Financial Planning: Need, Steps and Limitations

After reading this article you will learn about Financial Planning:- 1. Need of Financial Planning 2. Steps in Financial Planning 3. Limitations.

Need of Financial Planning:

According to Cohen and Robbins, financial planning should:

1. Determine the financial resources required to meet the company’s operating programme;

2. Forecast the extent to which these requirements will be met by internal generation of funds and the extent to which they will be met from external sources;

3. Develop the best plans to obtain the required external funds;

4. Establish and maintain a system of financial control governing the allocation and use of funds;

5. Formulate programmes to provide the most effective profit-volume-cost relationships;

6. Analyse the financial results of operations;

7. Report facts to the top management and make recommendations on future operations of the firm.

Steps in Financial Planning:

Financial planning involves the following steps:

1. Establishing Financial Objectives:

The financial objectives of a company should be clearly determined. Both short-term and long-term objectives should be carefully prepared. The main purpose of financial planning should be to utilise financial resources in the best possible manner. There should be an optimum utilisation of funds. The concern should take the advantage of prevailing economic situation.

2. Formulating Financial Policies:

The financial policies of a concern deal with procurement, administration and distribution of business funds in a best possible way. There should be clear-cut plans of raising required funds and their possible uses. The current and future needs for funds should be considered while formulating financial policies.

3. Formulating Procedures:

The procedures are formed to ensure consistency of actions. The procedures follow the formulation of policies. If a policy is to raise short-term funds from banks, then a procedure should be laid to approach the lenders and the persons authorised to initiate such actions.

4. Providing for Flexibility:

The financial planning should ensure proper flexibility in objective, policies and procedures so as to adjust according to changing economic situations. The changing economic environment may offer new opportunities. The business should be able to make use of such situations for the benefit of the concern. A rigid financial planning will not let the business use new opportunities.

Limitations of Financial Planning:

Some of the limitations of financial planning are discussed as follows:

1. Difficulty in Forecasting:

Financial plans are prepared by taking into account the expected situations in the future. Since, the future is always uncertain and things may not happen as these are expected, so the utility of financial planning is limited. The reliability of financial planning is uncertain and very much doubted.

2. Difficulty in Change:

Once a financial plan is prepared then it becomes difficult to change it. A changed situation may demand change in financial plan but managerial personnel may not like it. Even otherwise, assets might have been purchased and raw material and labour costs might have been incurred. It becomes very difficult to change financial plan under such situations.

3. Problem of Co-ordination:

Financial function is the most important of all the functions. Other functions influence a decision about financial plan. While estimating financial needs, production policy, personnel requirements, marketing possibilities are all taken into account.

Unless there is a proper-co­ordination among all the functions, the preparation of a financial plan becomes difficult. Often there is a lack of co-ordination among different functions. Even indecision among personnel disturbs the process of financial planning.

4. Rapid Changes:

The growing mechanisation of industry is bringing rapid changes in industrial process. The methods of production, marketing devices, consumer preferences create new demands every time. The incorporation of new changes requires a change in financial plan every time.

Once investments are made in fixed assets then these decisions cannot be reversed. It becomes very difficult to adjust a financial plan for incorporating fast changing situations. Unless a financial plan helps the adoption of new techniques, its utility becomes limited.