Financial-planning models such as sustainable growth suffer from a great deal of criticism. We present two commonly voiced attacks below. First, financial-planning models do not indicate which financial policies are the best. For example, our model could not tell us whether Hoffman’s decision to issue new equity to achieve a higher growth rate raises the shareholder value of the firm. Second, financial-planning models are too simple. In reality, costs are not always proportional to sales, assets need not be a fixed percentage of sales, and capital-budgeting involves a sequence of decisions over time. These assumptions are generally not incorporated into financial plans.
Financial-planning models are necessary to assist in planning the future investment and financial decisions of the firm. Without some sort of long-term financial plan, the firm may find itself adrift in a sea of change without a rudder for guidance. But, because of the assumptions and the abstractions from reality necessary in the construction of the financial plan, we also think that they should carry the label: Let the user beware!
Financial planning forces the firm to think about and forecast the future. It involves the following:
1. Building a corporate financial model.
2. Describing different scenarios of future development from worst to best cases.
3. Using the models to construct pro forma financial statements.
4. Running the model under different scenarios (conducting sensitivity analysis).
5. Examining the financial implications of ultimate strategic plans.
Corporate financial planning should not become a purely mechanical