TABLE OF CONTENTS
FINANCIAL PLANNING & FORECASTING
1. Financial planning Introduction 3
2. Steps in financial planning 4-6
3. Benefits of financial planning --7
4. Financial forecasting introduction -8
5. Objectives of forecasting - 9
6. Steps in financial forecasting -10
7. Methods of forecasting 11-22
8. Uses of forecasts – 23- 26
9. Conclusion – 25-26
10. References -27
Financial planning is a continuous process of directing and allocating
financial resources to meet strategic goals and objectives.
This can be also be viewed as a single process that encompasses both
operations and financing. The operating people focuses on sales and
production while financial planners are interested on how to finance
The output from financial planning takes the form of budgets. The
most widely used form of budgets is Pro Forma or Budgeted Financial
Statements. The foundation for Budgeted Financial Statements is
Detail Budgets. Detail Budgets include sales forecasts, production
forecasts, and other estimates in support of the Financial Plan.
Collectively, all of these budgets are referred to as the Master Budget.
Steps in Financial planning.
There are six steps to the process of doing a financial plan.
The beginning step is determining your objectives for the plan. You do this by:1. Quantifying
specific amount goals within definite time frames and clarify any financial goals within those
parameters; 2. You will rank your objectives according to your priorities; 3. Together, we will
examine these objectives in respect to a client’s available resources and other limitations. Our
key role at this stage is to assist our clients in the establishment of their financial objectives .
The second step of the financial planning process is gathering data. With our help, our
clients will complete a data survey form or questionnaire.
• - Qualitative provides general information concerning a family’s goals and objectives,
lifestyle, health, and investment-risk tolerance level.
• - Quantitative provide basic but specific identifying information concerning details of
family’s financial status. Examples include info about investments, cash flow, insurance
coverage's, and present liabilities or other obligations.
Steps in financial planning
• Our third step is processing and analyzing the information gathered. We
will undertake a review of the following: Our client’s financial position
and current cash flow statement; a review of existing insurance policies and
other legal papers such as wills, trust agreements, and buy-sell
agreements; analyze the information to determine the strengths and
weaknesses in the client’s finances; evaluate our client’s objectives in view
of available resources, and economic conditions as they relate to future
resources and cash flow for the client. It is our planning role to examine the
viable options for achieving the determined objectives. We begin here to
look at the products and strategies that may be selected for implementing
the final plan.
• The fourth step is the actual recommendation of a comprehensive financial
plan for our client. This is a time for our clients to speak up and ask
questions about each strategy or product as it relates to solutions for
achieving their goals and dreams.
Steps in financial planning
A fifth step in the financial planning process is implementing the plan. Our
client may need help in obtaining products and in pursuing strategies
identified in step four. Use of products and services through our office is
separate from the design fees and those costs and commissions will be
disclosed appropriately. Also, if need be, we will work closely with other
professionals to carry out the financial plan designed for the client.
Our final step is monitoring the plan. Periodically we should review your
plan to evaluate the significance of any changes in federal tax, economic
conditions, and available investment techniques. If you choose to use our
investment advisory services you will be encouraged to have quarterly
meetings related to your assets under management.
The financial analysis and recommendations are not intended to replace the
need for independent tax, accounting, or legal review. Individuals are
advised to seek the counsel of such licensed professionals.
Benefits of financial planning
The benefits of financial planning for the organization are
Identifies advance actions to be taken in various areas.
Seeks to develop number of options in various areas that can be
exercised under different conditions.
Facilitates a systematic exploration of interaction between
investment and financing decisions.
Clarifies the links between present and future decisions.
Forecasts what is likely to happen in future and hence helps in
Ensures that the strategic plan of the firm is financially viable.
Provides benchmarks against which future performance may be
A financial forecast is an estimate of future financial outcomes for a
company or country (for futures and currency markets). Using historical
internal accounting and sales data, in addition to external market and
Financial Forecasting describes the process by which firms think about and
prepare for the future. The forecasting process provides the means for a
firm to express its goals and priorities and to ensure that they are internally
consistent. It also assists the firm in identifying the asset requirements and
needs for external financing.
Unlike a financial plan or a budget a financial forecast doesn't have to be
used as a planning document. Outside analysts can use a financial forecast
to estimate a company's success in the coming year
Objectives of forecasting
To reduce cost of responding to emergencies by anticipating the future
Prepare to take advantage of future opportunities.
Prepare contingency and emergency plans.
Prepare to deal with possible outcomes
STEPS OF FORECASTING
STEPS OF FORECASTING
Establish a base year.
Assess revenue and expenditure growth trends.
Clearly specify underlying assumptions.
Select a forecasting method.
Assess the reliability and validity of the data used to determine
Monitor actual revenue and expenditure levels against the forecast
and explain variances.
