9 Simple Steps to Create a Startup Budget
Do you know a startup budget is as important as a business plan? Many a time, small business entrepreneurs have very aggressive growth strategies with the hope of making a big impact but on limited finances.
Now, imagine hacking this without proper planning for the little funds your startup has. This leads to lots of unplanned expenses and cash flow problems with no room for tracking and analyzing the usage of funds. That’s where a startup budget comes in handy.
Think of it as a road map for spending the money your startup has. It’s just like you have a budget for your personal finances. You plan for the expected income, allocating portions to different expense categories, savings, and investments.
A startup budget is not only ideal when you are starting the business. Budgets are an integral component of every successful business. In fact, all these big businesses you see have annual budgets followed by regular variance analyses that help plan for the year’s finances.
But let’s stick to creating a startup budget for now.
As daunting as creating a budget is, it doesn’t necessarily have to be that overwhelming. Let me walk you through the simple steps of creating your startup budget.
What’s a Startup Budget
This is an estimate of how much it will take to launch and get your startup operating. Note that the keyword here is ‘estimate.’
That means that your figures will not be 100% accurate. And that’s totally okay because they are mainly driven by assumptions and key insights, like historical and market data. Over time, as your startup grows and you make the necessary adjustments based on performance and feedback, your startup’s budget starts to be more accurate.
Learn more about How To Write A Financial Plan For Your Small Business
How to Create Your Startup Budget
1. Understanding Your Business Model
Your startup budget needs to be realistic and scalable, and the very first step to achieving that is understanding your business model. Understanding this helps you identify key risks and assumptions, revenue streams, and expenses related to your business idea.
If you have a business plan, this will be very easy. However, you don’t need an executive-type business plan with hundreds of pages. That’s where a compressed version comes in handy. Fortunately, there are samples online with fewer pages and prompts to guide you that you can use.
Alternatively, you can use a Business Model Canvas. This is a one-page visual chart with key items relating to a business’s infrastructure, value proposition, finances, and customers.
Download your free Business Model Canvas Here
2. Select Your Budgeting Tool
Your first step is to choose a budgeting tool. Spreadsheets are usually the go-to tool for many small businesses. They are inexpensive and keep it simple. And, if you have some change to spare, you can buy an intuitive template with formulas and dashboards.
But, spreadsheets are manual, making them time-consuming and prone to lots of data entry errors. Or if one messes with one formula, you risk compromising the entire worksheet. They also lack scalability as your business grows and you deal with larger data sets. In such cases, you are likely to deal with crashing sheets or templates that are slow to load.
An alternative to this is dedicated budgeting software or accounting software with a budgeting feature. These are not only time-saving but also improve accuracy, reporting, collaboration, and transparency. Plus, you can integrate with your bank or credit card for automated updates of transactions.
This allows for real-time analysis of the budget and real transactions. Additionally, with the significant advancements in AI, most of these platforms are incorporating features that make forecasting, analysis, and decision-making much more effortless.
On the downside, these come at a cost your small business might not be ready to shoulder at this time. If you cannot afford to spend the little you have on dedicated budgeting software, I’d recommend you at least consider accounting software with a budgeting feature. You’ll also have a budgeting feature with accounting and financial reporting features.
3. Set Your Budget Goal
By the time you are starting your business, you already have a rough idea of how much to set aside for expenses. So, note it down.
While at it, have a line item for a starter emergency fund. Remember how I recommend having a quick start emergency fund when starting your personal finance journey? Your startup needs such, too. You need a buffer to pay for at least 3 months of expenses.
Determining the budget goal can help you stay on track when allocating money to the necessary expenses. If your amounts surpass your target budget, you will know and have an opportunity to revise your figures.
4. Estimate Your Revenue
This is the amount you expect to raise from selling your startup’s goods and services. There are several factors to consider that will help you determine the monthly revenue estimates. These include your potential market size, demand, conversion rates, pricing strategy, and sales cycles.
If your startup has more than one revenue stream, ensure you classify them separately. For instance, let’s assume you are selling green technology to houses. This technology is a primary product –hardware.
Additionally, you offer two software options to the customers: monthly/yearly subscription and built-in software with a monthly/annual maintenance fee. So, in this example, we get one hardware revenue stream and two software (maintenance and subscription) revenue streams.
