Financial Planning, Forecasting and Performance Measurement
What the domain tests
This domain tests forecasts, cash budgets, pro forma financial statements and performance measurement. You must link operating assumptions to financing needs and use ratios and balanced-scorecard measures to evaluate strategy.
Core rules and concepts
- Percentage-of-sales forecasting: forecast variable assets and spontaneous liabilities as a percentage of sales; retained earnings = projected net income × retention ratio; external financing need = increase in assets − increase in spontaneous liabilities − retained earnings.
- Cash budget captures timing, not accrual profit; identify peak funding need and arrange facilities in advance.
- Ratio analysis: ROCE = operating profit ÷ capital employed; asset turnover × operating margin = ROCE; DuPont decomposes ROE into margin, turnover and leverage.
- EVA adjusts accounting profit for the capital charge. The balanced scorecard covers financial, customer, internal process, learning and growth.
- Scenario and sensitivity analysis test assumptions; rolling forecasts update them. Quality of earnings checks accruals, one-offs and cash conversion.
Worked example
Sales rise from N1bn to N1.2bn. Variable assets are 30% of sales, so they rise by N60m. Spontaneous liabilities are 15%, so they rise by N30m. Retained earnings are N25m. External financing need = N60m − N30m − N25m = N5m. The firm can cover N5m with overdraft or term debt, but only if capacity and covenant headroom exist.
Traps that cost marks
Do not assume all costs vary with sales; ignore capacity constraints; treat a cash budget as a profit forecast; use year-end ratios for seasonal businesses; or rely on a single KPI. A forecast is not a plan unless it links to actions and financing.