What is a pro forma balance sheet

what is a pro forma balance sheet

What is pro forma cash flow?

Pro forma cash flow is the estimated amount of cash inflows and outflows expected in one or more future periods. This information may be developed as part of the annual budgeting or forecasting process, or it may be created as part of a specific request for cash flow information, as may be required by a prospective lender or investor.

Pro forma cash flow information is useful for estimating when there may be cash shortages in the near future, so that management can prepare by obtaining additional debt or equity funding to offset the projected shortfall. Another alternative is to plan for expenditure reductions in order to avoid future cash usage. If excess cash is projected by the pro forma document, this information can also be used to plan the most appropriate investment strategy for the cash.

Pro forma cash flow is arguably the most essential of the various pro forma documents, which can also include the income statement and balance sheet, since the other documents are rendered invalid if an inadequate amount of cash is projected to be available to support management's plans.

A pro forma cash flow is constructing using several methods, each covering a different period of time. The methods pertaining to the forecasting periods are:

  • Short term. Expected cash receipts from outstanding invoices and cash payments for existing accounts payable are used to derive cash flows for the next few weeks. This forecast should be very accurate.
  • Medium

    term. Revenues that have not yet been billed are estimated from the order backlog and translated into cash receipts for the next few months. The expenses required to support the revenue noted in the order backlog are translated into cash payments for the same period of time.

  • Long term. Budgeted revenues and expenses are translated into cash receipts and payments, respectively. This information may not be very accurate at all.

The information used in the pro forma cash flow document can also be impacted by the estimated days sales outstanding for receivables from customers, as well as the estimated days to pay suppliers. These figures should not vary much from historical averages, or else it is likely that the pro forma results will not be attainable.

The pro forma document tends to be fairly accurate for the first few weeks of the projection, and then declines rapidly in accuracy over succeeding periods. To improve the reliability of the document, it should be updated at regular intervals with the most recent information. Also, the document is more likely to be accurate if the company has a stable order backlog, and much less accurate if there is little insight into the sources of short-term sales.

Even if a pro forma cash flow proves to be relatively unreliable, it at least forces management to think about expected future cash flows, which may contribute to its caution in ensuring that the business has sufficient cash on hand to fund operations.

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Source: www.accountingtools.com

Category: Forex

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