Financial Planning Tools and Concepts

• Recall the steps in planning as follows:

A. Set goals or objectives.
B. Identify Resources.
C. Identify goal-related tasks.
D. Establish responsibility centers for accountability and timeline.
E. Establish the evaluation system for monitoring and controlling.
F. Determine contingency plans.
• Characteristics of an Effective Plan.
• In planning, the goal of maximizing shareholders’ wealth must always be put in mind.
• The following criteria may be used for effective planning:
- Specific – target a specific area for improvement.
- Measurable – quantify or at least suggest an indicator of progress.
- Assignable – specify who will do it.
- Realistic – state what results can realistically be achieved, given available resources.
- Time-bound – specify when the result(s) can be achieved. (Doran, G. T. (1981). "There's a S.M.A.R.T. way to
write management's goals and objectives". Management Review (AMA FORUM) 70 (11): 35–36.)

1. Sales Budget
- The most important account in the financial statement in making a forecast is sales since most of the
expenses are correlated with sales.
- Given the importance of the sales forecast, the financial manager must be able to support this figure with
reasonable assumptions. The following external and internal factors should be considered in forecasting sales:

Table

Other internal factors:

Pricing; promotion activities, distribution area/ outlet coverage; production capacity; human resources;
management style of managers; reputation; and network of the controlling stockholders, and financial
resources of the company.

External and internal factors influencing sale, among others:

- Macroeconomic Variables (external)

Macroeconomic variables such as the GDP rate, inflation rate, and interest rates, among others play an
important role in forecasting sales because it tells us how much the consumers are willing to spend (disposable
income). A low GDP rate coupled by a high inflation rate means that consumers are spending less on their
purchases of goods and services. This means that we should not forecast high sales of the periods of low GDP.

- Developments in the Industry (external)

Products and services which have more developments in its industry would likely have a higher sales forecast
than a product or service in slow moving industry. Consumer trends are always changing, thus the industry
should be competitive to be able to appeal to more customers and stay in the market.

- Competition (external)
Suppose you are selling bread and you know that each person in your community eats an average of one loaf
of bread a day. The population of your community is 500 people. If you are the only person selling bread in
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 your town, then your sales forecast is 500 units of bread. However, you also have to take account your
competition. What if there are 4 other sellers of bread? You will need to have to divide the sales between the 5
of you. Does this mean your new forecast should be 100 units of bread? Not necessary. You should also know
the preference of your consumers. If more of them would prefer to buy more bread from you, then you should
increase your sales forecast.

- Production Capacity and man power (internal)

Suppose that you have already evaluated the macroeconomic factors and identified that there is a very strong
market for your product and consumers are very likely to buy from you. You forecasted that you will be able to
sell 1,000 units of your product. However, you only have 20 employees who are able to produce 20 units each.
Your capacity cannot cover your expected demand hence, you are limited by it. To be able to increase capacity,
you should be able to expand your operations.

Implications if sales budget is not correct. If understated, there can be lost opportunities in the form of forgone
sales. If it is too optimistic, the management may decide to unnecessarily increase capacity or hire more
employees and end up with more inventories.

2. Production Budget •
- A production budget provides information regarding the number of units that should be produced over a
given accounting period based on expected sales and targeted level of ending inventories. - It is computed as
follows

Example (EASY):

- [A] Company forecasts sales in units for January to May as follows:

- Moreover, [A] Company would like to maintain 100 units in its ending inventory at the end of each month.

- Beginning inventory at the start of January amounts to 50 units.

- How many units should [A] Company produce in order to fulfil the expected sales of the company?

Answer:

3. Budgeting Cash

- Operations budget refers to the variable and fixed costs needed to run the operations of the company but are not
directly attributable to the generation of sales.
- Examples of this are the following:
• Rent payments
• Wages and Salaries of selling and administrative personnel
• Administrative Costs
• Travel and representation expenses
• Professional fees
• Interest Payments
• Tax Payments
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4. Cash Budget
Cash budget aims to do.
- For a business enterprise, having the right amount of cash is important since cash is used to make payments for
purchases, for operational expenses, to creditors, and for other transactions.
- The cash budget forecasts the timing of these cash outflows and matches them with cash inflows from sales and other
receipts. The cash budget is also a control tool to monitor the way the company handles cash.

