Introduction
Close your eyes for a minute and imagine that you just won ten million naira at an entrepreneurship
So what exactly is a budget and why do you need one as a business owner?
It’s a common saying that you have to spend money to make money. This is very true. Before you can make money, you have to know how to spend money. Any profit minded businessman or woman will know that it is crucial to maximize returns on every single naira you spend. This requires budgeting and planning.
Why do I need to create a budget?
There are so many reasons why you as a business owner should create a budget. However, I have highlighted my top 4 reasons below:
- Feasibility analysis
Budgeting helps you assess the feasibility of your business ideas. Sure enough, ideas rule the world, but an idea is only as good as the plan to execute it. For example, that idea to manufacture and sell pots and plates that clean up themselves after use (I totally made that up by the way but you can give it a try, I promise to patronise you!) may be the next big thing since sliced bread or could be the worst idea since electronic body scratchers (I made that up too), but you would never know if you don’t plan and evaluate the feasibility of the business idea. You should be able to calculate the number of units of products you need to sell to break-even and at what price to sell. You should also estimate how much you will need to get started in terms of licenses and registrations, legal expenses, procurement of tools and machinery, purchase of inventory, labour costs etc. Have in mind that the first 6 to 18 months of the business may require heavy cash outflows without commensurate inflows.
- Business assumptions
Budgeting causes you to ask: “what are my key assumptions for this business”. If the fundamental business assumptions are wrong, then the business is doomed to fail from the onset. Referencing the business idea above, the assumptions that Nigerians would love self-cleaning dishes and there is a ready market for such an invention could be spot on or could be wrong (dish washing may be a part of our culture and a rite of passage for every child growing up in a traditional Nigerian home). Creating a business budget will help you evaluate your business assumptions.
- Capital sourcing or fund raising
A well-documented business plan or budget can be a great tool for raising capital from potential investors and lenders. Most business startups are unable to raise the required capital as a result of poorly documented business plans. Most financial institutions want to see the feasibility analysis, the cash flow projection and a 5 year business plan.
- Performance evaluation
A business owner should be able to compare actual results against budgeted performance. What is the point of creating a budget if you don’t assess your business performance? Performance evaluation helps the business owner to assess the validity of the business assumptions and identify the key risk areas of the business. For example, a retailer of baby clothes imported from Vietnam may have developed a budget on the assumption that the exchange rate for Naira to USD would be N250/$1 while the actual exchange rate is N380/$1. The business owner should be able to assess the impact of currency risks on the profitability and overall performance of the business.
Case Study: Motara’s Baked Treats
So let’s get down to business.
Meet Omotara, Motara or Tara for short. She is a 27 year old banker who likes her banking job (not so much the routine but more like the monthly credit alerts). Though Tara is quite diligent and resourceful on the job, her true love is baking. She loves to bake and has toyed with the idea of baking professional. However, the financial security of having a steady income was too hard to resist, so she kept baking just as a hobby. Unfortunately, Tara was one of the many staff that got unceremoniously laid off in a “restructuring exercise” at the bank she worked with. She tried for months to get another banking job to no avail.
Tara decided to bake bread and pastries for sale in the interim, pending when she would land her dream banking job. She would make boxes of cupcakes and fresh loaves of bread to sell to her former colleagues. Soon enough the orders for bread, pasties and cakes became a bit steady and she was able to start supplying other bank branches and offices.
One day an ex-colleague informed her about an entrepreneurship development program, which provided startup funding for business ideas that passed their screening test. Applicants had to prepare a 5 year and one year business plan and budget for their proposed ventures.
Tara’s business objective is to own a chain of mobile food vans that would sell baked treats and easy prep meals (pancakes, waffles etc.) at offices, schools, concerts, sporting events, churches, conferences and conventions.
We are going to help Tara develop a cash budget for the first year of her mobile pastry shop business.
Motara’s Baked Treats Master Budget Year 1
A quick way to start is to document all possible expenditure that she would require to start off the business. We would further categorize the expenditure into capital expenditure and operational expenses. The capital expenses by nature are typically one off in the year of commencement are assets that are used by the business for over a period of one year. This may include the cost of machinery, vehicles, purchase of land, etc. Operational expenses are required to run the business on a day to day basis.
- Monthly operating expenses
Tara will also need to consider the cost of capital or financing costs for the business. Interest repayments will also impact the overall returns on the business.
NB: please note that the cost estimates above are merely for illustrative purposes and are not all inclusive.
This illustration above highlights an easy way to assess the feasibility of a business idea upfront. The actual performance of the business will be impacted by other market factors such as competition, regulatory sanctions, effectiveness of pricing strategy, access to customers etc.
Other quick tips for budgeting
- Ask the right questions and perform adequate research. Remember if your key assumptions are wrong, the business is set up to fail.
- Get help. There are so many templates and materials you can leverage on. Search the internet for template budgets suited to your business and with a little modification, you can create the perfect budget for your business.
- Be flexible. Always bear in mind that the budget is primarily a guide to drive performance and manage expenditure. Business and economic realities may cause you to make changes to the budget.
- Be realistic. Don’t go on building castles in the air or making unrealistic assumptions in your budget.
Op–ed pieces and contributions are the opinions of the writers only and do not represent the opinions of Y!/YNaija
Folasade Owoeye, is a risk and finance consultant in Lagos and a writer on www.thegraceadventures.com .She is an avid reader of African literature and a foodie in rehab.
