Forecasting Financial Statements

Forecasting - Forecasting Financial Statements FIN 340 Prof David Allen INTRODUCTION Published financial statements provide useful information

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Forecasting Financial Statements FIN 340 Prof. David Allen
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INTRODUCTION Published financial statements provide useful information about the firm's historical performance. These, along with the footnotes and management's discussion and analysis, also give the financial analyst insights into the future performance of the firm. In this unit, we will examine techniques that are used to project the financial statements into the future, in order to help assess the future health of the firm.
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INTRODUCTION We begin with the cash budget. Cash budget are used to estimate the inflows and outflows of cash over some time period, typically a year. Next, we examine two methods of forecasting the income statement, balance sheet, and statement of cash flows. These forecasts may be for one or more years, and help to determine future resources needs, financing, and profitability of the firm.
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FINANCIAL STATEMENT FORECASTING The cash budget, reviewed earlier, indicates whether or not the firm will have sufficient cash on a monthly basis to sustain its operations. For a longer-term view, we use the income statement, balance sheet, and statement of cash flow to determine the firm’s financing needs. These statements show less line-item detail, focusing instead on the firm’s overall revenues, expenses, resources, and financing.
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Sales Forecasts The starting point for all forecasting is the sales forecast, which is usually prepared by the firm's marketing department.
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Sales Forecasts Begin by examining historical sales, and adjust for: Status of overall economy (recession, boom?) Status of the firm's industry (declining, growing?) Status of the firm within the industry (competitive position?) Marketing efforts (change in advertising expenditures?) Production constraints (fixed assets and personal sufficient?)
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Forecasting We will examine two methods of forecasting: percent-of-sales linear regression.
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Percentage of Sales Forecasting Assumes: Most assets and most liabilities are tied to sales. The current levels of most balance sheet items are optimal for the current level of sales. Most income statement items other than interest expense are tied to sales.
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Percentage of Sales Forecasting Note that the first assumption is unlikely to be true for many firms. For example, if the firm's fixed assets are operating at less than full capacity, it can increase sales without acquiring more fixed assets. Further, many firms hold a base level of inventory, and an additional seasonal component. So, inventory is also unlikely to vary directly with sales.
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All assets must be financed, and accruals and accounts payable are assumed to vary directly with sales. Hence, they are known as "spontaneous" sources of
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This note was uploaded on 10/22/2010 for the course FIN 340 taught by Professor Davidallen during the Spring '10 term at N. Arizona.

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Forecasting - Forecasting Financial Statements FIN 340 Prof David Allen INTRODUCTION Published financial statements provide useful information

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