Below is the general form of Cash Budget

• The following are the steps in formulating a cash budget:

A. Form the sales forecast,

Identify how much would be collected in the cash budget period. Sales may be made in cash or for credit. Cash sales are
translated to cash at the point of sale while credit sales are collected depending on the credit period. Credit periods may
range from 10 days to more than a month depending on the strategy of the company. Recall from Lesson 2: Financial
Statement Analysis the implications of the company’s credit policy.

- Continuing from previous example, assume selling price is PHP100/unit. Sales for each month are expected to be
collected as follows:
‣Month of sales : 20%
‣A month after sales: 50%
‣2 months after sales: 30%
- How much is total receipts from sales (DIFFICULT)?

B. Identify other receipts.

- Examples:
‣interest received
‣return on principal investments
‣proceeds from sale of non-operating assets
‣issuance of capital stock
‣proceeds from borrowings

- Add these receipts to the collections from sales to get to total receipts.
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C. From the Production Budget, identify how much of the purchases made will be paid by the company on the cash
budget period. Like sales, purchases may be made in cash or on credit depending on the supplier’s credit terms. –

Continuing from previous example:

‣Assume that cost per unit is PHP50.
‣All purchases this month are paid the following month. How much is total cash disbursements for purchases
(AVERAGE)?

D. From the operations budget, identify which expenses will be paid in cash during the cash budget period.
- The following expense items will be paid based on the following periods:
‣Rent payments: Rent of PHP5,000 will be paid each month.
‣Wages and salaries: Fixed salaries for the year are PHP96,000, or PHP8,000 per month. Wages are estimated as 10% of
monthly sales.
‣Tax payments: Taxes of PHP25,000 must be paid in April.

E. Identify all other cash payments to be made.

– Examples:
‣Fixed-asset purchases in cash
‣Cash dividend payments
‣Principal Payments
‣Repurchase of common stock
‣Purchase of stock/bond investments

- It is important to recognize that depreciation and other noncash charges are NOT included in the cash budget.
- The following items will be paid based on the following periods:
‣Fixed-asset outlays: New machinery costing PHP130,000 will be purchased and paid for in April.
‣Interest payments: An interest payment of PHP10,000 is due in May.
‣Cash dividend payments: Cash dividends of PHP20,000 will be paid in January.
‣Principal payments (loans): A PHP20,000 principal payment is due in February.

F. Match the receipts and disbursements on the periods they become collectible and payable, respectively.

G. Set a minimum required cash balance. This balance is maintained in case contingencies arise. Recall from the steps in
planning that we should also plan for contingencies.

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H. If the net cash flow is above the minimum cash balance, the company is in excess cash and may consider putting it in
short term investments. If it is below, the company should make a short term borrowing during that period.

- Moreover, [A] Company has a beginning cash balance of PHP80,000 and would like to maintain an ending cash balance
of PHP100,000 per month. Prepare [A] Company’s Cash Budget for January to May. Prepare a cash budget (DIFFICULT).

- Evaluating the Cash Budget:

‣If the ending cash balance after payment of all required disbursements is less than the required ending balance, the
company needs to borrow additional cash from short term borrowings to meet its required ending balance. Should the
ending cash balance exceed the company’s minimum cash requirement the next period, the company may be able to
repay the loan plus accrued interest.

‣Should the Company have excess cash above its required maintaining cash balance, the company may invest this cash
on short term investments so that it will have an opportunity to earn additional profits. If the company’s cash balance
would then fall below its minimum cash requirement, the company may withdraw the investment to be able to meet
the required cash balance.

5. Projected Financial Statements (60 mins)

1. Forecast Sales
2. Forecast cost of sales and operating expenses
3. Forecast net income and retained earnings
4. Determine balance sheet items that will vary with sales of whose balance will be highly correlated with sales.
5. Determine payment schedule for loans.
6. Determine external funds needed.
7. Determine how external funds needed will be financed.

