FORECASTING FINANCIAL STATEMENTS

February 3, 2003

Topics

1. Historicals (Due 2/10)2. Operating sections of the financials (Due

2/17)3. Investing & Financing sections of the

financials (Due 3/10)4. Example model (Excel file-”Sample company

with model formulas”)5. Forecasting Revenues – review of 4

methods6. Errors

Historicals

1. Each group received via e-mail an Excel Workbook

(entitled COMPANY NAME 010103) – during the semester, resave this file as COMPANY NAME MoDay02)

a Word document(entitled Notes on the Excel Workbook and Preparing Deliverable 5) – detailed instructions & notes on common errors

Historicals

Excel workbook is formatted in the Burkenroad Report Style and is not a model. The only automatic features are

Subtotals and totals in the income statement (earnings statement), balance sheet and statement of cash flows – DO NOT ENTER ACTUAL AMOUNTS IN THESE AREAS

Annual and Quarterly EarningsIn thousands

For the period ended FY 2000 A FY 2001 ANet Sales 426,269 480,415 Cost of sales 286,245 323,743 Gross profit 140,024 156,672 Selling, general and administrative expenses 120,104 131,852 Operating income 19,920 24,820 Interest expense 2,789 2,110 Other income 4,754 1,506 Income before income taxes 21,885 24,216 Provision for income taxes 8,302 9,236 Net income 13,583$ 14,980$

Annual and Quarterly EarningsIn thousands

For the period ended FY 2002 A 27-Jul-02 A 26-Oct-02 E 25-Jan-02 E 26-Apr-03 E FY 2003 E

COMMON-SIZE AMOUNTSCost of sales 67.43% 66.77% 67.79% 67.55% 67.39% 67.35%Gross profit 32.57% 33.23% 32.21% 32.45% 32.61% 32.65%Selling, general and administrative expenses 27.23% 24.18% 26.68% 30.99% 26.93% 26.93%Operating income 5.33% 9.04% 5.53% 1.46% 5.68% 5.72%Income before income taxes 5.33% 9.12% 5.57% 1.51% 5.70% 5.77%Net income 3.29% 5.63% 3.62% 0.95% 3.71% 3.75%

YEAR TO YEAR CHANGENet Sales 4.65% -6.24% 1.00% 4.00% 5.00% 0.41%Cost of sales 4.73% -6.70% 1.00% 4.00% 5.00% 0.28%Selling, general and administrative expenses 3.85% -8.33% -2.26% 4.00% 5.00% -0.71%Interest expense -59.38% -61.90% -36.35% -15.55% 180.35% -12.84%Income before income taxes 10.76% 5.54% 20.06% 4.87% 5.29% 8.59%Net income 10.49% 5.71% 26.51% 6.99% 10.87% 14.38%

2003 E

Historicals

Selected common size information for the earnings statement and balance sheet & selected year-to-year changes for the earnings statement

Annual and Quarterly Balance SheetsIn thousands

As of the end of 27-Apr-02 A 27-Jul-02 A 26-Oct-02 E 25-Jan-02 E 26-Apr-03 E 26-Apr-03 E

SELECTED COMMON SIZE BALANCE SHEET AMOUNTS ( % of net sales)Current Assets:Trade receivables, net 8.54% 34.25% 30.03% 33.71% 34.13% 8.93%Inventories 6.17% 20.93% 24.97% 31.26% 24.66% 6.46%Prepaid and other 1.12% 2.31% 3.87% 4.49% 3.49% 0.91%Property, net 12.06% 41.87% 48.31% 57.86% 45.68% 11.96%Accounts payable 6.13% 18.45% 14.47% 20.98% 24.49% 6.41%Accrued liabilities 4.18% 17.44% 17.51% 21.24% 17.04% 4.46%Income taxes payable 0.37% 2.35% 1.63% 1.81% 1.73% 0.45%Other liabilities 0.64% 2.22% 2.43% 2.92% 2.48% 0.65%

