October is the month of Halloween and chewed pencils – when many businesses, particularly those with a December year-end, contemplate their financial forecasts for the next year. Given the difficult trading environment, it’s surprising how many design groups still subscribe to what might be called the ‘hockey-stick’ planning approach.
In other words, managers confidently predict an upturn in fortunes that coincides with the beginning of a financial year. Miraculously, this reverses a sub-optimal trend.
Many companies in difficulty believe the hockey-stick projection is just what their bank manager ordered. The truth is, most stakeholders prefer a robust business plan and a forecast that’s credible.
When a business is struggling there’s more than diminishing cash and profit at stake. It’s about management credibility. Lenders and investors need good reason to believe the promises that are made to them. With underperforming companies, a lender asks whether management is in control and has a plan of action. He or she needs clarity about the current situation and immediate prospects.
Don’t believe the size of your business plan is a critical issue. The biggest mistake that an accountant can make is to assume that the reader is intimately familiar or even interested in the minute detail of the business.
Apply similar principles to your business plan that you would to the design of marketing communications – make it user friendly, enhancing understanding of your business. Most likely, it will be read by someone with limited knowledge of your company, who is inherently sceptical about its contents.
Remember your relationship bank manager is accountable to someone else in the bank, who will also want to see the projections.
Headlines about poor productivity, falling profitability and excess capacity are going to create adverse impressions about the design industry that you have to contend with. Indeed, your financial forecasts will probably come under greater scrutiny this year than for a long time before.
Ask yourself whether your plan provides an objective snapshot summary of your business and the issues it faces. Most importantly, make sure that your key business assumptions are clearly stated and quantified. Are those assumptions consistent with the trading environment and the true capabilities of your business?
If you persist with the view that sales and profit will recover at the start of next year you should be able to substantiate your beliefs. Your plan needs to show the continuum between current performance and future performance. Possibly the most useful piece of analysis is to define the current activity rate of your business to demonstrate its underlying performance.
You may also consider calculating moving averages of historical results to substantiate your forecasted hockey-stick improvement.
The Achilles’ Heel of any business plan is the quality of the financial projections. Not only do you need a trading (profit and loss) forecast, but also a balance sheet and a cash flow. If they’re not integrated and consistent with each other then they won’t be believed.
It’s useful to incorporate a short-term (rolling) 13-week cash forecast and to link that with the respective months in your plan. Key performance indicators are also important and you will need to include relevant metrics (for example, fees generated per pound of salary cost) with supporting commentary.
You should incorporate sensitivity analysis such that you can illustrate the impact on cash and profit of the potential downsides. For example, the impact of lower fees in, say, the second quarter of your plan or a bad debt crystallising in the first month might need to be quantified. This helps to define and manage risk. It also anticipates a lender’s questions.
Likewise, a contingency plan to deal with expected events not arising is an investment in your credibility and demonstrates that you can anticipate different outcomes. For example, I know of a design group whose financial planning pre-supposed the successful sale of a property. It prepared a Plan B for its bankers to demonstrate what would happen if the sale was aborted. In the event, the sale was delayed, but the bank was supportive throughout because it had the necessary visibility to keep worried minds at rest.
In the same way that there’s a temptation to produce a hockey-stick forecast there’s a temptation to promise radical organisational change overnight. Avoid it and be realistic. However, if you do promise action (for example cost-cutting initiatives or a new service) make sure that there are milestones and progress markers with defined accountability for action. The how-to and the by-whom are what a reader will be looking for.
And some general advice that looks at this quarter and beyond? Abandon outdated assumptions and the business models of yesterday. Acknowledge the weaknesses in your business and don’t make promises that you aren’t able to keep.
A fresh pair of eyes to review your plans and give constructive feedback can provide invaluable benefits. Don’t forget your bank manager will expect realistic rather than aspirational financial forecasts. Your colleagues and staff will expect the same – you do no-one any favours with wildly optimistic forecasts that are likely to be redundant by the end of the first month.
After all, it’s best to be taken seriously when your reputation – and possibly your business – is on the line.
John Dewhirst, a former financial director at Elmwood, is an independent business turnaround consultant. He runs www.vincimus.co.uk