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Financial Management Planning
Studies overwhelmingly identify
bad management as the leading cause of business failure. Bad management
translates to poor planning by management.
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All too often, the owner is
so caught up in the day-to-day tasks of getting the product out the
door and struggling to collect receivables to meet the payroll that
he or she does not plan. There never seems to be time to prepare Pro
Formas or Budgets.
Often new managers understand their products but not the financial
statements or the bookkeeping records, which they feel are for the
benefit of the IRS or the bank. Such overburdened owner/managers can
scarcely identify what will affect their businesses next week, let
alone over the coming months and years. But, you may ask, "What
should I do? How can I, as a small business owner/manager, avoid
getting bogged down? How can I ensure success?" |
Success may be ensured only by
focusing on all factors affecting a business's performance. Focusing on
planning is essential to survival.
Short-term planning is generally concerned with profit planning or
budgeting. Long-term planning is generally strategic, setting goals for
sales growth and profitability over a minimum of three to five years.
The tools for short- and long-term plans have been explained in the
previous chapters: Pro Forma Income Statements, Cash Flow Statements or
Budgets, Ratio Analysis, and pricing considerations. The business's
short-term plan should be prepared on a monthly basis for a year into the
future, employing the Pro Forma Income Statement and the Cash Flow Budget.
Long-Term Planning
The long-term or strategic plan focuses on Pro Forma Statements of Income
prepared for annual periods three to five years into the future. You may
be asking yourself, "How can I possibly predict what will affect my
business that far into the future?" Granted, it's hard to imagine all the
variables that will affect your business in the next year, let alone the
next three to five years. The key, however, is control--control of your
business's future course of expansion through the use of the financial
tools explained in the preceding chapters.
First determine a rate of growth that is desirable and reasonably
attainable. Then employ Pro Formas and Cash Flow Budgets to calculate the
capital required to finance the inventory, plant, equipment, and personnel
needs necessary to attain that growth in sales volume. The business
owner/manager must anticipate capital needs in time to make satisfactory
arrangements for outside funds if internally generated funds from retained
earnings are insufficient.
Growth can be funded in only two ways: with profits or by borrowing. If
expansion outstrips the capital available to support higher levels of
accounts receivable, inventory, fixed assets, and operating expenses, a
business's development will be slowed or stopped entirely by its failure
to meet debts as they become payable. Such insolvency will result in the
business's assets being liquidated to meet the demands of the creditors.
The only way to avoid this "outstripping of capital" is by planning to
control growth. Growth must be understood to be controlled. This
understanding requires knowledge of past financial performance and of the
future requirements of the business.
These needs must be forecast in writing--using the Pro Forma Income
Statement in particular--for three to five years in the future. After
projecting reasonable sales volumes and profitability, use the Cash Flow
Budget to determine (on a quarterly basis for the next three to five
years) how these projected sales volumes translate into the flow of cash
in and out of the business during normal operations. Where additional
inventory, equipment, or other physical assets are necessary to support
the sales forecast you must determine whether or not the business will
generate enough profit to sustain the growth forecast.
Often, businesses simply grow too rapidly for internally generated cash to
sufficiently support the growth. If profits are inadequate to carry the
growth forecast, the owner/manager must either make arrangements for
working growth capital to borrowed, or slow growth to allow internal cash
to "catch up" and keep pace with the expansion. Because arranging
financing and obtaining additional equity capital takes time, this need
must be anticipated well in advance to avoid business interruption.
To develop effective long-term plans, you should do the following steps:
1. Determine your personal objectives and how they affect your willingness
and ability to pursue financial goals for your business. This
consideration, often overlooked, will help you determine whether or not
your business goals fit your personal plans. For example, suppose you hope
to become a millionaire by age 45 through your business but your long-term
strategic plan reveals that only modest sales growth and very slim profit
margins on that volume are attainable in your industry. You must either
adjust your personal goals or get into a different business. Long-range
planning enables you to be realistic about the future of your personal and
business expectations.
2. Set goals and objectives for the company (growth rates, return on
investment direction as the business expands and mature). Express these
goals in specific numbers, for example, sales growth of 10 percent a year,
increases in gross and net profit margins of 2 to 3 percent a year, a
return on investment of not less than 9 to 10 percent a year. Use these
long-range plans to develop forecasts of sales and profitability and
compare actual results from operations to these forecasts. If after these
goals are established actual performance continuously falls short of
target, the wise business owner will reassess both the realism of
expectations and the desirability of continuing to pursue the enterprise.
3. Develop long-range plans that enable you to attain your goals and
objectives. Focus on the strengths and weaknesses of your business and on
internal and external factors that will affect the accomplishment of your
goals. Develop strategies based upon careful analysis of all relevant
factors (pricing strategies, market potential, competition, cost of
borrowed and equity capital as compared to using only profits for
expansions, etc.) to provide direction for the future of your business.
4. Focus on the financial, human, and physical requirements necessary to
fulfill your plan by developing forecasts of sales, expenses, and retain
earnings over the next three to five years.
5. Study methods of operation, product mix, new market opportunities, and
other such factors to help identify ways to improve your company's
productivity and profitability.
6. Revise, revise. Always use your most recent financial statements to
adjust your short- and long-term plans. Compare your company's financial
performance regularly with current industry data to determine how your
results compare with others in your industry. Learn where your business
may have performance weaknesses. Don't be afraid to modify your plans if
your expectations have been either too aggressive or too conservative.
Planning is a perpetual process. It is the key to prosperity for your
business.
For Further Information
U.S. Small Business Administration Publications
Business Development Booklets
The following booklets and other publications are available from the
Superintendent of Documents, U.S. Government Printing Office, Washington,
DC 20402. Write GPO to obtain SBA Order Form 115B, which lists
publications and current prices.
Handbook of Small Business Finance--Small Business Management Series No.
15.
Ratio Analysis for Small Business--Small Business Management Series No.
20.
Guides for Profit Planning--Small Business Management Series No. 25.
Financial Control by Time-Absorption Analysis--Small Business Management
Series No. 37.
Purchasing Management and Inventory Control for Small Business--Small
Business Management Series No. 41.
Managing for Profits--Nonseries (GPO Stock No. 045-000-00206-3).
Business Development Pamphlets
Many pamphlets are available from the U.S. Small Business Administration
for a small processing fee. Write SBA, P. O. Box 15434, Fort Worth, TX
76119 to request SBA Order Form 115A.
Other Sources
Retailing, Principles and Methods, Richard D. Irwin, Inc., Chicago, IL.
"Understanding Financial Statements," Small Business Reporter, 1980, Bank
of America NT & SA, San Francisco, CA.
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Financial Management Planning Article
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