Balance Sheet Forecast
Overview
The income statement represents (most) changes to the balance sheet. That is, revenues are changes to assets and
expenses increase liabilities (or decrease assets). The items in the income statement are often easier to forecast.
As such, it is common practice to forecast the income statement first, and then create a balance sheet
forecast that is consistent with the income statement forecast.
Relationship Between Income Statement and Balance Sheet
The income statement represents changes to the balance sheet through revenues and expenses. The other external source of
change to the balance sheet come from owners investing more capital in the firm and external borrowing.
Owner investing is a rare occurrence and can usually be ignored. On the other hand, the firm borrowing money
may need to be considered when forming a forecast. Borrowing will increase both the assets and liabilities of
the firm.
Revenues increase the total assets of the firm, however, it is not always certain which assets change. For instance,
cash will increase for sales that are made in cash. However, when a customer buys on credit, the revenue will
increase accounts receivable, rather than cash.
Typically, which asset accounts go up with revenues and which liabilities increase
Balancing the Balance Sheet
The accounting equation
{% Assets = Liabilities + Equity %}
(see
accounting equation) ensures that the balance sheet must balance.
When modeling the balance sheet, this equation simplifies the process. An analyst may make certain assumptions about relationships
among items on the financial statements, and then use the accounting equation to calculate the values of the remaining items.
The remaining items (which are called plugs) are then increased or decreased in order to make the balance sheet balance.
As an example,
Sample Models
