In accounting, pro-forma financial statements are hypothetical financial reports that show either forecasts of or alterations to actual financial statements. Pro-forma financial statements show the financial statements of a company in a hypothetical scenario that has not yet been realized or that represents a modification of the actual financial statements. Furthermore, pro-forma reporting is useful for showing what a proposed company would look like or for removing unusual or nonrecurring items from a financial report.
What is pro-forma? In Latin, pro forma means for the sake of form. Additionally, pro-forma projections or pro forma reports are simply modified versions of actual financial statements that are made for the sake of showing what these documents would look like under certain hypothetical scenarios.
For example, if an entrepreneur has an idea for a company, and he wants to pitch the idea to potential investors, then he may want to draw up pro forma financial statements to show the potential investors what the company would look like once it’s up and running. In this case, the entrepreneur would create pro forma projections of the various financial statements and present them to the investors.
Or if a company incurs a major one-time cost that is not related to regular business operations, the company may want to show investors what the financial statements would look like without the affects of that major one-time cost. In this case, the company would include pro forma financial statements in its annual report.
Below is a very simple example of a pro forma income statement. Assume the company underwent a massive corporate restructuring that was very expensive. According to accounting regulations, the company has to include that restructuring charge on its income statement. Because the restructuring charge was so big, it wiped out the company’s income and the company showed a loss for that period.
However, this restructuring charge is a one-time extraordinary item, and is not part of the company’s normal business operations. So, in order to show investors and other interested parties what the company’s income statement would have looked like without that one-time restructuring charge, the company included a proforma version of the income statement in its annual report.
You will see the difference between the original income statement and the pro-forma income statement below. Then notice that removing the one-time restructuring charge turns the company’s loss into a profit. As you can see, the company may want investors and other financial statement readers to see the pro forma financial statement to understand why the company’s regular financial statement showed that the company took a loss during that period.
Regular Income Statement Revenue $500,000 Cost of Goods Sold 250,000 Restructuring Charge 300,000 Interest Income 50,000 Interest Expense 25,000 Net Income (Loss) ($25,000) Pro Forma Income Statement Revenue $500,000 Cost of Goods Sold 250,000 Interest Income 50,000 Interest Expense 25,000 Net Income (Loss) $275,000
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