We live in times of great uncertainty, yet it seems most companies will stick with the same planning process as they used last year. That seems like a paradox as clearly the output failed almost on 1 January 2020. Are there better ways of doing it? Absolutely! And if you are too tied to your current process you can even try to run experiments on the side and see what gives you the better numbers. We will explore that further in this article.
When we have limited information available the best we can do is to make assumptions. We should ask ourselves.
“What must be true for our current plan to be a good plan?”
Document those key assumptions and establish a confidence interval for each of the assumptions. This will form your base, high, and low case. You can then start to track the actual development in the assumptions. If one of them moves beyond your confidence interval it should trigger a conversation around taking action. That is how simple your planning process could be!
From assumptions to driver-based planning
Most companies need more than just high-level assumptions. They also need a P&L, balance sheet and cash flow. However, this too does not need to be a bottom-up process. In simple terms, you should be able to link your assumptions to business drivers that in turn leads to your financials. Let us look at an example.
You need to know how many units of a certain product will be sold. You know the current market size and your market share. What assumptions do you need to make? Market growth and change in market share.
Then you need to know the price at which your product is sold. You know your current pricing model and the variables that go into it such as production cost and margins. All you now need to do is make assumptions about how these variables will change and perhaps add one for competitive pressure.
Now you have your volume and price so total revenue is done. You can build similar simple models for other items in the P&L, balance sheet and cash flow. Once the model is built you can go back to tracking the assumptions.
Maybe this sounds too simplified as companies tend to want more details. They would like to know things like geographical splits and customer splits of revenue. There might also be interdependencies between all the variables etc. Likely you will never get to 95-100% accuracy using such a simple driver-based model, however, ask yourself what it is you are losing? Probably not too much.
This is how you increase speed and agility
What you do get though is a much faster planning process where you have established clear guidelines of when to act. Most often your assumptions will even be leading indicators meaning that you will be prompted to act long before the results show up in the P&L.
You will need distinct modeling capabilities to create such an assumptions-driven model as well as establishing a low and high case. Moreover, you will need the capability to model with ease the impact of changed assumptions on your business to establish a low and high case.
Once you have a working model you will not only have a faster process, but you will also be much more agile in responding to what is happening in your market and business. After all, this is the competitive advantage that we as FP&A professionals must strive towards giving our companies. What changes are you making to your planning model this planning season? If no changes at all how come? We want to understand the barriers to change so we can start addressing them!
This blog is presented by ValQ in collaboration with Anders Liu-Lindberg, Business Partnering Institute.
If you have any good cases for ValQ or stories to tell about how such solution can benefit you, please reach out to us.
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