Pro forma financial statements are essential tools that investors and management can use to better understand a company’s financial position and performance. By adjusting or giving effect to events that are not expected to occur, these statements can provide valuable insight into a company’s prospects.
While pro forma financial statements are not required by generally accepted accounting principles (GAAP), they can be instrumental in showing the success of a company. For this reason, pro forma financial statements should be considered when investing or making strategic decisions about a company.
A number of items are commonly adjusted for in pro forma financial statements. These include one-time or non-recurring items, acquisitions or divestitures, and changes in accounting standards.
One-time or non-recurring items are those that are not expected to occur regularly. Examples of one-time items include restructuring charges, litigation expenses, and goodwill write-offs.
Acquisitions or divestitures are other everyday items that are adjusted for in pro forma financial statements. The financial statements will be impacted when a company acquires or divests a business.
Changes in accounting standards are the final common item that is adjusted for in pro forma financial statements. When new accounting standards are issued, companies are required to adjust their financial statements.
There are several benefits to using pro forma financial statements. The most significant advantage is that it clarifies the company’s underlying financial performance.
In addition, by excluding certain items from pro forma financial statements, investors and management can better understand the company’s prospects. For example, by excluding one-time or non-recurring items, investors can better understand how the company will perform on a go-forward basis. This information can be critical when investing or making strategic decisions about a company.
Pro forma financial statements can help provide comparability between companies. When companies report their financial results on a GAAP basis, there can be significant differences in how they say certain items.
There are a few limitations to using these financial statements. First, they are not required by GAAP. Companies are not required to provide pro forma financial statements to investors. As a result, some companies choose not to provide this information.
Second, pro forma financial statements can be misused. If companies adjust for items that are not genuinely one-time or non-recurring, it can give investors a false sense of the company’s financial position and performance.
Finally, these financial statements can be misunderstood. Some investors may not realize that certain items have been excluded from the pro forma financial statements. As a result, they may incorrectly assess the company’s financial position and performance.
In conclusion, pro forma financial statements can be a useful tool for investors and management in understanding a company’s financial position and performance. However, it is important to keep in mind the limitations of using pro forma financial statements. Companies are not required to provide these financial statements, they can be misused, and they can be misunderstood. As a result, investors should exercise caution when using this information.