It’s time to rethink financial planning and analysis

The business and human impacts of the COVID-19 pandemic demand a new approach to managing complexity now. Dealing with a rapidly evolving planning environment is next. An integrated, end-to-end plan to simulate operating scenarios within a financial model plan can connect all elements of the business. These include workforce, sales and revenue, costs such as indirect costs, selling, general and administrative (SG&A) expenses and cost of goods sold, and working capital.

Many companies have found that their older plans have become irrelevant. In a six-week period from early March to mid-April, 295 companies withdrew their annual guidance1.

To adjust to new realities, planning should shift to “real-time,” using scenario modeling techniques and rapid simulation to adjust controllable and non-controllable variables. These scenarios should leverage internal and external data to create “what-if” hypotheses that can be shared with executive leadership to determine a most likely path forward, using experience and intuition as the final determining factor.

The four key steps in getting the planning process right are:

1. Determine the right time horizon for forecasting.

Businesses should be able to solve short-term challenges while delivering a robust plan for investors that addresses the next 12 months and beyond. Plans for “now” (immediate to 90 days), “next” (three to 12 months) and beyond are interdependent and interlocked. Plans that focus exclusively on the short term may not reflect longer-term trends and may fall short of a longer-term recovery.

2. Identify the drivers of the financial forecast.

To identify the new drivers of the financial forecast, CFOs should first look at what has changed due to the crisis. Most drivers of a business will remain consistent, but the pandemic may have created new drivers – specific to the product or service offered but affecting business performance – in some industries. Many companies now face new and largely uncontrollable variables including government restrictions, supply chain disruptions, and changing consumer behavior.

3. Model rapid changes to external factors.

This requires a) the right data -- good quality data that Finance trusts, based on common standards; b) true correlations -- a clear understanding of the correlations and interconnections among key categories such as sales, cost of goods sold, working capital, workforce and other cost categories; c) AI/ML algorithms for accurate forecasts -- Machine Learning algorithms can build “nowcasting” or very short-term prediction models to understand the causal relationships between internal factors and macroeconomic indicators; and d) “What-if” scenario modeling – What-if scenarios are created to understand the impact of change in any of the underlying factors or macroeconomic situations.

4. Create agile planning processes and solutions.

Changes in assumption made for one scenario plan component should be reflected in the enterprise-wide integrated plan. Companies should consider establishing a planning task force that brings together cross-functional expertise to focus on identifying changes in the key drivers that affect the company’s financial statements and the company’s industry and customer base. The task force should have access to timely, relevant data, sophisticated analytics, and visualization tools to enable exploration and understanding of the rapidly changing situation. The team’s insights can be used to update scenario modeling and related financial forecasts.

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Case study

A large media company’s new CFO together with the finance, planning and accounting team leveraged SAP Analytics Cloud to complete new interactive scenario-based discussion of the long-term plan with the board of directors.

The base case plan and key planning organic and inorganic mergers and acquisition growth scenarios were set up so that input variables (such as macro-economic indicators, cash flow and allocations) could be adjusted in real time, based on feedback from the board. This allowed the board to immediately visualize impact upon a set of output KPIs including revenue and expense growth rates, EBITDA and margins, adjusted earnings per share, share price, market capitalization, price/earnings ratio and leverage ratios.

This new scenario-based process accelerated the alignment among the board, the C-Suite and the business unit leaders on the long-term strategic plan and prioritized investment decisions.

Dealing with certain uncertainty

While economic conditions may improve over time, some things are likely to change permanently. Many aspects of doing business – from managing customer and supplier relationships to maintaining adequate levels of liquidity to predicting levels of demand – may be very different from the way they were pre-crisis. Old ways of financial planning, forecasting and analysis may disappear as well. The scenario planning process can help companies identify opportunities and can serve as a guide to outmaneuvering this certain uncertainty.

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