with your startup’s budgeting? Regular reviews should enable you to fine-tune your business strategy and optimize costs.
All businesses need an emergency budget. But to cope with unforeseen expenses, it's not enough to use the money from the fund. You should look for ways of cutting down your costs. Plus, don’t forget to replenish your emergency fund regularly. For instance, you can put a fixed percentage of your monthly income there.
When you start a business, composing a budget for it is a strong necessity. This document should reveal your financial goals, expenses, and sources of income. At the initial stage of your startup development, the budget will help you understand how much funds you need and how to allocate them most reasonably. You can compile a budget for one year or several years ahead, but don’t forget to review it each month to adjust your financial strategy.