Financial forecasting refers to the process of estimating and evaluating the future financial results of the organization based on the current available information.
From the results of financial forecasting, the organization derives the future balance sheets, income statements, and budget statements.
These statements are used by the management for decision making. With the help of these statements, both the strategic and tactical plans of the organization can be implemented effectively.
In this regard, short-term forecast are more likely to be accurate than the long-term ones. Nevertheless, long-term plans are helpful for the company to make long-term investment both in fixed assets and other important investments (Shim 254).
The financial forecasting procedure uses varied models to come up with the anticipated financial statements. An organization could use the Pro forma financial statements or the cash budgeting process.
Preparation of the Pro forma financial statements entails the adoption of any of the following concepts: percentage of sales method, external financing needed and financial forecasting equations.
Percentage of sales method uses the anticipated sales to make adjustments on the components of the business like assets, finances, and liabilities for the future period.
Accounting for the expected sales, gives the company a clear view of the necessary measures that they should input to achieve such objective (Brigham 345).
Similarly, external financing method uses the amt of finance expected to make future returns based on the manner in which they will be used within the organization.
Another important concept is the forecasting equation concept used to determine future financial statements. This concept formulates equations as a model, which takes into consideration all the factors within the organization.
These equations therefore are used to make the future predictions of the financial performance and position of the company (Shim 324).
Pro forma statements are used for management to identify financial and operating characteristics assumptions that result in different scenarios. This implies therefore that the organization can develop appropriate revenue and expense projections (Brigham 286).
By comparing the resulting financial statements of the organisation and its competitors, it can be able determine their financial standing in the marketing in the future.
For the short-term plans, the organization needs to make cash budgets that are used for the operation of the company on the day-to-day activities. These budgets enable the organization to make allocation of the funds to the current spending and expenses incurred.
Effective budgets facilitate the transparency and accountability of the financial transactions in the organization (Bomhoff 245). Additionally, it represents whether the expenses of the company is in relation to the returns being generated.
The analysis of the pro forma statements and the cash budgets indicate that both are suitable for long term and short-term plan purposes respectively.
In this regard, the pro forma statements are prone to inaccuracy since it involves the prediction of the future, which is uncertain (Ross 248). On the contrary, cash budget forecasts give a clear and concise means of the generation and expenditure of the funds in the organization. Despite this, pro forma statements are very critical for appropriate estimation of the likelihood financial standing in the company.
The pro forma statements at times enable the organisation to prepare cash flow projections, which becomes a benefit for determining the financial position of the company.
Notably, the statements are very crucial despite some their exposure to the frequent changes in the accounting principles and policies (Bomhoff 354). Nonetheless, pro forma statements facilitate the review of the decisions in the management functions of the company.
This therefore implies that the company can assess the impact of profitability and liquidity of the organisation. Finally, pro forma financial statements are necessary for the prediction of future for the success of the company.
Works Cited
Bomhoff, Eduard Jan. Financial forecasting for business and economics. London: Academic Press, 1994. Print.
Brigham, Eugene F., Louis C. Garpenski, and Philip R. Daves. Intermediate financial management. 10. ed. Mason, OH: South-Western, 2010. Print.
Ross, Stephen A.. Modern financial management. 8th ed. Boston: McGraw-Hill/Irwin, 2008. Print.
Shim, Jae K., and Joel G. Siegel. Financial management. 3rd ed. Hauppauge, N.Y.: Barron’s Educational Series, 2008. Print.