Pro forma financial statements: What to include + how to create

Pro forma financial statements are projections that consider hypothetical situations, such as a proposed transaction or a new product launch. Prospective financial statements, on the other hand, provide a forecast of a company’s future financial position based on current business conditions and expected trends. While both types of statements involve predictions, pro forma statements focus on specific scenarios, whereas prospective statements provide a broader outlook on the company’s potential performance. These versions help businesses evaluate potential outcomes, secure funding, or prepare for major changes. The first step in creating pro forma statements is to gather historical financial statements, including the income statement, balance sheet, and cash flow statement. These documents provide the foundation for making accurate pro forma adjustments based on historical performance.

• For example, if your cash flow statement predicts a cash surplus, you might decide it’s the perfect time to invest in that new piece of equipment.
• These questions can be answered with the preparation of pro forma financial statements.
• The preparation of pro forma statements in various economic environments is useful for management to examine the consequences of rises in expenses or economic downturns.

Preparing a Pro Forma Cash Flow Statement

It helps businesses estimate their pro forma earnings by considering potential changes in sales, costs, and operational efficiency. These assumptions can range from market growth rates and competitive dynamics to internal factors like production capacity and workforce expansion. The quality of these assumptions directly impacts the credibility of the pro forma statements. Therefore, it is essential for businesses to base their assumptions on robust data and sound reasoning. Sensitivity analysis is a valuable tool in this context, allowing companies to test how changes in key assumptions affect their financial projections. By exploring different scenarios, businesses can better understand the potential variability in their financial outcomes and prepare accordingly.

• When it comes to accounting, pro forma statements are financial reports for your business based on hypothetical scenarios.
• Accountants generally define “current” as one year or less and long-term is any time period beyond one year.
• A company’s balance sheet shows a company’s financial position and it’s made up of assets, liabilities and equity.
• If your company has a high debt-to-equity ratio, it will show on the balance sheet.
• By comparing projected revenues against estimated expenses, businesses can gauge whether their plans are likely to yield a profit.

What’s the purpose of a pro forma financial statement?

Furthermore, pro forma statements might not take into account the full range of worst-case scenarios, increasing the risk inherent in making decisions based on these projections. Pro forma financial statements often play a significant role in public reporting, especially when pro forma income statement dealing with the Securities and Exchange Commission (SEC). Companies may use pro forma statements to present their financial results, adjusted for specific events such as acquisitions or divestitures. This provides stakeholders with a clearer understanding of the company’s financial position and helps them make informed decisions. This projection looks backward (at one or more years) at another company’s financial statements.

Although it provide a better picture, it is prudent for the investor to dip deep and analyze what is included/excluded and why so? It also advised comparing the pro forma and actual statements to understand them better. Pro forma statements typically project 1-3 years into the future, but this can vary depending on your business goals or the type of forecast needed. Publicly traded companies must use GAAP statements for official reporting to investors, regulators, and tax authorities, as required by law.

Short-term vs. medium-term vs. long-term pro forma financial statements

This statement focuses on the expected inflows and outflows of cash, helping businesses project their liquidity. By understanding the projected cash flow, companies can ensure they have enough funds to cover operating expenses and potential investments. A pro forma income statement is used to forecast a company’s net income based on assumptions about future revenues, operating expenses, and other factors.

Calculate pro forma total operating expenses

If you’re looking for reliable accounting and tax services to guide you through this process and ensure your financial success, choose Vyde. Let us help you create accurate pro forma statements and provide the expert advice you need to thrive. Pro forma statements are used by businesses to make decisions on planning and control, as well as for external reporting to owners, investors, and creditors.

Businesses often project revenue increases based on historical performance, market trends, and anticipated changes in consumer behavior. Including these components allows businesses to create a detailed view of their expected financial health, essential for effective financial forecasting and business planning. Pro forma financial statements play a vital role in financial modeling and planning for the future. Businesses use these statements to make financial assumptions about future performance and financial results. This helps in setting realistic goals and objectives based on anticipated changes.

Where and How to Gather This Data:

Additionally, comparing pro forma projections with historical performance and industry benchmarks can provide valuable context for assessing the reasonableness of the assumptions and adjustments made. Armed with her historical data and market research, Bea crafts her pro forma income statement. She factors in the cost of renovations, additional inventory purchases, and potential increases in staffing. For her cash flow projections, she considers the timing of her investment and the gradual increase in sales. It’s a balancing act, ensuring she has enough cash on hand to cover expenses during the renovation phase. Traditional profit and loss statements are based on actual financial results, providing an accurate representation of a company’s past performance.

These statements are based on assumptions and estimates, helping companies understand the impact of various scenarios on their financial position. The three primary components of pro forma financial statements are the Pro Forma Income Statement, Pro Forma Balance Sheet, and Pro Forma Cash Flow Statement. When applying for loans or seeking investment, businesses often use pro forma statements to show how the new capital would affect their financial position and growth potential. For example, a construction company applying for a loan could include a pro forma cash flow statement that models how the funds will support upcoming projects and generate future returns. It requires careful consideration of historical data, assumptions, and pro forma adjustments to create an accurate picture of the company’s future financial position.

For example, when Microsoft Corporation (MSFT) acquired Activision Blizzard in 2023, it created pro forma statements showing how combining the two companies would affect revenues, costs, and profits. Start by taking the information from your income statement and using the cash flow statement to determine where your money is going. This statement can be part of a larger cash flow that’s used for financial accounting and decision-making. You might be wondering how a pro forma balance sheet differs from a budget, as it’s likely tempting to think about the two as the same thing. Although the two documents share commonalities, they are two distinct financial tools that you can use to benefit your business.

For example, giving financial estimates for a given period in a standardized manner is known as “presenting pro forma,” a Latin phrase that means “as a matter of form.” The Company can make assumptions like the net costs of acquiring the business, positives from synergies and intellectual property gains, and estimate the total impact on the financial statements. This method can also be used for a shorter period, like one year, giving details about the Company’s performance in case acquisition is made. Managers and other users of financial statement data need to understand the limitations of pro forma financial statements. The pro forma balance sheet will post lease agreements and loans as long-term liabilities.

Understanding pro forma financial statements involves various components, such as income statements, balance sheets, and statements of cash flow. Each of these elements provides a financial snapshot of a company’s hypothetical future performance. By combining these components, it is possible to create a comprehensive financial projection that can help inform strategic decisions and evaluate the potential return on investment.

Pro forma income statements usually project a minimum of three years, whereas regular income statements may just be the year prior or based upon a lender’s request. According to the SEC, when required for public companies, pro forma income statements are required for the fiscal year, but not for interim periods. However, for all regular income statements presented in a filing, there must also be a pro forma statement.