Corporate Performance Management
    A practical approach to Cash Flow Planning

    In this first article we will discuss the financial planning process. The article will consist of a general introduction to the planning model, with reference to three distinct design types, and a series of examples including some practical tips that, though generic, will refer to the best practices adopted in real-life projects.

    Cash Flow: what is financial Planning

    In the case of financial planning we are referring to a simulation model of cash flow or net financial position, in other words a cash flow statement that is comparable to an account statement of any kind of bank account, where revenue and expenses are planned and obtained both from forecasted  income balances and from the final balance of credits and/or debits at the beginning of the simulation, such as trade credit/debit, employee expenses or VAT expenses. This type of simulation is a typical process of the  finance area and of great interest to many business entities, regardless of their industry (CPG, Retail, Utilities, Construction, Manufacturing, etc.). The following indicators are used by the Finance Office to obtain information to help create the best business strategy to be used:

    • financial sustainability of a new investment;
    • the cost of debt, not optimised for an inaccurate coverage maneuver;
    • the loss of opportunities caused by an incorrect optimization of hedging, such as the lack of or late investment of all kinds of financial resources;
    • medium-long term leverage analysis;
    • the assessment of the sustainability of different financial coverage maneuvers;
    • profitability of a new project.

    Based on my experience the financial planning process can be divided into three distinct models:

    1. Collection of the net financial position by legal entity and consolidation of the same at the level of a corporate group and/or sub-group;
    2. Short-term financial planning;
    3. Medium-long term balance sheet and financial planning.

    Hereafter each  model shall be analysed in detail.

    Net financial Position

    The net position collection model is a distributed rolling process, in which the finance manager of each legal entity of the group is called upon to indicate the weekly retail net position of the forecasted future periods.Typically, this simulation process is done every month,  and it extends over a not too large simulation range, from three to six months rolling.

    The goal of this process is the same as the following one, to optimize the short-term financial maneuver. In this case, the Finance Office of each legal entity is required to enter the local net position manually, and then proceed with the consolidation process. Therefore, giving back a net position to the group.

    In addition to the time detail of data collection, ie the week, it is required to define the cash inflows and outflows by value and by type of movement:

    • Operating income or expenses: domestic or foreign customers, suppliers, labour costs, new investments, etc.
    • Financial income or expenses: purchase or sale of equity investments, factoring, repayment of loans, bank charges, etc.

    Within the Inputs it is required to provide the net financial start of the simulation which, if available, must correspond to the closing date of the previous month, or to the last pre-closing forecast.

    Lastly, in order to be able to properly disclose and to provide an additional consolidated net position reporting to the value of the group  and/or sub-consolidation, the intercompany income and expenses must be explicitly explained and reconciled in a weekly report.

    Model difficulty:

    The difficulty of this particular model does not coincide with the purely operational activity, which consists in a pure data collection, but in the construction of a distribution process with well-defined  levels and dead line deliveries (at the beginning of each month) and in the reconciliation of intercompany statements.

    Short-term financial planning

    The short-term financial planning model is a rolling process in which the bank account is simulated on the basis of a detailed daily and/or  weekly movement of income and expenses . This process, centred on a weekly simulation of the single net position and it extends over a period of time not exceeding three months rolling.

    The short-term financial planning differs from the previous methodology, because it gives  more in-depth details in the simulation  and it is done daily for each and every bank account by considering the following input, which once loaded from the original subsystems (ERP, treasury, budget system, etc.), can be corrected or more generally modified manually:

    1. Bank balance at the beginning of the simulation
    2. Bill-book for clients/suppliers
    3. Open orders from clients
    4. Effect of  P&L forecasting  for the remaining items of major importance – personnel, utilities, etc.
    5. Other extraordinary assets – VAT payment, short-term financing, factoring, etc.

    The main objective of this type of simulation is to optimize the cash management maneuver in relation to existing credit lines and commitments by anticipating or postponing cash withdrawals and/or payments whenever possible in order to obtain the best “financial fit”. Additionally, adding to the previous points the calculation of financial charges and earnings, simulated per day and per current account, provides a complete picture of the daily trend of the fund, making it possible to highlight any problems in the balance between active and passive current accounts and find a solution by manually balancing available liquidity.

    Model difficulty:

    The difficulty of this particular model lies in obtaining a flexible and fast tool that allows one to perform a light simulation which can be repeated within the same month with the help of “what-if” analysis tools.

    Medium-long term balance sheet and financial planning

    The medium/long-term balance sheet and financial planning model is a process based on budgeting, forecasting or multi-year planning that starts from the monthly balances of the forecast income statement and the simulation of the balance sheet. The monthly balance sheet and the daily cash flow are planned by using the following processes:

    • DSO collection orders or DPO payment.
    • Billing rules in case of different expenses, such as Insurance, annual advance, electricity, postponed bimonthly etc.
    • Double-entry flow routines:
      • Step 1: from the  balance to the counterbalance- Revenue from Customers to Trade Credits – Valorisation of any accrued/deferred expenses based on the applied billing rule and the calculation of the indirect tax.
      • Step 2: from the balance sheet to cash accounting, through the application of DSO or DPO rules – Customer Invoice Credits .
      • Disbursement rules for initial balance sheet items – customer/supplier bill-book, manual disassembly, DSO or DPO rules, etc.
      • Tools for simulating the financial impact of new investments.
      • Simulation tools for the financial effect of the loans.
      • Methods of calculating charges and income due to financial maneuvering.
      • Direct tax calculation tools

    Unlike the previous cases which are focused on the single net position and characterized by frequent simulation, this latter process is typically carried out on an institutional timeline and embraces both the statement of income, the balance sheet and cash flow statement. Indeed:

    • The forecasted income statement is completed by amortizing new investments, financial charges/income related to loans, financial charges/income relating to the net position and direct taxes.
    • The forecasted balance sheet is calculated on a monthly basis, starting from an initial balance sheet, forecasted income and financial flows, new investments and financing, from the calculation of taxes to extraordinary movements, as a shared increase.
    • The direct cash flow is produced by using the daily retail, from all movements of income, the initial balance sheet and extraordinary features, such as the payment of earnings per share.

    The details of financial and balance sheet planning can correspond to the legal entity or, in some cases, the cost centre or the contract. Arrangements or payment rules can be defined by item of income or in further detail such as, for example, the combination of the item of income and the customer or supplier’s information (Client A Revenue for Customer A is collected at 30 days Customer Billing Customer B balance is collected at 60 days).

    Model difficulty:

    This model is more articulated than in previous cases, and its difficulty consists in finding a tool that can cover the features highlighted above to help make a thorough analysis and modelling of the process.


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