• Discuss the purpose of projected financial statements

- Projected financial statements is a tool of the company to set an overall goal of what the company’s performance and
position will be for and as of the end of the year. It sets targets to control and monitor the activities of the company. The
following reports may be forecasted:
‣Projected Income Statement
‣Projected Statement of Financial Position
‣Projected Statement of Cash Flows

• Provide the learners a historical financial statement that they would use to make their forecast. You may use your own
set of financial statements or the one found below.

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Case Study
Sweet Beginnings Co.
Sweet Beginnings Co. is currently the most talked about clothing shop in town. Not only was the shop filled with
customers every day, but they have been a major supplier of clothing to other shops. Ms. Muff, the owner of the shop
has remained confident that the operations will go smoothly until one early morning when there had been problems
with the delivery that was supposed to leave the shop. The clothes which were scheduled to be delivered were already
packed and waiting on the loading bay. It was past 30 minutes of the scheduled delivery and no delivery truck was in
sight. Ms. Muff decided to call the delivery contractor to find out what was taking the trucks so long.

“You’ve been one month late from your scheduled payment for our delivery service,” the frustrated delivery contractor
said. “We’ve been sending you notices every day for the past week and your company doesn’t seem to be responding.
Unless you will be able to pay the amount due by this morning, we will not send any truck to deliver your goods.
Ms. Muff was astounded to hear of the unpaid fee. To clear up the mishap, Ms. Muff hurriedly approached the
company’s accountant, Mr. Phil in hopes of drawing cash from the company. Mr. Phil regrettably reported that the
company does not have cash to pay the delivery contractor. In fact, the company has been consistently borrowing short
term funds for three months from the start of the year. The company has yet to pay any of these borrowings and Mr.
Phil informed Ms. Muff that the short term lenders have been reluctant to lend money at this point.

As a result, the shipments will not be delivered to the customers until the company figures out how to pay their
delinquency with the delivery contractors. The outside customers have been understanding enough to acknowledge that
there will be a delay on the deliveries for this day. However, too much delay may frustrate these customers and may
cause bad reputation to the company. Ms. Muff is looking into taking a loan from Fresh Rural Bank to pay for the
delinquent fees.

The bank manager of Fresh Rural Bank has requested a meeting with Ms. Muff to discuss the financial condition of
Sweet Beginnings Co. and plans for restoring its liquidity.

Outraged, Ms. Muff told Mr. Phil, “Why don’t we have any balance in our cash account? Our company has been very
profitable but we seem to be depending on loans to finance our operations. We need to figure out what is going wrong.
Otherwise, we may lose our customers.”

Company Background
Sweet Beginnings Co. was founded in 20X0 as a manufacturer of summer clothes. The first shop was located near a calm
beach with sky blue waters and powdery sands. Families and tourist would usually flock to the beach on summer
weekends which gave the clothing shop foot traffic and gained the market’s attention. Due to its high quality products,
the clothing store became a popular stop shop for vacation goers.

In 20X1, a known blogger fancied the clothing line displayed in Sweet Beginnings and published an article promoting the
shop. This earned the company nationwide publicity which led to other clothing stores offering shelf space for Sweet
Beginning’s brand. In 20X3 it expanded its garment productions due to the increasing demand of their products. To this
day, the company maintained its position as a summer clothing store since this line has brought its brand equity.

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Clothing Market
The demand for clothing was characterized by a stable year-to-year growth. Unit demand increased with both
population and individual income. However, the seasonal character of the company’s product has resulted to cyclical
sales.

Competition among other clothing shops in the town is unlikely to clash with the company’s sales growth. The company
believes it will maintain its average growth rate for sales for the succeeding years.

Sales Forecast
Sweet Beginnings Co. had been consistently profitable. Moreover, sales had grown at an annual rate of 18 percent in
20X5. Gross sales were projected to grow at 20% of the sales of the same months on the first quarter, 30% of sales of
the same months on the second quarter and 25% of sales of the same months on the third and 4th quarter. This growth
rate is expected to be constant until 20X8.

