Many business owners work tirelessly to develop excellent product and service offerings and/or high quality manufacturing and distribution capabilities. However, when it comes to putting that same energy and focus into a financial plan, they come up short. However, it is the financial plan that helps them manage their growth and ensure they are getting the right return on their investment of time and resources.
Business Goals and Objectives
The first step in this planning process is to identify objectives and goals associated with the new or expanding business. By establishing performance goals, the entrepreneur sets achievement levels to work toward, as well as a method of measurement to evaluate actual performance. Without goals, it is impossible to know if actual performance is good enough to meet the company’s financial obligations: to make payroll, accounts payable, loan payments, provide a return to shareholders.
A wise business owner once said, “If you do not choose a destination, any path you take will get you there!” You can be sure that your bank or investors have specific expectations. Failure to meet these minimum levels of production may result in your financiers asking you to take your business elsewhere. Not a pleasant thought, yet it happens regularly when management does not pay attention to the numbers.
Components of Financial Plan
A good financial plan begins with a good understanding of the business. How has the business performed in the past, and what is it expected to do in the future? What operational plans does the management team have to be successful in the future? What are the business goals for the next year, and what are the resulting action items the company plans to execute in order to achieve these goals? These goals and action items can include items such as: new product or service offerings, increased sales in a particular market, increased marketing efforts, increased manufacturing capability or operational efficiency.
Once the organization has defined its operational plans for the future, the next step is to translate these operational plans into the financial plans. The financial plan should consist of a set of monthly or quarterly financial statements including an income statement, balance sheet and cash flow statement. These financial statements along with other financial metrics and goals can then be used as benchmarks to measure the company’s actual performance against throughout the year.
Financial goals could include the following:
- Total sales/revenue – ideally, it should reflect a reasonable increase each year
- Gross margin – stable with industry or improving each year
- Expenses – as low as possible, increasing only as needed
- Capital expenditures – as low as possible, increasing only as needed
- Profitability – stable with industry or improving each year
- Cash flow – ideally, it should reflect a reasonable increase each year
- Return on investment – ideally, this should be better than your industry average
These are just a few ideas that may or may not be appropriate to your particular business. The point is that management should continually set realistic performance goals and monitor the results. The bottom line: do you know where your company is going, and are you leading or following?
Time-Frames in Financial Plans
Financial plans can cover a variety of time-frames; some look out 10 years into the future, while others look out 2 quarters into the future. Most companies do a combination of long term financial planning, which looks at the next three to five years, in combination with more detailed short term financial planning that looks at the next 6 to 12 months.
Most companies begin preparation of their financial plans for the following year and beyond in the third and fourth quarter of the current year. The larger the company the longer the process can take and the earlier in the year these companies begin. The key is to give yourself adequate time to do your research, and get your financial plan in place before beginning the New Year.
Uses of a Financial Plan
Once you have completed your financial plan, you now have a road map you can use to guide your progress and actions throughout the year. It will help you to quickly identify where you may not be on-track with your plan, so that you can quickly course-correct to get your business back on-track. You can also use this financial plan to evaluate other business opportunities that you may encounter throughout the year. For example, you may use your plan to help you evaluate whether or not you should acquire a competitor in your industry or divest of a particular segment of your business. Your financial plan can also be shared with outside investors, employees, or business partners to educate them on your business and show them where your business is headed. You can also use your financial plan to identify your future financing needs and secure the financing you need.
Studies have shown time and time again that the more a business measures its performance against established goals, the more likely it is to improve its performance. A good financial plan is one of the key tools you can use to measure your company’s performance. A good financial plan can help your company exceed its goals, and can help ensure the company’s financial performance is good enough to meet its financial obligations.
Please let us know if you have questions concerning financial plans or any related topics, we can be reached at (480) 980-3977!