MG 298 Entrepreneurship Module #5 Financial Projections: How to Do Them the Right Way 09 October 2007

What are Financial Projections Numbers that relate to the future are called financial projections or financial pro formas Differ from accounting numbers, which are based on past performance Good set of financial projections should include a pro forma income statement; a balance sheet; and a cash flow statement; along with detailed assumptions that underlie the projections

Purpose of Financial Projections Show what a business will realize in: Sales, Gross profits, Net profits Net worth, Cash flows, and other measures associated with Income statement, Balance sheet, Cash flow How much money will my business need to maintain a positive cash flow? When exactly will I need this money? What kind of money (debt or equity or both)?

Integrated Financial Projections Instead of a stand alone income statement, balance sheet, and cash flow statement; we need to link these different statements together These statements change when their underlying assumptions or values change All these numbers are related or tied to one another is why they are called Integrated Financial Statements

Difficulties in Constructing Financial Projections 1. Why financial projections are actually quite difficult to construct? (“what happens” when “what if” happens?); the real problems are not in forecasting errors, rather they are in technical errors, namely the misleading financial models that most people create when putting together their financial projections

Difficulties in Constructing Financial Projections 2. Why financial statements are rarely constructed properly? Myth 1: Most people, especially those schooled in business, believe that they can develop technically correct financial projections (can actually develop only crude, often misleading, financial projections) Myth 2: Spreadsheets alone make it possible for most people to put together technically correct financial projections, that can be used for financial decision making; only tiny % users are capable of putting together integrated projection