Financial Information
To prepare a forecast on a business-as-usual basis, Ms. Muff and Mr. Phil agreed on various parameters. Cost of goods
sold would run at 73.7% of gross sales—a figure that was up from recent years because of increasing price competition.
Operating expenses would be about 6% of sales —also up from recent years to include the addition of a quality-control
department and two new sales agents. Depreciation is at 10% of cost of property, plant and equipment (PPE). Additions
during 20X6 is expected to amount to PHP1,200,000 which will be paid on January 20X7. The Company’s policy is to
expense full year’s depreciation on the date of purchase. The Company expects inventory level for 20X6 to be the same
as 20X5.

The company’s income tax rate was 30% paid for each quarter in May, August, November, and April of the following
year, respectively. The company opts to use optional standard deduction of 40% from the company’s gross profit to
arrive at the taxable income for the quarter.
The delivery contractor’s fee (at 3% of sales) was collected at the loading gate as trucks left to make deliveries to
customers. Ms. Muff proposed to pay dividends of PHP450,000 per quarter. For years Sweet Beginnings had paid high
dividends.

Mr. Phil observed that sales collections in any given month had been running steadily at the rate of 40% of the last
month’s sales plus 60% of the sales from the month before last. The value of raw materials paid in any month
represented on average 55% of the value of sales expected to be made two months later. Wages and other expenses in
a given month were equivalent to about 34% of purchases in the previous month. As a matter of policy, Ms. Muff
wanted to see a cash balance of no less than PHP640,000.

Sweet Beginnings Co. had a line of credit from Fresh Rural Bank, where it also maintained its cash balances. Fresh Rural
Bank’s short-term interest rate was currently 16%. Return on investment for short term investments is at 12%.

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Problem
Ms. Muff needs to prove that the company will be liquid enough to pay for its loans with Fresh Rural Bank so that it will
be allowed to ask for another loan to meet the delivery contactor’s fee. How should Ms. Muff explain to First Rural Bank
that the company is in a good financial position? Moreover, should the company prove to have financial liquidity
problems, what can to company do to cope with their need for cash?

Learner’s Guide

1. Assume that you are Ms. Muff and you will be presenting to the Fresh Rural Bank. Convince the bank that you are in a
good financial position evidenced by your cash budget and projected financial statements.

2. Prepare a monthly cash budget for Sweet Beginnings Co. for the year ending December 20X6. Start with the monthly
sales forecast (Tip: Forecast sales up to Feb 20X7).

3. The following table format may be used for the cash budget:

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Page 9 of 14
5. Forecast Financial Statements. Start with income statement.

Format of Paper/Presentation

Prepare a paper containing the following: 1. Letter to Fresh Rural Bank explaining that the company is in a healthy
financial position and has capacity to pay loans when they come due.
2. Cash Budget for 20X6 in good form.
3. Projected Financial Statements for 20X6 in good form.
4. Supporting computations.

Presenting Group
Prepare a 20-minute presentation using the following outline
•Case Background: Brief explanation of the problem of the Company.
•Methodology: Explain why the cash budget and projected financial statements was made in order to help the company
in their dilemma.
•Budgets and Projections: Present the resulting budgets and implications of the figures that were derived. Explain in
class how you were able to derive your figures.
•Conclusion: Was the company performing well based on the budgets and projections and will it be able to sustain its
operations?

Critic Group
Take the point of view of Fresh Rural Bank. From the presentation of Budgets and Projections, ask questions that will
challenge the presenting group’s conclusions. The critic may also ask clarifications on the presentation or comment on
how differently they did their analysis.

