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# 9 Parts of an Operating Budget for SMEs

Syahirah Aiman
31/8/2023
25
mins

Some of the top reasons that startups fail include running out of cash or not raising enough funds, and pricing and cost issues, a 2021 ﻿﻿﻿﻿﻿﻿﻿CB Insight survey﻿﻿﻿﻿﻿﻿﻿ found. Gain control of your operational costs to stabilize your company’s cash flow and increase your margins by having an operating budget in place.

An operating budget is one of the three main parts of a master budget (the other two components are the capital expenditure budget, and the cash (or financial) budget) used for a business' overall financial planning.

Here in this article, we will list the 9 parts of an operating budget for an SME.

This Article at a Glance

An operating budget is all the projected revenues and expenses that a company expects to have within a specified period. SMEs need an operating budget as part of their financial planning, and to evaluate their companies' performance at year end and against previous years' performances. Operating budget is presented on a budgeted income statement, and comprises the sales, production, direct materials purchase, direct labor, overhead, ending ﻿finished goods inventory﻿, cost of goods sold, and sales and administrative expenses budgets.

## What Is the Business Operating Budget?

A business operating budget is a financial plan that outlines the estimated revenue and expenses for a company over a specific period of time, typically a fiscal year or quarter. It helps companies allocate resources and monitor financial performance, and it is a key tool for managing the overall financial health of a business. The operating budget includes projections for revenue and expenses, including the cost of goods sold (COGS), operating expenses, marketing and advertising expenses, personnel costs, and capital expenditures. It also includes fixed costs, which are expenses that remain constant regardless of the volume of goods or services produced.

Operating budget | Base budget | Add’l income
--- | --- | ---
EXPENSE | ITEM | ITEM
Overhead/Administration |  |
Payroll |  |
1) Manager ($ 70k x 75% + Fringe) | $ 68,250 | $ 68,250
2) Assistant ($ 60k x 50% + Fringe) | $ 0 | $ 39,00
3) Admin ($ 60k x 50% + Fringe) | $ 16,250 | $ 16,250
Rent (shared/reduced rate) | $ 5,000 | $ 5,000
Misc. Office/Consulting/Insurance | $ 15,000 | $ 15,000
Subtotal | $ 104,500 | $ 143,500
Programming |  |
Contract | $ 20,000 | $ 40,000
Subtotal | $ 20,000 | $ 40,000
Operations & Maintenance |  |
BID Management Charge (ongoing) | $ 17,500 | $ 22,000
Ambassadors (1.0 peak; 0.6 events) | $ 80,000 | $ 120,000
Landscaping | $ 25,000 | $ 40,000
Maintenance (Elec, Plumb, GC) | $ 25,000 | $ 40,000
Trash Removal | $ 5,000 | $ 15,000
Snow Removal | $ 16,000 | $ 20,000
Furniture repair/replacement | $ 10,000 | $ 20,000
Operating Contingency | $ 20,000 | $ 30,000
Utilities | $ 27,000 | $ 40,000
Subtotal | $ 225,500 | $ 347,000
Total expense | $ 350,000 | $ 530,500
INCOME | ITEM | ITEM
Source |  |
City Contribution | $ 250,000 | $ 250,000
Food Concessions | $ 100,000 | $ 100,000
Permits/Fees | $ 0 | $ 5,000
Event Rental (Institutional) | $ 0 | $ 50,000
Event Rental (Other) | $ 0 | $ 50,000
Sponsorships/Promotions/Events | $ 0 | $ 25,000
Operating/Programming Grants | $ 0 | $ 10,000
Philanthropy | $ 0 | $ 10,000
Total income | $ 350,000 | $ 500,000
INCOME LESS EXPENSE | $ 0 | -$ 30,500

A conceptual Urban Public Realm project operating budget example by Peter Hendee Brown.

Credit: https://pressbooks.umn.edu/publicrealm/chapter/3-6-the-operating-budget-an-example/

## What are the Components of Operating Budget

The Operating Budget is a comprehensive financial plan that outlines the expected revenues and expenses of an organization over a specified period, usually one fiscal year. It is an essential tool used by organizations to monitor and control their financial operations. The operating budget typically consists of the following components:

### Revenue

This component of the operating budget includes the expected income from all sources, such as sales, fees, and grants. The revenue projections are critical to the overall financial stability of the organization and help determine the resources available for expenses.

