Please help with these questions!! 1. Discuss the use of each major financial st
ID: 2697310 • Letter: P
Question
Please help with these questions!!
1. Discuss the use of each major financial statement in financial management. Explain the use of pro forma financial statements in financial planning and forecasting.
2. The Time Value of Money is a concept that is central to the discipline of finance. Explain the concept and its relationship to maximizing shareholder wealth.
3. Explain factors that make the valuation of common stocks more complicated than the valuation of bonds and preferred stocks. Explain why the valuation models for a perpetual bond, preferred stock, and common stock with constant dividend payments (zero growth) are virtually identical.
4. A company has a project under consideration that will generate an irregular cash flow for the next 10 years. It wants to make a decision whether to proceed with the option or not. What factors would you consider in making your financial evaluation? What tables might you use from the Compound Interest charts and why?
5. A bond will sell at par, discount or a premium price. What determines the price of a bond? Given today's economy, which pricing scheme would be most acceptable to you and why? Explain your answers with support.
6. In the theoretical world of Miller and Modigliani, what role does dividend policy play in the determination of share values? What role do most financial managers think dividend policy plays in determining share values? Explain factors to which differences between the two views may be attributed.
7. Why do you think it is easier for firms with weak credit positions to obtain lease financing than bank loan financing? Explain the difference between economic and financial definitions of business failure. What alternatives are available to a failing firm?
Explanation / Answer
ANSWER
a pro forma financial statement is defined as "a financial statement prepared on the basis of some assumed events and transactions that have not yet occurred." Historical financial statements are used to measure an organization's past financial performance and condition. Without historical financial statements, financial analysis and evaluation would not be possible and management, board members, investors, and customers would be largely in the dark about how well an organization has done. Pro forma financial statements are similar to historical financial statements in appearance and use, except that they focus on the future instead of the past and are based upon assumptions rather than hard fact. Historical statements should be real, solid, and scientific, while pro forma statements allow management to exercise a certain amount of creativity and flexibility. Pro forma statements reflect a dynamic environment in which change is still possible and a variety of different alternatives can be followed. They take the same forms as historical statements, the most common being the income statement, the balance sheet, and the statement of changes in financial position.
Pro forma statements are used for a full range of financial analysis and should be created at the beginning of every financial planning cycle or whenever an organization is considering a step that could have a significant financial impact. They are often examined when a company is contemplating a merger, new financing (debt, stock, institutional subsidy, or external grant), capital investment in plant or other fixed assets, expanding production, launching a new product line, or any other situation with important financial implications. A university press most often uses proforma statements in connection with its annual operating budget and long-term financial planning process. Budgets and multi-year financial plans usually contain pro forma income statements and balance sheets to summarize financial performance for given time periods and financial conditions for given dates.
The construction of pro forma statements is based upon detailed financial projections and the historical relationships between different income statements and balance sheet accounts. A set of current financials serve as the foundation on which the pro forma will be built. Alongside pro forma statements, actual statements from previous periods will often be shown for easier comparison and analysis. The current financials are used as a starting point to which adjustments are made to reflect the financial transactions forecast for the time covered by the pro forma. Before putting together a pro forma income statement, it is important to have complete sales and other income forecasts as well as complete projections of manufacturing costs, royalties, freight-in, title subsidies, salaries and benefits, operating expenses, interest expense, etc. After completing the pro forma income statement and its supporting forecasts (including a cash flow projection), it becomes possible to construct the balance sheet. To do this, forecast activity for the period is added or subtracted to the current account balances. For instance, to calculate pro forma end-of-the-year balances for accounts receivable, inventory, and fixed assets, the following adjustments are made:
In this way, all of the accounts of the proforma balance sheet can be estimated with the exception of cash, which becomes the final and forced or balancing entry.
A quicker but often less accurate method of projecting a pro forma balance sheet involves using the historical relationships between different financial statement items to calculate the pro forma account balances. For example, if accounts receivable at year-end are typically 20 percent of annual sales billings and the new fiscal year's forecast of invoiced sales is $2,500,000, then the projected fiscal year-end accounts receivable balance is $500,000. The problem with this approach is that it ignores timing differences. If you are going to have a very late list or plan to publish a blockbuster just before year-end, then the normal year-end historical relationship between annual sales volume and accounts receivable will not hold. Accounts receivable will be higher than normal as a percent of sales billings. A complete balance sheet can be put together using this method, but you should be aware of its shortfalls.
Once the pro forma balance sheet is completed, it becomes possible to make a pro forma statement of changes in financial position by calculating the changes in specific balance sheet accounts, considering the effects of pro forma income statement items that will not use cash (for example, depreciation), and taking into account uses of cash that are not reflected in the income statement (for example, repayment of debt).
Remember, pro forma income statements are active planning tools. If analysis of your pro formas indicates that problems lie ahead, there should still be time to make adjustments and to improve your press's financial performance.
Inventory Actual Inventory $1,000,000 6/30/1996 plus Projected Manufacturing Purchases $1,200,000 minus Projected Inventory Writedown ($150,000) minus Projected Manufacturing Cost of Sales ($750,000) minus Projected Manufacturing Cost of Frees ($50,000) equals Projected Inventory $125,000 6/30/1997