Expected Output Evaluation

Critera
4 - Outstanding
3 - Competent
2 - Emerging
1 – Needs Improvement
0 – Objectives not met

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https://www.thebalance.com/what-is-gdp-definition-of-gross-domestic-product-3306038

By Kimberly Amadeo
Updated November 10, 2017
Gross domestic product is the best way to measure a country's economy. GDP is the total value of everything produced by all the
people and companies in the country. It doesn't matter if they are citizens or foreign-owned companies. If they are located within
the country's boundaries, the government counts their production as GDP.
How to Calculate Gross Domestic Product
The components of GDP are:
Personal Consumption Expenditures plus Business Investment plus Government Spending plus (Exports minus Imports).
Now that you know what the components are, it's easy to calculate a country's gross domestic product using this standard formula:
C + I + G + (X-M).
Types
There are many different ways to measure a country's GDP. It's important to know all the different types and how they are used.
Nominal GDP: This is the raw measurement that includes price increases. The Bureau of Economic Analysis measures nominal
GDP quarterly. It revises the quarterly estimate each month as it receives updated data. In 2016, the nominal U.S. GDP was $18.625
trillion.
Real GDP: To compare economic output from one year to another, you must account for the effects of inflation. To do this, the BEA
calculates real GDP. It does this by using a price deflator. It tells you how much prices have changed since a base year. The
BEA multiplies the deflator by the nominal GDP. The BEA makes the following three important distinctions.

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Income from U.S. companies and people from outside the country are not included. That removes the impact of exchange rates and
trade policies.
The effects of inflation are taken out.
Only the final product is counted. For example, a U.S. footwear manufacturer uses laces and other materials made in the United
States. Only the value of the shoe gets counted. The shoelace does not.
Real GDP is lower than nominal. In 2016, it was $16.716 trillion. The BEA provides it using 2009 as the base year in the Interactive
Tables, Table 1.1.6. Real Gross Domestic Product Chained Dollars.
Growth Rate: The GDP growth rate is the percent increase in GDP from quarter to quarter. It tells you exactly how fast a country's
economy is growing. Most countries use real GDP to remove the effect of inflation.
The BEA calculates the U.S. growth rate. It provides current GDP statistics monthly. For the forecast, see U.S. GDP Growth. Compare
it to the business cycle phases in U.S. GDP by Year Since 1929.
GDP per Capita: This is the best way to compare gross domestic product between countries. That's because some countries
have enormous economic outputs because they have so many people. To get a more accurate picture, it's helpful to use GDP per
capita. This divides gross domestic product by the number of residents. It’s a good measure of the country's standard of living. The
2016 U.S. GDP per capita was $57,300.
The best way to compare gross domestic product by year and between countries is with real GDP per capita. This takes out the
effects of inflation, exchange rates and differences in population.
What It Tells You About the Economy
The different measures of GDP are great tools for comparing the economies of other countries or how an economy changes over
time. When economists talk about the “size” of an economy, they are referring to GDP. In 2007, the United States lost its position as
the world's largest economy.
The growth rate measures whether the economy is growing more quickly or more slowly than the quarter before. If it produces less
than the quarter before, it contracts and the growth rate is negative. This signals a recession. If it stays negative long enough, the
recession turns into a depression. As bad as a recession is, you also don't want the growth rate to be too high. Then you'll get
inflation. The ideal growth rate is between 2 percent to 3 percent.
How It Affects You
The GDP impacts personal finance, investments and job growth.
Investors look at the growth rate to decide if they should adjust their asset allocation. They also compare country growth rates to
decide where the best opportunities are. Most investors like to purchase shares of companies that are in rapidly growing countries.
The Federal Reserve uses the growth rate to decide whether to implement expansionary monetary policy to ward off recession
or contractionary monetary policy to prevent inflation. For more, see The Federal Funds Rate and How It Works.
Let's say the growth rate is speeding up. The Fed raises interest rates to stem inflation. In this case, you would want to lock in a fixed-
rate mortgage. You know that an adjustable-rate mortgage will start charging higher rates next year.
If growth slows down or is negative then you should dust off your resume. Slow economic growth usually leads to layoffs
and unemployment. Thatcan take several months. That's because it takes time for executives to compile the layoff list and exit
packages.
You could use the GDP report from the BEA to look at which sectors of the economy are growing and which are declining. You can
apply for jobs in growing sectors. Even during the 2008 financial crisis, health care industries continued to add jobs. This report
also helps you determine whether you should invest in, say, a tech-specific mutual fund versus a fund that focuses on agribusiness.
Difference From GNP
For the value of everything produced by a country's citizens, no matter where they are in the world, you should look at gross
national product. The World Bank now calculates gross national income instead, but the differences are insignificant.
https://www.investopedia.com/terms/g/gdp.asp

