Guide To Budgeting in Business: Definition, Types and How To Build One
By Indeed Editorial Team
Updated July 23, 2021 | Published April 17, 2020
Updated July 23, 2021
Published April 17, 2020
The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.
Budgeting in business is important for projecting future cash flows and making operational decisions. There are also several key expenses and costs that a company includes in its budgetary calculation. In this article, we discuss budgeting in business, why it's important and explore several types of expenses that budgeting in business can cover along with a template and example.
What is budgeting in business?
A business budget is a financial plan based on a company’s revenue and expenses expected over a period of time. Budgets help businesses estimate spending, identify available capital and predict revenue. A budget helps leadership understand how the company is performing.
Related: Budget: Definition and Types
Why does a business need a budget?
Businesses rely on budgets to predict cash flow and expenses so management can make financial and operational decisions. With the right budget, a business can avoid or reduce debt while increasing opportunities for loans and investors. A budget is an important tool that allows businesses to:
Manage cash flow
A business relies on accurate budgeting to efficiently manage its cash flow. The revenue coming in and costs going out are important metrics that can influence the business's overall financial health. Reviewing and evaluating the budget on a semi-annual or annual basis can help organizations better plan for growth and profitability.
Because a budget provides a data-based outline of revenues and expenses, a business can better determine where to allocate operational funds and resources. For example, a business might determine through budget analysis that its digital marketing strategies are more effective than its mail marketing tactics to draw in new customers. The business may decide to eliminate the latter for the former and allocate those resources to its digital marketing strategies to achieve its revenue goals.
Budgets help businesses compare past and present operational processes to analyze performance. For example, when a financial analyst compares company revenue from the past year to present income, they are able to evaluate strategies and subsequent outcomes to make better choices for the future.
When businesses follow a budget to make decisions, develop plans and implement growth strategies, they can ensure processes stay aligned to meet revenue and profit goals. Budgets allow management teams to identify costs and mitigate financial risks that would otherwise pose challenges to product development, service provisions or other operational processes within an organization.
Accurate budgeting helps executives make sound decisions that concern the operation and financial health of their companies. With these financial comparisons, executives can make more informed financial decisions. For example, a business might analyze its budget to ensure investment decisions provide a return and how to allocate funding and resources in the future.
Identify and mitigate risk
With a comparison of previous spending and current expense allocations, businesses can identify potential problems and create solutions before issues arise. A budget can also help keep company staff aligned to the management goals.
Create future plans
Companies create strategic plans for future growth and development, and they use the data from budgets to help them implement strategies to meet these goals. With a budget, businesses can create revenue and cost projections to make important financial decisions.
What components make up a business budget?
A business budget is typically calculated once a year and divided by month. An effective budget has several components, including:
Sales and revenue
An effective budget must include the revenue a company expects to make from the sale of its goods or services. It is typically the first line in a budget and is based on last year’s actual revenue amounts plus projections for the current year.
Related: How To Make a Budget for a Startup
Total costs and expenses
Budgeting in business requires estimating the costs of doing businesses. Business expenses can include a variety of costs related directly to production and operations along with overhead costs. Expenses generally include:
Cost of goods sold (COGS)
COGS is the total cost of what it takes to make a product. For example, a manufacturing company that produces car parts may include the costs of raw materials, equipment maintenance and specialized personnel to run the machines within its COGS. The revenue minus the COGS results in the gross profit.
Fixed expenses include all the regular and consistent expenses of a business. Fixed expenses remain unchanged during the budgetary period and include costs for things like property mortgage or rent payments, insurance, utility fees, employee wages, monthly bank fees, license fees and equipment and property leases.
Variable expenses typically vary in relation to production or sales volume and generally any expense related to running a business. Variable expenses, or “operational expenses,” can include commission and hourly rate wages, administrative costs such as bookkeeping, sales and marketing costs and business transportation and travel.
A one-off expense is a one-time fee or payment like a large supply purchase or the cost to move business locations. Businesses include one-off expenses in their budgets to accurately represent the expenses they cover.
A profit is when the money a business earns is more than the money invested. An increase in profit means the business is growing or staying financial healthy. Companies use profit estimates to plan for new equipment purchases, relocation, add staff or provide employee bonuses or raises. Profits are a key component of any budget equation: Sales = Total Cost + Profit.
Types of budgets
Many businesses use more than one type of budget depending on their needs, size and operations. Some may have an overall budget and also include others for specific needs, such as capital or labor. The most common types of business budgets include:
A master budget combines individual budgets to provide a company with an overall financial outlook, and are more common for larger businesses to need to itemize finances by departments or categories. Master budgets may help managers see how their budgets fit into the company’s overall financial plans.
An operational budget outlines the funds a business needs to operate efficiently. It includes all the expenses and revenues for the budgeting period. Some companies use operating budgets to compare actual and projected numbers.
Financial budgets provide details about assets, liabilities and equity. It is considered a barometer of a company’s financial health and stability. Financial budgets are a valuable tool when a company seeks investors or plans to sell stock.
A cash budget, also known as a cash flow budget, offers an estimate of money spent and invested during a business’ budget period. A cash budget provides details that can be used to make financial decisions, detect shortfalls and prevent overspending.
A sales budget projects revenue, expenses and estimated sales during the budget period. It helps ensure a company has the materials and inventory to meet customer demands.
A production budget details the costs to produce goods or services. By determining the cost of production, a company prices its products accordingly. Components may include direct labor, direct materials and overhead.
A labor budget is used to determine how many employees are needed to provide goods or services. It also helps plan payroll costs.
A capital budget helps a company plan for large purchases or costs such as machinery, vehicles or property. It outlines the cost of the asset, expected payback period and potential return on the purchase.
Template for a business budget
The following template illustrates a simple budget plan that you can use to track expenses and revenue for a business:
[Cost of good sold (COGS)]
[Raw materials, resources and labor directly related to production]
[Business loan repayment]
[Property mortgage or rent]
[Wages, benefits and contributions]
[Payroll, benefits and contributions]
[Transportation and travel]
[One-time fees and payments such as the cost of moving or a one-time equipment purchase]
Example of a business budget
Using the template provided, this example highlights how a business's budget might look:
Tatum Manufacturing's budget plan for fiscal 2021
|Tatum Manufacturing's Budget Plan for fiscal 2021|
|+ Sales revenue||$1,650,000|
|+ Product revenue||$430,000|
|+ Investment returns||$170,000|
|Cost of goods sold|
|- Raw materials, resources||$690,000|
|Fixed expense balance|
|- Property lease||$75,000|
|- Salary payroll||$460,000|
|- Business license fees||$3,450|
|- Business loan repayment||$4,140|
|- Website hosting||$250|
|Total fixed expenses||$567,840|
|Variable expense balance|
|- Administrative costs||$90,000|
|- Marketing costs||$112,000|
|- Annual federal taxes||$280,800|
|Total variable expenses||$482,800|
|- Company vehicle purchase||$30,000|
|NET PROFIT EXPECTED FOR 2021||$479,360|
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