Why is depreciation as well as amortization and

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Unformatted text preview: rge? How do accountants estimate cash flow from operations? Describe the general format of the statement of cash flows. How are cash inflows differentiated from cash outflows on this statement? From a strict financial perspective, define and differentiate between a firm’s operating cash flow (OCF) and its free cash flow (FCF). 3.2 The Financial Planning Process financial planning process Planning that begins with longterm, or strategic, financial plans that in turn guide the formulation of short-term, or operating, plans and budgets. Financial planning is an important aspect of the firm’s operations because it provides road maps for guiding, coordinating, and controlling the firm’s actions to achieve its objectives. Two key aspects of the financial planning process are cash planning and profit planning. Cash planning involves preparation of the firm’s cash budget. Profit planning involves preparation of pro forma statements. Both the cash budget and the pro forma statements are useful for internal financial planning; they also are routinely required by existing and prospective lenders. The financial planning process begins with long-term, or strategic, financial plans. These in turn guide the formulation of short-term, or operating, plans and budgets. Generally, the short-term plans and budgets implement the firm’s longterm strategic objectives. Although the remainder of this chapter places primary emphasis on short-term financial plans and budgets, a few preliminary comments on long-term financial plans are in order. Long-Term (Strategic) Financial Plans long-term (strategic) financial plans Lay out a company’s planned financial actions and the anticipated impact of those actions over periods ranging from 2 to 10 years. Long-term (strategic) financial plans lay out a company’s planned financial actions and the anticipated impact of those actions over periods ranging from 2 to 10 years. Five-year strategic plans, which are revised as significant new information becomes available, are common. Generally, firms that are subject to high degrees of operating uncertainty, relatively short production cycles, or both, tend to use shorter planning horizons. Long-term financial plans are part of an integrated strategy that, along with production and marketing plans, guides the firm toward strategic goals. Those long-term plans consider proposed outlays for fixed assets, research and development activities, marketing and product development actions, capital structure, and major sources of financing. Also included would be termination of existing projects, product lines, or lines of business; repayment or retirement of outstanding debts; and any planned acquisitions. Such plans tend to be supported by a series of annual budgets and profit plans. Short-Term (Operating) Financial Plans short-term (operating) financial plans Specify short-term financial actions and the anticipated impact of those actions. Short-term (operating) financial plans specify short-term financial actions and the anticipated impact of those actions. These plans most often cover a 1- to 2-year period. Key inputs include the sales forecast and various forms of operating and financial data. Key outputs include a number of operating budgets, the cash bud- CHAPTER 3 FIGURE 3.2 Cash Flow and Financial Planning 109 Short-Term Financial Planning The short-term (operating) financial planning process Information Needed Sales Forecast Output for Analysis Production Plans Long-Term Financing Plan Pro Forma Income Statement Cash Budget Fixed Asset Outlay Plan CurrentPeriod Balance Sheet Pro Forma Balance Sheet Hint Electronic spreadsheets such as Excel and Lotus 1–2–3 are widely used to streamline the process of preparing and evaluating these short-term financial planning statements. get, and pro forma financial statements. The entire short-term financial planning process is outlined in Figure 3.2. Short-term financial planning begins with the sales forecast. From it, production plans are developed that take into account lead (preparation) times and include estimates of the required raw materials. Using the production plans, the firm can estimate direct labor requirements, factory overhead outlays, and operating expenses. Once these estimates have been made, the firm’s pro forma income statement and cash budget can be prepared. With the basic inputs (pro forma income statement, cash budget, fixed asset outlay plan, long-term financing plan, and current-period balance sheet), the pro forma balance sheet can finally be developed. Throughout the remainder of this chapter, we will concentrate on the key outputs of the short-term financial planning process: the cash budget, the pro forma income statement, and the pro forma balance sheet. Review Questions 3–7 3–8 What is the financial planning process? Contrast long-term (strategic) financial plans and short-term (operating) financial plans. Which three statements result as part of the short-term (operating) fina...
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This document was uploaded on 01/19/2014.

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