### Personnel Costs

This component of the operating budget covers all expenses related to employee salaries, benefits, and training. It is one of the largest expenditures for most organizations and must be managed carefully to ensure that the organization has the resources it needs to operate effectively.

### Materials and Supplies

This component of the operating budget includes the costs of materials and supplies required to operate the organization, such as office supplies, equipment, and other materials.

Utilities: This component of the operating budget covers expenses such as electricity, water, and other utility costs required for the day-to-day operation of the organization.

### Maintenance and Repairs

This component of the operating budget covers the costs of maintaining and repairing equipment, facilities, and other assets.

### Advertising and Marketing

This component of the operating budget covers expenses associated with promoting the organization and its products or services, such as advertising, public relations, and market research.

### Miscellaneous Expenses

This component of the operating budget covers all other expenses that cannot be classified under the other categories, such as travel, professional services, and consulting fees.

The components of an operating budget are interdependent and must be carefully balanced to ensure that the organization has the resources it needs to operate effectively and achieve its goals. By monitoring and controlling the expenses related to each component, organizations can ensure their financial stability and success.

## Why Does My Business Need an Operating Budget?

An operating budget is an essential tool for any business, regardless of its size or industry. There are several key reasons why a business needs an operating budget:

1. Better financial planning: An operating budget helps companies plan and prioritize their spending, ensuring that they have the resources they need to achieve their financial goals.
2. Improved cash flow management: By tracking actual results against budgeted amounts, companies can identify and address cash flow issues before they become major problems.
3. Increased accountability: An operating budget holds management and employees accountable for their financial performance, helping to promote a culture of financial responsibility and accountability.
4. Enhanced decision making: An operating budget provides important information that can be used to make informed decisions about future investments and spending.
5. Better understanding of business performance: By comparing actual results to budgeted amounts, including the sales budget, companies can gain a better understanding of their financial performance, identify areas for improvement, and make data-driven decisions about their business.

An effective operating budget that takes into account both variable and fixed costs is essential for small and medium-sized enterprises (SMEs) to achieve their financial goals and sustain long-term success.

### Sales Budget

A sales budget approximates a business' total revenue within a specific duration. It includes the quantity and price of products sold, and both online and offline sales are included too. Sales budget helps you to set a realistic target since it is based on the previous sales numbers within the same time period. To prepare your SME’s sales budget, ensure that you have your income statement, balance sheet and cash flow statement at hand. evaluate your product prices, take stock of your inventory, and consult your sales team and customers to allocate a budget for the upcoming quarter or year. A sales budget differs from a sales forecast as it takes a bottoms-up approach and the sales team’s ability to meet the desired sales is taken into consideration.

### Production Budget

The production budget is a calculation of the number of units of products that needs to be produced or manufactured. It takes into account the sales forecast numbers and the finished goods safety stock inventory (minimum number of inventory required to prevent being out-of-stock). It’s also required for material requirements planning

﻿﻿

Production budget could be presented either in number of units or cost per unit, and could be calculated monthly, or quarterly. Forecasting the budget accurately is crucial to avoid holding too much or too little inventory, which may lead to wastage and lost sales.

### Direct Materials Purchases Budget

After setting sales and production budgets, determine your direct materials purchase budget. This is how many units of raw materials that must be purchased for your company’s production process. Examples of raw material include rubber, plastic, steel and water.

It lists the quantity and price of each type of raw materials required. You will need to know the production level, beginning and ending direct materials inventory, and the types and prices of raw materials needed to correctly gauge this part of the operating budget. This can also be done monthly or quarterly, and you can avoid cash flow problems by budgeting for it accurately.

### Direct Labor Budget

The direct labor budget is a typically monthly or quarterly calculation of the number of labor hours required to manufacture the total number of products listed in the production budget.

There is also the complex labor budget where labor hours are further broken down into labor categories.