SELECTED COMMON SIZE BALANCE SHEET AMOUNTS ( % of total assets)Total current assets 60.23% 62.09% 58.70% 58.66% 60.98% 60.98%Property, net 29.49% 27.86% 30.47% 30.48% 28.80% 28.80%Goodwill 6.39% 6.12% 6.61% 6.63% 6.27% 6.27%Intangible assets, net 0.99% 0.95% 1.03% 1.03% 0.97% 0.97%Other assets 2.90% 2.98% 3.18% 3.19% 2.98% 2.98%Total current liabilities 26.11% 25.44% 21.20% 23.20% 27.27% 27.27%Long-term debt 5.34% 5.02% 5.31% 5.16% 4.87% 4.87%Deferred income taxes 5.87% 5.76% 6.10% 6.15% 5.81% 5.81%Other liabilities 1.58% 1.48% 1.53% 1.54% 1.56% 1.56%Total liabilities 38.90% 37.70% 34.14% 36.04% 39.52% 39.52%Total shareholders' equity 61.10% 62.30% 65.86% 63.96% 60.48% 60.48%

2003 E

Historicals

Focus is operating assets & liabilities that tend to vary with sales volume

Focus is current & noncurrent categories for assets and liabilities and on the sources of financing (debt & equity)

Historicals

Cover page items linked to per share amounts on the STATEMENTS worksheet

13.66$ Price on cover14.00$ one year ago price

(0.34)$ Change

-2.43% % change

Valuation FY 2002 A FY 2003 E FY 2004 EEPS 0.87$ 0.99$ 0.95$ P/E 15.7x 13.8x 14.4xCore EPS -$ -$ -$ Core P/E #DIV/0! #DIV/0! #DIV/0!CFPS* 1.58$ 1.29$ 1.11$ P/CFPS 8.6x 10.6x 12.3x

Historicals

NUMERATORS AND DENOMINATORS for ratios on the RATIO worksheet are linked to amounts on the STATEMENTS worksheet

Ratios

For the period ended FY 2001 AProductivity Ratios

Receivables turnover 11.98Inventory turnover 10.65Working capital turnover 8.19Net fixed asset turnover 7.71Gross fixed asset turnover 3.50Total asset turnover 2.39# of days Sales in A/R 31.12# of days Cost of Sales in Inventory 35.69# of days Cost of Sales in A/P 42.33

ROWS WITH NUM. & DENOM. Hidden for final print

Ratios

For the period ended FY 2001 AProductivity Ratios

Receivables turnover 11.98Inventory turnover 10.65Working capital turnover 8.19Net fixed asset turnover 7.71Gross fixed asset turnover 3.50Total asset turnover 2.39

N Sales 480,415Total assets beginning of period 197,754Total assets end of period 203,868

D Average total assets 200,811

# of days Sales in A/R 31.12N Trade receivables end of period 41,068

Credit sales 480,415# days 364

D Sales per day 1,320

# of days Cost of Sales in Inventory 35.69# of days Cost of Sales in A/P 42.33

ROWS WITH NUM. & DENOM. unhidden

Common errors: Historicals

1. Use of standardized or aggregate data instead of 10-K and 10-Q data

2. Failing to revise historical data for RESTATEMENTS that occur as a result of discontinued operations, change in entity or certain changes in accounting principles

Information reported in the 12/31/01 10-K should be used for 12/31/99, 12/31/00 and 12/31/01 (assuming a calendar year-end)

Check the 5 years of summary information presented in the 10-K to be certain that historical information already included on the STATEMENT worksheet is still valid.

Common errors: Historicals

Information reported in the 3/31/02 10-Q should be used for 3/31/02 and 3/31/01 (assuming a calendar year-end).

Information reported in the 3/31/01 10-Q should be used for 3/31/00 unless quarterly information has been restated. If quarterly information is restated for the 3/31/02 report (as a result of discontinued operations or changes in accounting principles – the information reported in the 3/31/01 report must be discarded or you must insert a footnote indicating that the information presented is not comparable to quarterly information reported after 2000. NOTE THAT THE YEAR-TO-YEAR changes reported on the earnings statement will be wrong in 2001 if the 2001 numbers are restated and the 2000 numbers are not restated.

