The ability to view the future is a superpower many in finance would love to possess. Our founders even named the company after the very desire. While you might not have the power of a magic eight ball, you can plan for future scenarios appropriately. Scenario Planning and forecasting go hand-in-hand, and are integral in the life of an FP&A professional.
Although there are many types of strategic planning processes, it is not as if you have to select and implement just one. Your planning should include multiple scenarios to prepare your company for strategic conversations and actions.
47% of CFOs say strategic planning is the most difficult activity to integrate with financial planning, according to Gartner’s 2022 Business Quarterly Survey.
If there was ever a doubt regarding the necessity for a business to plan for scenarios, the pandemic was certainly an eye-opener. Even with accommodative monetary policies to spur and sustain growth, uncertainty and volatility remain. This is why mature finance functions embrace planning and forecasting in conjunction with accounting. The insight from various scenarios provide a glimpse into future outcomes and can dictate the actions and strategies necessary for the ideal business outcomes. Remember, failing to plan is planning to fail.
To do this, accounting and financial planning and analysis (FP&A) should work in tandem. Starting with accounting, which tracks what has happened by accumulating the facts, reconciling and ensuring the accuracy of the company’s metrics.
Conversely, FP&A, is meant to give context to what occurred, forecast risks and opportunities, and plan for possible scenarios. To best prepare your company’s decision makers with actionable insight, your scenario planning and analysis should always include a best case, worst case and base case being the most likely outcome. In this post, we break down eight strategic planning processes finance should deliver on a regular basis.
FP&A is forward-looking; therefore, planning for multiple scenarios is necessary since the likelihood of only needing insight from one scenario would not be very informative. Planning is necessary to guide your company towards being proactive, not reactive to outcomes.
A common situation you might encounter with multiple scenarios is the impact hiring a given amount of sales staff might have on new deals and revenue. For example, if it takes a new account executive three months to ramp you could model out the following scenarios a CFO or management team would be interested in:
These questions are fundamental to the outlook of the business and how management teams approach their strategies. It’s why the best finance professionals have a business mindset to best understand the demands and implications of the scenarios.
To establish driver-based planning in your planning and forecasting process, you need to first identify the business drivers of your company. This will vary depending on your industry and goods and services you provide, but a great starting point is to focus on financials such as revenue, expenses and cash flow.
Driver-based planning is ideal for what-if scenario planning, where adjustments to your assumptions are reflected in your forecasts across the board. Starting at the high-level will resonate most with management, and the subsequent actions required can be strategically carried out at the department or business unit level.
For example, making any incremental changes to your overall cost of goods sold (COGS) will have a significant impact on your margins. As your expenses decrease, your net income and margin will inevitably increase. If you were to plan for a 5 or 10 percent decrease in COGS and a 5 percent decrease in expenses, you should model out the potential increase in your margins and net income.
A centralized FP&A Platform simplifies this process greatly in comparison to Excel. Data is pulled directly from your sources of truth, such as your ERP, CRM, internal Platform and other data warehouses, and integrated throughout your metrics. The automated stitching of the data means adjustments to your assumptions are immediately realized across all of your management reports, department-level budgets and forecasts.
Capital Expenses (CapEx) are expenditures that are beneficial to the future of the company, but aren’t fundamental requirements. Your CapEx will vary greatly based on industry, where a CapEx example for a software company might be cloud-based infrastructure, and a manufacturer’s CapEx would be additional equipment and tools to create widgets. These indirect expenses are drivers of future growth, and these types of expenditure decisions heavily involve the finance function, which has the means to forecast the various scenarios.
For example, the management team of a manufacturing company is considering expanding its capacity in the next quarter. One scenario to plan for is the benefit of purchasing two additional pieces of equipment to produce more widgets, which cost $100,000 each.
Assuming they are the same pieces of equipment, you can use previous revenue totals, divided by the number of pieces of equipment in operation to determine a revenue per equipment. From there you extrapolate that new equipment will add $50,000 each in annual revenue. Although it will require two years to realize an equivalent return on the costs incurred by the equipment expense, the potential net income in the following years would increase.
It’s also important to consider the variables to operate the new equipment. Will it require additional headcount or tooling to maintain — and how might that impact margin? Is there potential for greater capacity and utilization of the equipment to maximize output? Having insight into cash flow and planning for the impact of a decision across your metrics provides the necessary clarity to ensure the most desirable outcomes for the business.
As the name suggests, Operating Expenses (OpEx) are expenditures necessary for the operation of your company. Common examples of OpEx include labor costs, advertising and other direct expenses.
