Financial planning tool
Financial analysis is necessary for evaluating internal operations and activities to optimize profits and efficiency, while at the same time reducing the risk.Problem areas must be identified so that corrective, timely action may be taken.
Break-even analysis determines what level of sales of a product line is necessary to cover costs.Contribution margin evaluation indicates what selling price to charge given a special order situation.
To determine where funds should be expended in the business, capital budgeting techniques include present value, internal rate of return, and payback.Applications of various types of investment opportunities are addressed.
Analyzing the balance sheet, income statement, and overall financial structure shows the companys financial strengths and deficiencies, and identifies problem areas for management attention.How the business is viewed financially by investors and creditors affects the firms chances of financing, cost of capital, and the market price of its stock.
Knowing how to evaluate segmental performance is essential to recognizing the relative performance of divisions within the firm, with techniques for comparisons to similar divisions in competing companies.Measures of performance include return on investment and residual income.
The management of current assets and liabilities positively affects the bottom line and reduces risk.Some examples of this are accelerating cash inflow, delaying cash outflow, inventory planning, and investment portfolio management.By acquiring other companies, diversification and earning power may be enhanced.Selecting the right financing instrument to obtain funds is critical; it affects both cost of capital and restrictiveness of funds.
Financial planning models are used to generate proforma financial statements and financial rations, the basic tools for budgeting and profit planning.There are user oriented computer software systems and web based systems specifically designed for corporate planners and executives.Technological advances in computers, such as networking and data base management systems, have made more companies use modeling for making day to day operational and strategic planning decisions.Financial planning models, which are one functional branch of a general corporate model, may be used for many purposes.Among these applications are:
Financial forecasting
Budgeting
Tax planning
Profit planning
Capital budgeting
Risk analysis
Cash management
Merger and acquisition analysis
Business valuations
New venture analysis
Supported by the expanded capabilities provided by models, many companies are increasingly successful in including long-term strategic considerations in their business plans, thus enabling them to investigate the possible impact of their current decisions on future profitability and cash flow.The applications of a benefits deriving from the use of well designed and sophisticated planning models are unlimited.The model is, in short, a technique for risk analysis and what-if experiments.Modeling allows for strategic planning and for accomplishing operational and tactical decisions for immediate planning problems.
Financial management in both private and public organizations typically operates under conditions of uncertainty or risk.Probably the most important function of business is forecasting.A forecast is a starting point for planning.In business forecasts are the basis for capacity planning, production and inventory planning, manpower planning, planning for sales and market share, and financial planning and budgeting.Sales forecasts are especially crucial aspects of many financial management activities, including budgets, profit planning, capital expenditure analysis and acquisition, and merger analysis.
Forecasts are needed for marketing, production, manpower and financial planning.Also top management needs forecasts for planning and implementing long-term strategic objectives and planning for capital expenditures.More specifically, marketing managers use sales forecasts to determine optimal sales force allocations, to set sales goals, and to plan promotions and advertising.
On this basis, the financial manager must estimate the future cash inflow and outflow, and must plan cash and borrowing needs for the companys future operations.In planning for capital investments, predictions about future economic activity are required so that the returns, or cash inflows, accruing from the investment may be estimated.Forecasts must also be made of money and credit conditions and interest rates so that the cash needs of the firm may be met at the lowest possible cost.Long-term forecasts are needed in order to plan changes in the companys capital structure.Decisions as to whether to issue stock or debt in order to maintain the desired financial structure of the firm require forecasts of money and credit conditions.
In attempting to assist managers in these areas, the financial planning and control function has developed an impressive kit of tools.To use these tools effectively, both the manager and management must be fully equipped with the subject.It is unlikely that the general mass of employees in an organization will have received the same financial training as their managers; most will have received none.So this development in communication may pose a particular challenge for some management accounts that orientation hitherto has been towards the preparation of figure, as opposed to their presentation and interpretation.
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