Navigating the Path Forward with Financial Modeling

Flexible and dynamic models can change alongside the market, giving leaders greater insight and information while navigating unpredictable environments.

Stock Finance
Getty Images

The Coronavirus disease (COVID-19) pandemic poses a slew of issues that are negatively impacting manufacturing demand, production and revenue. Even while consumer behaviors are shifting quickly, creating sharp increases in demand for some products and decreases for others, employees are barred from the workplace due to safety concerns. Compounding these issues are supply chain disruptions, logistical challenges, spending curtailments and plummeting demand for oil and its attendant impact on prices. All of these factors, and others, are creating an ever-widening cone of possible business outcomes as manufacturers look to the future.

So, as the pandemic creates change on a daily basis, manufacturers are clamoring for insight into their shape-shifting industry. Financial modeling provides just such insight. It offers understanding of one’s prospective financial position, with the ability to game plan for the inevitable curveballs that the pandemic (and reaction to the pandemic) seem to consistently hurl. With a well-designed financial model, c-suite executives can better recognize the opportunities and mitigate the potential risks that drive long-term business success. With well-executed scenario analysis, these same executives can better understand and plan for an uncertain future in one of our country’s hardest-hit industries. 

Creating a holistic understanding of predicted future performance

Financial models are a construct of historical data, formulaic logic and assumptions used to project future financial performance. For manufacturers, modeling can be used to forecast financial outcomes in light of variables such as production, cost of goods sold, pricing and/or capital investment. 

However, financial modeling is meant for planning for the future, not predicting it. Models are made to be actionable and provide the information needed to better understand possible future scenarios, and then plan accordingly. With financial modeling, manufacturers can: 

  • Plan out inventory levels and optimize warehouse space through planning push processes, including inbound logistics, manufacturing, material planning and procurement. 
  • Optimize distribution to end customers through planning pull processes, including order management, outbound logistics and packaging. 
  • Understand cash flows, future margins, expenses and other factors needed for decision making through strategic planning such as capital planning and plant improvements. 

But, for such a dynamic industry, just one financial model is not enough. Manufacturing leaders can gain valuable insight for making informed decisions by identifying and quantifying the full field of possibilities. In order to create this holistic picture of the future while taking into account the numerous possible variables and company goals many leaders use modeling to develop best-, worst- and expected-case scenarios. 

In a worst-case scenario, the model captures what happens in the unlikely event that everything goes wrong. It helps to plan for what happens when sales decline, there are extreme disruptions in the supply chain, factories are forced to close or layoffs are needed. In an expected-case scenario, or the baseline scenario, the model encompasses the situations most expected to occur—employees can continue to work if compliant with social distancing mandates, sales return or even out or supply chain hiccups persist but slow. And lastly, in a best-case scenario, while not expected to happen in full, the factors going into this model can often help make decisions on how to improve upon the baseline. The model encompasses variables such as an increase in sales, decrease in expenses, full factories or increased production speeds. 

The key to making these models work is ensuring that they are robust enough to capture all of the variables a company is currently facing, and dynamic enough to incorporate changes as they arise in the course of business. While manual legacy modeling tools and spreadsheets can make this adaptability difficult, the cloud is transforming data manipulation capabilities for financial modeling, just as it has for budgeting and business intelligence (BI) solutions. 

Communicating financial trajectory

Today’s financial leaders are responsible for much more than number-crunching and earnings reports. Today’s financial leaders are guiding strategy, creating value and communicating with stakeholders at all levels of the organization including employees, suppliers, boards of directors, financial backers and other entities. In fact, a 2018 survey of CFOs by Accenture revealed that nearly 80% believed that data storytelling is an essential part of their role. 

Thus, it is incredibly important that they are doing more than spouting out numbers and instead are using the story behind the numbers to engage in conversations about change that are steeped in data.

Through the combination of context and numbers, models provide a narrative that can help leadership understand the impacts of their financial decisions in a more approachable, digestible manner. When financial models provide real insight into future outcomes, manufacturing leaders have a better understanding of the business and can make and communicate decisions based on hard data. 

Facing an unpredictable challenge like COVID-19 requires manufacturers to be exceptionally agile in their response. This year has shown that markets can change in an instant, and manufacturing leaders need to be able to do so as well to minimize disruptions in the workforce, to keep pace with demand and to optimize margins. Annual financial modeling based on static spreadsheets no longer meets the needs of agile manufacturing leaders. As assumptions change on a daily basis, leaders need to quickly create, display and understand new scenarios in an instant, not in a week. Flexible and dynamic models can change alongside the market, giving leaders greater insight and information while navigating unpredictable environments.