Direct labor budget aids management to roster the adequate number of manufacturing employees necessary during the budget period. It could also help estimate the number of overtime hours needed to manufacture the production output, and if hiring or laying off workers are required.

﻿﻿

### Overhead Budget

An overhead budget is a budget outlook that lists all future costs (whether fixed overhead costs or fluid) associated with a company’s goods or services manufacturing, minus the direct materials cost and the direct labor cost (both of which are computed in the costs of goods sold budget instead). An overhead budget helps management to estimate and project profitability and to comprehend their expenses' limitations. Manufacturing overhead includes a range of costs such as depreciation, small production supplies, utilities, and rent.

### Ending Finished Goods Inventory Budget

All the previous five budgets that we have mentioned above (overhead budget, direct materials purchased budget, direct labor budget, production budget and sales budget) are needed to prepare the sixth part of the operating budget: the ending inventory finished goods budget.

The ending finished goods inventory budget calculates the total costs of unsold inventory produced.

The total costs of raw materials, direct labor and overhead are added together and divided by the total number of goods produced. This total cost per unit would then be multiplied by the total number of finished goods held in inventory. This would give the total costs of ending finished goods inventory.

‍The formula for calculating finished goods inventory is:

Beginning Finished Goods Inventory + Cost of Goods Manufactured — Cost of Goods Sold

The ending finished goods inventory budget could be used to determine the rate of production of new units of finished goods. For example, the production rate must slow down if the finished goods inventory number exceeds the rate of sales. Likewise, production must be ramped up if the goods are undeserving the potential market.

### Cost of Goods Sold Budget

The Cost of Goods Sold (COGS) budget is the direct cost or expense of producing goods sold by a company. The COGS comprises raw materials and labor costs, but not indirect costs such as marketing and overhead expenses. COGS only counts costs directly involved with manufacturing goods meant for sale. Sold inventory recorded under COGS on the income statement. Unsold inventory from the previous year is considered as next year’s beginning inventory.

In a Cost of Goods Sold budget, the Budgeted Manufacturing Costs is listed, which comprises the sum of the costs of Direct Materials and Direct Labor used, and the Overhead. The Beginning Finished Goods is also listed, and the total value of the Goods Available for Sale is added to it. The Ending Finished Goods is then deducted from this sum, which gives the Budgeted Cost of Goods Sold.

### Sales and Administrative Expenses Budget

The Sales and Administrative Expenses Budget encompasses all non-manufacturing expenses which include expenses from sales and administration, accounting, marketing, engineering, etc. departments. It is a considerable budget and could amount to the production budget. As such, sometimes the sales and marketing budget is separate from the administration budget.

The Sales and Administrative Expenses Budget is usually done monthly or quarterly and does not rely on the other parts of the operating budget listed above. This budget is most commonly drawn up by gauging the appropriate level of expenditure for each corporate activity (activity-based costing) or by incremental budgeting (based on most recent spending). However, the drawback of this method is that excessive spending might be extrapolated.

### Budgeted Income Statement

With all these eight budgets prepared, you can make a budgeted or forecasted income statement. You would derive your company’s operating income (total profit after regular, recurring costs and expenses) from the budgeted income statement. Net profit could only be found after completing your financial budget.

To create a balanced business budget:

#### 1. Identify Your Income Sources.

This is how much money you make each month and include sales figures and other sources of income. (E.g. Product sales, loans, and savings.)

#### 2. Calculate Fixed Costs.

These are the fixed costs that you incur monthly. (E.g. Rent, utilities, and salary.)

#### 3. Add in Variable Costs.

Variable Costs fluctuate from month to month and are not fixed. (E.g. Raw materials, transport, and advertising.)

#### 4. Anticipate Rare Expenses.

Rare expenses are one-off purchases or expenses that you need to spend for your business occasionally. (E.g. Office equipment, software, and gifts.)

## Operating budgets give you a clear picture of your business’s health and allows you to plan for the future

Planning is more important than ever. Business moves fast and we’re living through a time of economic and political uncertainty.

Businesses must be lean, streamlined and fluid to flourish during times of ever-changing circumstances.

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