Nearly all enterprises strive to significantly grow sales and income in their multiple-year business plan, yet not all of them will achieve this goal.
This blog digs into the traps of the dream machine Long-Term-Planning (LTP) and how the FP&A function can support quantifying the expectations in a different way.
Long-term planning: Reading the future?
Alongside budgeting, long-term business planning is another typical summer activity. While budgeting focuses on next year, long-term business plans usually cover a 3-to-5-year period. When it is already challenging to predict sales growth for the budget year, long-term sales and resource planning is an even greater challenge depending on the business type. Project-based businesses certainly have an advantage since multi-year business-to-business order agreements can provide sufficient visibility. However, business-to-customer businesses still contain a degree of uncertainty, as they use conjuncture studies for their basic orientation.
The Profit and Loss Account (P&L) of a unit or division, within a corporation, is generally the object of most business planning. However, I have come across different levels of maturity depending on how leaders consider this exercise. Whether they see it as a high-level task or are willing to make it more sophisticated so that the business plan can serve as a full data set and reference point against which leaders can compare business performance.
In a traditional way, the easiest and quickest way to plan is to estimate high-level sales numbers and calculate the subsequent P&L lines based on the expected sales growth over the planning period. This approach can be achieved with a relatively small team and can quickly return an indicative view of where key indicators and results may end up.
The biggest drawbacks of this method are that the output cannot withstand detailed questions surrounding the inputs included and that the model is not flexible enough to review the impact to company performance if external factors have changed. In addition, a revised plan, under this method, would provide a poor comparison to the previous version.
The pitfalls of traditional long-term planning and possible counter-actions
Is the future set in stone or modular hypotheses?
The first trap of traditional long-term planning is expecting it to summarise the company’s development completely and considering it to be a financial summary set in stone. While it is being suggested that forecast cycles should be shorter as a result of market volatility, long-term planning would likely be considered a more questionable use of time than annual budgets. The consequences to the company is a high risk of failure and frustration within the organisation and its executives.
A more flexible approach that enables constant updates may be more suitable. This approach could build on a baseline scenario and integrate the different hypotheses of the corporate strategy. These hypotheses would need to be defined and aligned upfront as a prerequisite for calculating a robust and flexible set of numbers. At best, each strategic initiative would need an identical set of key numbers covering the key measures of the business e.g. sales, operations, research & development and investment. In the business plan, each initiative would be included or excluded by “turning it on or off”. This would enable management to spot the impact of these initiatives on the predefined KPI’s e.g. sales, profit margin, overheads, EBIT and cash flow.
During a recent work experience, I changed the long-term planning process from a traditional, high level approach to the described modular one. This enabled discussions with senior executives to decide which business options to take advantage of, which to avoid and assess their relevant impact on a set list of financial KPI targets.
A commitment from management or from the whole organisation?
The next trap in long-term planning is that it is assembled at an aggregate view. The process delves less into the detail than budgeting and also takes less time out for management layers from their day-to-day work. This can generate the perception within the organisation that long-term planning is less important than the budget, while leaders of the company will be more interested in LTP performance since their success will be measured against it.
In order to ensure long-term planning is implemented consistently by the organisation in the future, it needs to be worked out in its modular hypotheses with the involvement of the intermediary management levels. In most long-term plans, high-impact actions will be engaged by the overall company including investment and human resourcing. Therefore a firm identification and commitment on the long-term plan from the whole organisation is necessary to deliver the promise.
In my past work experience, I have also found that adequate communication also needs to be conducted to ensure the plan is understood by the whole team and gets executed correctly.
Disclaimer: This blog represents solely the opinions and perceptions of the author, and in no way commit his current or previous employers to his ideas.
The article was first published in Unit 4 Prevero Blog