When you think of a pro forma income statement, think of it as a “what if?” What if the company’s sales grow by 10%? What if business expenses can be reduced 5%? Pro forma income statements are projections of what a company’s income statement will look like under different circumstances. They are used to help make decisions and also to give investors an idea of the financial status of a company under different conditions. There can be as many pro forma income statements for a company as assumptions on how business will change.
Evaluate the business’ previous year’s income statement. This can either be done line by line or by subheadings. For instance, line by line would look at sales figures for each product line whereas the subheading would be “Total Sales.”
Make a simple pro forma income statement by evaluating this year’s sales to date as compared to last year’s total sales. Calculate the percentage change of this year’s sales compared to last year’s sales. Take current “Total Sales,” divide by the number of months into the year it represents and multiply by 12 to annualize the number. Compare that number to “Total Sales” for last year and figure out the percentage change: (this year’s annualized sales — last year’s sales)/last year’s sales x 100. For instance, if last year’s “Total Sales” were $1,000,000 and this year’s annualized sales are $1,100,000, the percentage growth is ($1,100,000-$1,000,000)/$1,000,000 x 100 = 10%.
Create a pro forma income statement by using the calculated percentage change in sales. In this example, you would multiply all of last year’s income statement line items by 1.10 to show a 10% increase. Work the arithmetic through to the bottom to complete a pro forma income statement.
Study your new pro forma statement to determine if your assumptions are valid. Perhaps you will be making the increase in sales with no additional staff and you expect to find a different supplier who will reduce your “Cost of Goods Sold” by 5%. In this case, you would annualize your payroll from your current income statement and use that number in your pro forma statement. You would also take the pro forma “Cost of Goods Sold” you calculated and reduce it by 5%. Plug those numbers in and recalculate a new pro forma income statement
Repeat creating a new pro forma income statement for any and all realistic assumptions about your business. It is not unusual for a business to have several pro forma income statements based upon various assumptions.