Long- and Short-Term Financial
Planning
Chapter Number Chapter 4
Subject COF
Long- and Short-Term Financial Planning 1
, 📖 Table of Contents
Outline
4.1 The Financial Planning Process
LONG-TERM (STRATEGIC) FINANCIAL PLANS
SHORT-TERM (OPERATING) FINANCIAL PLANS
4.2 Measuring the Firm’s Cash Flow
DEPRECIATION
Depreciable Value of an Asset
Depreciable Life of an Asset
DEPRECIATION METHODS
DEVELOPING THE STATEMENT OF CASH FLOWS
Classifying Inflows and Outflows of Cash
Preparing the Statement of Cash Flows
Interpreting the Statement
FREE CASH FLOW
4.3 Cash Planning: Cash Budgets
THE SALES FORECAST
external forecast
internal forecast
PREPARING THE CASH BUDGET
Total Cash Receipts
Total Cash Disbursements
Net Cash Flow, Ending Cash, Financing, and Excess Cash
4.4 Profit Planning: Pro Forma Statements
4.5 Preparing the Pro Forma Income Statement
CONSIDERING TYPES OF COSTS AND EXPENSES
4.6 Preparing the Pro Forma Balance Sheet
4.7 Evaluation of Pro Forma Statements
4.1 The Financial Planning Process
Two key aspects of the financial planning process are cash planning and profit
planning.
Cash planning involves preparation of the firm’s cash budget, a tool that
managers use to ensure they put excess cash to work or have outside financing
lined up when the firm is not generating enough internal cash to cover expenses.
Long- and Short-Term Financial Planning 2
, Profit planning involves preparation of pro forma statements, which project
what a firm’s balance sheet and income statement will look like in future years.
📍 The financial planning process begins with long-term, or strategic,
financial plans. These plans, in turn, guide the formulation of short-term, or
operating, plans and budgets.
LONG-TERM (STRATEGIC) FINANCIAL PLANS
📍 Long-term (strategic) financial plans lay out a company’s financial
actions and the anticipated effect of those actions over periods ranging
from 2 to 10 years.
→ These plans reflect the company’s strategies for how it will compete in its markets
to create value for shareholders.
These plans involve collaboration across all areas of the organization and
encompass various aspects like investments, marketing strategies, workforce
needs, and more. They serve as a roadmap for significant investments, project
when these investments will yield returns, and detail how marketing efforts will
drive product and service promotion.
Many companies follow a 5-year strategic planning process, revising it annually to
adapt to new information. Companies with high operating uncertainty or short
production cycles typically opt for shorter planning horizons.
From a financial perspective, long-term plans serve two primary objectives.
1. They outline how the company intends to create shareholder value by offering
sought-after products and services.
2. They help managers assess whether external capital, through stock sales or
borrowing, is needed or if the company can generate enough cash flow to
manage debt, pay dividends, or buy back shares.
Essentially, long-term plans shape investment and financing decisions, with annual
budgets providing intermediate goals to support these long-term strategies.
SHORT-TERM (OPERATING) FINANCIAL PLANS
Long- and Short-Term Financial Planning 3
, 📍 Short-term (operating) financial plans specify short-term financial
actions and the anticipated effect of those actions.
Short-term financial plans cover a 1- to 2-year period and detail short-term financial
actions and their expected outcomes. These plans rely on inputs like sales forecasts
and various operational and financial data, and they generate outputs such as
operating budgets, cash budgets, and pro forma financial statements.
The process of short-term financial planning involves sales forecasting, production
planning, resource allocation, cost estimation, pro forma income statement creation,
cash budgeting, and pro forma balance sheet development. These plans primarily
focus on cash and profit planning from the perspective of financial managers.
4.2 Measuring the Firm’s Cash Flow
DEPRECIATION
📍 Depreciation: A portion of the costs of fixed assets charged against
annual revenues over time.
Long- and Short-Term Financial Planning 4