Common errors: Historicals

3/31/2002 3/31/2001 3/31/2001 3/31/2000Net sales 100,000 98,000 137,200 125,000 Cost of sales 60,000 54,000 75,600 75,000

… … … …

Net income 10,000 9,800 9,800 6,800

Reported on 3/31/02 10-Q Reported on 3/31/01 10-Q

RESTATEMENT EXAMPLE – discontinued operations

CASH FLOW STATEMENT ERRORS – QTR info

3/31/2002 3/31/2001 6/30/2002 6/30/2001Net income 10,000 8,000 21,000 15,000 Depreciation and amortization 4,000 3,800 8,200 7,500

… … … … …Cash flows from operating activities 12,000 10,000 26,000 21,000

Capital expenditures (6,000) (5,000) (20,000) (15,000) Sale of property and equipment 500 500 1,000 Cash flows from investing activities (5,500) (5,000) (19,500) (14,000)

Borrowings 1,000 3,800 8,000 4,000 Debt repayments (7,000) (4,000) (15,000) (8,000) Cash flows from financing activities (6,000) (200) (7,000) (4,000)

Reported on 3/31/02 10-QCUMULATIVE Amounts

Reported on 6/30/02 10-Q6/30/2002 6/30/2001

11,000 7,000 4,200 3,700

… …14,000 11,000

(14,000) (10,000) - 1,000

(14,000) (9,000)

7,000 200 (8,000) (4,000) (1,000) (3,800)

AMOUNTS to enter on STATEMENTS worksheet

Forecasting

1. Forecasting equations are not included. As analysts you create the forecast model during the course.

2. ALL forecasting work must be completed within this workbook to insure that the links are not lost.

3. Add as many worksheets as needed. 4. See the EXCEL FILE – “Sample Company with

Model Formulas” for an example of the types of forecast equations you could use. (Seasonal Inc.)

Forecasting Overview (covered in weekend workshop)

We prepare the forecasts in 3 stages:

Operating items on the income statement, balance sheet and cash flow statement

Investing items on the income statement, balance sheet and cash flow statement

Financing items on the income statement balance sheet and cash flow statement

Income StatementRevenues: $ 200,000Operating expenses ( 150,000)Operating income: 50,000 Interest expense ( 6,000)Investment income 1,000Income before income tax 45,000

less: Income Tax ( 15,000)Net Income $ 30,000

Operating

Cash Flow Example Balance Sheet

Assets:Cash $ 25,000Accounts Receivable 32,000Inventory 29,000Investments 10,000Fixed assets, net 180,000Total $276,000Liabilities and Equity:Accounts Payable $ 24,000Long-term debt 80,000Common Stock 147,000Retained Earnings 25,000Total $276,000

Operating

Forecast all operating items simultaneously because operating items on each statement will be closely related to operating items forecast on the income statement. –

Example: Accounts receivable is usually a consistent % of sales revenue.

Operating cash flows:Net income $30,000Depreciation expense 10,000Change in A/R (2,000)Change in Inv (3,000)Change in A/P 5,000Total cash used by operating activities $ 40,000

Cash used by investing activities:Purchase of fixed assets ($10,000)

Cash from financing activities: Borrowing, net of repayments (35,000)Payment of dividends (5,000)Total cash provided by financing activities (40,000)

Net inflow for the year (10,000) Beginning cash balance: 35,000 Ending cash balance $ 25,000

Cash Flow Statement

Operating

Operating cash flows:Net income $30,000Depreciation expense 10,000Change in A/R (2,000)Change in Inv (3,000)Change in A/P 5,000Total cash used by operating activities $ 40,000

Cash used by investing activities:Purchase of fixed assets ($10,000)Purchase of investments (1,000)Total cash used in investing activities (11,000)

Cash from financing activities: Borrowing, net of repayments (34,000)Payment of dividends (5,000)Total cash provided by financing activities (39,000)

Net inflow for the year (10,000) Beginning cash balance: 35,000 Ending cash balance $ 25,000

Cash Flow Statement

Operating

Investing

Cash Flow Example Balance Sheet

Assets:Cash $ 25,000Accounts Receivable 32,000Inventory 29,000Investments 10,000Fixed assets, net 180,000Total $276,000Liabilities and Equity:Accounts Payable $ 24,000Long-term debt 80,000Common Stock 147,000Retained Earnings 25,000Total $276,000

Operating

Investing

Income StatementRevenues: $ 200,000Operating expenses ( 150,000)Operating income: 50,000 Interest expense ( 6,000)Investment income 1,000Income before income tax 45,000

less: Income Tax ( 15,000)Net Income $ 30,000

Operating

Investing

Note that Depreciation expense is usually not included as a line item on the income statement. Here it is included in operating expenses.

