Preparation of Projected Statements

Projected statements, also known as financial forecasts or pro forma statements, are used to estimate the financial performance of a business or organization for a specific period. They are an essential tool for financial planning, budgeting, and decision-making. This guide will provide a detailed overview of the process of preparing projected statements and the key elements that should be included.

Projected statements are financial statements that are used to forecast the future financial performance of a business or organization. They are based on assumptions about future economic conditions, business operations, and financial activities. Projected statements are used for a variety of purposes, such as:

• Financial planning: Projected statements are used to estimate future revenue, expenses, and profits, which are essential for budgeting and financial planning.
• Fundraising: Projected statements are used to demonstrate the financial viability of a business to potential investors or lenders.
• Decision-making: Projected statements are used to evaluate the financial impact of potential business decisions, such as expanding operations or launching new products.

Types of Projected Statements

There are three primary types of projected statements: income statements, balance sheets, and cash flow statements. Each statement serves a unique purpose and provides different information about the financial performance of a business.

Income Statement

The income statement, also known as the profit and loss statement, shows the revenue and expenses of a business over a specific period. The income statement includes the following elements:

• Revenue: Revenue is the income generated by the business from the sale of goods or services.
• Cost of goods sold (COGS): COGS includes the direct costs associated with producing and delivering goods or services.
• Gross profit: Gross profit is the revenue minus COGS.
• Operating expenses: Operating expenses include all costs associated with running the business, such as rent, utilities, salaries, and marketing expenses.
• Net income: Net income is the profit or loss of the business after all expenses have been deducted from revenue.

Balance Sheet

The balance sheet shows the assets, liabilities, and equity of a business at a specific point in time. The balance sheet includes the following elements:

• Assets: Assets are resources owned by the business, such as cash, inventory, and equipment.
• Liabilities: Liabilities are debts owed by the business, such as loans or accounts payable.
• Equity: Equity is the residual value of the business after all liabilities have been paid off.

Cash Flow Statement

The cash flow statement shows the inflow and outflow of cash from a business over a specific period. The cash flow statement includes the following elements:

• Cash from operating activities: Cash generated from the day-to-day operations of the business.
• Cash from investing activities: Cash generated from investing in long-term assets such as property, plant, and equipment.
• Cash from financing activities: Cash generated from borrowing or issuing equity.

Steps for Preparing Projected Statements

The following steps are involved in preparing projected statements:

Develop Assumptions

Assumptions are the key inputs used to prepare projected statements. The assumptions should be based on historical data, industry trends, and economic forecasts. The key assumptions that should be developed for projected statements include:

• Revenue growth rate: The rate at which revenue is expected to grow over the forecast period.
• Cost of goods sold as a percentage of revenue: The percentage of revenue that is expected to be spent on producing and delivering goods or services.
• Operating expense growth rate: The rate at which operating expenses are expected to grow over the forecast period.
• Depreciation and amortization: The amount of depreciation and amortization that is expected to be incurred over the forecast period.
• Capital expenditures: The amount of capital expenditures that are expected to be made over the forecast period.

Project Revenue Once the assumptions have been developed, the next step is to project revenue. Revenue can be projected using a variety of methods, such as historical growth rates, industry trends, or market research. The projected revenue should be broken down by product or service and by customer segment, if applicable.

Estimate Cost of Goods Sold

Once revenue has been projected, the next step is to estimate the cost of goods sold (COGS). COGS includes the direct costs associated with producing and delivering goods or services. The cost of goods sold can be estimated by using historical data or by analyzing the cost of raw materials and labor required to produce the goods or services.

Estimate Operating Expenses

Operating expenses include all costs associated with running the business, such as rent, utilities, salaries, and marketing expenses. Operating expenses can be estimated using historical data or by analyzing the cost of goods sold and the overall business operations.

Estimate Depreciation and Amortization

Depreciation and amortization are non-cash expenses that represent the decrease in value of long-term assets such as property, plant, and equipment. Depreciation and amortization can be estimated using historical data or by analyzing the expected useful life of the assets.

Estimate Capital Expenditures

Capital expenditures are investments in long-term assets such as property, plant, and equipment. Capital expenditures can be estimated based on the expected growth and expansion of the business or by analyzing industry trends and competitive pressures.

Prepare Projected Statements

Once all of the assumptions and estimates have been developed, the projected statements can be prepared. The projected statements should include the following elements:

• Income statement: The income statement should include projected revenue, COGS, gross profit, operating expenses, and net income for each year of the forecast period.
• Balance sheet: The balance sheet should include projected assets, liabilities, and equity for each year of the forecast period.
• Cash flow statement: The cash flow statement should include projected cash inflows and outflows from operating activities, investing activities, and financing activities for each year of the forecast period.

Key Considerations for Projected Statements

When preparing projected statements, there are several key considerations that should be taken into account:

Reasonable Assumptions

The assumptions used to prepare the projected statements should be reasonable and based on historical data, industry trends, and economic forecasts. Assumptions that are too optimistic or unrealistic can result in inaccurate projections and unreliable financial statements.

Sensitivity Analysis

Sensitivity analysis should be performed to test the impact of different assumptions on the projected statements. This can help identify potential risks and uncertainties and ensure that the projected statements are robust and reliable.

Alignment with Strategic Goals

The projected statements should be aligned with the strategic goals of the business or organization. The financial projections should support the overall business strategy and provide a clear path for achieving the desired outcomes.

Regular Updates

Projected statements should be updated regularly to reflect changes in the business environment, such as shifts in market conditions or changes in business operations. Regular updates can help ensure that the projected statements remain relevant and reliable.