Financial planning is all about forecasting into the future and to isolate any strategic options you are looking at in the future. Financial planning involves the use of proforma statements in order to evaluate possibilities, and to establish guidelines for change and growth in a firm.
It’s say that you forecast your company’s growth at 8%. This means that with this growth, your revenues will increase, but so will your assets. This generates a problem here – your liabilities and owner’s equity create an imbalance on your balance sheet which means you have to further assess. To analyze what your business should do, you could borrow either short term does or take on long term debt, or you can look at your excess capacity with regards to your fixed assets to see if you can use them before any net new investments are required. What I have described is the percentage of sales approach in a nutshell.
Financial planning is very useful if you wish to evaluate a strategic alternative, such as expansion for example. What the statements do not consider is the concern about changes in the macro environment, and any political changes that may occur that affect your particular industry. We all know planning in general is to avoid surprises. In business, we don’t want nasty surprises, do we?
If you have any questions about pro forma statements, I can help you. Happy planning!