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Financial Forecasting

Financial Forecasting. How can we use facts and assumptions to construct pro forma financial statements?. Steps in Financial Forecasting. Choosing a model driver Making reasonable assumptions as needed Using the discipline of accounting definitions Making the forecast

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Financial Forecasting

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  1. Financial Forecasting • How can we use facts and assumptions to construct pro forma financial statements?

  2. Steps in Financial Forecasting • Choosing a model driver • Making reasonable assumptions as needed • Using the discipline of accounting definitions • Making the forecast • Interpreting the results • Sensitivity analysis

  3. Possible Model Drivers • Sales • Assets are needed to support sales, so must keep pace with sales and be financed • Financing Policy • Assets (and thus sales) can only grow as fast as the company’s ability to finance them

  4. A Sales-Driven Model ABC Company: • Which financial statement items can be forecast relative to sales? • What other assumptions do we need to make? • What will we use as a “plug” figure?

  5. A Model Driven by Financing Growcorp: • Financing policy: no new equity issues, debt ratio cannot exceed 0.4. • Timing assumption: flow of activity determined by beginning-of-year assets • What growth rate in sales can be “sustained”?

  6. Sustainable Growth • Sustainable growth rate = ROEb (return on equity times retention ratio) • How can company grow faster than sustainable rate? • Issue equity, increase debt ratio • What if company grows slower than sustainable rate? • Debt ratio decreases, stock retired, cash piles up

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