Financial Planning

The Core Idea of Financial Planning

Financial planning is the process of creating a financial blueprint for an organisation’s future operations. Its single most important objective is to ensure that the right amount of funds is available at the right time. If adequate funds are not available when needed, the firm cannot honour its commitments or execute its plans. On the other hand, if excess funds are available, they add unnecessary cost and may encourage wasteful expenditure.

It is crucial to understand that financial planning is not the same as financial management. Financial management is about choosing the best investment and financing alternatives by weighing their costs and benefits, with the goal of increasing shareholders’ wealth. Financial planning, in contrast, focuses on smooth operations by matching fund requirements with their availability, in light of the financial decisions already taken.

For example, if a capital budgeting decision is made to expand operations, the scale of expenses and revenues will increase. The financial planning process forecasts all the items likely to change, enabling management to foresee both the quantum and the timing of fund requirements. Likely shortages and surpluses are forecast so that necessary actions can be taken in advance.

The Twin Objectives of Financial Planning

Financial planning strives to achieve two main objectives:

1. To ensure availability of funds whenever required. This involves a proper estimation of funds needed for different purposes — whether for purchasing long-term assets or meeting day-to-day business expenses. It also requires estimating the time at which these funds must be made available, and specifying possible sources for them.
2. To see that the firm does not raise resources unnecessarily. Excess funding is almost as bad as inadequate funding. If there is surplus money, good financial planning puts it to the best possible use so that financial resources are not left idle and do not add to cost unnecessarily. Thus, financial planning seeks a proper matching of fund requirements and their availability.

The Process of Financial Planning

The process of estimating the fund requirement of a business and specifying the sources of funds is called financial planning. It takes into consideration the growth, performance, investments, and requirement of funds for a given period.

Financial planning includes both short-term and long-term planning:

• Long-term planning relates to long-term growth and investment, focusing on capital expenditure programmes.
• Short-term planning covers short-term financial plans called budgets.

Typically, financial planning is done for three to five years. For longer periods, it becomes more difficult and less useful. Plans made for periods of one year or less are termed budgets, which include a detailed plan of action. …