Financial Planning

1

• Financial Planning

Portions taken from Emery and Finnerty Corporate
Financial Management Chapter 22 Edited by Del
Hawley
2
The Financial Planning Process
A firms financial plan involves decisions
about

• Liquidity
• Working Capital
• Inventories
• Capital Budgeting
• Capital Structure
• Dividends

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The Cash Plumbing System

Equity
LT Debt
Taxes
Dividends
4
The Cash Plumbing System

Equity
Operating Expenses
LT Debt
Taxes
Dividends
5
The Cash Plumbing System

Equity
Operating Expenses
LT Debt
Taxes
ST Debt Mktl Sec
Dividends
6
The Cash Plumbing System

Equity
Operating Expenses
LT Debt
Taxes
ST Debt Mktl Sec
Dividends
Accts Payl
Fixed Assets
Sale
Materials/Inventory
Labor
Finished Goods
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The Cash Plumbing System

Equity
Operating Expenses
LT Debt
Taxes
ST Debt Mktl Sec
Dividends
Accounts Recl
Accts Payl
Fixed Assets
Sale
Materials/Inventory
Labor
Finished Goods
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Cash Conversion Cycle
Collect Acct. Receivable
Purchase Inventory
Sale on Credit
Inventory Conversion Period
Receivables Collection Period
Time
Cash Conversion Cycle
Payment of Accts. Payable
Payables Deferral Period
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The Financial Plan

• Financial planning is the process of evaluating
  the impact of alternative investing and financing
  decisions of the firm.
• Every financial plan has three components
• A model
• Inputs
• Outputs

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The Financial Plan

• The model is a set of mathematical relationships
  between the inputs and the outputs.
• Inputs to the model may include
• Projected sales
• Collections
• Costs
• Interest rates
• Exchange rates

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The Financial Plan

• The outputs of the financial plan are
• Cash Budget
• Pro forma (projected) financial statements
• Projections for external funding requirements

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Components of the Financial Plan

• Every financial plan should have
• Clearly stated strategic, operating and financial
  objectives.
• Assumptions on which the plan is based.
• Description of underlying strategies.
• Contingency plans to deal with the variances from
  expectations.

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Benefits of Financial Planning

• Future (strategic) orientation
• Identify and quantify assumptions
• Prepare for contingencies (risk analysis)
• Identify funding requirements
• Assess performance

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Cash Budgets

• Cash budgets
• project and summarize cash inflows and outflows
• show monthly cash balances
• show any short-term borrowing needed to cover
  cash shortfalls
• Are based on sales forecasts.
• Are usually constructed on a monthly basis.

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Preparing a Cash Budget

• Prepare a cash budget for Tyler Paints for the
  months of April, May and June, given the
  information in the information provided in the
  following slides.

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Sales Recent and Forecast

• The recent and projected sales for the company
  are

Feb 500,000
Mar 600,000
Apr 1,200,000
May 1,000,000
Jun 1,000,000
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Sales Recent and Forecast

• The recent and projected sales for the company
  are

Feb 500,000
Mar 600,000
Apr 1,200,000
May 1,000,000
Jun 1,000,000
For your project, the sales projections are the
culmination of the marketing analysis.
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Collections Forecast

• On average, 20 of the companys sales are for
  cash and the rest is carried as accounts
  receivable with 45 of a given months sales
  collected one month following the sale and the
  remainder collected two months following the
  sale.

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Collections on Sales

• Collections in April are
• 20 of April Sales
• 45 of March Sales
• 35 of February Sales
• 20(1,200,000) 240,000
• 45(600,000) 270,000
• 35(500,000) 175,000
• 685,000

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Collections on Sales
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Collections on Sales
For your project, you will need to think about
the timing of collections. You may sell
everything for cash, or you may give your
customers payment terms.
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Pro-Forma Accounts Receivable

• Uncollected sales at the end of April
  (Accounts Receivable) will be
• 35(March Sales) (80 of April Sales)
• 35(600,000) 80(1,200,000)
• 1,170,000
• A/R for May 1,220,000
• A/R for June 1,150,000

