Projected Income Statement

A projected income statement refers to a snapshot of an organization’s forecasted cost of sales, and expenses. This financial statement plays a vital role in forward planning. Moreover, it helps make better business decisions by offering the management an idea of what the results of various scenarios might be.

Such statements show future expectations obtained from reasonable projections based on the real-world data available when making the forecast. Their format is the same as a regular income statement. Nevertheless, unlike regular income statements, projected ones do not record past figures. Typically, there are three components of this financial statement — gross profit, operating income, and net income.

A projected income statement refers to a financial statement that shows the amount of income a business may earn in the future over a certain duration, for example, a quarter or year. Preparing this statement at fixed intervals allows for improved future planning. Moreover, it allows business owners to make better business-related decisions.

As noted above, such a financial statement generally includes operating income, net income, and gross profit. However, organizations may not use only those three elements. If individuals want a clear idea regarding the format of this financial statement, they can look at the template below.

Source

Creating this type of income statement becomes a straightforward task when individuals fully understand the organization’s business model, addressable market, competitive position, sales strategy, and key customers.

Business owners must remember that any number of individuals or organizations could utilize the projections to make decisions regarding the business. Hence, entrepreneurs must understand what details the financial statement offers and what the information in it indicates.

The preparation of such an income statement includes the following aspects:

#1 - Sales And Expenses

First, one needs to look at sales and figure out the total number of customers over the period of projection and estimate the total hours of service offered or units sold. Also, they should determine the prices charged besides estimating the overall cost of goods sold. Next, they must extrapolate the expenses, including fixed and variable costs, for example, marketing expenses. Note that breaking things item by item is not necessary.

#2 - Draw Up The Statement

Suppose a projection for the upcoming quarter is being created. Individuals can begin with the estimated sales income. Then, they can subtract the overall cost of goods sold to obtain the gross margin. After that, one must subtract the operating expenses to obtain the net operating income. Lastly, they need to subtract interest payable to obtain the net income.

After drawing up the financial statement, one can use it to decide whether changing the business’s plans is necessary. It is not surprising if a projected income statement for new businesses shows that an organization is set to incur losses. This is because businesses often start out carrying out operations at a loss. That said, the losses must not be high enough to force the business to shut down.

Note that individuals must keep certain things in mind before preparing such a statement. Let us look at them.

1. When making projections of an established organization, past expenses and sales give individuals an idea of future numbers.
2. If the business is a startup but the individual has experience in the industry, they must utilize their experience to prepare the statement.
3. If business owners lack experience in the industry, they can consider extrapolating from their market research conducted for the startup. Alternatively, they can hire an experienced accountant.

If you want to understand how to accumulate financial data and create an accurate projected income statement, this Financial Modeling Bootcamp 2-Day can help. The instructor of the program explains how to create projections for the financial statements of a company using examples. You also get Excel templates, which will allow you to practice the process of creating estimates and improve your practical understanding.

Let us look at the key factors to consider when creating a projected income statement.

• Expenses And Revenue: It is crucial to remain realistic regarding the money going out and coming in. After all, small costs keep accumulating over time.
• Gross Profit: It provides a clear picture of the profitability associated with the core operations of an organization.
• Tax-Related Expenses: Taxes can have a significant impact on the profitability and cash flow of an organization. Hence, keeping aside an amount for taxes on the basis of profits is important.
• Accounting Period: Considering the accounting period is crucial, as it clarifies the duration for which the company is creating the income statement projections. Also, clearly defining the period allows companies to compare the forecasts with financial data of different timeframes and the competitors’ financial results.
• Depreciation: Taking into account depreciation is vital to ensure the accurate reflection of the costs incurred by an organization to utilize the fixed assets over time.

Let us look at a few projected income statement examples to understand the concept better.

Example #1

Suppose ABC is an online cosmetic company that has been in business for more than 5 years. The organization’s accounting department created a projected income statement consisting of the business’s estimated future cost of goods sold, expenses, and sales for the next 6-month period. After preparing the statement, the company realized that it was necessary to change its plan for the future. This is because the estimated expenses for the next 6-month period suggested that the company might be forced to shut down.

Example #2

Suppose Company XYZ is a t-shirt manufacturer. The organization’s projected income statement created in the last financial year suggested that the organization’s sales would rise by a significant margin. Moreover, its expenses would decrease substantially as well. Based on these key figures, a renowned venture capital firm invested in the organization.

The additional funds raised by the company helped it expand its operations and establish manufacturing units in different parts of the country. Seeing the estimated figures, the creditors also offered financial assistance to the organization on favorable terms. 

One can go through the following points to better understand the importance of projected income statements for new businesses and established organizations.

1. It enables business owners to make better decisions.
2. With the help of such a statement, organizations can set their objectives, which they can achieve to ensure business growth and success.
3. It allows businesses to examine the projections or expected results concerning different approaches and actions.
4. It allows businesses to prepare budgets and anticipate cash flow more efficiently.

Lastly, investors can utilize the projections to decide whether to invest in the organization and at what price. 

When estimating future income and expenses, individuals face certain challenges. Let’s find out what they are.

#1 - Variable Expenses

These expenses keep changing based on the sales or the production output levels. Since the expenses increase or decrease over time, projecting them can be tricky for organizations. To overcome this challenge, businesses try to estimate their sales and utilize the projection to predict the associated expenses, for example, the cost of packaging, raw materials, and commissions. Thus, simply put, organizations can create more accurate income statement projections by linking variable expenses and sales.

#2 - Handling The Effect of Operating Expenses

Operating expenses refer to the costs incurred to run the daily operations of an organization, for example, rent and utilities. Such expenses can impact the net earnings of a business. Hence, it is vital for an organization to plan for such costs to ensure that it can make a profit.  Businesses also need to plan efficiently for long-term costs, for example, debt repayments, and expenses related to repair and maintenance, to minimize their impact on the net earnings. They must also make sure to have sufficient funds to cover the expenses that may arise.

#3 - Addressing Uncertainties Concerning Sales Projections

Estimating the amount that the business will generate via sales can be a challenge. That said, organizations can overcome it by looking beyond historical sales data and trying to determine future trends. Individuals must note that it still involves guessing, and new or unanticipated events or trends may materialize, which can impact sales.

Individuals new to finance often find the concepts of cash budget and projected income statement confusing. The key differences between them are as follows: