The Role of Strategic Finance in Creating Business Value

By Paul B. Finch, MBA | 7/13/2024

Over my many years as a corporate CFO and, more recently, as an outsourced CFO and Financial Planning and Analysis (FP&A) professional, I have been puzzled over why so many hardworking, smart, FP&A teams engage in static linear thinking as it pertains to their financial planning processes. I have come to believe that it is because many FP&A teams have become conditioned to be comfortable with simple budget models that have static, consistent, linear rates of growth over time. They are comfortable budgeting based on events from prior periods by increasing sales revenue, along with associated production costs, based on targeted/desired growth without any reliance on other relevant economic factors and conditions.

Unfortunately, these less rigorous processes lack the agility to make accurate forecasts, anticipate threats, take advantage of competitive opportunities, or adjust strategies and tactics in real-time as required to make good financial decisions. As such, this form of static linear thinking ultimately inhibits a firm from achieving the long-term sustainable growth and, thereby, value creation what would otherwise have been possible had their FP&A teams utilized processes that were more rigorous and agile.

Development of a Strategic Planning Process

Whether your firm utilizes a three, five or ten year planning model (or something in between), in order for a planning model to forecast long-term sustainable growth, the underlying planning process needs to be strategic in nature. This means being able to analyze evolving macro and micro trends in real-time such as (i) technology breakthroughs that achieve more effective and efficient operations; (ii) shifts in consumer behavior that affect demand; (iii) changes in the supply chain that can affect output; (iv) threats from the introduction of new products and services by competitors; and (iv) regulatory changes that affect the legal environment.

This being the case, the following is how I assist my clients in the development of more agile financial planning process that are strategic in nature and that foster long-term sustainable growth as well as create real corporate value:

1: Expect and Anticipate Change

While it is a human tendency to assume the present situation will remain the same going into the future, in reality, this is a fallacy. Often referred to as the “Parmenides Fallacy”, named after the misguided Greek philosopher who argued that the world was static and that all change was an illusion, the truth is that the world around us is constantly changing, and we must anticipate the need to adjust to these changes to survive.

Likewise, it is wrong to assume that business conditions will be the same from one year to the next and it is not sufficient simply to increase past year metrics by an inflation factor and call this “change”. FP&A teams need to expect and anticipate real change in their competitive environment.

2: Strengthen Forecasts Utilizing Driver-Based Planning

I have observed that the most successful organizations, and their financial planning processes, use a driver-based approach to tie financial forecasts to underlying economic drivers. Such drivers should have a causal relationship with a specific metric as opposed to a simple associative relationship which may not be predictive during periods in which a business is encountering an economic downturn or a shock. As such, driver-based planning has an inherent advantage over simpler historical trend-based approaches and is an essential tool as it pertains to forecasting (i) revenue; (ii) operating expense; (iii) capital expenditures and (iv) cost of capital.

3. Further Strengthen Planning by Adopting a Scenario Framework

When utilizing the driver-based approach referenced above, it is important to further utilize a scenario framework that assesses multiple different potential forecasts for the economic drivers referenced above. Rather than attempting to arrive at a single predictive value for a given metric, FP&A teams should adopt a probabilistic approach assigning a weight to probable forecasts in order to reduce modeling risk and allow for agility when making adjustments by reassigning weights when it is deemed appropriate.

4. Adjust Models in Real-Time – Be Agile

Financial planning, to be effective and efficient, needs to be an ongoing process where variances are monitored and adjusted on a regular basis. By combining a driver-based approach to forecasting, aligned with a scenario framework, FP&A professionals can develop dynamic strategies, monitor actual performance and react to and make adjustments in real time.

5. Utilize Valuation Analysis to Make Financial Decisions

Effective and efficient financial planning should also incorporate a process for valuing a firm’s equity as a means of making financial decisions. This is because, as a basic overriding principle of all strategic finance, decisions that provide for a greater increase in a firm’s equity value [sustainably over time] are superior to decisions that create less equity value for a given firm. This can be accomplished by assessing the equity value of multiple financial planning options to arrive at the optimal plan.

While this may seem to be a rudimentary concept, I cannot begin to tell you how many times I have seen FP&A “professionals” make significant mistakes in valuing a firm’s equity. In valuing a firm’s equity for planning purposes, it is important to utilize income based approaches and not market based approaches because market approaches do not provide a value based on the underlying conditions of the firm being assessed, and, therefore, are unreliable methods for financial decision making.

Additional Thoughts

It should be noted that in order to have an effective and efficient financial planning process, such as what I have described above, it is necessary to access valid and reliable business intelligence. While AI and Big Data can provide “boat loads of information”, it is ultimately up to FP&A professionals to avoid information overload, and “analysis paralysis”, by intelligently distilling this information down to only the relevant datapoints for a specific purpose in order to best achieve the firm’s goals and objectives.

Paul B. Finch, MBA, is co-founder and Executive Director for Benchmark Solutions, Inc. and is an accomplished Strategic Financial Advisor. Professionally, Paul has focused his career on the various facets of corporate finance that revolve around the creation and measurement of equity value for his clients. Paul’s work includes both domestic and international merger and acquisition engagements as well as projects specifically designed for the purpose of increasing profitability, earnings quality, and growth prospects (while limiting risks and exposures) for his clients. Paul is a recognized subject matter expert in Financial Planning & Analysis, Capital Acquisition, and Business Valuation as well as Merger and Acquisition Advisory and has published many articles pertaining to these topics. You can contact Paul at paul.finch@benchmarksolutions.us.com