What is Profit Planning?

By Eric Dickmann

April 23, 2019

Profit, Profit Plan, Profit Planning

The success of a business depends on its ability to earn a profit. Profit is a vital element of sustainability and growth. It should be carefully planned and properly managed. A profit plan determines the operational budget to maximize profit. It focuses on the wise use of resources.

Profit planning involves looking at the key factors relevant to operational expenses like your production and sales expenses. These will form the basis to design a price model for the products to be competitive in the marketplace.

Definition of Profit Planning

According to SmallbiZ, profit planning is planning the long-term direction of a company’s operations, with an emphasis on its profit goals. It involves the preparation of a number of budgets. It outlines the revenue and expenses for a given period.

Limitations of Profit Planning

Several factors change beyond the company’s control. Since a profit plan is based on estimates, it must be updated from time to time. Moreover, profit planning will serve no useful purpose if there isn’t agreement by all the parties responsible. Everyone needs to be working toward the same goals and have an understanding of how those goals will be measured.

Importance of Profit Planning

Business Failure

According to a U.S. Bank study, 82% of business failures are due to poor cash management. Remember that cash flow is not just the amount of money coming in and out. You have to take timing into account, too. And this is why profit planning is so important to a business.

How is Profit Planning Used?

A Profit Plan is an income statement that serves as your sales objective and budgeted costs. Bizmove suggested using them in the following ways:

Evaluating Operations

You compare the actual sales and costs with your projected profit each time you prepare an income statement. In this way, you can detect areas of unsatisfactory performance. Evaluating operations through a profit plan allows corrective actions to be taken in a timely manner.

Determining the Need for Additional Resources Such as Facilities or Personnel

A good example is a profit plan showing a sharp increase in unexpected sales. A decision can then be made what is required to fulfill orders or support new customers. And digging deeper, understanding the underlying reason for the increase and if it’s permanent or temporary.

Planning Purchasing Requirements

Advance knowledge of purchasingrequirements permits cost savings. It ensures that purchased goods are readilyavailable when needed. Alternatively, the volume of expected sales may be sufficient to permit taking advantage of quantitydiscounts.

Anticipating Any Additional Financing Needs

The search for needed funds can begin as early as you do the planning. By doing this early, you can avoid a shortage of funds, and you can arrange to finance under more favorable terms.

What Makes the Profit Plan Effective?

The major factors that make your profit plan effective are the seriousness and willingness to use it to manage your company’s operation. A plan must address certain elements and be realistic to be effective.

  • The plan must have commitment and involvement of your company’s management;
  • Objectives and strategies must address all factors affecting performance;
  • There must be a forward-looking process on the trends and development in the market;
  • The goal must be consistent and provides a clear sense of direction;
  • Last, it must include an alternative course of action if the plan proves invalid.

Conclusion

Profit planning is determining your operational budget to maximize profit. It is simply the development of your operating plan for the coming period. There are limitations to profit planning but the advantages far outweigh the disadvantages. Design your business strategy with profit always at the forefront of your thinking and you’re much more likely to achieve success.

About the author

Eric Dickmann is the founder of The Five Echelon Group, host of the weekly podcast - The Virtual CMO, and a CMO On Demand for a variety of small and midsize companies. An executive leader with over 30 years of experience in marketing, product development, and digital transformation, he has worked with large, global companies and small startups to develop and execute marketing strategies and bring innovative products to the market.

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