Coming to Grips with Strategic Finance

Michael Huthwaite - Wednesday, June 10, 2015

In simple terms, Strategic Finance is the analyses of alternative long-range (strategic) plans in which integrated financial statement (finance) are used as the basis of measurement.  This analysis is rooted in cash flow and can be extended to address discounted cash flow (DCF) valuation analyses. 

In the Finance world, the term Strategic Finance is typically synonymous with Strategic Planning, but outside of Finance that term is often too general and for that reason we favor the term Strategic Finance. 

So why is Strategic Finance different from other forms of financial planning and what are the common use cases?

A Series of Cascading Plans

When most people think of planning they tend to think of the annual Budgeting process.  This is because it is the single largest unified planning effort that occurs across the entire business.  Budgeting is both costly and time consuming and for that reason, it attracts plenty of attention from software vendors willing to address these specific concerns. 

Although Budgeting manages to gain the lion's share of attention, it would be a mistake to think that this is the only discrete planning process that occurs throughout the organization.  In fact enterprise planning is a series of discrete planning exercises that cascade down the organization. 

As the diagram above illustrates, enterprise planning starts with Strategic Finance which helps set the companies investment strategy and defines the target for the Budgeting process.  Once the detailed budget is established, it is then used to set the targets for individual cost centers and projects that are then tasked with executing business activity. 

Uses Cases for Strategic Finance

Long Range Planning/Target Setting

Most companies perform a Long Range Plan or a 5 Year Plan in order to set goals for the business to achieve.  This enables the company to justify to long-term stakeholders such as investors and bankers that their investments will provide a good return and that loans will be repaid on time.

Of course, Long Range Planning is not just about extending out the number of periods in your operational plan.  Its about setting clear targets that should be attainable based on the influence that senior management has and the fact that some targets are still several years out.  For this reason, the driver relationships should be highly dynamic in nature.  For example, in a Long Range Planning model, Salary Expense can easily be forecasted as a percentage of revenue because we are simply trying to set a target, and not address the real world business drivers that would only be a concern in the short-term when individuals are actually being hired. 

Acquisition/Investment Screening

Organic value growth is by definition unsustainable over a long-term duration.  Competition will eventually creep in and as a result, generating a return that exceeds your cost of capital will become more and more challenging.  This is why companies must continue to innovate and invest in new opportunities that will provide superior growth.  This could be in the form of various capital investment projects or acquisitions (big or small). 

Acquisition/Investment screening is a classic example of evaluating upfront investments with the possibility of future cash flow returns.  Modelers are keen to include/exclude opportunities to see the impact on profits and funding requirements. 

Unlike, the typical long range planning process, acquisition/investment screening is usually not done once or twice a year, but instead something that should be constantly evaluated based on either changes or opportunities in the market. 

Treasury/Risk Modeling

Because Strategic Finance requires integrated three statement functionality, it is often the best place to perform treasury planning.  Layering in new debt issuances, repurchasing shares or issuing a dividend requires a strong understanding of cash flow.  This is the basis for performing integrated financial ratios, including covenant calculations and rating agency analyses. 

Modeling tools must have a strong understanding of sources and uses of cash and how to apply waterfall funding sequences to help fund both surpluses and deficits of cash. 

About FinanceSeer

FinanceSeer is a financial modeling solution that focuses solely on the area of Strategic Finance.  At FinanceSeer, we believe that by applying deep domain knowledge and purpose-built functionality to a discrete business challenge like Strategic Finance, we are able to provide a best-in-class solution for our customers that enables them to achieve far more in far less time...and we think that just makes sense. 

 

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