Financial planning implies deciding what to spend, how to spend and how much to spend according to the funds that are available. Financial planning needs to be done by everyone from individuals to large multi-national corporations. The larger the quantum of funds that one is dealing with, the more the effort required to plan its usage appropriately.
Objectives of Financial Planning for Organizations
Availability of Sufficient Funds:
To make sure that sufficient funds are available for meeting day-to-day expenses, purchasing long term assets, and dealing with unforeseen costs. Planning is not only done to make sure that finance is available in a timely manner, but also that the company knows exactly where to raise the money from when it is needed.
Manage Cash Flow:
It is not just a shortage of cash that can cause problems; excess cash can be equally difficult to manage. If there is a shortage of funds, it can be inferred with certainty that the company will find it difficult to function. But having excess cash and not using it in an optimal manner is a huge wastage of resources. When the company is flush with funds, they should be looking for ways to invest it wisely and ensure that they have expansion plans in place and are thinking of new ventures.
Importance and Value of Financial Planning
Financial planning adds tremendous value to the company. In fact, without it no enterprise can function efficiently. Below are some of the reasons why.
- The company has to plan to make sure they accumulate just the right amount of funds. Too little money is bad as well as too much of it. Planning helps in gathering, storing and using just the right amount of funds.
- How are these funds going to be raised? Is the company going to issue shares, will they issue debt, or will they take loans from banks? Once this decision is made, the company has to decide to whom they want to issue the shares and the debt, and which banks they want to approach for loans. Since most companies use a mix of all these avenues to raise funds, planning becomes extensive and complicated.
- At any given point in time, a company might have two, three or maybe more investment proposals. They need to decide which among them is the most affordable, the most profitable and has the highest chance of success. Then they can invest in those proposals.
- Every enterprise needs a sizeable quantum of funds for day-to-day operations, and the larger the enterprise, the more the money needed. Finance has to continuously flow into the business so that operations proceed unhindered, and at no point of time is there a shortage of raw materials or a stoppage in production.
- Financial planning is also the base for financial control. Unless the finance teams know how much money has been allocated and to which activity, they cannot know if they are going over-budget or are under-budget. If remedial action needs to be taken, they will have a base for taking corrective measures.
- Every business has to face unforeseen expenses, crisis situations and events over which they have no control. Emergency funds are needed to tide over these tough phases. One of the roles of financial planning is to make sure that there are enough reserves for such occasions, and that these reserves are continuously renewed as and when they get depleted.
- A company has to constantly decide which department gets how much money. Every department like production, sales, marketing etc, would have their own budget of how much they need. But should they be given the funds they are asking for? There will be times when the marketing department might need more and there will be times when the HR department might need more. Who gets how much funds and at what point in time is a constant activity for the financial planners.
- Financial planning also ensures consistency of goals, aligning the growth objectives of the enterprise with its financial requirements. For instance, aiming for a higher sales target may require eating into the profit margin of products and services by having to reduce prices.
- Financial planning also supports the strategic growth of the organization, by taking into account risks, capital budgeting estimates, and opportunities in new markets.
Financial planning is usually executed by following a process with the following steps:
- Sales forecasting
- Projection of the assets required to support sales
- Projection of funds that are generated within the organization
- Projection of external funds that will be required
- Identifying the means to raise the funds
- Assessing the effect of plans on financial ratios and stock price
Financial planning is a year-round activity that requires the support of accurate financial reporting and analysis. Not only does it need to be done constantly, but the outcomes of those plans also need to be monitored. In case they are not working out, new plans need to be drawn up or the old ones need to be modified. The larger the enterprise, the larger the size of the team working on financial planning and the greater the skill needed. Financial planning starts before the commencement of a venture and carries on throughout its lifetime. It is a vital activity for all businesses
Credit: Senthil Kumaran, Operations Manager – Finance and Accounting, Invensis Technologies