Financial Management for Entrepreneurs

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Financial Management for Entrepreneurs
Developing Pro Forma Financial Statements
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Pro Forma Financial Statements

• Pro forma financial statements are projected, or
  forecast, financial statements - income
  statements and balance sheets.
• The inputs required to develop pro forma
  statements using the most common approaches
  include
• financial statements from the preceding year
• key assumptions about a number of factors
• the sales forecast for the coming year
• The development of pro forma financial statements
  will be demonstrated using Dr. Dans ProForma For
  Pinheads Excel-Based software program.

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Pro Forma Financial Statements

• The two most important bits of information you
  need to start using the software is your economic
  assumptions and your latest financial statements
  (income statement and balance sheet).
• The most important starting point for the
  development of pro forma statements is the
  economic assumptions used to develop future
  revenue estimates.
• To begin, a forecaster must project the expected
  growth rate for the economy during the forecast
  period.

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Pro Forma Financial Statements

• The one macro economic statistic most commonly
  used to project economic growth is Gross Domestic
  Product (GDP).
• However, other economic statistics and time
  series such as inflation, interest rates,
  employment, and international factors should also
  be discussed as a backdrop to the GDP forecasts.
• These forecasts might be developed on your own
  and/or by using forecasts developed by
  governmental organizations such as the
  Congressional Budget Office and/or by private
  organizations such Dr. Ed Yardenis Economic
  Network.

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Pro Forma Financial Statements

• After developing a forecast for the overall U.S.
  economy, this information along with other
  relevant factors should be used to develop a
  regional and/or local economic growth forecast.
• Different regions and states within the United
  States and different localities with those
  regions or states will respond differently to
  overall U.S. economic growth.
• For example, Las Vegas (and Southwest Florida)
  have been growing much more rapidly than any
  other region or area within the US during the
  past ten or so years.

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Pro Forma Financial Statements

• As a result, a slowdown or speed up in the
  overall US economy may have a different effect on
  businesses in these high growth areas compared to
  slower growth areas such as Ohio, West Virginia,
  or North Dakota.
• It is your job as a forecaster to take the
  overall US growth forecast and tailor it to the
  local area.
• Finally, the forecaster must consider the nature
  of the industry within which the firm he or she
  is forecasting operates.

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Pro Forma Financial Statements

• For example, the latest slowdown has had a
  different impact on the local travel and tourism
  industry than it has on the construction
  industry.
• As a result, although two companies face the same
  national and regional economic conditions, they
  may be affected differently because of the
  industries within which they operate and the
  competitive structures of those industries.
• All of these factors must be reviewed and
  considered before developing the overall sales
  forecast for a firm.

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Pro Forma Financial Statements

• After developing an economic growth forecast for
  the period (3 to 5 years) in question, you can
  begin to develop your pro forma financial
  statements using PFP.
• If the firm whose financials you are developing
  is not a start-up, it is best to use the firms
  most recent financial statements (balance sheet
  and income statement) as a starting point.
• If your company is a start-up firm, you will have
  to estimate all initial values from scratch a
  much more difficult and imprecise challenge.

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Pro Forma Financial Statements

• There are four main data entry sheets for the PFP
  software Income Data, Expense Data, Asset Data,
  and Liability Equity Data.
• I will go through each of the four data entry
  sheets step-by-step using China Silk Clothing
  Gifts as our illustrative company.
• In the end, PFP will provide you with pro forma
  financial statements (income statement, balance
  sheet, and statement of cash flows) by month and
  with annual summaries for five years.

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Pro Forma Financial Statements

• PFP will also perform a breakeven analysis,
  company valuation estimate, ratio analysis, and
  working capital analysis.
• Although using PFP seems simple and
  straightforward, it is important to go back and
  carefully study the results you obtain when you
  are finished because it is necessary to make
  assumptions about the relationship between some
  financial statement accounts as you make your
  entries.
• On occasion, these entries may result in
  unintended consequences making it necessary for
  the user to go back and tweak some of the
  assumptions.

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GOOD LUCK!