ProfitPlanning and Control Process
Every business establishment has aims and objectives. These objectives vary significantly from one business to another (Harris, 1999). The objectives can be of financial or non-financial nature. Businesses work on different strategies to secure sufficient financial resources while generating revenues to achieve the objectives. A business has to incur different costs when generating these revenues (Harris, 1999). For instance, the business has to pay workers wages, rent, and suppliers of raw materials. When revenues generated from business operations exceed the total business running expenses, a business is said to be making profits. Therefore, by definition, profit is a financial gain derived from various business operations. Businesses develop operational plans to generate maximum revenues so as to achieve financial objectives. Proper planning for the profit that the business has to generate becomes necessary if the business has to survive in the long run. According to Harris (1999), profit planning is a process of determining and developing plans of operation so that maximum profits can be generated by a business entity. For a firm to realize this, it should define the steps that need to be taken in order to achieve the desired profits from its operations (Harris, 1999).
Profit planning process involves looking at various operational expenses with an aim of determining what should be performed to ensure steady revenue generation (Harris, 1999). Businesses focus on various business expenses such as production costs, raw materials costs, tax obligations, workers salaries, maintenance costs, as well as sales and marketing costs. On the other hand, firms look at the possible revenues that can be gained from the sale of the end product. This is done by assessing market conditions and designing price models that allow the firm to remain competitive in the market (Harris, 1999).
According to Harris (1999), profit planning offers businesses many advantages. It is necessary in evaluating the overall business operation efficiency over a specified period. Any profit shortfall is identified through the evaluation. This is then rectified by initiating changes in business operations to increase profits in the subsequent periods. It also creates awareness about responsibilities that managers should take in achieving set targets. Also, this controls measures that can be taken to achieve the set goals. Profit planning also serves as a tool through which business expenditures can be compared to budgets. Firms identify cost excesses and design ways of reducing unnecessary costs and overspending by comparing the expenses to the budgetary allocations (Harris, 1999).
Profit planning also helps in the future planning of business. Harris (1999) argued that the process offers an opportunity for managers to think of current financial position of the firm and plan for the desired position in the next period. This helps in identification of opportunities that are vital to the business. This is also essential in planning on how to deal with a crisis that may affect business operations in the future. Harris (1999) further emphasized that profit planning is of greater advantage in financial planning of businesses. Businesses are certain about their expected profits levels. This acts as a chance to seek additional capital and financial resources by properly planning for profits. Harris (1999) is of the opinion that firms with clear profit plans, which articulate procedures and policies of achieving profits, boost their chances of securing loans from various lending institutions. Also, profit plans help firms to determine the need for additional resources that are crucial in achieving and sustaining the business profits. In addition, it has been observed that profit planning enables a firm to assess whether it has to downsize or hire additional human resource, change suppliers of raw materials, or restructure its marketing strategies in order to make greater investment gains (Harris, 1999).
Profit planning as a process involves a number of steps. This process, according to Hill (1959), can be summarized into four key steps. The first step involves analysing the firm’s records of operation. Here, the focus is on profitability and growth patterns, as well as comparing them to those of competitors in the marketplace. The firm analyses its performance in terms of profits, sales revenues, and cash flow and share values. This is then compared to the industry performance as a whole. The purpose of this step is to try and find out whether the business is above, at the same level, or below the industry averages (Hill, 1959).
According to Hill (1959), the second step in profit planning is setting the standards for future accomplishment. The standards applied by the firm are based on the nature of the industry in which it operates. The firm sets goals for achieving greater profit so that it marches or surpasses the industry average. After considering the above steps, periodical projections of sales and profits, together with resultant investment at expanded level of present operations, are analysed (Hill, 1959). At this point, the firm looks at available opportunities that are suitable for the growth and performance of the business. The firm also looks at the potential threats in the industry that threaten its operations and the achievement of the projected profit margins (Hill, 1959).
The final step in profit planning, as presented by Hill (1959), involves measuring and determining whether the firm has to change operation to achieve projected profits. The firm at this point determines whether changes in personnel, suppliers, equipment and machinery or sales and marketing are necessary. It is at this stage that the firm analyse its financial position and decide on how the operations are going to be financed if additional funding is required to realize improved profits (Levi, 1990).
It is essential for businesses to draw budgets that accommodate profit plans before the profit plans are implemented (Lal, 2000). Business activities are expressed in monetary values so as to facilitate the development and implementation of the firm’s plans. Budget, as pointed out by Lal (2000), is required in order to operationalize the profit goals as stated at the planning stage. The objective of good budget making in this context is to reduce the uncertainties and determine the allocation of resources necessary for the achievement of profit projections of the business (Lal, 2000). At budgeting stage, a firm gives priority to resources allocation. This is because every resource comes with a cost, and if not properly checked, this may lead to wastages that will ultimate have negative impacts on profits (Lal, 2000).
