Finance and accounting teams wear many hats in any organization. At the most fundamental level, they make sure the business has enough cash to pay vendors and employees while allowing the business to meet the objectives of its shareholders, be that for growth or strong cash flow.

In earlier posts, we’ve focused on several fundamental, core finance requirements for successfully delivering ROI for key company stakeholders:

  • Monthly accounting processes:
    • Closing the books
    • Reconciling cash
    • Reconciling material balance sheet accounts
  • Maintaining accurate records of company contracts.
  • Maintaining an accurate record of shareholders (i.e. capitalization table).

All these processes are critical to developing a clear picture and understanding of where you are today as a company from a financial point of view. Financial planning, however, occurs when you start to ask the question, “Where will I be in the future?”

There are two major kinds of financial plans, strategic plans and operating plans. Both are necessary and valuable, but they serve very different purposes.

Strategic Plans: It’s all about Your Assumptions

Strategic plans typically try to look out into the future, say three to five years. These plans link competitive and market forecasts with desired company outcomes from a market share, product mix, revenue, and profit perspective.

The critical element to any strategic plan for a company lies in its many assumptions.

For example:

  • We believe the market for our product is growing at X% per year.
  • If we make feature A, feature B and feature C our product will grow faster than the market, essentially increasing our market share.
  • Average salaries will grow Y% per year.
  • Benefits will grow Z% per year.
  • We will need M and N staffing levels in these core departments (sales, marketing, support, development and finance).
  • We will need to make these W capital investments in equipment or research

From these assumptions and based on how your business operates with its customers and vendors, a CFO will create a financial model which will drive annual expectations for profit and loss, balance sheet and cash flow. Upsides and downsides are often used to show areas of risk in the probability of outcomes here. But the most important outcome from a strategic plan will be an estimate of the cash requirements of your business. The plan needs to tell you how much cash you will need to meet your strategic goals.

Some businesses generate more cash than they need to operate. Many others, particularly early-stage companies, need to raise cash in the capital markets to fund their growth. But all companies need to know their cash requirements. Why? Because knowing how much cash you need and when you’ll need it is absolutely critical to having a credible conversation and driving engagement with an investor. If you can’t answer direct questions about your company’s cash needs, it’s impossible to expect that any investor will put their cash – into your company. 

The Role of the Operating Plan in Driving Action

The first year of your strategic plan should align with your annual operating plan. Operating plans typically contain a good deal of detail and are of a shorter duration than strategic plans. While operating plans are typically created on an annual basis, most companies also maintain a rolling forecast. By the time you get to the fourth quarter of your operating plan, many of your original assumptions may have been found to be out of date. And, in any case, you always want to continue to project out beyond just the remaining few months in the current operating plan to subsequent quarters.

Operating plans should be at a granular enough level that they can align with the chart of accounts you’re using on an accounting basis.

You will want to estimate what you think will realistically occur in your business based on the operational priorities your management team has set for year one of your strategic plan:

  • How many units will we sell next year?
  • What will our average selling price be?
  • What staffing levels are required to sell, deliver and support those products or services?
  • What will these staffing levels cost in salaries and benefit expenses?
  • What other fixed and variable costs will we incur for facilities, technology, travel, taxes, etc.?

After you develop your annual operating plan which will include your budget and at the departmental levels, you need to monitor actual performance against this plan. Any forecast is only as good as the day you make it. Things change, all the time. When you close your books every month, you will be able to immediately compare your actual results to your operating plan and determine the cause of any variances to plan. This gives you early visibility about whether your initial assumptions about the business were correct.

Let’s say your company sells two products or services. If one of them is selling much more than originally planned, why is that? Is that increase sustainable in the future? Can you apply resources to continue that success? If the other product is not meeting your initial forecast, why is that? What assumptions did you make that were off base? Did you misunderstand market or competitor dynamics? Is there something about the product that makes it less desirable than a competitor’s product to key customer markets?

Answering these questions correctly is critically important to developing a deeper understanding of your company’s risks and opportunities. But even more important is what you do once you gain this understanding. The power of any operating plan is leveraging new actions to create positive change. You need to know what to fix (and how and when) to ultimately meet your strategic objectives. Once you understand how revenue, expenses  and cash flow vary from plan and why, you can then make decisions about how to allocate or re-allocate your resources, both operating and capital to reach your cashflow, profit and ROI targets.

Now, one caveat here. For either operating or strategic plans, there is a balance which needs to be struck on the level of detail and complexity necessary. If you include too much detail in your planning and variance analysis, you will be forever trying to reconcile immaterial variances. Do you really care about a $1.00 variance? No, you don’t.

Finally, all experienced CFOs know that having monthly discussions with your management team (which transparently shares the actual performance compared to  the operating plan) lies at the heart of strong financial management. Some companies build a summary “dashboard” for their discussions with management and the Board. But you don’t make the development of a dashboard a huge project in itself because if it takes weeks to put it together, you could lose the ability to nimbly react to market changes. The ability to have these kinds of discussions with management on a regular and consistent basis is critical if you want to  maximize your company’s performance and increase its value.

FLG’s partners are deeply experienced in financial planning and accounting management from startups to Fortune 500s and across sectors, from technology (my favorite) to life sciences, consumer products and more. Our forte is being able to jump in to challenging company situations and immediately add value. We can help your team quickly finetune your strategic, operational, and financial planning to drive value and growth at your company.

Bill Leetham

Bill Leetham joined FLG in 2007. Bill’s experience includes over 25 years of financial management with companies large and small, public and private. He has successfully led two initial public offerings, raising over $75 million and has raised similar amounts in private equity and debt offerings. Bill has successfully managed…Read More