It’s important that you be realistic and conservative with your estimates and projections. Keep in mind that revenue generation for startups can be very volatile. You don’t want to set up high estimates and end up disappointed and demoralized when sales are lower than expected.
That’s why I’d recommend forecasting revenue for 3 different scenarios;
- Base case scenario – working with the assumption of average revenue growth
- Best case scenario – working with the premise of faster revenue growth
- Worst case scenario – working with the premise of slow or declining revenue growth
5. List Your Essential Startup Costs / Pre-Operating Expenses
One thing you will learn pretty fast is that you need to spend funds before launching your startup. Maybe you need a website, secure a rental space, buy some office furniture, and pay for business licenses and patents, just to name a few.
For better accountability, account for your pre-operating expenses per category. The common groupings or types for these expenses are;
- Inventory & equipment – costs you will incur to purchase assets, like pieces of equipment, furniture, vehicles, inventory, and intangible assets.
- Deposits & rent – this will apply if you need a physical address for your business’s pre-launch operations. Most commercial spaces will require rent for the first month and a security deposit for at least 1 month.
- Advertising & marketing – think of costs like website development, logo creation, content creation, and advertising.
- Legal and administration – these range from business registration to business licenses and permits and other necessary legal documents.
- Hiring & training – depending on the size and type you are launching, you might need to hire people to help with the processes. The costs incurred to hire those employees, including posting the job, hiring a recruiter, and training, will fall under this category.
6. Estimate Your Fixed Costs
Once you have estimates for pre-operating costs, the next step is to estimate post-launch costs. Let’s start with fixed costs.
Fixed or overhead costs are business expenses that are likely to remain the same over an extended period, regardless of the change in production. In addition, they aren’t directly related to producing goods or services.
The most common fixed costs include;
- Payroll and other compensation benefits
- Insurance costs
- Interest payments
- Software subscriptions
- Certain taxes, like property taxes
Now, fixed expenses aren’t necessarily paid monthly. Some, like subscriptions and insurance policies, are paid periodically, e.g., quarterly or annually. Instead of including the whole amount in one month, you will have to spread that cost among each month in that period. For instance, for an annual insurance policy of Ksh. 96,000, you will have a monthly budget of Ksh. 8,000.
7. Estimate Your Variable Costs
Unlike fixed costs, variable costs are directly related to the production of goods and services. As such, they will change over time depending on the production rate of your startup. So, as you estimate your startup’s growth over the first year, you can increase or decrease these costs to match that change.
Examples of these costs include;
- Raw materials
- Utility bills, like power and water
- Shipping costs
- Freelance consultants
- Travel and transportation
- Transaction fees
8. Plan the Cash Flows
Now that you have budget estimates for revenue and expenses, your next step is to plan for the cash flows. We do this by creating a cash flow forecast based on your figures. The cash flow forecast will show you the cash movements in your startup.
Start by subtracting the expenses (cash outflows) from the revenue (cash inflows). Don’t forget to factor in other funding sources, like investments, grants, and loans, when accounting for inflows.
The goal is to ensure you have positive cash flows that allow you to cover expenses and have extra funds to save for emergencies and invest in growing the business. However, if you have negative cash flow, it’s time to re-evaluate your income and revenue forecasts.
One of the best ways to adjust and return to a positive cash flow is to reduce expenses. Note down the must-have costs and those your startup can survive without. Alternatively, you can look for other ways to fund your business, like loans and grants to cover the deficits.
Don’t miss more content on cash flows and profits: Understanding Profits vs Cash Flow For Your Small Business
9. Monitor and Update Your Budget
A budget requires constant monitoring and updating based on feedback and actual performance.
The goal is to track key metrics, like revenue, costs, profits, and cash flows, and run a comparison analysis against your budget goals and assumptions. Then, update your budget and assumptions to meet the new challenges and opportunities.
Budgeting is an essential tool for any business, including startups. Before starting your business, it’s essential to have a startup budget to help you plan your capital and generate revenue.
I’d recommend getting a spreadsheet template from the internet to get you started. However, if you have enough startup capital, it’s best to invest in accounting software with a budgeting tool or budgeting software.