ch5-lect - Chapter 5 Financial Forecasting Introduction...

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Chapter 5 Financial Forecasting Introduction Financial forecasting very important to managers at all levels within an organization. Top-level managers require it to make long-term strategic decisions. Middle management relies on sales forecasts to develop their departmental budgets. All other plans: production, purchasing, resource (personnel/manpower), and financial plan follow from the sales demand forecast. The sales forecast drives the supply chain of the organization. Forecasting the Income Statement The most common method for forecasting sales is the percent-of-sales method. The method assumes that most of the items of the income statement and balance sheet maintain a constant relationship to the level of sales in an organization. The process begins by reviewing the company sales for the past five years and then looking at relationships on the financial statements. Owens (2008) describes the process as follows: Historical relationships between various balance sheet items and past sales are determined by dividing, for example, last year's accounts receivable balance by last year's sales. (The same observation could be made in forecasting as was made in the analysis material regarding the use of average asset levels rather than the ending balance.) The resulting percentage of historical accounts receivable to sales is then applied to the expected sales level for the upcoming period and the result is a dollar amount of expected accounts receivable. For example, assume sales last period were $1,275,000 and the average accounts receivable balance was $117,000. The
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ch5-lect - Chapter 5 Financial Forecasting Introduction...

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