Forecasting Revenues

Revenues are the most important forecast item as this number is the primary determinate of the target price and investment recommendation.

Written FORECASTING SECTION for your report (new this year) - to include the following

Operating activities: Include assumptions used to model key operating items in the statements. This discussion will include a description of the basic assumptions used for modeling each segment’s revenues. (Note that you should build a revenue model for each revenue segment if possible) Include a discussion of other key operating items.

Investing activities: Include discussion of the key assumptions used to model capital expenditures, any acquisitions, and disposals of property and equipment. Include a discussion of any other significant investing activities.

Financing activities: Include discussion of the assumptions used.

Forecasting Revenues

4 Primary Revenue model types (review the notes from the Saturday Burkenroad workshop

Revenue = Price per unit X Quantity Revenue = Total market revenue forecast X

forecast market share for the company Revenues = Prior period revenues X forecast

growth rate Balance sheet based model: Based on

specific asset/revenue relationships

Trico Marine Services

West Africa

North Sea

United States

South America

Other Income

Forecasted Revenues

Day Rates &

Utilization

Day Rates &

Utilization

Day Rates &

Utilization

Day Rates &

Utilization

Company Guidance

Business Segments Drivers Boats

Anchor

Anchor

Anchor

Anchor

PSV

PSV

PSV

PSV

Supply

Supply

Supply

Supply

Consider using diagrams in your report to illustrate factors considered in modeling revenues

Oil & Gas Prices $$

Exploration & Production Companies

Worldwide Supply and

Demand

Business Operating Costs and

Disposable Income

Day Rates & Utilization %

Oilfield Services

F&D Costs

Fleet

Reputation

E&P Capital Expenditures Reserves

Energy Partners Goodrich Petroleum McMoran Exploration Petroquest Energy Callon Petroleum

Newpark Resources Offshore Logistics Omni Energy Seacor Smit Torch Offshore Carbo Ceramics Input/Output RPC, Inc.

Trico Marine Services

EARNINGS STATEMENT BALANCE SHEET CASH FLOW STATEMENTOPERATING CASH FLOWS:

Net sales Cash Net incomeCost of sales Accounts receivable Depreciation

Inventory AmortizationSelling and administrative expenses Prepaid expenses (Gain) loss on sale of PPE… … Deferred taxes

Deferred tax assetsInvestment income Investment in marketable securities Change in accounts receivable… Property, plant and equipment, net Change in inventoryIncome tax expense Intangible assets, net Change in prepaid expenses

… Change in accounts payableAccounts payable Change in accrued expenses payableAccrued expenses payable Change in income taxes payableIncome taxes payable

INVESTING CASH FLOWS:Capital expenditures

Deferred tax liability Proceeds from sale of PPE

Ending balance of cash

AVOIDING errors in your forecasts

1. Forecast OPERATING ITEMS allowing the balance sheet to flow from the income statement and the cash flows from the balance sheet. EXAMPLE: A/R and inventory

AVOIDING errors in your forecasts

1. Forecast INVESTING ITEMS allowing the balance sheet to flow from the cash flow items and basing income statement statement items (including depreciation & amortization) on balance sheet averages EXAMPLE: Net property, plant and equipment

EARNINGS STATEMENT BALANCE SHEET CASH FLOW STATEMENTOPERATING CASH FLOWS:

Net sales Cash Net incomeCost of sales Accounts receivable Depreciation

Inventory AmortizationSelling and administrative expenses Prepaid expenses (Gain) loss on sale of PPE… … Deferred taxes

Deferred tax assetsInvestment income Investment in marketable securities Change in accounts receivable… Property, plant and equipment, net Change in inventoryIncome tax expense Intangible assets, net Change in prepaid expenses

… Change in accounts payableAccounts payable Change in accrued expenses payableAccrued expenses payable Change in income taxes payableIncome taxes payable

INVESTING CASH FLOWS:Capital expenditures

Deferred tax liability Proceeds from sale of PPE

Ending balance of cash

Example – PPE

Facts (assuming zero disposals):

Beginning balance of PPE at cost $350,000

Beginning balance of Accum. Dep. $150,000

Annual depreciation rate calculated from reported depreciation and reported average cost of PPE: 20 year useful life (5% per year)

Expected capital expenditures during the first quarter - $20,000.

