written by: Alice Rovney•edited by: Linda Richter•updated: 10/17/2010
Sometimes it really feels like we are losing grasp of our business finances. The truth is, most of us really prefer to pour our passion into whatever it is we started out to do in the first place. Who has time for budgets--and just what is the purpose of operating budgets anyway? Read on.
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Operating Budgets Are A Part Of Everyday Life
It's interesting how we find it necessary to plan the perfect holiday dinner, ensuring we have more than enough of all our favorite foods and drinks. We tediously go over all of our plans, count the number of guests we plan on receiving, and take careful note of our spending money. Many of us inadvertently spend more money than we originally planned, but most of the time we don't overspend by much. And that is because our holiday spending plan is a budget. We decide how much money we have and then make a list of all our expenses (food, drink, decor, etc). If what we want on our table costs more than what we have to spend we'll have to make some changes to our dinner plans. This is a simple illustration of the purpose of operating budgets. You see, operating budgets do not have to be tricky. They are a part of our every day lives. If we can take what comes naturally when managing our household finances and apply that to managing our business finances, well, we are off to an excellent start! And we don't even need to be a CPA to do it.
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Bring on the Forecast
Yes, an operating budget does help you see into the future. One of the first steps in preparing an operating budget is to take a look at sales or service revenue. By estimating how many products you expect to sell or the worth of the services you expect to provide, you can predict your revenues. For example, if you know that you typically sell 50 widgets a month at $75.00 per widget then you can estimate that your annual gross revenue will be approximately $45,000.00. Of course, it's not always that simple. Retail stores, for example, sell a variety of products. In this case, you can still estimate how much revenue you bring in each month by reviewing revenue information for prior years. Looking at the past three years is a good practice.
Another purpose of operating budgets is to help business owners with the planning process. By having a fairly good understanding about what kind of revenues we can expect within a given time frame we can deduct our standard expenses from those revenues to see if we are operating at a profit. Accurate numbers don't lie. It is very important to take a moderate approach to operating budgets by not including sales figures that are too aggressive. In fact, many businesses will prepare conservative, moderate, and aggressive operating budgets. Such allows the owner to set contingency plans in case sales don't go as well as expected or expenses come in on the high end. The aggressive budget gives owners an opportunity to see what the future could hold and set goals to improve sales. By and by, though, the moderate operating budget is the best version to use as a guide.
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Guide My Path Please
One of the most useful purposes of operating budgets is their ability to guide owners in decision making. Having an idea of profitability helps owners know if they need to cut costs. They give a picture of sales volume and give owners the opportunity to think about whether sales have been lower than originally anticipated or are about the same as expected, and how growth could improve business. Speaking of growth, operating budgets provide a good tool for business owners to use when requesting an operating loan from the bank, especially if that loan is meant to facilitate business growth.
Stop! Were you about to start the new year without an operating budget for your business? If you don't know what an operating budget is or just need to brush up on your budgeting skills in general, then this series is for you. Learn about the purpose and basic concepts behind operating budgets.