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Financial Forecasting

FORECASTING FINANCIAL STATEMENTS: PROFORMA ANALYSIS

ABSTRACT

This teaching note explains why and how managers project financial statements into the future. The note is designed for an introduction to corporate finance class. The note prepares students for either a case such as Clarkson Lumber or a real-word project in which proforma statements are needed. This note explains how to build a proforma balance sheet and intentionally does not include a complete proforma income statement so that the students will have to demonstrate some ingenuity when doing the follow-on case or project. The note is a nice supplement to both the advance and remedial corporate finance text books. The more advanced books (e.g., Ross, Westerfield, and Jaffe) typically give short shrift to the topic of forecasting and the more remedial text books (e.g., Block and Hirt) typically build the forecasted statements presupposing the manager knows production projections (e.g. the type, number, and price of units to be bought, produced, and sold).

FORECASTING FINANCIAL STATEMENTS: PROFORMA ANALYSIS

I INTRODUCTION

Forecasting a firm's financial statements can help both financial managers and general managers. Proforma statements help the financial manager plan the firm's financial needs. With an estimate of future income statement and balance sheet accounts, a manager can tell how much financing might be needed, and when it might be needed. Thus, one intent of proforma analysis is to forecast a firm's financial statements under some specific conditions. Since total assets must equal the sum of total liabilities and owner's equity, any imbalance will require management action. Having forecasted the amount and timing of the imbalance, a financial manager can arrange for financing (such as bank loans or stock offerings) or investment (such as marketable securities) long before the need becomes critical.
Proforma statements help general managers in overall planning...