Required:

Calculate and show the disclosure of the following amounts on the balance sheet and cash flow statement (1) the forecast ending balance of PPE at cost

(2) Depreciation expense for the quarter

(3) The forecast ending balance of PPE at net

Example – PPE

Example without disposal of PPEBALANCE SHEETBeginning balance of PPE, net 200,000 Forecast ending balance of PPE, net 215,500 Result

CASH FLOW STATEMENT ITEMSDepreciation forecast 4,500 Result

Capital expenditures - forecast (20,000) Starting assumption

CALCULATED FROM HISTORICAL INFORMATIONQuarterly depreciation rate 1.25% 20 year average useful life

OtherBeginning balance of PPE at cost 350,000 Forecast ending balance of PPE at cost 370,000 ResultAverage balance of PPE (calculated) 360,000

Example PPE

B C D

Example without disposal of PPEBALANCE SHEET

5 Beginning balance of PPE, net 2000006 Forecast ending balance of PPE, net =C5-C11-C14 Result

CASH FLOW STATEMENT ITEMS11 Depreciation forecast =C20*C25 Result

14 Capital expenditures - forecast -20000 Starting assumption

CALCULATED FROM HISTORICAL INFORMATION20 Quarterly depreciation rate =0.05/4 20 year average useful life

Other23 Beginning balance of PPE at cost 35000024 Forecast ending balance of PPE at cost =C23-C14-C27 Result25 Average balance of PPE (calculated) =(C23+C24)/2

Example – PPE

Facts (assuming disposals):

Same facts except:

Sell PPE with original cost of $5,000 and accumulated depreciation of proceeds of $4,000 for $3,000.

Required:

Calculate and show the disclosure on the balance sheet and cash flow statement (1) the forecast ending balance of PPE at cost

(2) Depreciation expense for the quarter

(3) Gain/loss for the quarter

(3) The forecast ending balance of PPE at net

Example PPE

Example with disposal of PPEBALANCE SHEETBeginning balance of PPE, net 200,000 Forecast ending balance of PPE, net 214,531 Result

CASH FLOW STATEMENT ITEMSDepreciation forecast 4,469 ResultForecast gain on sale of PPE (2,000) Starting assumption

Capital expenditures - forecast (20,000) Starting assumptionProceeds from sale of PPE - forecast 3,000 Starting assumption

CALCULATED FROM HISTORICAL INFORMATIONQuarterly depreciation rate 1.25% 20 year average useful life

OtherBeginning balance of PPE at cost 350,000 Forecast ending balance of PPE at cost 365,000 ResultAverage balance of PPE (calculated) 357,500

Original cost of PPE sold - forecast 5,000 Starting assumptionAccum. Deprec. Of PPE sold - forecast 4,000 Book value of PPE sold - forecast 1,000

Example PPE

B C D

BALANCE SHEET33 Beginning balance of PPE, net 20000034 Forecast ending balance of PPE, net =C33-C39-C40-C42-C43 Result

CASH FLOW STATEMENT ITEMS39 Depreciation forecast =C48*C53 Result40 Forecast gain on sale of PPE -2000 Starting assumption

42 Capital expenditures - forecast -20000 Starting assumption43 Proceeds from sale of PPE - forecast 3000 Starting assumption

CALCULATED FROM HISTORICAL INFORMATION48 Quarterly depreciation rate =0.05/4 20 year average useful life

Other51 Beginning balance of PPE at cost 35000052 Forecast ending balance of PPE at cost =C51-C42-C55 Result53 Average balance of PPE (calculated) =(C51+C52)/2

55 Original cost of PPE sold - forecast 5000 Starting assumption56 Accum. Deprec. Of PPE sold - forecast =C55-C5757 Book value of PPE sold - forecast 1000

AVOIDING errors in your forecasts

1. Do not forecast cash directly on the balance sheet. Your cash flow statement provides you with a forecast of the ending cash balance. Link cash on the balance sheet to the ending balance of cash on the cash flow statement. Do not worry if the amount is negative while you are forecasting operating and investing activities.

2. Link net income on the cash flow statement to net income on the earnings statement.

3. Do not force the balance sheet to balance – it should not balance until you have completed all operating, investing & financing items as well as “Other” items.