Page 19 - FINAL CFA II SLIDES JUNE 2019 DAY 7

LOS 28.m: Demonstrate the development of a sales- READING 28: INDUSTRY AND COMPANY ANALYSIS
based pro forma company model - Key Steps!.

MODULE 28.1: FORECASTING FINANCIAL STATEMENTS

1. Estimate revenue growth and future expected revenue (using market growth plus market share, trend growth rate, or growth relative to GDP growth).
2. Estimate COGS (based on a percentage of sales, or on a more detailed method based on business strategy or competitive environment).
3. Estimate SG&A (as either fixed, growing with revenue, or using some other estimation technique).
4. Estimate financing costs (using interest rates, debt levels, and the effects of any large anticipated increases or decreases in capital expenditures or
anticipated changes in financial structure).
5. Estimate income tax expense and cash taxes (using historical effective rates and trends, segment information for different tax jurisdictions, and
anticipated growth in high- and low-tax segments).
6. Estimate cash taxes, taking into account changes in deferred tax items.
7. Model the balance sheet based on items that flow from the income statement [working capital accounts (i.e., accounts receivable, accounts payable,
and inventory)].
8. Use depreciation and capital expenditures (for maintenance and for growth) to estimate capital expenditures and net PP&E for the balance sheet.
9. Use the completed pro forma income statement and balance sheet to construct a pro forma cash flow statement.

Clearly, estimation methods can be:
• Simple (as when we modeled COGS as a constant % of sales); or
• More complex (as when we forecast the prices of significant productive inputs based on the competitive environment of input markets).

An analyst must always decide when additional or more complex analysis is warranted and when additional complexity in the estimation method
provides real benefits in terms of improved forecasts and value estimates.