So your business is chugging right along, and you’ve had great financial results for years. You have no problem proving to a potential investor or lender that your company is doing well. Now you need an accounting tool that will help you see how the numbers will change with this transition. With Datarails, you are empowered with real-time financial data and integrated fragmented workbooks across multiple data sources. This data allows you to make more realistic assumptions and evaluate data from a single source. The second section, Operating expenses, includes the costs of running the business.

The Securities and Exchange Commission (SEC) has specific disclosure requirements for businesses what is a proforma income statement that issue securities to the public, including pro forma financial statements. The buyer takes on more debt to finance the company purchase, changing the firm’s capital structure. A business plan that adds more debt may reduce the company’s financial health, and potential investors may question management’s financial decisions.

This can lead to unduly optimistic projections of revenue or profit, which could mislead stakeholders into feeling more comfortable about a company’s financial position or condition than they should. A pro forma financial statement can treat this purchase as a one-off capital investment not included when estimating the profit margin. Pro forma financial statements are also helpful in assessing the financial implications of capital expenditure projects and other major restructuring initiatives of the business or organization.

Cash Outflow Breakdown

A pro forma cash flow statement template is used to project a company’s cash inflows and outflows over a specified future period, enabling strategic planning and risk management. Pro forma financial statements are hypothetical financial reports that project the future financial performance of an entity, based on expected income, expenses, assets, and liabilities. They are created using assumptions about future values and conditions, which serve to forecast financial performance over a period that has not yet occurred. Their primary purpose is to aid in business planning, investment decision making, and to show the potential impact of a proposed transaction on a company’s financial health.

• Pro forma statements heavily rely on assumptions, which can significantly impact the projected results.
• Pro forma statements, on the other hand, are based on hypothetical scenarios, such as the impact of a specific business decision or a future event.
• After the dot-com bubble burst, the SEC tightened rules to prevent misleading pro forma reporting—its first case after doing so, though, wasn’t against a tech company but Trump Hotels & Casino Resorts Inc.

Moving Forward: Leveraging P&L Insights for Growth

For this purpose, the line items need to be adjusted so that the changes are reflected from the past years. Finance professionals and business owners must consider all the likely scenarios affecting a company’s finances to develop accurate forecasts. Pro forma statements can be created for all three types of financial statements.

• For instance, if we’re selling products, and each product sells for $100, then our forecasted revenue equates to the sale of 1,200 units, which is easier to digest.
• There are a number of ways that businesses can calculate their financial results.
• It helps business owners, investors, and stakeholders understand profitability trends and assess operational efficiency.
• Generally speaking, to create a pro forma income statement, you’ll want to follow the below five steps.

Pro forma income statement vs. income statement

While this might give a clearer picture of regular operations, it could also make the company’s financial health appear better than it is. From here, too, it’s also pretty apparent how pro forma statements can be used to shift enough into supposed „one-time costs“ so as to be misleading—which is against the law. VF Corporation began with its existing balance sheet, showing $11.5 billion in total assets. Unlike regular financial statements that follow generally applicable accounting principles (GAAP), companies have considerable flexibility in preparing these numbers.

Pro Forma Earnings Projections

A company facing financial challenges decides to restructure its operations to improve efficiency. They use pro forma financial statements to analyze different restructuring scenarios, such as cost reduction initiatives, refinancing options, or divestitures. This assists them in evaluating the long-term viability and profitability of their restructuring plan. Pro forma income statements are important because of the information they can offer a company. If, for example, it is preparing to produce new goods, the financial statements can help forecast if producing the new goods will cause expenses to increase.

How to Create a Pro Forma Income Statement (startups vs existing businesses)

Some examples of variable costs include sales commissions or materials (if you sell products), and fixed costs might be rent or salaries. Revenue drivers are activities we, or the business, do that “drives” revenue (a fantastic explanation, I know). These are often activities like digital advertising, cold calling, content marketing (wink, wink), or any number of other initiatives used by companies to create new sales. Company management should look at their pro forma financials to make sure their ratios comply with lenders’ guidelines. To prepare a pro forma statement, you can use a financial statement template or pro forma sample spreadsheets, like these from Smartsheet. Keep in mind, it is illegal to use pro forma financials to mislead investors.

This provides stakeholders with a clearer understanding of the company’s financial position and helps them make informed decisions. A pro forma balance sheet helps you choose a financial forecasting model that accurately predicts your company’s financial health. By comparing this forecasted balance sheet with current numbers, you can assess whether you’ll need additional funding or how future growth might affect your capital structure. Pro forma income statements may be used for a variety of purposes including budgeting, financial planning, and forecasting. They may also be used by lenders and investors to determine a company’s financial health and growth potential.

Other individual line items can also be easily forecasted, such as the cost of goods sold, since it can be assumed it will proportionally grow with sales. Line items like income tax expense, on the other hand, typically don’t change directly with sales. Stable businesses can generally estimate income tax expense as a percentage of income before taxes. To get sign-off from key stakeholders, win investors, and strategically plan, you need to demonstrate your ideas make financial sense. Our intuitive software automates the busywork with powerful tools and features designed to help you simplify your financial management and make informed business decisions. Although it provide a better picture, it is prudent for the investor to dip deep and analyze what is included/excluded and why so?

Here are the steps required to create the pro forma statement using average income statement balances for the past three years. This post defines the pro forma income statement and the common assumptions used. You’ll learn the best practices for generating the statement and how this financial tool can improve business forecasting. Here’s a closer look at what pro forma financial statements are, how they’re created, and why they’re a key aspect of financial decision-making. It may be tempting to think of a pro forma statement as the same as a business budget.

Since pro forma statements deal with potential outcomes, they’re not considered GAAP compliant. This is because GAAP compliant reports must be based on historical information. From the Latin meaning „for the sake of form,“ pro forma generally means something done for the sake of appearances, or formality. In finance, pro forma statements are projected, hypothetical views that reflect „what-if“ scenarios. Now categorize each cost from our list into the appropriate section of the pro forma income statement.

It’s important to remember that the process of creating pro forma statements doesn’t differ in any significant way from the process that you would use to create regular financial statements. These reports are typically used for internal planning purposes, but many companies do issue them to the public for speculative purposes. For instance, management usually talks about the growth of the company in the management discussion and analysis section of the annual report. If their growth projections are based on landing a new client or project, they might include an estimated income statement to show the effects of the new project on the bottom line. However, there are limitations to pro forma financial statements – particularly for investors. Since these documents are based on management assumptions, do not adhere to GAAP, and are unaudited statements, they should be relied upon with caution.