What is a Budget
A budget could be generally defined as a sum of money or funds allocated for a particular purpose, which could vary from individual, enterprise, company or businesses. It is therefore a résumé of envisaged expenditures and a plan on how to meet this expense. Budget in the financial world is the projections on an organization's income and expenses both on a short- and long-term basis. Some persons consider short and long terms to be at least 1 year and 3 years respectively. Building a budget is a financial tool that helps individuals or business owners control their cash flow ensuring they do not run bankrupt and end up with no income or source of revenue.
Types of Budgets
- Sales budget: an estimation of future sales used for creating company sales goals.
- Production budget: an estimation of the number of units, cost, labour, material etc. needed to meet the sales goals of manufactured goods.
- Capital budget: used to determine the profitability of a company’s long-term investments e.g. launching a new product or research development projects
- Cash flow/cash budget: an estimation or forecast of future cash influx or income and expenditures over a specific period of time.
- Marketing budget: an estimation of the funds needed for marketing.
- Project budget: an estimation of the costs relative to a project. It engulfs labour, materials, and other associated expenses.
- Revenue budget: an estimation of the revenue receipts and the expenditure vis-a-vis the aforementioned revenues.
- Expenditure budget: an estimation of disbursements.
The Purpose of building a budget
Budgeting is when one builds a plan on how to spend his/her income. This expense plan is known as a budget. Building this budget permits one to establish in advance how much is required and how much fund is going to get in. Budgeting is basically balancing ones expenditures with revenue/income.
Expenditure >Revenue = Over Spending (deficit)
Expenditure = Revenue = No Savings
Expenditure <Revenue = Savings Possible (surplus)
Hence building a budget is a tool that:
- provides an estimate of revenues and expenditures;
- compares the estimate with the actual financial status; and
- presents the cost limitation of a project, program, or operation.
Importance of Building a Budget
- A budget serves as a plan of action that helps in the achievement of financial goals or objectives;
- A budget serves as a standard for measuring financial performance’;
- Budgets help the owner manage unanticipated and adverse situations;
- Planning and monitoring your budget will help you identify wasteful expenditures;
- It helps quick adaptation as the financial situation changes;
- This reduces the stress levels (panic levels) because of the financial forecasts;
- Gives a sense of financial clarity throughout lifespan or business life cycle
- Specifically in businesses, a budget helps to:
- control resources
- communicate financial plans to different managers and personnel
- motivate managers to struggle to realise the budgetary goals
- evaluate the performance of those in post of responsibility and equally the company’s overall performance
- manage accountability
Stages in Building a Budget
Building a budget is an inestimable tool in the management of expenditure and income irrespective of the amount of money of funds available. The basic steps on how to build a budget are discussed below.
- Establish goals: set the budgetary objectives and financial goals. To achieve wipe your slate clean and start from scratch if your previous budget (if available) wasn’t working adequately. This there are operation you want to budget for or are you planning a vacation, education, acquiring a home or retirement savings etc. Budgeting is not as easy as it seems because it requires discipline and making hard choices, but nonetheless having a goal make it less stressful and painful and permits planning for the future. Goals can be defined as a function of some factors such as time amongst others as illustrated below.
Short Term< 1 year
Mid-Term> 1year but < 3 years
Long Term> 5 years
- Detail sources of income or revenue: how is the cash influx, make a list of your sources of income such as work or jobs, student loans, parents etc. and the amount derived from these sources over a predefined period of time e.g. every month.
- Track expenditures: Track and organise expenses (best done on a spreadsheet) for over a period of a month. This is not evident so one should try as much as possible to maintain or keep records daily of expenditures incurred. Expenditures are usually separated into 3 categories presented below.
Essential expenses - stay the same every month, e.g., rent, etc.
Essential expenses - may vary every month, e.g., gas, food, utilities
Non-essential expenses, e.g. coffee, movies, eating out, electronics
- Balance income and expenditure: compare income and expenses and evaluate to see whether you have a monthly surplus, equity balance or a deficit.
- Make modifications or adjustments accordingly and where necessary: as illustrated in the table below.
Modifications or Remedy
- In business this is considered as profit
- Opportunity for (re-)investments
- Miscellaneous expenses
- Saving for future goals or projects
Re-evaluate variable needs and wants
- Re-evaluate variable needs
- Reduce significantly expenses i.e. wants
- Develop strategies for cost control
- Review management of resources
Increasing ones sources of income is usually the best way to stay at approximately same level or standard of living. If getting another job for example does not cut it, then one will have to envisage cutting down on expenses. If cutting down expenses (wants) does not do the deal, one has envisage the reduction of variable needs expenses maybe in the short term and if i does not still work, one might have to envisage reducing fixed needs and expenses as well. This could be achieved for example by taking public transportation rather than driving ones vehicle and by moving into a less expensive and less demanding house with time.