Planning and budgeting, two essential tasks

Two of the most workload-intensive processes in the Planning (FP&A) and Controlling departments of companies are planning and budgeting.

These processes, performed by competent and experienced financial analysts, are one of the pillars of the financial stability of companies and the credibility of their forecasts, being very important for estimating the cash needs of corporations.

A whole company responsibility

In a planning process, the company uses all the departments that must be involved to estimate each of its lines of business, both income, expenses and cash flows.

To do this, the company will involve the sales departments, for example, to try to adequately estimate the company’s activity, both at the level of quantity of product or service sold and average price. This, informed by the people who know best the field, will serve to estimate realistic income figures.

The abovementioned will also help estimate the needs of raw materials for those companies that are dedicated to manufacturing, but also the needs of personnel to manufacture them. Companies in the service sector will use this information to estimate staffing needs, which will lead to an expense estimate. Generally, this type of expenses that will be known by the activity will be the company’s variable expenses.

For fixed or structural expenses, the company may have much greater margin of decision, so they will not be an output, like variable expenses.

In fixed expenses, the company must decide what amount of works needs, how much budget it dedicates to marketing, product development, innovation or collaborations with NGOs, for example.

To do this, you must involve all the departments of the company, so that they request a budget amount that they consider reasonable and useful to meet their objectives, involving the highest positions in the company to evaluate the suitability of those budgets, since they will be a prerequisite approval of future spending. Normally, if the developments that arise during the year are approved in the budget, they will be able to move forward. Only those who are extraordinary will have it more complicated, having to justify in a very reliable way the greater expense with respect to the budget.

Time frame

It is important to point out the time frame of these processes. Normally, the budget time frame is one year: due to the proximity in time, it can be estimated with greater precision. However, the needs of the following years are usually planned, usually up to 3 or even 5 years.

Main goals of planning and budgeting

It is important to note that the main objective of all planning and budgeting is to anticipate the company’s needs. If more activity is anticipated, staff will probably need to be hired, and this will require the Human Resources department to do more interviews and more hiring. This will obviously cause personnel expenses (due to new hires and perhaps reinforcements in the Human Resources department) to be higher, which will lead to more cash outflows. In the event that the company has greater capital needs than it anticipates receiving, it may have to resort to external financing or capital increases to finance this growth.

The same goes for the purchase of raw materials, for example. If it is considered that there will be a reduction in consumption of the product that the company sells, and the order for the necessary raw materials must be placed three months in advance, this will lead to reductions in orders and lower cash requirements.

Another key objective of this type of task is to evaluate the managers of the different departments. It will be important to evaluate (and even pay a variable salary) to the company’s commercial director, and there will be nothing better than evaluating him against the budget that he may even have prepared himself. In the event of discrepancies, he will be the one who must justify why the deviation occurred.

Furthermore, it must be taken into account, and normally all managers forget, that not only downward deviations are blameworthy. The upward deviations too, because they did not adjust to reality. Perhaps this led to poor resource planning, which lowered the quality of service or poor customer service. Or perhaps the manager wanted to be sure and under-planned to ensure his variable salary. This would lead to less ambitious objectives on the part of companies, allowing them to achieve higher sales figures.

Forecast and rolling forecast

A relevant concept when we discuss about planning and budgeting is forecast, which is the financial analysis that uses historical information, projections and other useful financial information to estimate the cash flows and future financial performance of a company or a specific project.

Added to this concept is the rolling forecast, which is another financial planning method based on the previous one, which is continuously updated to include new data and projections, in addition to doing so in shorter and more constant periods. This involves extending or “rolling” the period beyond the current period, incorporating new data as it becomes available, which allows a more up-to-date view of the needs and profitability of the company or the project.

Need for proper tools

In order to perform these tasks efficiently, not spend too many resources and be really useful, it is highly recommended to have a good team of financial analysts (chartered financial analysts, if possible) and good software tools, such as Oracle EPM, which provides a simple and quick deployment for users who want fast implementation with minimal IT support. Also, it provides a user-friendly and intuitive interface.

Control and post evaluation, back testing

An important task to be carried out by the controlling departments of companies is the evaluation of budgets and comparing them with reality. Was the company right or wrong when it came to budgeting? If there were deviations, where were the necessary resources produced, in the activity, in the price?

All of this, although it is usually not pleasant since many departments can be considered judged, will help with better estimation in future years. If it is done with transparency, without the will to judge errors, but with the firm will to improve, this will make the company go in the same direction and be more accurate in future estimates.