Update the forecast based on changes.
FINANCIAL FORECASTING METHODS
1. Percentage of sales:
• Step 1: Estimate year-by-year Sales Revenue and Expenses
• Step 2:Estimate Levels of Investment Needs (in Assets) required meeting es
timated sales (using Financial Ratios).
• Step 3: Estimate the Financing Needs (Liabilities)
While employing percentage of sales method, we would estimate the cash flo
ws based on the sales revenue
The first step is to forecast the changes in the sales revenue in
the successive years.
Expenses incurring in successive period would also be estimated. These
expenses include cost of goods
sold expense, administrative, expense, marketing expense, depreciation exp
ense, and other expenses.
• However, these revenues and expenses would be estimated on cash, rather t
han accrual basis 11
Methods of forecasting
After estimating the revenues and expenses , we need to forecast the
anticipated changes assets and liabilities as a result of changes in sales.
Identify how much capital the firm has to invest in assets and how much a
firm has to borrow as a result of any shortfall.
Determine assets and liabilities that do not change spontaneously with
Forecast the retained earnings, this is the amount of profit which would be
reinvested in the business.
Projected retained earning=profit margin x estimated sales x 1- payout
Methods of forecasting
Where profit margin= net income/ sales
plow back ratio= 1- pay out ratio
pay out ratio= dividend/net income
. Determine external financing- this is the changes in assets and the part of the
net income that is to be reinvested in the business.
External financing= estimated total assets – estimated total liabilities –
estimated total equity.
This is the borrowing that we need to raise in form of loan or the equity, as a
result of growth in sales.
After calculating the estimated revenues, expenses, assets and liabilities we are
in a position to prepare pro forma cash flow statement. The owners would
like to see company grow at a steady rate rather than high growth and
Percent of sales methods
Pro forma cash flow statement is just like an ordinary cash flow statement
; the only difference is that the figures in pro forma cash flow statement
are estimated figures rather than actual ones. The estimated statement is
later compared to the real after effect cash flow statement to assess the
quality of the estimate.
LIMITATIONS OF PERCENT OF SALES METHOD
1. Its is only a rough approximation and is not very detailed
2. The other problem is that if there is a change in fixed assets during he
forecasted period the percentage of sales method would not yield a very
Methods of forecasting
3. The other problem is that the lumpy assets are not taken into account while
using the percentage of sales method.
2) Cash budget
This is prepared for the purpose of cash planning and control. It presents the
expected cash inflow and outflow for a designated time period . The cash
budget helps management to keep cash balances in reasonable relationship
to its needs.
i) Estimate cash sales and collection timing of credit sales.
ii) Forecast cash payments.
iii)Determine monthly net cash flow( receipts minus payments).
iv)Construct cash budget.
A typical cash budget is divided into monthly intervals and covers one year.
Methods of forecasting
Cash budget aids in avoiding unnecessary idle cash and possible cash
3) BUDGETED BALANCE SHEET
Some balance sheet items vary directly with sales while others do not.
To determine which accounts vary directly with sales, a trend analysis
may be conducted on historic balance sheets of the firm.
Typically, working capital accounts like inventory, accounts
receivables and accounts payables vary directly with sales
Fixed assets do not always vary directly with sales. It will do so, only if
the firm is operating at 100 percent capacity and fixed assets can be
Methods of forecasting
The ratio of total assets to net sales is called the capital intensity ratio. This
ratio tells us the amount of assets needed by the firm to generate $1 sales.
The higher the ratio, the more capital the firm needs to generate sales—the
more capital intensive the firm.
Firms that are highly capital intensive are more risky than those that are not
because a downturn can reduce sales sharply but fixed costs do not change
Liabilities and Equity
Only current liabilities are likely to vary directly with sales. The exception
here is notes payables (short-term borrowings) that changes as the firm pays
it down or makes an additional borrowing.
Long-term liabilities and equity accounts change as a direct result of
managerial decisions like debt repayment, stock repurchase, issuing new
debt or equity.
Methods of forecasting
Retained earnings will vary as sales changes but not directly. It is affected
by the firm’s dividend payout policy.
Pro-forma balance sheet
2. The Preliminary Pro-forma Balance Sheet
First, calculate the projected values for all the accounts that vary with
Second, calculate the projected value of any other balance sheet account
for which an end-of-period value can be forecast or otherwise
Third, enter the current year’s number for all the accounts for which the
next year’s figure cannot be calculated or forecast.
At this point the balance sheet will be unbalanced. A plug value is
necessary to get the balance sheet to balance
First, determine the retained earnings based on the firm’s dividend
Next, the plug figure will represent the external financing necessary to
make the total assets equal total liabilities and equity. This calls for
management to choose a financing option . 19
Pro forma budget
Reasons to why pro forma balance sheet should be prepared
i) It could disclose some unfavorable financial conditions that management
might want to avoid.
ii) Helps management perform a variety of ratio calculations.
iii)It highlights future resources and obligations.