After a firm has developed objectives and prepared budgets to operationalize profit plans, it should institute proper controls to ensure its goals remain on course (Lal, 2000). Control of profit plans involves a number of steps that a firm should undertake to ensure that the set profits are attained. According to Lal (2000), management ensures that all parts of the organization work together in achieving the goals as planned. Control also ensures that all plans are given emphasis, and gives an examination of factors that may cause deviations from the initial plan (Lal, 2000).
Control systems provide information on the performance of implemented activities. The managers should detect variances in the plans being implemented. Information from past experiences is of greater importance and managers should use it as a measure of the degree of variance (Lal, 2000). General industry information can also be used to measure the variance. Variance analysis is necessary in eliminating the negative aspects of the process while encouraging the positives ones. Through this analysis, managers are able to identify the weaknesses in the operations of the business and formulate proper measures to curb them (Lal, 2000). For example, a firm may compare prices of the raw material purchased and the quantities of the raw material that are used to the budget estimates of the same. From this analysis, the managers can ascertain whether they are operating above or below the budget estimates. This analysis helps the firm to devise alternative ways of acquiring raw material for the manufacture of its products. This is in cases where the costs of raw material are above the budgetary allocated estimates (Lal, 2000).
Firms can also perform marketing analysis to determine the effect of prices discounts and sales strategies on the sales volume of products. From the analysis, important conclusions on the proper ways of increasing volumes of sales are necessary initiated to achieve profitability. This allows the firm to design price models that sustain its competitiveness in the marketplace (Welsch, Hilton & Gordon 1988).
Auditing as a tool of control is essential in determining whether the firm is complying with the established policies and procedure or not. Financial audit is paramount in ensuring that funds are properly utilized as stipulated in the budget. It also ensures proper accounting receipts and payments is maintained (Lal, 2000). Auditing also helps to check whether the management is complying with the established policies and procedures that are designed to improve a firm’s profitability. According to Levi (1990), auditing also helps in examining the efficiency and effectiveness in the operations of the business. Auditing checks how effective the plans are implemented by the firm (Lal, 2000).
Auditing can be internal, external or both (Lal, 2000). Internal audit committees run the regular examination of operations to check the authenticity of various day to day business transactions of the firms. The committees help to identify anomalies that may affect the operations of the firm and report to the relevant departments for proper action to be taken. Through this process, problems can be identified, examined, and timely corrective measures applied to prevent the problem from persisting (Lal, 2000).
External auditing is deemed necessary in cases where the internal audits are not sufficient to prove the efficiency of the firm’s operations. Some internal audit committees may be prone to internal interference, hence the need for external and independent auditors (Lal, 2000). In this case, firms have to hire external auditors to carry out the same process of evaluating financial and non-financial operations of the firm.
Auditing is a critical control tool that helps firms to identify key improvement areas that can be undertaken to improve profitability. Furthermore, auditing is helpful in evaluating threats, economy, efficacy and quality that are critical pointers that affect the profitability of a given firm. Through this process, the firm can also realize fraudulent occurrences hence preventing such occurrences (Lal, 2000).
However, auditing process should be transparent enough to point out the main implementation backdrops that affect the firm. The auditing should be done with a view of identifying weak areas in the implementation of the procedures and policies. Failure of the audit to give out this information may discourage investment. This is especially if the firm ends up not achieving its profit targets (Lal, 2000). Inefficient audit control system may be detrimental to the whole business if it is not independent and free from interference.
Profit planning relies on information being presented during the planning and may be jeopardized if the information is incorrect or incomplete. As a result, the firm may end up achieving undesired result that will essentially mean the whole profit planning process was wasteful. Firms should avoid such eventualities if they are to survive in the business environment.
A reasonable profit plan must be able to identify inefficiencies during the implementation of the plan so that they can be eliminated to ensure goals are met satisfactorily. The profit plans should be flexible enough to allow concerned managers to take responsibilities that clearly articulate how objectives are going to be achieved. This allows the departments concerned to evaluate deficiencies as the plan is implemented. Corrective measures are then taken to fix the problems. Firms should devise a control system that provides direct and indirect feedbacks on the cost and efficiency of operations in achieving the planned profits. The firms should not allow set procedures, rules, and policies to be sidestepped in the implementation of the profit plan. Therefore, the control system must ensure the operations are run efficiently with strict adherence to the set procedure. The projected profits can be realized after the strategies are implemented.
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