Going back to our additional sales hire scenario, one operating expenditure scenario is to model how three new sales people impact our revenue to full-time employee (FTE) ratio. Having a strategic plan to answer a question like this is essential to understanding how certain choices might impact your company’s annual operating budget, revenue and margin.
Continuous monthly planning emerged as a developing trend for Finance Functions looking to always be planning. Planning monthly is a best practice, which our finance experts suggest for most companies. We advocate for an accountability-based planning and forecasting process, in which monthly actuals are compared against the annual budget targets. Nonetheless, continuous scenario planning and forecasting should never be a replacement for an annual budget.
As painful as the budgeting process might be for some, it is a necessity for high-performing companies to do annually. Paring an annual budget with monthly forecasting provides necessary insight into the current performance as it relates to the annual budget and holds department heads accountable. If there is a significantly slow pacing compared to the annual budget projections, budget owners can make necessary mid-year adjustments to course correct.
None of this, however, is feasible without everyone operating from the same scoreboard. The annual budget and monthly actuals variance analysis are metrics comprising the scoreboard to ensure everyone is working towards the same objectives.
Having trouble with a painful budgeting process that left battle scars and sleepless nights? Learn about the ways you can curate a more efficient, pain-free budgeting process.
Also known as workforce planning, headcount planning is necessary to determine how additional employees could impact the top and bottom line. As companies navigate hiring during The Great Resignation, where 2021 saw 47.8 million employees resign (according to The Bureau of Labor Statistics), compensation packages, benefits and total cost of employment rose as core inflation breached 8 percent.
These calculations must be included in your headcount planning, and requires access to employee details from your HR system, like Insperity, ADP or Ultimate Software. You can leverage the current employee data to model out additional hires at comparable salaries to measure the change to the budget and expenses.
It’s common for headcount planning to occur during the same time as the annual budgeting process, as departments might request specific hiring needs and finance teams collect the necessary information to budget accordingly. People are the foundation of any company, and hiring quality talent helps companies meet or exceed their targets.
However, department heads aren’t always fixated on the big picture about expenses and margin. Collaborating with business units and department heads provides visibility into the outcomes of adding a specific number of employees, which will dictate strategies and hiring pipeline needs for HR to incorporate.
Full-time employee (FTE) planning is an additional layer building off of headcount or workforce planning. As companies scale, hiring additional FTEs becomes a race to keep pace with customer demand and growth initiatives. Without high-quality people managing processes, developing and executing strategies, the ability to grow is stymied.
The most utilized metric in this regard is revenue per FTE. Revenue per FTE is calculated by:
Annual Revenue (or trailing 12 month period) / Total number of full-time equivalent employees = Revenue per FTE
So a company with $10,000,000 annual revenue and 100 full-time employees, will have a revenue per FTE of $100,000. This metric is important for finance and management to evaluate the salary implications of new hires. Depending on the organization structure and hiring needs, some employees may fall under the average revenue per FTE, while others might exceed it. If management is satisfied with the current level, you’ll need to balance out the hires based on the salary implications, so as revenue increases, so too can your salary levels as needed.
Although last on this list, agile business planning is not just a process to include in your scenario analysis, but a mindset that should permeate through your finance function. Staying ahead of the competition is a must for any business to sustain and thrive.
Agility is a reflection of efficiency. If you have to spend hours each day manually exporting data from various sources or chasing down system gatekeepers to get access to certain data, your ability to deliver agile planning scenarios is dramatically limited.
When management requires multiple scenarios for a given endeavor, the longer you take to develop your models and deliver results, the longer the potential positive impact. In an ever-changing environment, you need to remain agile and flexible to quickly create multiple scenarios using reliable data as quickly as possible to facilitate decision making.
While multi-scenario, driver-based and agile planning seem like straightforward concepts and a goal for many, it can seem out of reach for Finance Functions that lack the resources and tools to efficiently produce scenario analysis. Unstructured data presents finance with inefficiencies, where tedious data wrangling becomes a time-consuming, mind-numbing daily routine.
Remember, your scenario analysis is intended to inform budget owners and management teams. For your strategic planning to be actionable, it needs to be timely and the data you use must be accurate. Structured data sourced from your systems can be automatically extracted and centralized for planning in FP&A Software like the FutureView Platform, so you’re always confident you are using the latest, dynamically updated data.
Once you have the tools to efficiently plan for and answer these questions, you can adjust the input variables as needed for repeatable processes as well as ad-hoc requests to prepare the company for any scenario.