The statements do not comply with GAAP accounting standards and may exclude transactions posted to the income statement. Goodwill is recorded when a business purchases an intangible asset or another company for more than the asset’s book value. While both pro forma and GAAP financial statements are useful tools in financial reporting, they serve different purposes and follow different rules.
It offers insight into how various decisions affect liquidity, solvency, and future liabilities. If you’re ready to try this process independently, you’ll generally need to use spreadsheet software like Microsoft Excel to put the pro forma together. If you’re not familiar with spreadsheets, then it will be another learning curve to overcome.
FAQs about the pro forma income statement
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Overestimating assets can lead to overly optimistic equity calculations, akin to thinking you can run a marathon without training. Businesses that provide stock-based compensation have to record expenses for the value of the compensation over time. Companies that provide large dollar amounts of stock-based compensation will incur expenses that must be recorded on the income statement. Companies should follow disclosure requirements for financial reports, financial ratio analysis, and templates used in the company’s annual report. You can address this fact simply with a final paragraph in the compilation reports, and the author may elect to include the reason for the lack of independence.
Essential Data:
GAAP-conforming financial statements must be included with pro forma submissions. Businesses also create a pro forma balance sheet and a pro forma cash flow statement. These three types of pro forma financial statements are used to generate financial projections and make business decisions regarding future periods. According to the SEC, this does not take the place of the pro forma balance sheet, but the pro forma income statement may be withheld. The difference is that the financial forecast details the company’s expected results of operations as a single-point proforma income estimate or a range.
Not GAAP compliant
Pro forma statements can be created for all three types of financial statements. The key idea is that we’re looking for businesses in a similar industry or with a similar business model. If we can find examples at a smaller scale, when things are less complicated, that’s probably best.
Industries That Use Pro Forma
- In fact, there are several pro forma financial statements, and you may want to use more than one to get a full financial picture of your business.
- Use the templates found here to create your own cash flow statement forecast.
- In our enthusiasm, we planned for significant marketing spend without accounting for the delayed income from their payment terms.
- Pro-Forma EPS aims to find the stream of earnings from operations, which can be used to forecast future EPS.
- Companies might also account for foreign exchange fluctuations or changes in accounting policies, such as those under ASC 606, to ensure consistency.
To develop a more “realistic” forecast, we’ll want to identify which line items on our pro forma are fixed versus variable, then forecast them appropriately. Pro forma statements are useful to corporate managers and investment banks to assess operations and assist in the valuation of takeover targets. Mike Dion is a seasoned financial leader with over a decade of experience transforming numbers into actionable strategies that drive success. As a Senior FP&A professional, Mike has helped businesses—from Fortune 100 giants to scrappy startups—unlock tens of millions of dollars in value across industries like Entertainment and Telecom. His knack for identifying opportunities and solving complex financial problems has earned him a reputation as a trusted finance expert.
Pro Forma Statements of Cash Flow
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. For instance, consider a building where 75% of the space is used for manufacturing, and 25% is for office space.
Datarails’ FP&A solution is a one-stop shop for planning and building pro forma financial statements. A pro forma cash flow statement is a financial report that shows projected cash flow generated from business operations. The pro forma balance sheet also helps a business forecast the outcome of a merger, acquisition, or significant capital expenditure, allowing management to plan accordingly. If you’re looking to learn about pro forma income statements, then you’ve come to the right place.
- GAAP requires businesses to conform to the matching principle and record revenue when earned and expenses when incurred to produce income.
- Pro forma statements are based on assumptions, and incorrect assumptions generate misleading financial statements.
- For example, telecommunication companies rarely make a net operating profit because they write down depreciation costs.
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. Correctly estimating expenses, revenue, and profit is imperative for financial planning and management. No one can accurately predict the revenues to be generated or the expenses to be incurred at the end of any given period down to the dollar. However, a realistic forecast is still possible — and this forms the foundation of pro forma financial statements. Pro-forma earnings are financial statements with hypothetical estimates that provide a “picture” of a company’s profits if certain nonrecurring items are excluded.
The legal liability of the company may increase upon submitting forecasts instead of pro forma income statements, but the practice may be more relevant for certain businesses. The Securities and Exchange Commission (SEC), the United States’ regulator of its stock market, requires pro forma statements with any filing, registration, or proxy statement. They have articles governing the preparation of pro forma financial statements for public companies. These are Regulation S-X Article 11, and Regulation S-X 8-05 for smaller companies from 17 CFR 210. Additionally, the SEC may require that pro forma financial statements be submitted when a company is filing for an initial public offering (IPO). This is also true of companies that change tax status from a private, nontaxable company to a taxable C-corporation to file for an IPO.
The Potential for Fraud
GAAP figures are subject to strict regulatory oversight, while pro forma figures are not. To mitigate potential misuse, the SEC requires companies to reconcile pro forma earnings with GAAP figures, ensuring transparency. This reconciliation helps stakeholders understand the adjustments and evaluate their relevance.
For example, management might anticipate closing a distribution deal with Wal-Mart in the next six months that will lead to an additional $5M in sales. Management will start with the standard income statement and add the estimated $5M sales projection along with the corresponding expenses needed to produce and ship these goods to the distributor. If the future deal with Wal-Mart goes through, the company is prepared for it and investors and creditors have an idea about the risks and rewards involved in the future. 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. Organizations can create a pro forma cash flow statement using either the direct or indirect method of cash flow reporting.
