Financial Planning and Management

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Financial Planning and Management

• Professor XXXXX
• Course Name / Number

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Overview of the Planning Process
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Long-Term Financial Planning
Senior management develops strategic plan by
answering questions like

• In what emerging markets might we have a
  sustainable competitive advantage?
• How can we leverage our competitive strengths
  across existing markets in which we currently do
  not compete?
• What threats to our current businesses exist, and
  how can we best meet those threats?
• Where in the world should we produce? Where
  should we sell?
• Can we deploy resources more efficiently by
  exiting certain markets and using those resources
  elsewhere?

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Contribution of Finance to Strategic Planning
Financial managers draw on a broad set of skills
to asses the likelihood that the firm can achieve
a given strategic objective.
They determine the feasibility of a strategic
plan, given firms existing and prospective
sources of funding.
Financial managers exercise control function in
implementing strategic plans.
Financial analysts prepare cash budgets to avoid
or limit liquidity problems.
Finance also contributes to strategic planning
through risk management.
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Sustainable Growth

• Growth can be measured by increases in firms
  market value, its asset base, the number of
  people it employs, or increases in its sales.

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Sustainable Growth Model
Models how rapidly a firm can grow
Models Assumptions

• 1. The firm will issue no new shares of common
  stock next year
• 2. The firms total asset turnover ratio, S/A,
  remains constant
• 3. The firm pays out a constant fraction, d, of
  its earnings as dividends
• 4. The firm maintains a constant asset-to-equity
  ratio, A/E, and
• 5. The firms net profit margin, m, is constant.

Firm wants to increase sales by g percent
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Sustainable Growth Model
The model can derive the sustainable growth rate
g that balances the sources and uses of funds.
Increase in profit margin or assets-to-equity
increase sustainable growth rate.
Increase in total asset turnover ratio has the
same effect increase in sustainable growth rate.
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Pro Forma Financial Statements
Forecasts of balance sheet and income statements
Top-down or bottom-up sales forecasts

• Top-down approach uses macroeconomic and
  industry forecast to establish sales goals
• Bottom-up approach forecasts sales on a
  customer by customer basis

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Balance Sheet of Zinsmeister Shoes
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Income Statement of Zinsmeister Shoes
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Assumptions to Generate Pro Forma Financial
Statements

• Assumptions
• Zinsmeister plans to increase sales by 30 next
  year(in 2007).
• Gross profit margin will remain 35.
• Operating expenses will equal 10 of sales, as
  in 2006.
• Interest rate paid on all debt is 10.
• Invest additional 20 mil in fixed assets in
  2007.
• Depreciation expense will increase from 10 mil
  to 15 mil.
• Tax rate is 35.
• Cash holdings will increase by 1 mil next year.
• Accounts receivables are 8.5 of sales.
• Inventories equal 10 of sales.
• Accounts payable are 12 of cost of goods sold.
• Firm will repay additional 5 mil in long-term
  debt next year.
• Firm will pay out 50 of net income as dividend.

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Pro Forma Income Statement for Zinsmeister Shoes
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Pro Forma Balance Sheet for Zinsmeister Shoes

• Cash holdings will increase by 1 mil next year
• Cash 10 mil 1mil 11 mil
• Accounts receivables are 8.5 of sales
• A/R 325,000 X 0.085 27,625
• Inventories equal 10 of sales
• Inventory 325,000 X 0.1 32,500
• Invest additional 20 mil in fixed assets in
  2007. Depreciation expense will increase from 10
  mil to 15 mil
• Gross fixed assets 80 mil 20 mil 100 mil
• Accumulated depreciation 20 mil 15 mil
  35 mil
• Accounts payable are 12 of cost of goods sold
• A/P 211,250 X 0.12 25,350

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Pro Forma Balance Sheet for Zinsmeister Shoes
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External Funds Required (EFR) for Zinsmeister
Shoes
Model forecast of external funds required with
the following equation
EFR for Zinsmeister is 8,111,000. In pro forma
balance sheet external financing declined by 6.7
mil. Why the discrepancy?
Discrepancy arises because assets to sales ratio
is actually not constant, as equation assumes.
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Short-Term Financing Strategies
Companies can adopt following strategies to fund
long-term trend and seasonal sales fluctuations
of sales
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Quarterly Sales for Hershey Foods (1992 2003)
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Financing Strategies Available to Hershey
1,800
1,600
1,400
1,200
1,000
Total Assets( in millions)
800
600
Hersheys Current Assets
Matching Strategy Conservative
Strategy Aggressive Strategy
400
200
0
1992 1993 1994 1995 1996 1997
1998 1999 2000 2001 2002 2003
Quarters (1992-2003)
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Cash Budget
Cash budget shows firms planned cash inflows and
outflows
Estimate the monthly cash flows
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Cash Receipts
Common components of cash receipts cash sales,
collections of accounts receivable, and other
cash receipts
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Schedule of Projected Cash Receipts for Farrell
Industries
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Cash Disbursements
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Cash Disbursements

• Rent payments 20,000 paid each months.
• Wages and salaries 10 of monthly sales plus
  30,000.
• October wages 10 X 1,200,000 30,000
  150,000.
• Tax payments 75,000 taxes paid in December.
• Fixed assets outlays 390,000 in new machinery
  paid in November.
• Interest payments 30,000 due in December.
• Cash dividends payments 60,000 dividends will
  be paid in October.
• Principal payments 60,000 principal payment due
  in December.

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Projected Cash Disbursements for Farrell
Industries
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Net Cash Flow, Ending Cash, Financing Needs and
Excess Cash
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Cash Budget for Farrell Industries
If cash balance is less than desired minimum cash
balance, issue notes payable.
If cash balance above desired minimum cash
balance, invest in short-term marketable
securities.
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Financial Planning and Management
Strategic financial plans act as guides for
preparing operating financial plans. Sustainable
growth model is a tool that managers can use to
determine the feasibility of a target growth rate
under certain conditions. Pro forma financial
statements are projected financial
statements. Cash budgets forecast firms
short-term cash inflows and outflows.