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Payment Forecasts

• The cost of production materials averages 50 of
  sales. Payment is made for the materials one
  month after purchase.
• Wages average 20 of sales.
• Fixed costs are 120,000 per month
• A quarterly tax payment of 200,000 is due in
  April

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Cash Payments

• Cash Payments in April
• Materials 50(March Sales)
• Wages 20(April Sales)
• Other Fixed Expenses of 120,000
• 50 x 600,000
• 20 x 1,200,000
• 120,00
• 920,000

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Cash Payments
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Cash Payments
Heres where you will have LOTS of fun! You have
to think of all of the ways that money will need
to be spent, list and justify all assumptions,
and project it all out for at least three years.
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Cash Budget
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Cash Budget

• Tyler will have to borrow 125,000 in April.
• Tyler can repay 30,000 in May, leaving an
  outstanding loan balance of 155,000.
• The short-term loan can be fully repaid in June.

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SPREADSHEET

• A spreadsheet of the completed Tyler Paints
  problem is on our class web page. You should make
  sure you understand the calculations and that you
  could reproduce all aspects of that model,
  including formatting.

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Cash Budget

• MODEL problem C-1 (linked on the web page) in a
  spreadsheet, using input cells for the major
  assumptions and good visual formatting
  throughout. Check your solution against the one
  provided on the class web page.

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Pro Forma Financial Statements

• Pro Forma Statements
• Show the effect of the firms decisions on its
  future financial statements.
• Effects of alternative decisions and sensitivity
  to changes in assumptions can be examined.

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Percent of Sales Forecasting Method

• Assumes that some IS/BS items stay constant as a
  percent of sales as sales vary.
• In general, Accounts Receivable, Inventory,
  Accounts Payable (on the balance sheet), and cost
  of goods sold and some operating expenses (on the
  income statement) vary with sales (maintain the
  same percentage of sales) or cost of goods sold.
• Other items are either fixed with respect to
  changes in sales or they are plug figures.

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Percent of Sales Forecasting Method

• Sales growth results in
• increase in current and fixed assets
• increase in spontaneous short-term financing
• increase in profitability
• The increase in current assets must be financed
  from internally generated funds or external
  funds.
• Note WELL You can go BUST by letting GROWTH
  outrun your CASH.

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Percent of Sales Forecasting Method

• If internally generated funds are insufficient
  to finance the growth, the firm may
• Reduce the growth rate
• Sell assets not required to run the firm
• Obtain new external financing
• Reduce or stop paying cash dividends.

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Additional Financing Needed (AFN)

• Let
• A/S the increase in assets per dollar increase
  in sales.
• L/S the increase in spontaneous liabilities
  per dollar increase in sales.
• S0 current level of sales.
• g projected growth rate in sales.
• M net profit margin on sales.
• D cash dividends planned for common stock.

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Additional Financing Needed (AFN)

• Additional Financing Needed (AFN)
• Required increase in assets
• - Increase in (spontaneous) liabilities
• - Increase in retained earnings
• NOTE This a PERMANENT increase in the funding
  requirement.

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Additional Financing Needed (AFN)

• Additional Financing Needed (AFN)
• Required increase in assets
• - Increase in (spontaneous) liabilities
• - Increase in retained earnings
• AFN (A/S)gS0 - (L/S)gS0 - M(1g)S0 - D

• Note A/S, L/S, and AFN/g are NOT CONSTANTS and
  MAY NOT BE LINEAR or CONTINUOUS.

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Additional Financing Needed

• Peak Plastics expects rapid sales growth next
  year. Sales for the current year were 4 million,
  and are expected to grow by 20 next year. Peak
  wants to estimate the external capital that will
  be required to finance this growth. The firm
  estimates that additional assets equal to 50 of
  the increase in sales will be required.
  Liabilities will increase by 18 of sales. The
  net profit margin is 6 and Peak expects to pay
  84,000 in dividends to its common stockholders.

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Additional Financing Needed
(A/S)gS0 400,000 (L/S)gS0 144,000 M(1g)S0
- D 204,000 AFN 52,000
Do problems 2, 5 and 6 in the text