Financial indicators - financial plan part II

The company's financial liquidity proves its ability to settle current liabilities on time, and maintaining it at a constant level is the main task of the units dealing with operational financial management. Unfortunately, the first signs of loss of financial liquidity may in later periods lead to bankruptcy, as the company that fails to meet its obligations loses the trust of both customers and financial institutions. That is why it is so important to analyze financial indicators on a regular basis.

Financial indicators

Financial ratios are calculated on the basis of the data contained in the balance sheet, therefore they prove liquidity at the time of its preparation. The most commonly used include:

• current liquidity ratio = current assets / current liabilities - its value is obtained by dividing the value of all current assets by the value of current liabilities,
• quick ratio = current assets – wrestling – active prepayments / current liabilities - it is calculated similarly to the aforementioned current liquidity ratio, however, the value of assets should be adjusted for inventories and prepayments,
• instant liquidity ratio = trading securities + cash / current liabilities - only the most liquid assets are taken into account.

Debt ratios are another group representing financial ratios that inform about the structure of financing the company's assets and its ability to service debt. They are essential especially for potential lenders.

Total debt ratio = total liabilities / total assets

Debt to equity ratio = total liabilities / equity capital

The above financial indicators show the extent to which the company's assets are financed with foreign capital and show the relationship between them.The value of these ratios should be as small as possible, but must exceed the value of one - otherwise it will prove that the enterprise will not be able to pay its debts on time.

Financial indicators important when assessing the profitability of the project

An entrepreneur, in order to be able to assess the profitability of a given venture, must first make certain assumptions and create forecasts for future events. At the outset, it should be specified in what time horizon all financial plans will be created, and how detailed they will be. In practice, forecasts for several consecutive periods are most often made - usually 5 years.

Knowing the planning periods, proceed to the creation of assumptions on which all the created financial indicators for the company will be based. Importantly, the definition of the concept must have a solid basis for it to be considered consistent with the actual state of the market. The assumptions should mainly concern:

• sales - the main element of making estimates, where it is recommended to make the most careful calculations, supported by facts. All data should result from the market analysis conducted in one of the previous chapters of the business plan. At this stage, deviations between the data contained in individual parts of the business plan are unacceptable,
• costs - in particular, an outline specifying variable costs, fixed costs and the margin on sales should be provided,
• investment outlays - i.e. the amount of capital that will be contributed to the project in order to carry out the investment,
• working capital - an indication of the average amount of working capital, in particular taking into account inventories and receivables,
• taxes - an inseparable part of the operation of any enterprise, it should determine the amount of tax liabilities in the forecast periods with the achieved results.

With a solid foundation you can move on to creating financial forecasts. They must result from and comply with the assumptions made. Importantly, they should also take into account the previously formulated objectives of the project, including business strategies adopted in each of the segments.

Financial forecasts include such tools as:

• Profit and Loss Account,
• balance,
• Cash Flow.

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Static and dynamic methods of project evaluation

On the basis of the generated cash flow forecasts, the project is assessed in terms of finance. We distinguish between static methods that do not take into account the variable time value of money and dynamic methods that do not take it into account.

Static methods

• Accounting rate of return (ARR) = average annual net profit / average investment expenditure

It presents the relation between the net benefits obtained by a given project and the expenditure incurred for this purpose. The basic assumption is that both values ​​are expressed as accounting categories.

• Payback period (OZ) = capital expenditure / average annual cash surplus

The indicator shows the time after which the investment will be returned, it consists in adding up the cash surpluses from individual years until their value equals the incurred investment expenditure.

Dynamic methods

• Net present value (NPV)

CFt - net cash flows in period t (difference between inflows and outflows),

n - forecast period,

t - subsequent forecast periods,

r - discount rate, where:

r = cost of bank loans x share of bank loans in financial resources + cost of equity capital x share of equity in financial resources.

I - value of investment outlays.

The net present value of the project is the value obtained by discounting the differences between the expected revenues and cash expenditure in the indicated time horizon, separately for each period.

NPV> 0 - the project can be considered profitable,

NPV = 0 - the project is neutral in terms of profitability, taking actions depends only on the investor's decision,

NPV <0 - the project is not profitable.

• Internal rate of return (IRR), which is a measure of the profitability of an investment that shows the real rate of return on the project, with NPV = 0. Therefore, the higher its value, the greater the income will be achieved.

- the same marks as for the NPV formula, where:

I0 - the value of initial investment outlays.

The IRR interest rate is the value at which the enterprise will reach the economic break-even point (the receipts will be equal to the expenses). The condition that must be met for the project to be accepted for implementation is the value of the IRR rate must be greater than or equal to the discount rate.

The most important conclusions

As mentioned at the beginning, the company's financial plan included in the business plan is important due to the recipient's belief that the undertaken undertaking has a chance of success. It should be ensured that the planned goals and incurred investment expenditures will not only cover the expenses, but also bring the expected benefits in the form of high income.

Importantly, all calculations made in this chapter must be based on data resulting from the conducted market analysis. It is worth remembering that drawing up a reliable financial plan is not synonymous with achieving success by the company. The forecasts made can only help to eliminate the risk that occurs in every industry operating on the market.