Gross Domestic Product - GDP

What is 'Gross Domestic Product - GDP'
Gross domestic product (GDP) is the monetary value of all the finished goods and services produced within a country's
borders in a specific time period. Though GDP is usually calculated on an annual basis, it can be calculated on
a quarterly basis as well (in the United States, for example, the government releases an annualized GDP estimate for
each quarter and also for an entire year).
GDP includes all private and public consumption, government outlays, investments, private inventories, paid-in
construction costs and the foreign balance of trade (exports are added, imports are subtracted). Put simply, GDP is a
broad measurement of a nation’s overall economic activity – the godfather of the indicator world.
'Gross Domestic Product - GDP'

The Significance of GDP

GDP is commonly used as an indicator of the economic health of a country, as well as a gauge of a country's standard of
living. Since the mode of measuring GDP is uniform from country to country, GDP can be used to compare
the productivity of various countries with a high degree of accuracy. Adjusting for inflation from year to year allows for the
seamless comparison of current GDP measurements with measurements from previous years or quarters. In this way, a
nation’s GDP from any period can be measured as a percentage relative to previous periods. An important statistic that
indicates whether an economy is expanding or contracting, GDP can be tracked over long spans of time and used in
measuring a nation’s economic growth or decline, as well as in determining if an economy is in recession (generally
defined as two consecutive quarters of negative GDP growth).
GDP’s popularity as an economic indicator in part stems from its measuring of value added through economic processes.
For example, when a ship is built, GDP does not reflect the total value of the completed ship, but rather the difference in
values of the completed ship and of the materials used in its construction. Measuring total value instead of value added
would greatly reduce GDP’s functionality as an indicator of progress or decline, specifically within individual industries and
sectors. Proponents of the use of GDP as an economic measure tout its ability to be broken down in this way and thereby
serve as an indicator of the failure or success of economic policy as well.
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What is GDP and why is it so important to economists and investors?

By Investopedia Staff | Updated October 27, 2017 — 9:10 AM EDT

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A:

The gross domestic product (GDP) is one of the primary indicators used to gauge the health of a country's economy. It
represents the total dollar value of all goods and services produced over a specific time period; you can think of it as the
size of the economy. Usually, GDP is expressed as a comparison to the previous quarter or year. For example, the Q3
2017 GDP is up 3%, this is thought to mean that the economy has grown by 3% over the third quarter. While quarterly
growth rates are a periodic measure of how the economy is faring, annual GDP figures are often considered the
benchmark for the size of the economy. The United States has a GDP of $18,869.4 billion as of the fourth quarter of 2016,
according to the Bureau of Economic Analysis.

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Measuring GDP is complicated (which is why we leave it to the economists), but at its most basic, the calculation can be
done in one of two ways: either by adding up what everyone earned in a year (income approach), or by adding up what
everyone spent (expenditure method). Logically, both measures should arrive at roughly the same total.

The income approach, which is sometimes referred to as GDP(I), is calculated by adding up total compensation to
employees, gross profits for incorporated and non incorporated firms, and taxes less any subsidies. The expenditure
method is the more common approach and is calculated by adding total consumption, investment, government spending,
and net exports.

As one can imagine, economic production and growth – what GDP represents – have a large impact on nearly everyone
within that economy. For example, when the economy is healthy, you will typically see low unemployment and wage
increases as businesses demand labor to meet the growing economy. A significant change in GDP, whether up or down,
usually has a significant effect on the stock market. It's not hard to understand why; a bad economy usually means lower
earnings for companies, which translates into lower stock prices. Investors really worry about negative GDP growth, which
is one of the factors economists use to determine whether an economy is in a recession.

For more on this topic, see Is real GDP a better index of economic performance than GDP? and Macroeconomic Analysis.
To stay on top of the latest macroeconomic news and analysis, sign up for our free News to Use newsletter.

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