Discussion Post and Two Responses

This week we look at how cash is used within the company, how financial statements can be used to forecast future financing needs and how financial ratios can be used to evaluate a company’s financial condition.  This type of analysis is useful to managers, investors and lenders.

Please respond to each part of this multi-part discussion topic.  Also, respond to at least two of your peers/students.  See full instructions in a previous forum, the syllabus and the grading rubric in the syllabus.

Financial Planning

 The percent of sales model uses historical information to develop certain ratios such as sales to inventory or finished products, sales to debtors/receivables, and sales to cash.  Sales are then forecasted based on the ratios.  The percent of sales model is a financial planning model that assumes that most income statement and balance sheet accounts vary proportionally with sales.   This model has a weakness related to working capital.  What is this weakness and how does it affect financial planning?

Must 250+ words, APA format, intext citations, must have 2-3 legitimate verifiable sources.  Due by June 2, 2019 @ 10:00 AM EST 19 hours. No later.

My Post:

Must 150+ words, APA format, intext citations, must have 2-3 legitimate verifiable sources.  Due by June 2, 2019 @ 10:00 AM EST 19 hours. No later.

POST TO RESPOND TO

Post 1

Percent of Sales model is defined as the art of estimating the requirements of cash or liquid holdings a company has by looking at revenues and expenses as part of sales then using that to create a pro forma income statement, these estimates are then compared and analyzed with projected sales. Basically the job is to historically look at past sales and create a future sales outlook then continue to compare it to what is actual data to then create another estimate for another week, month, quarter or year. 

 A weakness in the percent of sales model is that it doesn't show the growth of a company so the estimates dont look at certain variables that might not be looked at or considered unless it hits a point of 'critical mass' and this gives the ultimate impression that the company might not be gaining or growing, this is called the flatness principal (Latham, 2016)

Financial planning needs to look at the whole picture including areas where one big push can cause it to be highly influential in the financial forecast for the company. Example is I work for a landscape company and during the winter we get a lot of maintenance contracts being signed with large amounts of money coming in and spring summer we get a lot of contracts and work which brings in a lot of money for the company but during the winter months if the company doesn't look at the snow removal aspect or winter readiness needs of our customers in our percent of sales model then we are missing out on a significant chunk of planning and financial understanding of how our business does throughout the year. 

References:

Latham, A. (2016, October 26). The Strengths & Weaknesses of the Percentage of Sales Model. Retrieved May 29, 2019, from https://smallbusiness.chron.com/strengths-weaknesses-percentage-sales-model-14562.html

Post 2

   Every business requires direction for their business and the must plan the most effective use of their capital. The most common and best way to prepare these plans is using Financial Planning which has multiple models. These models were developed by executives to determine which course of action would provide the best data to determine their business is on course for success. The models use ratios these are the cornerstone of financial analysis which allows executives and managers to determine the health of their organization. From this analysis organizations can provide a financial plan. There are weaknesses in this method and they need to be accounted for.

                In one model, percent of sales model is a comparative look at historical sales percentages, an example is the cost of a product made 35% of sales for one quarter that percentage is used to project the same percentage of sales for a future quarter. This data comes from the businesses financial statements particularly the Income Statement which should showcase what revenue was brought in based on sales. The downside, “The reliability and value of the information gained from financial ratio analysis can vary significantly, depending on how it was conducted and, on the quality, and comparability of the financial statements, which provide the financial data.” (FINC 331 Commentary, n.d.)

                There is also a weakness of working capital, which is a ratio of current assets – current liabilities. “Current assets and current liabilities include three accounts which are of special importance. These accounts represent the areas of the business where managers have the most direct impact: accounts receivable (current asset), inventories (current assets), and accounts payable (current liability).” (FINC 331 Commentary, n.d.)  Working Capital is important to the health of an organization as it is a definitive measure of quickly the organization can access cash. The majority of this working capital is gained from revenue or the accounts receivable. Ultimately, financial planning is correctly guessing how much money the business will receive.

                That guessing can become very tricky especially when there are outside factors to consider. A business can successfully determine numerous quarter earnings but one market fluctuation can completely alter any revenue previously earned. This is the greatest weakness with financial planning specifically with percent sales models the planning of earned income through sales.

 

[FINC 331 Commentary] (n.d.) Evaluating Financial Performance Module. Retrieved from.

                https://learn.umuc.edu/d2l/le/content/384552/viewContent/15212403/View

 

Working Capital (2017) Chapter 2 Financial Statements Taxes and Cash Flows. FINC 331 – Finance for   Non-Finance. Retrieved from.

https://learn.umuc.edu/d2l/le/content/384552/fullscreen/15212395/View

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