3. The Income Statement
The pro forma income statement is generated by recognizing all
variable costs that change directly with sales.
Two key ratios are calculated – dividend payout ratio and retention
The first measures the percentage of net income paid out as dividends
to shareholders, while the second measures the percentage of net
income reinvested by the firm as retained earnings.
The Delphi Method is an example of a qualitative technique where a group
of experts gets together and reaches a consensus on what will happen in the
future. A questionnaire is sometimes used to facilitate the process. Two
disadvantages of the Delphi Method are low reliability with the consensus
and inability to reach a clear consensus.
5 Market research
is any organized effort to gather information about target markets or
customers. It is a very important component of business strategy. The
term is commonly interchanged with marketing research; however, expert
practitioners may wish to draw a distinction, in that marketing research is
concerned specifically about marketing processes, while market research is
concerned specifically with markets
Quantitative forecasting models are used to forecast future data as a
function of past data; they are appropriate when past data are available.
These methods are usually applied to short- or intermediate-range
decisions. Examples of quantitative forecasting methods are
last period demand,
simple and weighted N-Period moving averages,
simple exponential smoothing,
and multiplicative seasonal indexes.
TIME SERIES METHOD
Is a a collection of quantitative observations that are
evenly spaced in time and measured successively.
Examples of time series include the continuous
monitoring of a person’s heart rate, daily closing
price of a company stock and yearly sales figures.
Time series analysis is generally used when there are
50 or more data points in a series. If the time series
exhibits seasonality, there should be 4 to 5 cycles of
observations in order to fit a seasonal model to the
A time series is just collection of past values of the
variable being predicted. Also known as naïve
methods. Goal is to isolate patterns in past data.
Time series methods use historical data as the basis of
estimating future outcomes.
Weighted moving average
Growth curve (statistics)
Characteristics of Forecasts
They are usually wrong!
A good forecast is more than a single number
Includes a mean value and standard deviation
Includes accuracy range (high and low)
Aggregated forecasts are usually more accurate
Accuracy erodes as we go further into the future.
Forecasts should not be used to the exclusion of
What Makes a Good Forecast?
It should be timely
It should be as accurate as possible
It should be reliable
It should be in meaningful units
It should be presented in writing
The method should be easy to use and understand in
USES OF FORECASTS
WHO USES FORECASTS
1. Marketing managers use sales forecasts to determine
i) Optimal sales force allocation
ii) Plan promotions and advertising
iii) Set sales goals
2. Production planners needs forecasts inorder to
i) Schedule production activities
ii) Order materials
iii) Establish invemntory labels
iv) Plan shipments
USES OF FORECASTS
3.Forecast can help the government by;
Developing an understanding of available funding.
Evaluating financial risk.
Assessing the likelihood that services can be sustained.
Assessing the level at which capital investment can be made.
Identifying future commitments and resource demands.
Identifying the key variables that cause changes in the level of revenue and
4. Production managers need long –range forecasts to make strategic
decisions about products process and facilities. They also need short- range
forecasts to assist them in making decisions about production issues.
Forecasting is an essential element of planning budgeting. It is needed where
the future financing needs are being estimated
Basically forecasts of future sales and their related expenses provide the firm
with the information needed to plan other activities of the business.
Emphase was on budgets which is the basic tool of planning and controlling
the activities of an organization. The process involves developing a sales
forecasts on its magnitude , generating those budgets needed by a specific
Once the budgets are developed it provides the management with a means of
controlling their activities and monitoring actual performance and
comparing it to budget goals.
Financial planning and forecasting are both extremely useful in the creation
of an operating budget. While financial planning helps determine the
strategies, goals, and operating procedures for a business, forecasting helps
determine the likely levels of sales and costs for a given time frame. When
combined, financial planning and forecasting allow business owners,
shareholders, or board members, to make informed decisions in nearly any
financial aspect. For instance, if it is part of the long-term financial plan to
give each employee a large bonus when they have worked for ten years,
forecasting can work these bonuses into the measurements of cost versus
sales, and return an accurate idea of whether the company will be able to
afford bonuses in a given year. By creating a system in which financial
planning and forecasting are measured and analyzed on a rolling,
continuous basis, a business can ensure that it is making financial decisions
based on the most up-to-date information
1. Financial management by Prassanna Chandra
2. Advanced Accountancy by S. M . Shukla
3. Financial forecasting tools & applications by Delta publish company
4. Management accounting by M.Y Khan and P. K. Jain.
5. Budgeting and Forecasting sales template by Jessica Ellis
6. Financial planning & forecasting prepared by Matt H Evans