Fin Mgmt Chapt 3 -Forecasting

Question 1

Financial forecasting techniques compared

Answer 1

1. The 3 techniques are pro forms statements, cash budgets and cash flow forecasts
2. All three produce same results
3. For most planning purposes use pro forms statements
4. For short term and management of cash, the cash budget is appropriate
5. Cash flow lies between the other two

Question 2

Three ways to cope with uncertainty in financial forecasts

Answer 2

1. Sensitivity analysis: change one input at a time
2. Scenario analysis: how a number of assumptions might change together
3. Simulation: assign probability distributions to inputs and generate outcomes
   
   3. 1 advantage: allows all variables to change at once
   4. 2 disadvantage: results often hard to interpret

Question 3

Financial forecasting techniques

Answer 3

1. Pro forms statement
   1.1 predictions of financial statements at the end of forecast
   1.2 used to estimate future need for external funding
   1.2.1 external funding required =
   Total assets - (liabilities + owners equity)
   1.2.2 retained earnings =
   PriorRetainedEarnings + EarningsAfterTax -Dividends
   1.3 Percent of sales forecasting. 4 steps
   1.3.1 which financial statement items vary in proportion to sales
   1.3.2 project future sales
   1.3.3 project quantities that have not varied in proportion to sales historically
   1.3.4 sensitivity test
2. Cash flow forecasts
   2.1 external funding is the difference between anticipated sources and uses of cash
   2.2 advantage: straightforward, easily understood, commonly used
   2.3 disadvantage: less informative than pro forms forecasts
3. Cash budgets
   3.1 projected change in cash = anticipated cash receipts - disbursements
   3.2 translate sales and purchases into their cash equivalents
   3.3 commonly used for short-term forecasts
   3.4 less informative plan than pro forms but easier to understand